THE UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington,WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
| x | QUARTERLY REPORT PURSUANT TO SECTION 13 OR |
For the quarterly period ended OctoberApril 30, 20042005
OR
| ¨ | TRANSITION REPORT PURSUANT TO SECTION 13 OR |
Commission file number 0-18632
THE WET SEAL, INC.
(Exact name of registrant as specified in its charter)
| 33-0415940 | ||
| (State of Incorporation) | (I.R.S. Employer Identification No.) | |
26972 Burbank, Foothill Ranch, | 92610 | |
| (Address of principal executive offices) | (Zip | |
(949) 583-9029
(Registrant’s telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨
Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12(b)-212b-2 of the Exchange Act). Yes x No ¨
The number of shares outstanding of the registrant’sRegistrant’s Class A Common Stock, andpar value $.10 per share, at June 10, 2005 was 44,630,141. There were no shares outstanding of the Registrant’s Class B Common Stock, par value $.10 per share at December 7, 2004 were 34,692,225 and 1,500,000, respectively. There were no shares of Preferred Stock, par value $.01 per share, outstanding at December 7, 2004.June 10, 2005.
FORM 10-Q
PART I. FINANCIAL INFORMATION
CONDENSED CONSOLIDATED CONDENSED BALANCE SHEETS
(Unaudited)
(In thousands)thousands, except share data)
(Unaudited)
| October 30, 2004 | January 31, 2004 | |||||||
| ASSETS | ||||||||
CURRENT ASSETS: | ||||||||
Cash and cash equivalents | $ | 22,769 | $ | 13,526 | ||||
Short-term investments | — | 30,817 | ||||||
Income tax receivable | 448 | 11,195 | ||||||
Other receivables | 311 | 1,364 | ||||||
Merchandise inventories | 41,165 | 29,054 | ||||||
Prepaid expenses | 4,701 | 3,278 | ||||||
Deferred tax assets | — | 3,729 | ||||||
Current assets of discontinued operations | — | 1,067 | ||||||
Total current assets | 69,394 | 94,030 | ||||||
EQUIPMENT AND LEASEHOLD IMPROVEMENTS: | ||||||||
Leasehold improvements | 62,460 | 124,382 | ||||||
Furniture, fixtures and equipment | 55,302 | 85,948 | ||||||
Leasehold rights | 778 | 2,262 | ||||||
| 118,540 | 212,592 | |||||||
Less accumulated depreciation | (73,381 | ) | (119,798 | ) | ||||
Net equipment and leasehold improvements | 45,159 | 92,794 | ||||||
LONG-TERM INVESTMENTS | — | 19,114 | ||||||
OTHER ASSETS: | ||||||||
Deferred tax assets | — | 23,861 | ||||||
Other assets | 1,589 | 1,208 | ||||||
Goodwill | 6,323 | 6,323 | ||||||
Non-current assets of discontinued operations | — | 7 | ||||||
Total other assets | 7,912 | 31,399 | ||||||
Total assets | $ | 122,465 | $ | 237,337 | ||||
| April 30, 2005 | January 29, 2005 | ||||||||||||||
| ASSETS | |||||||||||||||
CURRENT ASSETS: | |||||||||||||||
Cash and cash equivalents | $ | 46,363 | $ | 71,702 | |||||||||||
Income tax receivable | 419 | 547 | |||||||||||||
Other receivables | 457 | 2,978 | |||||||||||||
Merchandise inventories | 32,665 | 18,372 | |||||||||||||
Prepaid expenses and other current assets | 6,053 | 3,918 | |||||||||||||
Total current assets | 85,957 | 97,517 | |||||||||||||
EQUIPMENT AND LEASEHOLD IMPROVEMENTS: | |||||||||||||||
Leasehold improvements | 87,480 | 85,873 | |||||||||||||
Furniture, fixtures and equipment | 53,811 | 52,848 | |||||||||||||
Leasehold rights | 778 | 778 | |||||||||||||
| 142,069 | 139,499 | ||||||||||||||
Less accumulated depreciation | (88,403 | ) | (85,508 | ) | |||||||||||
Net equipment and leasehold improvements | 53,666 | 53,991 | |||||||||||||
OTHER ASSETS: | |||||||||||||||
Deferred financing costs, net of accumulated amortization of $1,287 and $1,025, at April 30, 2005 and January 29, 2005, respectively | 4,995 | 4,836 | |||||||||||||
Other assets | 1,605 | 1,595 | |||||||||||||
Goodwill | 5,984 | 5,984 | |||||||||||||
Total other assets | 12,584 | 12,415 | |||||||||||||
TOTAL ASSETS | $ | 152,207 | $ | 163,923 | |||||||||||
| LIABILITIES AND STOCKHOLDERS’ EQUITY | |||||||||||||||
CURRENT LIABILITIES: | |||||||||||||||
Accounts payable - merchandise | $ | 19,516 | $ | 18,972 | $ | 10,791 | $ | 10,435 | |||||||
Accounts payable - other | 6,939 | 10,157 | |||||||||||||
Income taxes payable | 1,465 | 1,752 | |||||||||||||
Accounts payable – other | 7,350 | 9,941 | |||||||||||||
Accrued liabilities | 23,468 | 23,229 | 37,451 | 39,557 | |||||||||||
Current liabilities of discontinued operations | 153 | 1,353 | |||||||||||||
Bridge loan payable, including capitalized interest of $1,671 and $577, at April 30, 2005 and January 29, 2005, respectively | 11,671 | 10,577 | |||||||||||||
Total current liabilities | 51,541 | 55,463 | 67,263 | 70,510 | |||||||||||
LONG-TERM LIABILITIES: | |||||||||||||||
Long-term debt | 8,000 | — | 8,000 | 8,000 | |||||||||||
Convertible notes, including capitalized interest of $616 and $87 at April 30, 2005 and January 29, 2005, respectively, and net of unamortized discount of $44,956 and $44,276, at April 30, 2005 and January 29, 2005, respectively | 11,660 | 11,811 | |||||||||||||
Deferred rent | 9,476 | 9,251 | 30,097 | 31,124 | |||||||||||
Other long-term liabilities | 6,394 | 3,270 | 3,624 | 2,873 | |||||||||||
Liabilities of discontinued operations | — | 410 | |||||||||||||
Total long-term liabilities | 23,870 | 12,931 | 53,381 | 53,808 | |||||||||||
Total liabilities | 75,411 | 68,394 | 120,644 | 124,318 | |||||||||||
COMMITMENTS AND CONTINGENCIES | |||||||||||||||
COMMITMENTS AND CONTINGENCIES (Note 8) | |||||||||||||||
STOCKHOLDERS’ EQUITY: | |||||||||||||||
Preferred Stock, $.01 par value, authorized, 2,000,000 shares; none issued and outstanding | — | — | — | — | |||||||||||
Common Stock, Class A, $.10 par value, authorized 60,000,000 shares; 34,660,657 and 25,599,801 shares issued and outstanding at October 30, 2004 and January 31, 2004, respectively | 3,466 | 2,560 | |||||||||||||
Common Stock, Class B convertible, $.10 par value, authorized 10,000,000 shares; 1,500,000 and 4,502,833 shares issued and outstanding at October 30, 2004 and January 31, 2004, respectively | 150 | 450 | |||||||||||||
Common Stock, Class A, $.10 par value, authorized 150,000,000 shares; 41,250,582 and 38,188,233 shares issued and outstanding at April 30, 2005 and January 29, 2005, respectively | 4,125 | 3,819 | |||||||||||||
Common Stock, Class B convertible, $.10 par value, authorized 10,000,000 shares; none and 423,599 shares issued and outstanding at April 30, 2005 and January 29, 2005, respectively | — | 42 | |||||||||||||
Paid-in capital | 89,106 | 63,890 | 135,146 | 134,902 | |||||||||||
(Accumulated deficit) Retained earnings | (45,668 | ) | 102,043 | ||||||||||||
(Accumulated deficit) | (107,708 | ) | (99,158 | ) | |||||||||||
Total stockholders’ equity | 47,054 | 168,943 | 31,563 | 39,605 | |||||||||||
Total liabilities and stockholders’ equity | $ | 122,465 | $ | 237,337 | |||||||||||
TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY | $ | 152,207 | $ | 163,923 | |||||||||||
See accompanying notes to unauditedcondensed consolidated condensed financial statements.
CONDENSED CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
(Unaudited)
(In thousands, except share data)
(Unaudited)
| 13 Weeks Ended | 39 Weeks Ended | 13-Week Period Ended | ||||||||||||||||||||||
| October 30, 2004 | November 1, 2003 | October 30, 2004 | November 1, 2003 | April 30, 2005 | May 1, 2004 (as restated, | |||||||||||||||||||
Net sales | $ | 110,810 | $ | 131,822 | $ | 316,366 | $ | 374,729 | $ | 103,824 | $ | 99,877 | ||||||||||||
Cost of sales | 71,271 | 85,640 | ||||||||||||||||||||||
Cost of Sales (including buying, merchandise planning, distribution and occupancy costs) | 92,911 | 102,963 | 273,737 | 301,601 | ||||||||||||||||||||
Gross Margin | 17,899 | 28,859 | 42,629 | 73,128 | ||||||||||||||||||||
Gross margin | 32,553 | 14,237 | ||||||||||||||||||||||
Selling, general and administrative expenses | 42,557 | 39,019 | 119,201 | 113,561 | 34,184 | 39,075 | ||||||||||||||||||
Asset impairment | — | — | 36,709 | — | ||||||||||||||||||||
Store closure costs | 5,152 | — | ||||||||||||||||||||||
Operating loss | (24,658 | ) | (10,160 | ) | (113,281 | ) | (40,433 | ) | (6,783 | ) | (24,838 | ) | ||||||||||||
Interest income, net | 16 | 364 | 75 | 1,189 | ||||||||||||||||||||
Interest (expense) income, net | (1,767 | ) | 246 | |||||||||||||||||||||
Loss before provision (benefit) for income taxes | (24,642 | ) | (9,796 | ) | (113,206 | ) | (39,244 | ) | ||||||||||||||||
Provision (benefit) for income taxes | — | (3,429 | ) | 29,998 | (13,735 | ) | ||||||||||||||||||
Loss before benefit for income taxes | (8,550 | ) | (24,592 | ) | ||||||||||||||||||||
Benefit for income taxes | — | (8,787 | ) | |||||||||||||||||||||
Net loss from continuing operations | (24,642 | ) | (6,367 | ) | (143,204 | ) | (25,509 | ) | (8,550 | ) | (15,805 | ) | ||||||||||||
Loss from discontinued operations, net of income taxes | — | (1,160 | ) | (4,507 | ) | (3,959 | ) | — | (4,167 | ) | ||||||||||||||
Net loss | ($24,642 | ) | ($7,527 | ) | ($147,711 | ) | ($29,468 | ) | $ | (8,550 | ) | $ | (19,972 | ) | ||||||||||
Loss per share, basic: | ||||||||||||||||||||||||
Net loss per share, basic: | ||||||||||||||||||||||||
Continuing operations | ($0.68 | ) | ($0.21 | ) | ($4.37 | ) | ($0.86 | ) | $ | (0.23 | ) | $ | (0.52 | ) | ||||||||||
Discontinued operations | ($0.00 | ) | ($0.04 | ) | ($0.14 | ) | ($0.13 | ) | $ | — | $ | (0.14 | ) | |||||||||||
Net loss | ($0.68 | ) | ($0.25 | ) | ($4.51 | ) | ($0.99 | ) | $ | (0.23 | ) | $ | (0.66 | ) | ||||||||||
Loss per share, diluted: | ||||||||||||||||||||||||
Net loss per share, diluted: | ||||||||||||||||||||||||
Continuing operations | ($0.68 | ) | ($0.21 | ) | ($4.37 | ) | ($0.86 | ) | $ | (0.23 | ) | $ | (0.52 | ) | ||||||||||
Discontinued operations | ($0.00 | ) | ($0.04 | ) | ($0.14 | ) | ($0.13 | ) | $ | — | $ | (0.14 | ) | |||||||||||
Net loss | ($0.68 | ) | ($0.25 | ) | ($4.51 | ) | ($0.99 | ) | $ | (0.23 | ) | $ | (0.66 | ) | ||||||||||
Weighted average shares outstanding, basic and diluted | 36,160,657 | 29,770,915 | 32,799,860 | 29,651,479 | ||||||||||||||||||||
Weighted average shares outstanding, basic | 36,672,903 | 30,118,007 | ||||||||||||||||||||||
Weighted average shares outstanding, diluted | 36,672,903 | 30,118,007 | ||||||||||||||||||||||
See accompanying notes to unauditedcondensed consolidated condensed financial statements.
CONDENSED CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(Unaudited)
(In thousands)thousands, except share data)
(Unaudited)
| 39 Weeks Ended | ||||||||
| October 30, 2004 | November 1, 2003 | |||||||
CASH FLOWS FROM OPERATING ACTIVITIES: | ||||||||
Net loss from continuing operations | ($143,204 | ) | ($25,509 | ) | ||||
Adjustments to reconcile net loss to net cash used in operating activities: | ||||||||
Depreciation and amortization | 15,359 | 18,836 | ||||||
Asset impairment | 36,709 | — | ||||||
Loss on disposal of equipment and leasehold improvements | 687 | 467 | ||||||
Loss on sale of bonds | 80 | — | ||||||
Deferred taxes | 27,590 | — | ||||||
Stock compensation | 300 | 806 | ||||||
Changes in operating assets and liabilities: | ||||||||
Income tax receivable | 10,747 | (7,101 | ) | |||||
Other receivables | 1,053 | 1,503 | ||||||
Merchandise inventories | (12,111 | ) | (23,373 | ) | ||||
Prepaid expenses | (1,423 | ) | 8,587 | |||||
Other assets | (381 | ) | 3,453 | |||||
Accounts payable and accrued liabilities | (2,735 | ) | 21,641 | |||||
Income taxes payable | (287 | ) | — | |||||
Deferred rent | 225 | 546 | ||||||
Other long-term liabilities | 3,124 | (2,200 | ) | |||||
Net cash used in operating activities | (64,267 | ) | (2,344 | ) | ||||
CASH FLOWS FROM INVESTING ACTIVITIES: | ||||||||
Investment in equipment and leasehold improvements | (4,695 | ) | (12,662 | ) | ||||
Investment in marketable securities | — | (16,122 | ) | |||||
Proceeds from sale of marketable securities | 49,482 | 19,558 | ||||||
Net cash provided by (used in) investing activities | 44,787 | (9,226 | ) | |||||
CASH FLOWS FROM FINANCING ACTIVITIES: | ||||||||
Proceeds from line of credit borrowings | — | 9,830 | ||||||
Repayments of line of credit borrowings | — | (9,830 | ) | |||||
Purchase of treasury stock | — | (854 | ) | |||||
Proceeds from issuance of stock | 173 | 2,058 | ||||||
Proceeds from term loan | 8,000 | — | ||||||
Proceeds from private placement of equity securities | 25,649 | — | ||||||
Net cash provided by financing activities | 33,822 | 1,204 | ||||||
Net cash used in discontinued operations | (5,099 | ) | (10,298 | ) | ||||
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS | 9,243 | (20,664 | ) | |||||
CASH AND CASH EQUIVALENTS, beginning of period | 13,526 | 21,969 | ||||||
CASH AND CASH EQUIVALENTS, end of period | $ | 22,769 | $ | 1,305 | ||||
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: | ||||||||
Cash paid during the period for: | ||||||||
Interest | $ | 596 | $ | 14 | ||||
SUPPLEMENTAL SCHEDULE OF NONCASH INVESTING ACTIVITIES: | ||||||||
Conversion of 3,002,833 Class B common shares to Class A | $ | 300 | $ | — | ||||
| 13-Week Period Ended | ||||||||
| April 30, 2005 | May 1, 2004 (as restated, see Note 2) | |||||||
CASH FLOWS FROM OPERATING ACTIVITIES: | ||||||||
Net loss | $ | (8,550 | ) | $ | (19,972 | ) | ||
Adjustments to reconcile net loss to net cash used in operating activities: | ||||||||
Net loss from discontinued operations, net of tax | — | 4,167 | ||||||
Depreciation | 2,726 | 6,678 | ||||||
Amortization of discount on secured convertible notes | 20 | — | ||||||
Amortization of deferred financing costs | 262 | — | ||||||
Loss on disposal of equipment and leasehold improvements | — | 353 | ||||||
Deferred tax, net | — | (11,128 | ) | |||||
Capitalized interest added to principal | 1,623 | — | ||||||
Stock compensation | 510 | 195 | ||||||
Changes in operating assets and liabilities: | ||||||||
Income tax receivable | 128 | 10,572 | ||||||
Other receivables | 2,521 | (205 | ) | |||||
Merchandise inventories | (14,293 | ) | (12,973 | ) | ||||
Prepaid expenses and other current assets | (2,399 | ) | (244 | ) | ||||
Other non-current assets | (169 | ) | (11 | ) | ||||
Accounts payable and accrued liabilities | (4,341 | ) | 11,529 | |||||
Income taxes payable | — | (210 | ) | |||||
Deferred rent | (1,027 | ) | (812 | ) | ||||
Other long-term liabilities | 51 | 1,663 | ||||||
Net cash used in operating activities of continuing operations | (22,938 | ) | (10,398 | ) | ||||
Net cash provided by discontinued operations | — | 1,061 | ||||||
Net cash used in operating activities | (22,938 | ) | (9,337 | ) | ||||
CASH FLOWS FROM INVESTING ACTIVITIES: | ||||||||
Investment in equipment and leasehold improvements | (2,401 | ) | (4,435 | ) | ||||
Proceeds from sale of marketable securities | — | 13,725 | ||||||
Net cash (used in) provided by investing activities | (2,401 | ) | 9,290 | |||||
CASH FLOWS FROM FINANCING ACTIVITIES: | ||||||||
Proceeds from the issuance of stock options | — | 188 | ||||||
Net cash provided by financing activities | — | 188 | ||||||
NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS | (25,339 | ) | 141 | |||||
CASH AND CASH EQUIVALENTS, beginning of year | 71,702 | 13,526 | ||||||
CASH AND CASH EQUIVALENTS, end of year | $ | 46,363 | $ | 13,667 | ||||
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: | ||||||||
Cash paid during the year for: | ||||||||
Interest | $ | 641 | $ | 31 | ||||
SUPPLEMENTAL DISCLOSURE OF NONCASH TRANSACTIONS: | ||||||||
Conversion of 423,599 and 4,079,234 Class B common shares to Class A during the 13-week periods ended April 30, 2005 and May 1, 2004, respectively | $ | 42 | $ | 408 | ||||
See accompanying notes to unauditedcondensed consolidated condensed financial statements.
NOTES TO CONDENSED CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
For the 13 weeks ended April 30, 2005 and May 1, 2004 (as restated)
(Unaudited)
NOTE 1 – Basis of Presentation, Significant Accounting Policies and New Accounting Pronouncements
Basis of Presentation
The information set forth in these condensed consolidated condensed financial statements is unaudited. These statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information, the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements.
The unaudited financial statements, accompanying this report, have been prepared on a going concern basis, which contemplates the realization of assets and the satisfaction of liabilities in the normal course of business. The Company has experienced recurring losses from operations and has an accumulated deficit. On November 9, 2004, the Company signed a securities purchase agreement with S.A.C. Capital Associates, LLC and other investors which, if approved by the shareholders of the Company, would bring substantial additional capital to the Company. For information regarding the securities purchase agreement, refer to Note 11 to the Consolidated Condensed Financial Statements. Should the Company be unable to consummate the transactions contemplated by the securities purchase agreement, the Company may be unable to continue as a going concern. The accompanying unaudited financial statements do not include any adjustments that might result from the outcome of these uncertainties.
In the opinion of management, all adjustments, consisting only of normal recurring accruals, necessary for a fair presentation have been included. The results of operations for the 13 weeks and 39 weeks ended OctoberApril 30, 20042005 are not necessarily indicative of the results that may be expected for the year ending January 29, 2005.28, 2006. For further information, refer to the consolidated financial statements and notes thereto included in the Annual Report on Form 10-K of The Wet Seal, Inc. (the Company) for the year ended January 31, 2004.29, 2005.
Certain prior period amounts have been reclassified to conform to the fiscal 2004 presentation.
Significant Accounting Policies
Revenue recognition
Sales are recognized upon purchase by customers at the Company’s retail store locations or through the Company’s web-site. For on-line sales, revenue is recognized at the estimated time goods are received by customers. Additionally, shipping and handling fees billed to customers are classified as revenue. Customers typically receive goods within 5-7 days of being shipped. The Company has recorded reserves to estimate sales returns by customers based on historical sales return results. A customer may return regular or promotionally priced merchandise within 30 days of the original purchase date. Actual return rates have historically been within management’s expectation and the reserves established. Shipping and handling fees billed to customers are included in net sales and approximated $89,000 and $66,000 for the 13 week ended October 30, 2004 and November 1, 2003 and $244,000 and $162,000 for the 39 weeks ended October 30, 2004 and November 1, 2003, respectively.
The Company recognizes the sales from gift cards and the issuance of store credits as they are redeemed.
The Company, through its Wet Seal division, has a Frequent Buyer Card program that entitles the customer to receive between a 10 and 20 percent discount on all purchases made during the twelve-month program period. The annual membership fee of $20.00 is non-refundable. Based upon historical spending patterns for Wet Seal customers, revenue is recognized over the twelve-month membership period.
Inventory valuationMerchandise Inventories
Merchandise inventories are stated at the lower of cost (first in, first out) or market. Cost is determined using the retail inventory method. Under the retail inventory method, inventory is stated at its current retail selling value and then converted to a cost basis by applying a specific average cost factor that represents the average cost-to-retail ratio based on beginning inventory and the fiscal year purchase activity. The retail inventory method inherently requires management judgments and estimates, such as the amount and timing of permanent markdowns to clear unproductive or slow-moving inventory, which may impact the ending inventory valuation as well as gross margins.
Markdowns for clearance activity are recorded when the utility of the inventory has diminished. Factors considered in the determination of permanent markdowns include current and anticipated demand, customer preferences, fashion trends and age of the merchandise and fashion trends.merchandise. When a decision is made to permanently mark down merchandise, the resulting gross profit reduction is recognized in the period the markdown is recorded. For the 39 weeks ended October 30, 2004, totalTotal markdowns on a cost basis for the 13-week periods ended April 30, 2005 and May 1, 2004, were $8.8 million and $13.1 million respectively, and represented 19.0%8.6% and 13.2% of sales, compared to 13.7% for the 39 weeks of the prior fiscal year ended November 1, 2003.
To the extent that management’s estimates differ from actual results, additional markdowns may be required that could reduce the Company’s gross margin, operating income and the carrying value of inventories. The Company’s success is largely dependent upon its ability to anticipate the changing fashion tastes of its customers and to respond to those changing tastes in a timely manner. If the Company fails to anticipate, identify or react appropriately to changing styles, trends or brand preferences of its customers, it may experience lower sales, excess inventories and more frequent and extensive markdowns, which would adversely affect its operating results.respectively.
Long-lived assetsLong-Lived Assets
The Company evaluates the carrying value of long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying value of such assets may not be recoverable. Factors that are considered important that could trigger an impairment review include a current-period operating or cash flow loss combined with a history of operating or cash flow losses and a projection or forecast that demonstrates continuing losses associated with the use of a long-lived asset or asset group. Other factors include a significant change in the manner of the use of the asset or a significant negative industry or economic trend. This evaluation is performed based on estimated undiscounted future cash flows from operating activities compared with the carrying value of the related assets. If the undiscounted future cash flows are less than the carrying value, an impairment loss is recognized, measured by the difference between the carrying value and the estimated fair value of the assets, with such estimated fair values determined using the best information available, generally based on prices for similar assets for stores recently opened. In light of disappointing sales results during the back-to-school period, the expectation for continued operating losses through the end of fiscal 2004 and the Company’s historical operating performance, the Company concluded that an indication of impairment existed as of July 31, 2004. Accordingly, the Company conducted an impairment evaluation in accordance with Statement of Financial Accounting Standards No. 144 “Accounting for the Impairment or Disposal of Long-Lived Assets” (“SFAS”) as of July 31, 2004. This analysis included reviewing the stores’ historical cash flows, estimatingdiscounted future cash flows over remaining lease terms and determiningof the recoverabilityassets using a rate that approximates the Company’s weighted average cost of each store’s long-lived assets. Based on the results of this analysiscapital. On a quarterly basis, the Company wrote downassesses whether events or changes in circumstances occur that potentially indicate the carrying value of these impaired long-lived assets as of July 31,may not be recoverable. The Company concluded that there were no such events or changes in circumstances during the 13 weeks ended April 30, 2005 and May 1, 2004.
THE WET SEAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the 13 weeks ended April 30, 2005 and May 1, 2004 by $36.7 million, a noncash charge to the consolidated statement of operations.(as restated)
(Unaudited)
Deferred income taxesNOTE 1 – Basis of Presentation, Significant Accounting Policies and New Accounting Pronouncements (continued)
Revenue Recognition
Sales are recognized upon purchase by customers at the Company’s retail store locations. For online sales, revenue is recognized at the estimated time goods are received by customers. Shipping and handling fees billed to customers for on-line sales are included in net sales. Customers typically receive goods within 5 to 7 days of being shipped. The Company has recorded reserves to estimate sales returns by customers based on historical sales return results. A customer may return regular or promotionally priced merchandise within 30 days of the original purchase date. Actual return rates have historically been within management’s estimates and the reserves established. As the reserve for merchandise returns is based on estimates the actual returns could differ from the reserve, which could impact sales. For the 13 weeks ended April 30, 2005 and May 1, 2004, shipping and handling fees were $0.1 million and $0.1 million, respectively.
The Company recognizes the sales from gift cards and gift certificates and the issuance of store credits as they are redeemed. The unearned revenue for gift card, certificates and store credits are recorded in accrued liabilities on the consolidated condensed balance sheets and was $6.1 million and $6.8 million at April 30, 2005 and January 29, 2005, respectively.
The Company, through its Wet Seal division, has a Frequent Buyer Card program that entitles the customer to receive between a 10 and 20 percent discount on all purchases made during a twelve-month period. The revenue from the annual membership fee of $20.00 is non-refundable. Based upon historical spending patterns for Wet Seal customers, revenue is recognized over the twelve-month membership period.
The Company, through its Arden B. division, introduced a customer loyalty program in August of 2004. Under the program, customers accumulate points based on purchase activity. Once a loyalty member achieves a certain point threshold, they earn awards that may be redeemed at any time for merchandise. Anticipated merchandise redemptions are accrued and expensed as points are earned by the customer, adjusted for expected redemption. The related expense is recorded as a reduction of sales.
Advertising Costs
Costs for advertising related to operations, consisting of magazine ads, in-store signage and promotions are expensed as incurred. Total advertising expenses related primarily to retail operations for the quarter ended April 30, 2005 and May 1, 2004 were $1.0 million and $1.6 million, respectively.
Insurance/Self-Insurance
The Company accounts for income taxes in accordance with SFAS No. 109, “Accounting for Income Taxes,” which requires that deferred tax assetsuses a combination of insurance and liabilities be recognized using enacted tax rates for the
effect of temporary differences between the book and tax bases of recorded assets and liabilities. SFAS No. 109 also requires that deferred tax assets be reduced by a valuation allowance if it is more likely than not that some portion or all of the net deferred tax asset will not be realized. As a result of disappointing sales results during the back-to-school season and the Company’s historical operating performance, the Company concluded that it is more likely than not that the Company will not realize its net deferred tax assets. As a result of this conclusion, the Company reduced its deferred tax assets by establishing a tax valuation allowance of $38.8 million as of July 31, 2004. In addition, the Company has discontinued recognizing income tax benefits in the consolidated condensed income statements of operations until it is determined that it is more likely than not that the Company will generate sufficient taxable income to realize the deferred income tax assets.
Self-insurance coverage
The Company is partially self-insuredself-insurance for its worker’sworkers’ compensation and groupemployee related health plans.care programs, a portion of which is paid by its employees. Under the workers’ compensation insurance program, the Company is liable for a deductible of $250,000 for each individual claim and an aggregate annual liability of $1,600,000.$5.0 million. Under the Company’s group health plan, the Company is liable for a deductible of $100,000$150,000 for each claim and an aggregate monthly liability of $500,000.$0.5 million. The monthly aggregate liability is subject to the number of participants in the plan each month. For both of the insurance plans, the Company records a liability for the costs associated with reported claims and a projected estimate for unreported claims due tobased on historical experience and industry standards. The Company will continue to adjust the estimates as the actualadjusts these liabilities based on historical claims experience, dictates.demographic factors, severity factors and other actuarial assumptions. A significant change in the number or dollar amount of claims could cause the Company to revise its estimate of potential losses and affect its reported results.
New accounting pronouncements
In January 2003, the Financial Accounting Standards Board issued FIN No. 46, “Consolidation of Variable Interest Entities” and in December 2003, issued Interpretation No. 46 (R) (revised in December 2003) “Consolidation of Variable Interest Entities – An Interpretation of Accounting Principles Bulletin (“APB”) No. 51.” The adoption of FIN No. 46 and FIN No. 46 (R) did not have a material impact on the Company’s financial position or results of operation because the Company has no variable interest entities.
In May 2003, the FASB issued SFAS No. 150, “Accounting for Certain Instruments with Characteristics of Both Liabilities and Equity,” (“SFAS 150”) which establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. SFAS 150 requires that an issuer classify a financial instrument that is within its scope, which may have
previously been reported as equity, as a liability (or an asset in some circumstances). The adoption of SFAS 150 did not have a material impact on the Company’s financial statements.
NOTE 2 - Stock-basedStock Based Compensation
The Company accounts for stock-based awards to employees using the intrinsic value method in accordance with Accounting Principles Board Opinion (“APB”) No. 25 “Accounting for Stock Issued to Employees” as amended by SFAS No. 148 “Accounting. Accordingly, no compensation expense has been recognized in the condensed consolidated financial statements for Stock-Based Compensation”.employee stock options.
THE WET SEAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the 13 weeks ended April 30, 2005 and May 1, 2004 (as restated)
(Unaudited)
SFASNOTE 1 – Basis of Presentation, Significant Accounting Policies and New Accounting Pronouncements (continued)
Statement of Financial Accounting Standard (“SFAS”) No. 123, “Accounting for Stock-Based Compensation,” requires the disclosure of pro forma net incomeloss and earningsnet loss per share had the Company adopted the fair value method as of the beginning of fiscal 1995.method. Under SFAS No. 123, the fair value of stock-based awards to employees is calculated through the use of option-pricing and other binomial models, even though such models were developed to estimate the fair value of freely tradable, fully transferable options and other instruments without vesting restrictions, which significantly differ from the Company’s stock-option and stock awards. These models also require subjective assumptions, including future stock price volatility and expected time to exercise, which greatly affect the calculated values.
The Company’s calculations were made using the Black-Scholes option-pricing model for stock options and other plans with fixed terms with the following weighted average assumptions for the 13 weeks ended:
| April 30, 2005 | May 1, 2004 | |||||
Dividend Yield | 0.00 | % | 0.00 | % | ||
Expected Volatility | 82.40 | % | 68.24 | % | ||
Risk-Free Interest Rate | 3.90 | % | 3.63 | % | ||
Expected Life of Stock Option (in months) | 60 | 60 |
For the 13 weeks ended April 30, 2005, the Company granted stock with variable vesting, subject to certain stock price performance targets, to two of its key executives. The Company’s calculation for determining fair value for these stock grants was made using both the Black Scholes option pricing model and Monte-Carlo simulation. The Company used the following weighted average assumptions:
| 13 Weeks Ended | 39 Weeks Ended | |||||||||||
| October 30, 2004 | November 1, 2003 | October 30, 2004 | November 1, 2003 | |||||||||
Dividend Yield | 0.00 | % | 0.00 | % | 0.00 | % | 0.00 | % | ||||
Expected Stock Volatility | 81.38 | % | 69.16 | % | 81.38 | % | 69.16 | % | ||||
Risk-Free Interest Rate | 3.30 | % | 3.27 | % | 3.30 | % | 3.27 | % | ||||
Expected Life of Option following vesting (in months) | 60 | 60 | 60 | 60 | ||||||||
| April 30, 2005 | May 1, 2004 | ||||
Dividend Yield | 0.00 | % | — | ||
Expected Volatility | 80.00 | % | — | ||
Risk-Free Interest Rate | 3.50 | % | — | ||
Expected Life of Stock Grant (in months) | 36 | — |
THE WET SEAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the 13 weeks ended April 30, 2005 and May 1, 2004 (as restated)
(Unaudited)
NOTE 1 – Basis of Presentation, Significant Accounting Policies and New Accounting Pronouncements (continued)
The Company’s calculations are based on a valuation approach and forfeitures are recognized as they occur. If the computed fair values of the stock option awards had been amortized to expense over the vesting period of the awards, net loss (in thousands) and net loss per share would have been reducedincreased to the pro forma amounts indicated below:
| 13 Weeks Ended | 39 Weeks Ended | |||||||||||
| October 30, 2004 | November 1, 2003 | October 30, 2004 | November 1, 2003 | |||||||||
Net loss from continuing operations (in thousands): | ||||||||||||
As reported | ($24,642 | ) | ($6,367 | ) | ($143,204 | ) | ($25,509 | ) | ||||
Add: Total stock-based employee compensation expense determined under fair-value-based method for all awards, net of related tax effects | (1,193 | ) | (842 | ) | (3,872 | ) | (5,595 | ) | ||||
Deducted: Total stock-based employee compensation expense included in reported net loss, net of related tax effects | 270 | 302 | 300 | 1,991 | ||||||||
Pro forma | ($25,565 | ) | ($6,907 | ) | ($146,776 | ) | ($29,113 | ) | ||||
Net loss from continuing operations per share: | ||||||||||||
As reported - basic | ($0.68 | ) | ($0.21 | ) | ($4.37 | ) | ($0.86 | ) | ||||
Pro forma - basic | ($0.71 | ) | ($0.23 | ) | ($4.48 | ) | ($0.98 | ) | ||||
As reported - diluted | ($0.68 | ) | ($0.21 | ) | ($4.37 | ) | ($0.86 | ) | ||||
Pro forma - diluted | ($0.71 | ) | ($0.23 | ) | ($4.48 | ) | ($0.98 | ) | ||||
| 13 Weeks Ended | ||||||||
| April 30, 2005 | May 1, 2004 | |||||||
Net loss | ||||||||
(in thousands): | ||||||||
As reported | $ | (8,550 | ) | $ | (19,972 | ) | ||
Add: | ||||||||
Stock-based compensation included in reported net loss from continuing operations, net of related tax effects | 510 | 512 | ||||||
Deduct: | ||||||||
Stock-based compensation expense determined under fair value based method, net of related tax effects | (1,982 | ) | (942 | ) | ||||
Pro forma net loss | $ | (10,022 | ) | $ | (20,796 | ) | ||
Pro forma net loss per share, basic: | ||||||||
As reported | $ | (0.23 | ) | $ | (0.66 | ) | ||
Pro forma | $ | (0.27 | ) | $ | (0.69 | ) | ||
Pro forma net per share, diluted: | ||||||||
As reported | $ | (0.23 | ) | $ | (0.66 | ) | ||
Pro forma | $ | (0.27 | ) | $ | (0.69 | ) | ||
NOTE 3 - Revolving Credit ArrangementOn January 10, 2005, the Company established the 2005 Stock Incentive Plan to attract and Long-Term Debtretain directors, officers, employees and consultants. The Company has reserved 10.0 million shares of Class A common stock for issuance under this incentive plan. As of June 10, 2005, 4.8 million shares of restricted Class A common stock had been granted to Joel N. Waller, the Chief Executive Officer, the Executive Vice President of Wet Seal and the non-employee directors. In the near term we anticipate granting additional restricted shares in connection with the hiring or appointment of individuals, as well as company management. As a result of the granting of restricted shares, the Company will incur non-cash compensation charges to our earnings over the vesting periods or when the restrictions lapse. As a result, the shares to be issued under the 2005 Stock Incentive Plan will have a significant adverse effect on the results of operation and on earnings per share.
THE WET SEAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the 13 weeks ended April 30, 2005 and May 1, 2004 (as restated)
(Unaudited)
AsNOTE 1 – Basis of Presentation, Significant Accounting Policies and New Accounting Pronouncements (continued)
New Accounting Pronouncements
In November 2004, the FASB issued SFAS No. 151 (“SFAS 151”), “Inventory Costs”, an Amendment of ARB No. 43, Chapter 4 “Inventory Pricing”. SFAS 151 clarifies the accounting for abnormal amounts of idle facility expense, freight, handling costs and wasted material and requires that these items be recognized as current period charges. SFAS 151 is effective for the reporting period beginning December 1, 2005. The adoption of SFAS 151 is not expected to have a material impact on the Company’s consolidated financial statements.
In December 2004, the FASB issued SFAS 153, “Exchanges of Nonmonetary Assets” (“SFAS 153”), which is an amendment of APB Opinion No. 29, “Accounting for Nonmonetary Transactions,” (“APB 29”). This statement addresses the measurement of exchanges of nonmonetary assets, and eliminates the exception from fair value measurement for nonmonetary exchanges of similar productive assets as defined in paragraph 21(b) of APB 29, and replaces it with an exception for exchanges that do not have commercial substance. This statement specifies that a nonmonetary exchange has commercial substance if the future cash flows of the endentity are expected to change significantly as a result of the first quarterexchange. SFAS 153 is effective for nonmonetary asset exchanges occurring in fiscal periods beginning after June 15, 2005. The adoption of fiscal year 2004,SFAS 153 is not expected to have a material impact on the Company was not in compliance with two covenants as outlined under the $50 million revolving line-of-credit arrangement with Bank of America, N.A. A waiver was obtained from the bank for the non-compliance with these covenants, which related to cash and net worth requirements. In connection with obtaining the waiver, the agreement was amended on May 3, 2004 reflecting a reduction of the line-of-credit from $50 million
to $40 million and restricting the Company from allowing cash advances, issuing standby letters of credit, shipside bonds or air releases from April 30, 2004 until July 1, 2004.Company’s consolidated financial statements.
On May 26,December 16, 2004, the Company replaced the existing amended revolving line-of-credit arrangement with a $50 million senior revolving credit facility with a $50 million sub-limit for letters of credit with Fleet Retail Group, Inc. (the “Lender”Financial Accounting Standards Board (“FASB”) which matures May 26, 2007. On September 22, 2004, the credit facility was amendedissued Statement No. 123 (revised 2004) (“SFAS 123 (R)”), “Share-Based Payment”. SFAS 123 (R) requires an entity to accommodate a new $8 million junior secured term loan (as so amended, the “New Credit Facility”). The term loan is juniorrecognize compensation expense in paymentan amount equal to the $50 million revolving line-of-credit underfair value of share-based payments granted to employees. For any unvested portion of previously issued and outstanding awards, compensation expense is required to be recorded based on the New Credit Facility.previously disclosed SFAS 123 methodology and amounts. Prior periods presented are not required to be restated. This statement is effective for the first fiscal year beginning after June 15, 2005. The term loan bears interest at prime plus 7% and matures on May 27, 2007. Monthly paymentsCompany is currently evaluating the provisions of interest are payable through the maturity date,SFAS 123(R) and the principal paymentimpact on its consolidated financial statements.
In May 2005, the FASB issued SFAS No. 154 (“SFAS 154”), “Accounting Changes and Error Corrections”. SFAS No. 154 is a replacement of $8 million is dueAPB No. 20 and FASB Statement No. 3. SFAS 154 provides guidance on the maturityaccounting for and reporting of accounting changes and error corrections. It establishes retrospective application as the required method for reporting a change in accounting principle. SFAS 154 provides guidance for determining whether retrospective application of a change in accounting principle is impracticable and for reporting a change when retrospective application is impracticable. The reporting of a correction of an error by restating previously issued financial statements is also addressed by SFAS 154. SFAS 154 is effective for accounting changes and corrections of errors made in fiscal years beginning after December 15, 2005. The Company will be adopting this pronouncement beginning with its fiscal year 2006.
NOTE 2: Restatement of Financial Statements
Accounting for Leases
On February 7, 2005, the Office of the Chief Accountant of the Securities and Exchange Commission (“SEC”) issued a letter to the American Institute of Certified Public Accountants expressing its views regarding certain operating lease accounting issues and their application under accounting principles generally accepted in the United States of America (“GAAP”). In light of this letter, the Company re-evaluated their lease accounting practices and has determined that certain of its lease accounting methods were not in accordance with GAAP, as described below.
THE WET SEAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the 13 weeks ended April 30, 2005 and May 1, 2004 (as restated)
(Unaudited)
NOTE 2: Restatement of Financial Statements (continued)
Tenant Improvement Allowances
The Company had historically accounted for tenant improvement allowances as reductions to the related store leasehold improvement in the consolidated balance sheets and as a reduction in capital expenditures in investing activities in the consolidated statement of cash flows. In addition, although tenant improvement allowances were amortized over the life of the lease term, this amortization was reflected as a reduction to depreciation expense instead of a reduction to rent expense. Both depreciation expense and rent expense are included in cost of sales. The Company has determined that the appropriate interpretation of FASB Technical Bulletin 88-1, “Issues Relating to Accounting for Leases,” requires these allowances to be recorded as deferred rent liabilities in the consolidated balance sheets and as a component of operating activities in the consolidated statements of cash flows.
Rent Holiday Periods
Under the requirements of FASB Technical Bulletin 85-3, “Accounting for Operating Leases with Scheduled Rent Increases,” rent expense should be amortized on a straight-line basis over the term of the lease. Historically, the Company recognized rent holiday periods on a straight-line basis over the lease term commencing with the lease commencement date which was typically the store opening date. The average interest rateCompany re-evaluated its accounting for rent holidays and determined that the lease term should commence on the date the company takes possession of the leased space for construction purposes, which is generally two months prior to a store opening date. This correction in accounting affects the recognition of rent expense and the deferred rent liabilities balance.
Classification of Shipping and Handling Fees
The Company has also determined that shipping and handling fees billed to customers for web-based sales should be recorded in net sales. Previously, such fees had been classified as a reduction to selling, general and administrative expenses. The Company recorded such fees in net sales for the 13 weeks ended OctoberApril 30, 2004 was 11.75%.2005 and reclassified these fees from selling, general and administrative expenses for the 13 weeks ended May 1, 2004.
Disclosure of cash flows pertaining to Discontinued Operations
The New Credit Facility willCompany has determined that the presentation of net cash flows from discontinued operations in the consolidated statements of cash flows should be presented in the appropriate cash flow categories rather than shown as a separate component of net cash flows as was previously reported. Accordingly, the Company has reclassified net cash used in discontinued operations of $1.1 million for working capital needsthe 13 weeks ended May 1, 2004 to the appropriate cash flow categories for such period.
THE WET SEAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the 13 weeks ended April 30, 2005 and the issuanceMay 1, 2004 (as restated)
(Unaudited)
NOTE 2: Restatement of letters of credit. The Company’s obligations under the New Credit Facility are secured by all presently owned and hereafter acquired assetsFinancial Statements (continued)
As a result of the above, the Company has restated the accompanying condensed consolidated financial statements for the 13 weeks ended May 1, 2004 from amounts previously reported as follows (in thousands, except per share data):
| Condensed Consolidated Statements of Operations | ||||||||||||
| As previously reported | Adjustments | As restated | ||||||||||
13 Weeks Ended May 1, 2004 | ||||||||||||
Net sales | $ | 99,807 | $ | 70 | $ | 99,877 | ||||||
Cost of sales | 85,778 | (138 | ) | 85,640 | ||||||||
Gross margin | 14,029 | 208 | 14,237 | |||||||||
Selling, general and administrative expenses | 39,005 | 70 | 39,075 | |||||||||
Operating loss | (24,976 | ) | 138 | (24,838 | ) | |||||||
Loss before benefit for income taxes | (24,730 | ) | 138 | (24,592 | ) | |||||||
Benefit for income taxes | (8,841 | ) | 54 | (8,787 | ) | |||||||
Net loss from continuing operations | (15,889 | ) | 84 | (15,805 | ) | |||||||
Loss from discontinued operations, net of income taxes | (4,420 | ) | 253 | (4,167 | ) | |||||||
Net loss | $ | (20,309 | ) | $ | 337 | $ | (19,972 | ) | ||||
Net loss per share, basic: | ||||||||||||
Continuing operations | $ | (0.53 | ) | $ | 0.01 | $ | (0.52 | ) | ||||
Discontinued operations | $ | (0.15 | ) | $ | 0.01 | $ | (0.14 | ) | ||||
Net loss per share, diluted: | ||||||||||||
Continuing operations | $ | (0.53 | ) | $ | 0.01 | $ | (0.52 | ) | ||||
Discontinued operations | $ | (0.15 | ) | $ | 0.01 | $ | (0.14 | ) | ||||
| Condensed Consolidated Statements of Cash Flows | ||||||||||||
| As previously reported | Adjustments | As restated | ||||||||||
13 Weeks Ended May 1, 2004 | ||||||||||||
Net cash used in operating activities of continuing operations | $ | — | $ | (10,398 | ) | $ | (10,398 | ) | ||||
Net cash provided by operating activities of discontinued operations | — | 1,061 | 1,061 | |||||||||
Net cash used in operating activities | (10,789 | ) | 1,452 | (9,337 | ) | |||||||
Net cash (used in) provided by investing activities | 9,681 | (391 | ) | 9,290 | ||||||||
THE WET SEAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the 13 weeks ended April 30, 2005 and May 1, 2004 (as restated)
(Unaudited)
NOTE 3: Store Closures
On December 28, 2004, the Company announced that it would close approximately 150 of its wholly-owned subsidiaries, Theunderperforming Wet Seal Retail, Inc. and Wet Seal Catalog, Inc., eachstores as part of which may be a borrower under the New Credit Facility. The obligations ofplan to return the Company andto profitability. To assist with the subsidiary borrowers under the New Credit Facility are guaranteed by another wholly owned subsidiaryclosing of these stores, the Company Wet Seal GC, Inc.
entered into an Agency Agreement with Hilco Merchant Resources, LLC (“Hilco”) pursuant to which Hilco would liquidate closing store inventories by means of promotional, store closing or similar sales. Under the terms of the New Credit Facility,this arrangement with Hilco, the Company andwas to receive cash proceeds from the subsidiary borrowers are subject to borrowing base limitations on the amount that can be borrowed and certain customary covenants, including covenants restricting their ability to incur additional indebtedness, make investments and acquisitions, grant liens, pay dividends, closeliquidating stores and dispose of their assets, subject to certain exceptions, or without the Lender’s consent. The ability of the Company and its subsidiary borrowers to borrow and request the issuance of letters of credit also is subject to the requirement that the Company and its subsidiary borrowers maintain an excess of the borrowing base over the outstanding credit extensions of not less than 22.9% of the greaterinitial retail value of 15%the merchandise inventory in the closing stores. The Company received $5.3 million in cash proceeds representing 31.2% of such borrowing basethe initial retail value of the inventory from liquidating stores. Additionally, the Company also entered into a consulting and advisory services agreement with Hilco Real Estate, LLC (“Hilco Advisors”) for the purpose of selling, terminating or $7.5 million.otherwise mitigating lease obligations related to the closing stores. The Company completed its inventory liquidation sales and store closures in March 2005 and ultimately closed a total of 153 stores. For the 13 weeks ended April 30, 2005, the Company recognized $5.2 million in store closure costs associated with the closure of the remaining Wet Seal stores during the quarter. The store closure costs consisted of $4.9 million for estimated lease termination costs and related expenses, $0.6 million for liquidation fees and expenses and a $0.3 million benefit related to the write-off of deferred rent.
The interest rate onfollowing summarizes the revolving line-of-credit understore closure reserve activity for the New Credit Facility is the prime rate plus a margin based on the average excess availability or, if elected, LIBOR plus a margin ranging from 1.25% to 2.00%. The applicable LIBOR margin is based on the level of “Excess Availability” as defined under the New Credit Facility at the time of election.13 weeks ended April 30, 2005:
At October 30, 2004, the amount outstanding under the New Credit Facility consisted of the $8 million junior secured term loan as well as $14.7 million in open documentary letters of credit related to merchandise purchases and $16.4 million in outstanding standby letters
of credit, which included $15.0 million for inventory purchases. At October 30, 2004 the Company had $11.4 million available for cash advances and/or for the issuance of additional letters of credit. At October 30, 2004, the Company was in compliance with all covenant requirements related to the New Credit Facility.
(in thousands)
| January 29, 2005 | Accruals | Payments/ Adjustments | April 30, 2005 | |||||||||
Store closure reserve | $ | 12,036 | $ | 4,890 | $ | (7,976 | ) | $ | 8,950 | ||||
NOTE 4: Discontinued Operations
On January 6, 2004, the Board of Directors authorized the Company to proceed with their strategic decision to close all Zutopia stores by the end of the first quarter or early in the second quarter of fiscal year 2004, due to their poor financial results and perceived limited ability to become profitable in the future.
As of the end of the second quarter of fiscal year 2004, all 31 Zutopia stores were closed. The Company closed 27 Zutopia stores in the first quarter and 4 Zutopia stores within the first two weeks of the second quarter.
The financial losses generated by this chain and the applicable reserve for lease termination costs have been identified as discontinued operations in the first and second quarters of fiscal 2004.
The operating results of the discontinued Zutopia division included in the accompanying condensed consolidated statements of operations were as follows (in thousands):follows:
| 13 Weeks Ended | 39 Weeks Ended | |||||||||||||||||||||
| October 30, 2004 | November 1, 2003 | October 30, 2004 | November 1, 2003 | |||||||||||||||||||
(in thousands)
| April 30, 2005 | May 1, 2004 | ||||||||||||||||||||
Net sales | $ | — | $ | 4,377 | $ | 2,397 | $ | 11,221 | $ | — | $ | 2,364 | ||||||||||
Loss from discontinued operations | — | (1,784 | ) | (6,967 | ) | (6,091 | ) | — | $ | (6,528 | ) | |||||||||||
Benefit for income taxes | — | (624 | ) | (2,460 | ) | (2,132 | ) | |||||||||||||||
Income tax benefit | — | 2,361 | ||||||||||||||||||||
Net loss from discontinued operations | — | ($1,160 | ) | ($4,507 | ) | ($3,959 | ) | $ | — | $ | (4,167 | ) | ||||||||||
THE WET SEAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the 13 weeks ended April 30, 2005 and May 1, 2004 (as restated)
(Unaudited)
NOTE 5 –5: Bridge Loan Payable, Long-Term Debt and Secured Convertible Notes
The Company maintains a $50.0 million senior revolving credit facility (the “Facility”) with a $50.0 million sub-limit for letters of credit with Fleet Retail Group, Inc. (the “Lender”) which matures May 26, 2007. Under the terms of the Facility, the Company and the subsidiary borrowers are subject to borrowing base limitations on the amount that can be borrowed and certain customary covenants, including covenants restricting their ability to incur additional indebtedness, make investments and acquisitions, grant liens, pay dividends, close stores and dispose of their assets, subject to certain exceptions, or without the Lender’s consent. The ability of the Company and its subsidiary borrowers to borrow and request the issuance of letters of credit is also subject to the requirement that the Company and its subsidiary borrowers maintain an excess of the borrowing base over the outstanding credit extensions of not less than the greater of 15% of such borrowing base or $7.5 million. The interest rate on the revolving line-of-credit under the Facility is the prime rate or, if elected, LIBOR plus a margin ranging from 1.25% to 2.00%. The applicable LIBOR margin is based on the level of “Excess Availability” as defined under the Facility at the time of election.
The Facility accommodates an $8.0 million junior secured term loan. The term loan under the Facility is junior in payment to the $50.0 million senior revolving line-of-credit. The term loan bears interest at prime plus 7.0% and matures on May 27, 2007. Monthly payments of interest are payable through the maturity date, and the principal payment of $8.0 million is due on the maturity date. The average interest rate for the 13 weeks ended April 30, 2005 was 12.5%.
Borrowings under the Facility are secured by all presently owned and hereafter acquired assets of the Company and its wholly-owned subsidiaries, The Wet Seal Retail, Inc. and Wet Seal Catalog, Inc., each of which may be a borrower under the Facility. The obligations of the Company and the subsidiary borrowers under the Facility are guaranteed by another wholly owned subsidiary of the Company, Wet Seal GC, Inc.
On May 3, 2005, the Company and the subsidiary borrowers (the “Borrowers”) amended The Facility agreement which, among other things, lowered the Borrowers’ excess borrowing base requirements as defined under The Facility agreement. Under the terms of the amendment, the Borrowers are required to maintain an excess of the borrowing base over the outstanding credit extensions of no greater than the lesser of 15% of such borrowing base or $5.0 million.
At April 30, 2005, the amount outstanding under the Facility consisted of the $8.0 million junior secured term loan as well as $10.3 million in open documentary letters of credit related to merchandise purchases and $16.0 million in outstanding standby letters of credit, which included $12.6 million for inventory purchases. At April 30, 2005, the Company had $23.7 million available for cash advances and/or for the issuance of additional letters of credit.
On November 9, 2004, the Company entered into a Securities Purchase Agreement (the “Financing”) with certain investors (the “Investors”) to issue and sell its new Secured Convertible Notes (the “Notes”), and two series of Additional Investment Right Warrants (“AIRs”) all of which were convertible into Class A Common Stock of the Company and multiple tranches of warrants to purchase up to 13.6 million shares of Class A Common Stock of the Company. Also on November 9, 2004, the Company entered into an agreement with the Investors and its lenders under the Facility whereby a secured term loan of $10.0 million was made to the Company as a bridge financing facility (the “Bridge Financing”). The Bridge Financing was to be used for working capital purposes prior to the closing of the Financing. Originally, the proceeds of the Bridge Financing were to be applied at the closing of the Financing as partial payment of the aggregate purchase price for the Notes and Warrants. On December 13, 2004, the Company amended the Financing agreements to increase the aggregate amount of Notes to be issued from $40.0 million to $56.0 million and to relieve the Company of its obligation to issue the AIRs. As consideration for entering into the amendments, the participating Investors were granted an additional 1.3 million Series A Warrant Shares.
THE WET SEAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the 13 weeks ended April 30, 2005 and May 1, 2004 (as restated)
(Unaudited)
NOTE 5: Bridge Loan Payable, Long-Term Debt and Secured Convertible Notes (continued)
On January 10, 2005 the Company received approval from its stockholders for the Financing and on January 14, 2005, the Company issued $56.0 million in aggregate principal amount of its Notes due January 14, 2012 to the Investors. The Notes have an initial conversion price of $1.50 per share of the Company’s Class A common stock (subject to anti-dilution adjustments) and bear interest at an annual rate of 3.76% (interest may be paid in cash or capitalized at the Company’s discretion) and are immediately exercisable into Class A common stock. The initial conversion price assigned to the Notes was lower than the fair market value of the stock on the commitment date, creating a beneficial conversion feature. On January 14, 2005, the Company also issued the Series B Warrants, Series C Warrants and Series D Warrants (collectively with the Series A Warrants, the “Warrants”) to acquire initially up to 3.4 million, 4.5 million and 4.7 million shares of the Company’s Class A common stock, respectively. The warrants have strike prices that range from $1.75 to $2.50. Each Investor is prohibited from converting any of the secured convertible notes or exercising any warrants if as a result it would own beneficially at any time more than 9.99% of the outstanding Class A Common Stock of the Company.
In accordance with the accounting guidelines established in Emerging Issues Task Force (EITF) 98-5, “Accounting for Convertible Securities with Beneficial Conversion Features or Contingently Adjustable Conversion Ratios” and EITF 00-27 “Application of Issue No. 98-5 to Certain Convertible Instruments,” the Company determined the fair value of the Warrants issued and the beneficial conversion feature of the Notes. Fair value was first determined for the Warrants using the Black-Scholes option pricing model. The Warrants were allocated a value of $14.4 million and reduced the face value of the Notes and increased additional paid in capital, using a method which approximates the relative fair value method. Based on the reduced value of the Notes and their conversion into 37,333,333 shares of Class A common stock, the effective conversion price was determined and compared to the market price of Class A Common Stock on the commitment date (January 11, 2005), the difference representing the beneficial conversion feature on a per share basis. The face value of the Notes was further reduced by $30.1 million, the value allocated to the beneficial conversion feature and paid in capital was increased.
Additionally, the Notes contain an embedded derivative, which upon the occurrence of a change of control as defined, allows each note holder the option to require the Company to redeem all or a portion of the Notes at a price equal to the greater of (i) the product of (x) the conversion amount being redeemed and (y) the quotient determined by dividing (A) the closing sale price of the Class A common stock on the business day on which the first public announcement of such proposed change of control is made by (B) the conversion price and (ii) 125% of the conversion amount being redeemed. The Company accounts for its derivative on the condensed consolidated balance sheet as a liability at fair value in accordance with SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities.” The Company determines the fair value of the derivative instrument each period using both the Black-Scholes model and Monte-Carlo simulation model. Such models are complex and require significant judgments and estimates in the estimation of fair values in the absence of quoted market prices. The face value of the Notes was reduced by $0.7 million to record this liability. Changes in the fair market value of the derivative liability are recognized in earnings. During the 13-week period ended April 30, 2005, there was no change in the fair value of the derivative liability, and accordingly, no net gain or loss was recognized in earnings during such period.
The resulting discount to the Notes is amortized under the interest method over the life of the Notes, or 7 years, and charged to interest expense. The Notes have a yield to maturity of 26.5%. For the 13 weeks ended April 30, 2005, the Company recognized $20,000 in interest expense related to the discount amortization. As of April 30, 2005, the net amount of the Notes was $12.4 million, including accrued interest.
On January 14, 2005, the Company also amended the terms of its Bridge Financing with the Investors and the lenders under the Credit Facility to extend the maturity of the Bridge Financing. Pursuant to the terms of the amendments, the initial maturity of the Bridge Financing was extended to March 31, 2005, which since then has been extended and shall be further extended on a month to month basis, subject to the right of the administrative agent under the loan documents to terminate it on 10 days’ notice, with the final maturity to occur no later than March 31, 2009. The annual base interest rate for the bridge loan is 25.0%, but will increase to 30.0% effective August 1, 2005 if the bridge loan remains outstanding. Interest may be paid in cash or capitalized at the Company’s discretion.
Beginning February 1, 2005, the Company became obligated to pay the lenders under the Bridge Facility supplemental interest payments on the outstanding principal amount of the Bridge Financing (including capitalized interest). These payments were required to be made at the beginning of each month during which the Bridge Financing has been extended. The supplemental interest payment rate was 1.45% for the month of February 2005, 0.70% for the month of March 2005, and 1.5% thereafter. The supplemental interest payments may also be paid in cash or capitalized at its discretion.
THE WET SEAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the 13 weeks ended April 30, 2005 and May 1, 2004 (as restated)
(Unaudited)
NOTE 5: Bridge Loan Payable, Long-Term Debt and Secured Convertible Notes (continued)
On May 3, 2005, the Company repaid the amounts owed under the Bridge Financing, including capitalized interest (see Note 6).
The Facility ranks senior in right of payment to the Notes. At April 30, 2005, the Company was in compliance with all covenant requirements related to the Facility, Bridge Financing and the Notes.
NOTE 6: May 2005 Private Placement
On April 29, 2005, the Company announced the signing of a Securities Purchase Agreement with several investors that participated in the Company’s January 2005 financing. On May 3, 2005 the Company completed this financing and received approximately $18.9 million in net proceeds (after the retirement of the Bridge Financing) before transaction costs. At the closing, the Company issued to the investors 24,600 shares of Series C Convertible Preferred Stock for an aggregate purchase price of $24.6 million. The Preferred Stock will be convertible into 8.2 million shares of the Class A common stock, reflecting an initial $3.00 per share conversion price. The Preferred Stock will not be entitled to any special dividend payments or mandatory redemption or voting rights. The Preferred Stock will have customary weighted-average anti-dilution protection for future stock issuances below the applicable per share conversion price.
Pursuant to the Securities Purchase Agreement, the investors agreed to exercise all of their outstanding Series A Warrants and a pro rata portion of the outstanding Series B Warrants that were issued in the January 2005 Private Placement. The Company issued approximately 3.4 million shares of Class A common stock related to the exercise of the Warrants at an aggregate exercise price of approximately $6.4 million.
The Company also issued new warrants to purchase up to 7.5 million shares of Class A Common Stock. The new warrants are exercisable beginning six months following the closing date and expire on the fifth anniversary of the date upon which they became initially exercisable. The new warrants have an initial exercise price of $3.68, reflecting the closing bid price of the Common Stock on the business day immediately before the signing of the Securities Purchase Agreement. The new warrants have anti-dilution protection for stock splits, stock dividends, distributions and similar transactions.
The Company used approximately $12.0 million of the proceeds from the financing to retire the outstanding Bridge Financing, which was provided by certain participants of the January 2005 Private Placement. The remainder of the proceeds, approximately $18.9 million, will be used for general working capital purposes and costs of this transaction totaling approximately $1.5 million.
NOTE 7: Net LossIncome Per Share
A reconciliation of the numerators and denominators used in basic and diluted net loss per share is as follows (in thousands, except for share data):
| 13 Weeks Ended | 39 Weeks Ended | 13 Weeks Ended | ||||||||||||||||||
October 30, 2004 | November 1, 2003 | October 30, 2004 | November 1, 2003 | April 30, 2005 | May 1, 2004 | |||||||||||||||
Net loss from continuing operations | ($24,642 | ) | ($6,367 | ) | ($143,204 | ) | ($25,509 | ) | $ | (8,550 | ) | $ | (15,805 | ) | ||||||
Weighted-average number of common shares: | ||||||||||||||||||||
Basic | 36,160,657 | 29,770,915 | 32,799,860 | 29,651,479 | 36,672,903 | 30,118,007 | ||||||||||||||
Effect of dilutive securities - stock options | — | — | — | — | ||||||||||||||||
Effect of dilutive securities | — | — | ||||||||||||||||||
Diluted | 36,160,657 | 29,770,915 | 32,799,860 | 29,651,479 | 36,672,903 | 30,118,007 | ||||||||||||||
Net loss from continuing operations per share: | ||||||||||||||||||||
Basic | ($0.68 | ) | ($0.21 | ) | ($4.37 | ) | ($0.86 | ) | $ | (0.23 | ) | $ | (0.52 | ) | ||||||
Effect of dilutive securities - stock options | — | — | — | — | ||||||||||||||||
Effect of dilutive securities | — | — | ||||||||||||||||||
Diluted | ($0.68 | ) | ($0.21 | ) | ($4.37 | ) | ($0.86 | ) | $ | (0.23 | ) | $ | (0.52 | ) | ||||||
THE WET SEAL, INC.
NOTE 6 - Treasury StockNOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the 13 weeks ended April 30, 2005 and May 1, 2004 (as restated)
(Unaudited)
On OctoberNOTE 7: Net Income Per Share (continued)
Potentially dilutive securities of 41,706,149 and 69,222 for the 13 weeks ended April 30, 2005 and May 1, 2002, the Company’s board of directors authorized the repurchase of up to 5,400,000 of the outstanding common stock of the Company’s Class A Common shares. This amount includes the remaining shares previously authorized for repurchase by the Company’s board of directors. All shares repurchased under this plan will be retired as authorized by the Company’s board of directors. During fiscal year 2002, the Company repurchased 947,400 shares for $8.2 million and immediately retired these shares. An additional 124,500 shares2004, respectively, were repurchased for $0.9 millionnot included in the first quartertable above because of fiscal year 2003their anti-dilutive effect.
NOTE 8: Commitments and these shares were immediately retired. As of October 30, 2004, there were 4,328,100 shares remaining that are authorized for repurchase. Presently, there are no plans to repurchase additional shares.
NOTE 7Contingencies - Litigation
Between August 26, 2004 and October 12, 2004, six securities class action lawsuits were filed in the United States District Court for the Central District of California (the “Court”), on behalf of persons who purchased the Company’s common stock between January 7, 2003 and August 19, 2004. The Company and certain of its present and former directors and executives of the Company were named as defendants. The complaints allege violations of Section 10(b) and 20(a) of the Exchange Act, and Rule 10b-5 of the Exchange Act, on the grounds that, among other things, the Company failed to disclose and misrepresented material adverse facts whichthat were known to the defendants or disregarded by them. On November 17, 2004, the Court consolidated the actions and appointed lead plaintiffs and counsel. Pursuant to stipulations with plaintiffs’ counsel,On January 29, 2005, the lead plaintiffs have until January 18, 2005filed their consolidated class action complaint with the Court, which consolidated all of the previously reported class actions. The consolidated complaint alleges that the defendants, including the Company, violated the federal securities laws by making material misstatements of fact or failing to filedisclose material facts during the class period, from March 2003 to August 2004, concerning its prospects to stem ongoing losses in its Wet Seal division and return that business to profitability. The consolidated complaint also alleges that certain former directors and La Senza Corporation, a Canadian company controlled by them, unlawfully utilized material non-public information in connection with the sale of the Company’s common stock by La Senza. The consolidated amended complaint that will become the operative pleading in the case.seeks class certification, compensatory damages, interest, costs, attorney’s fees and injunctive relief. The Company is vigorously defending this litigation and filed a motion to dismiss the consolidated complaint in April 2005. There can be no assurance that this litigation will thenbe resolved in a favorable manner. Additionally, the Company is unable to predict the likely outcome in this matter and whether such outcome may have 60 days after receipta material adverse effect on the Company’s results of operations or financial condition. Accordingly, no provision for a loss contingency has been accrued at April 30, 2005.
On February 8, 2005, the Company announced that the Pacific Regional Office of the amended complaintSecurities and Exchange Commission (“SEC”) had commenced an informal, non-public inquiry regarding the Company. The Company indicated that the SEC’s inquiry generally related to filethe events and announcements regarding the Company’s 2004 second quarter earnings and the sale of Company stock by La Senza Corporation and its affiliates during 2004. The SEC has advised us that on April 19, 2005 it issued a formal responseorder of investigation in connection with its review of matters relating to the Company. Consistent with the Court.previous announcements the Company intends to cooperate fully with the SEC’s inquiry. It is too soon to determine whether the outcome of this inquiry will have a material adverse effect on the business, financial condition, results of operations or cash flows. Additionally, the Company is unable to predict the likely outcome in this matter and whether such outcome may have a material adverse effect on the Company’s results of operations or financial condition. Accordingly, no provision for a loss contingency has been accrued at April 30, 2005.
In May 2004, the Company was notified by a consumer group, alleging that five products consisting of certain rings and necklaces contained an amount of lead that exceeded the maximum .1 parts per million of lead under Proposition 65 of the California Health and Safety Code; however, no money damages were requested. Each such contact constitutes a separate violation. The maximum civil penalty for each such violation is $2,500. The vendor of the products confirmed that the jewelry in question contained some lead. The vendor has confirmed, however, that it will accept the Company’s tender of liability. The Company has no outstanding invoices with the vendor. The Company has placed all future jewelry orders, effective October 2004, as lead free orders, which may lead to a 10% to 30% increase in cost. On June 22, 2004, the California Attorney General filed a complaint on behalf of the Center for Environmental Health. On June 24, 2004, the Company was added to that complaint as a named defendant. The case is currently being mediated for resolution on industry standards. Additionally, the Company is unable to predict the likely outcome in this matter and whether such outcome may have a material adverse effect on the Company’s results of operations or financial condition. Accordingly, no provision for a loss contingency has been accrued at April 30, 2005.
From time to time, the Company is involved in other litigation matters relating to claims arising out of ourits operations in the normal course of business. The Company’s managementManagement believes that, in the event of a settlement or an adverse judgment of any of the pending litigations, the Company islitigation, we are adequately covered by insurance. As of OctoberApril 30, 2004, the Company was2005, we were not engaged in any legal proceedings that are expected, individually or in the aggregate, to have a material adverse effect on the Company.
NOTE 8 - Sale of Common Stock
On June 29, 2004 the Company completed a private placement of equity securities to institutional and other accredited investors totaling $27.2 million in gross proceeds. After transaction costs, the Company raised approximately $25.6 million which was used for working capital and general corporate purposes.
In connection with the private placement, the Company issued 6,026,500 shares of its Class A common stock at $4.51 per share and warrants to acquire 2,109,275 additional shares of Class A common stock at an exercise price of $5.41 per share, subject to adjustment from time to time for stock splits, stock dividends, distributions and similar transactions. The warrants become exercisable beginning on December 30, 2004 and expire on December 29, 2009.
Additionally, the Company agreed to file a registration statement covering the resale of the Class A common stock purchased in the private placement, as well as the shares of Class A common stock underlying the warrants. On August 24, 2004 the Company filed the registration statement for the resale of the above shares with the Securities and Exchange Commission and on August 25, 2004 theus.
Securities and Exchange Commission notified the Company that the registration statement was declared effective.
NOTE 9 – Sale of Class B Common Stock
During the 39 weeks ended October 2004, through a series of open market transactions, certain shareholders of the Company sold 3,002,833 shares of Class B common stock. Under the provisions of the Class B shares, such shares convert to Class A shares upon their transfer or sale. Class B common stock has two votes per share while the Class A common stock has one vote per share. At October 30, 2004 there were 1,500,000 Class B shares outstanding.
NOTE 10 – Retention Agreements
On September 27, 2004, the Company and Jennifer Pritchard, President of the Company’s Arden B. division, entered into a retention agreement. Ms. Pritchard’s base salary was increased by $25,000 to an annual rate of $410,000 and her bonus opportunity, which was previously 50% of her salary increased to 75% of her salary, and from a maximum of 100% of her salary to a new maximum of 150% of her salary. She also received an award of 200,000 shares of Class A common stock of the Company, which vests over a 3 year period. In addition, Ms. Pritchard was given a retention cash bonus of $200,000, which would be owed back to the Company if she were to leave voluntarily within 12 months. Ms. Pritchard has the right to exchange the retention cash bonus for an award of an additional 200,000 shares of the Company’s stock and certain severance protections in the event of an involuntary termination by the Company.
On October 28, 2004, the Company entered into retention agreements with each of Allan Haims, the President of the Wet Seal division, Douglas Felderman, Executive Vice President and Chief Financial Officer, and Joseph Deckop, Executive Vice President. Each agreement includes a grant of 155,000 shares of Class A common stock of the Company that vest over a 3-year period. In addition, the agreements with each of Douglas Felderman and Joseph Deckop include certain severance protections in the event of an involuntary termination of employment by the Company and one-time retention payments of $100,000 payable on December 1, 2004, which would be owed back to the Company if the executive were to voluntarily terminate his employment with the Company within 12 months.
During the 13 weeks ended October 30, 2004, the Company entered into retention agreements with certain other (non-executive) employees. The agreements provide for various amounts of cash payments and/or shares of Class A common stock of the Company provided the employee remains with the Company through January 28, 2005. The cash portion for these retention payments totals $883,000 of which $238,000 is included in the results for the 13 weeks ended October 30, 2004. The remaining balance will be recognized in the fourth quarter of fiscal 2004.
NOTE 11 – Subsequent Events
On November 9, 2004 the Company announced the resignation of Peter D. Whitford as Chief Executive Officer, and as Chairman of the Board of Directors and as a Director of the Company, effective as of November 4, 2004 and Anne K. Zehren as a Director of the Company, effective as of November 8, 2004. Additionally, the Company announced the appointment of Henry Winterstern as Chairman of the Company’s Board of Directors and the appointment of Joseph Deckop as Interim Chief Executive Officer, each effective as of November 8, 2004.
On November 4, 2004, the Company and its former Chief Executive Officer entered into an Agreement and General Release (the “Agreement”) to terminate his employment with the Company. The Agreement provides for certain payments and grant of options from the Company, including: (i) bi-weekly payments of $29,807 to be paid from November 5, 2004 until the earlier of (x) January 31, 2005 and (y) the closing of the financing transaction contemplated by the SPA (as defined below)(the “Payment Date”), (ii) options to purchase 300,000 shares of Class A common stock at an exercise price of $1.75 per share and options to purchase 200,000 shares of Class A common stock at an exercise price of $2.00 per share, exercisable until June 1, 2006, to be granted on or before December 1, 2004, (iii) a payment of $1,585,000 (less the total amount of bi-weekly payments) to be paid on the Payment Date, representing two years of compensation, (iv) a payment of $509,400 to be paid on the Payment Date, representing the cost of three annual contributions to his supplemental executive retirement plan, (v) an amount equal to the cost of his continued healthcare coverage for eighteen months following November 4, 2004, to be paid on or before the Payment Date, and (vi) $50,000 representing the cost of providing outplacement services to be paid on the Payment Date.
On November 9, 2004, the Company signed a Securities Purchase Agreement (“SPA”) with S.A.C. Capital Associates, LLC and other investors (the “investors”). Under the terms of the SPA, the Company will issue and sell to the investors an aggregate of $40,000,000 of the Company’s secured convertible notes having an initial conversion price of $1.50 per share, two series of Additional Investment Right Warrants (“AIRS”) to purchase up to an additional $15,850,000 of secured convertible notes, all of which are convertible into Class A common stock of the Company at initial prices ranging from $1.65 to $1.75 per share of Class A common stock and, subject to satisfaction of certain conditions, as to which the Company has the right to require exercise into additional secured convertible notes which, upon this forced exercise, will have an initial conversion price equal to the lesser of the then market price and $1.65 to $1.75, as the case may be; and, multiple tranches of warrants to purchase up to 13,600,000 shares of Class A common stock of the Company, exercisable for up to five years from the date of issuance at initial exercise prices ranging from $1.75 to $2.75 per share (all of which are “Securities”). Warrants to acquire 2,3000,000 shares of common stock of the aggregate warrants to acquire 13,600,000 shares of common stock, exercisable for up to four years at an initial exercise price of $1.75 per share, were
issued to the investors in connection with entering into the SPA. The notes and warrants will have full ratchet antidilution protection for any future stock issuances below their exercise of conversion price as the case may be.
Each investor will be prohibited from converting or exercising any Securities into Class A common stock of the Company, if the result would be that the investor (together with its affiliates) would beneficially own at any time more than 9.99% of the outstanding Class A common stock of the Company.
The Company has agreed to file a registration agreement within 30 days after the closing date of the transactions contemplated by the SPA covering resales of the Securities and the shares of Class A common stock underlying the Securities.
The Company is required to obtain shareholder approval of the issuance of the Securities as well as the increase in the number of shares of Class A common stock which the Company is authorized to issue and other related matters.
In connection with the SPA, the investors have provided the Company with a $10 million secured bridge term loan (the “Bridge Loan”) to be used to fund the Company’s working capital obligations through the closing of the transactions contemplated by the SPA. The Bridge Loan bears an interest rate of 25%. The Bridge Loan will become due and payable on the earlier to occur of (i) the closing of the transactions contemplated by the SPA, (ii) the termination of the SPA and (iii) certain dates set forth in the Bridge Loan but not earlier than February 28, 2005. At the closing of the transactions contemplated by the SPA, the outstanding principal amount (together with accrued and unpaid interest) of the Bridge Loan will be applied as partial payment of the aggregate purchase price for the securities.
On November 23, 2004 the Company announced the resignation of Allan Haims, the President of the Wet Seal division.
NOTE 12: Accrued Liabilities
Accrued liabilities consist of the following:
| October 30, 2004 | November 1, 2003 | |||||
Wages, bonuses and benefits | $ | 8,413 | $ | 6,228 | ||
Gift certificate and store credit | 5,414 | 7,578 | ||||
Other | 9,641 | 9,423 | ||||
| $ | 23,468 | $ | 23,229 | |||
Item 2 -2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Introduction
Management’s Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with our condensed consolidated condensed financial statements and the notes thereto.
Restatement of Prior Financial Information
Throughout this report, including “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” all referenced amounts for affected prior periods and prior period comparisons reflect the balances and amounts on a restated basis as discussed in Note 2 to the condensed consolidated financial statements.
Executive Overview
We are one of the largesta national mall-based specialty retailers focusing primarily on young women’sretailer operating stores selling fashionable and contemporary apparel and accessories.accessory items designed for female customers. We currently operate 559are a Delaware corporation that operates two nationwide, primarily mall-based, chains of retail stores under the names “Wet Seal” and “Arden B.”. At April 30, 2005, we had 398 retail stores in 4746 states, Puerto Rico and Washington D.C. and Puerto Rico. Of the 559398 stores, 450 arethere were 307 locations within the Wet Seal chain and 91 were Arden B. locations. As a part of our financial turn-around strategy to improve our company’s operating results, we announced on December 28, 2004 our plans to close approximately 150 Wet Seal stores. We completed the closure of 153 Wet Seal stores, 13 are Contempo Casuals stores and 96 are Arden B. stores. We opened 8 stores and closed 40 stores during the period from November 1, 2003 to October 30, 2004 related to our continuing operations.
Our growth has been internal and by acquisition. In 1990, we completed an initial public offering. In 1995, we acquired 237 Contempo Casuals stores from the Neiman Marcus Group. In November 1998, we introduced Arden B. as a retail concept for young women aged 20 to 35. In August 1999, we launched e-commerce sites www.wetseal.com and www.contempocasuals.com. In late 2002, we launched www.ardenb.com. Although these websites provide information about the Company, the Company does not intend the information available through these websites to be incorporated into this report.announced store closure plans on March 5, 2005.
We operated a chain, Zutopia, which was not successful in generating profits. We made the determination to discontinue this chain of 31 stores at the end of fiscal year 2003. For the 13-week period ended May 1, 2004, the loss from our discontinued Zutopia division, net of income taxes, was $4.2 million.
Store Formats
Wet Seal.Founded in 1962, Wet Seal targets the fashion-conscious junior customer by providing a balance of moderately priced fashionable brand name and company-developed apparel and accessories. While Wet Seal targets fashion-forward teens, we believe that Wet Seal’s core customer is between the ages of 17 and 19 years old. Wet Seal stores average approximately 4,000 square feet in size. As of April 30, 2005, we operated 307 Wet Seal stores.
Arden B.In the fourth quarter of fiscal 1998, we opened our first Arden B. store. Arden B. stores cater to the fashionable, sophisticated contemporary woman. With a unique mix of high quality European and custom in-house designs, Arden B. delivers a hip, sophisticated wardrobe of fashion separates and accessories for all facets of the customer’s lifestyle: everyday, wear-to-work, special occasion and casual, predominantly under the “Arden B.” brand name. Arden B. stores average approximately 3,200 square feet in size. As of April 30, 2005, we operated 91 Arden B. locations.
Internet Operations.In 1999, we established Wet Seal online, a web-based store located atwww.wetseal.com offering Wet Seal merchandise to customers over the Internet. The online store was designed as an extension of the in-store experience, and offers a wide selection of our merchandise. We expanded our online business in August of 2002 with the launch ofwww.ardenb.com, offering Arden B. apparel and accessories comparable to those carried in the store collections.
Current Trends and Outlook
The 13 weeks ended October 30, 2004 wasIn January 2005 we initiated the primary component of our ninth consecutive quarter reflecting negativeturnaround strategy, our new merchandise approach for our Wet Seal brand. This approach, among other things, consisted of lower retail prices, a broader assortment of fashion-right merchandise and more frequent delivery of fresh merchandise. Since the introduction of this new strategy, our company has experienced comparable store sales growth of 8.2%, 16.4%, 36.3% and operating losses. This operating performance is due to negative sales trends at our Wet Seal division. We believe the comparable store sales decline is due to a number of factors, including missed fashion trends by the Wet Seal division, our attempt at re-establishing Wet Seal’s presence in the junior market and a more competitive environment35.7% for the Wet Seal target customer. Overall, we experienced a comparable store sales declinemonths of 12.6% for the 13 weeks ended October 30, 2004. Despite our negativeJanuary, February, March and April 2005, respectively. This comparable store sales trend ourfurther accelerated in May with comparable store sales performance atgrowth of 56.9%. The recent comparable store sales trend has been solely driven by increasing transaction counts. The acceleration of comparable store sales results continues to validate our merchandise strategy for our Wet Seal business, while our Arden B. divisionbusiness has beenalso continued to experience positive and continues to improve over the prior fiscal year. The 13-week decline resulted primarily from a decrease in the number ofcomparable store sales transactions associated with the Wet Seal division. The continued sales decline has eroded operating margins, primarily asgrowth. As a result of our improving sales trend and the de-leveragingclosing of the Company’s cost structure. These factors were the principal contributors to153 Wet Seal stores, we experienced a significant improvement in our net loss of $24.6 million, or $0.68 per sharefrom continuing operations for the 13-week period ending Octoberended April 30, 2004.2005 versus the same period a year ago. Gross margin expanded to 31.4% of sales versus 14.3% a year ago, driven by the improving sales in existing stores, lower merchandise markdowns and the benefits of closing low volume stores. Our current operating performance trend and our recent financing has resulted in increased liquidity for the Company and in turn, improved our current credit standing with suppliers which may further improve our liquidity. However, we cannot assure you that we will not experience future declines in comparable store sales. If our current sales trends do not continue and our comparable store sales drop significantly, this could impact our operating cash flow and we may be forced to seek alternatives to address our cash constraints, including seeking additional debt and/or equity financing.
Store Closures
In December 2004, we announced that we would close approximately 150 Wet Seal stores as part of our turn-around strategy. We appointed Hilco to manage the inventory liquidations for the store closures and Hilco Advisors to negotiate with the respective landlords for purposes of lease terminations and buyouts. We completed the store closing effort on March 5, 2005. We initially closed a total of 153 stores related to our turn-around strategy and any future closures will be the result of natural lease expirations where we decide not to extend, or are unable to extend, a store lease. We took a charge of $5.2 million in store closure costs associated with the closure of the remaining Wet Seal stores during the quarter. The store closure costs consisted of $4.9 million for estimated lease termination costs and related expenses, $0.6 million for liquidation fees and realized a $0.3 million benefit related to the write-off of deferred rent. We are currently negotiating lease terminations on the remaining 4 of the 153 Wet Seal stores closed.
May 2005 Private Placement
To further enhance our financial position and provide sufficient capital to finance our efforts of improving the performance of the Company over the next twelve months, we announced on April 29, 2005, the signing of a Securities Purchase Agreement with several investors that participated in the Company’s January 2005 financing. On May 3, 2005 we completed this financing and received approximately $18.9 million in net proceeds (after the retirement of our Bridge Financing) before transaction costs. Pursuant to the Securities Purchase Agreement, the investors agreed to exercise all of their outstanding Series A Warrants and a pro rata portion of the outstanding Series B Warrants that were issued in the January 2005 Private Placement. We issued approximately 3.4 million shares of our Class A common stock related to the exercise of the Warrants at an aggregate exercise price of approximately $6.4 million.
At the closing, we issued to the investors 24,600 shares of our Series C Convertible Preferred Stock (the “Preferred Stock”) for an aggregate purchase price of $24.6 million. The Preferred Stock is convertible into 8.2 million shares of the Class A common stock, reflecting an initial $3.00 per share conversion price. The Preferred Stock is not entitled to any special dividend payments or mandatory redemption or voting rights. The Preferred Stock has customary weighted-average anti-dilution protection for future stock issuances below the applicable per share conversion price.
The Company also issued new warrants to purchase up to 7.5 million shares of Class A Common Stock. The new warrants are exercisable beginning six months following the closing date and expire on the fifth anniversary of the date upon which they became initially exercisable. The new warrants have an initial exercise price of $3.68, reflecting the closing bid price of the Common Stock on the business day immediately before the signing of the Securities Purchase Agreement. The new warrants have anti-dilution protection for stock splits, stock dividends, distributions and similar transactions.
The Company used approximately $12.0 million of the proceeds from the financing to retire our outstanding Bridge Financing, which was provided by certain participants of the January 2005 Private Placement. The remainder of the proceeds, approximately $18.9 million, will be used for general working capital purposes and costs of this transaction.
Credit Extensions
Due to our operating losses over the past 27 months and diminished liquidity,financial results through January 29, 2005, we have experienced a tightening oftight credit environment. Credit extended to us by vendors, factors, and others for merchandise and services.services has been extremely limited. The impact of this credit tightening has required us to issue letters of credit outside of the ordinary course of business, or, in somemany instances, shorten vendor credit terms. We expect thisThe lack of credit has placed a considerable need for working capital. This tight credit environment to continue through the remainderhas resulted, in some cases, in delays or disruption in merchandise flow, which in turn has had an adverse effect on our sales and results of this fiscal year and may negatively impact our holiday season business, as well as, our initial Spring inventory position. All of these factors will increase demand for working capital. As a result, a number of steps have been taken with the objective ofoperations. Our improving the company’s working capital position and future operations. On August 19, 2004, we announced that our board of directors established a special committee to analyze appropriate alternatives to enhance shareholder value and appoint the services of a financial advisor. The special committee appointed Rothschild Inc. as financial advisor on September 16, 2004 for the sole purpose of exploring various strategic alternatives for the Company. On September 28, 2004 we announcedsales trend, the completion of our most recent financing in May 2005 and our improved operating results for our most recent quarter ended April 30, 2005 has improved our cash position and liquidity profile. As such, we anticipate an $8.0 million junior secured term loan (see Note 3 to the Consolidated Condensed Financial Statements,easing of credit with our vendors and Management’s Discussion and Analysis – Liquidity and Capital Resources), the proceeds have been used for working capital needs. The work of the special committee and its financial advisor resulted in our announcing on November 9, 2004 a series of agreements with S.A.C. Capital Associates, LLC and other investors (the “SAC Transaction”) to provide a Bridge Loan of $10.0 million, which funded November 10, 2004, and a securities purchase agreement to provide longer term financing of up to $55.8 million, subject to shareholder approval,their factors in the form of secured convertible notes. If the SAC Transaction is completed, the proceeds would be used for working capitalnear-term and, new store development and store closures if necessary.our positive trends continue, further improvement in obtaining more favorable credit terms.
In conjunction with the SAC Transaction, we have, or intend to, enter into consulting arrangements with certain individuals for the purpose of formulating and executing new plans to return the Company to profitability. We plan to enter into a long-term arrangement with Michael Gold
Michael Gold, a retail executive who owns more than 400 retail clothing stores in Canada and the U.S., as a consultant to guide thewell-regarded retailer, has been assisting our company with its merchandising initiatives and help streamline operations.for our Wet Seal business. We have also entered into a short-term consulting arrangementbeen negotiating an agreement with RT Management & Consulting Services, LLC,regard to Mr. Gold’s incentive compensation for his efforts to date and in the future, the amount of which Thomas Brosigwould be significant. In the interim, we have agreed to pay Mr. Gold a $500,000 fee for his consulting services to date and through December 2005. However, as of June 10, 2005, we have not reached an agreement with Mr. Gold regarding his incentive compensation and there is president (“RT Management”). RT Management has been engagedno assurance that a mutually satisfactory agreement can be reached (See “Risk Factors- We need to provide an on-site analysis of all non-merchandising departments, information systems, compensation structure and distribution. With the assistance of these consultants and others, we intendemploy personnel with requisite merchandising skills to reevaluate our merchandising history, the operating viability of each of our stores, the value of our real estate and leases and the strengths and weaknesses of our general operations.
The purpose of the SAC Transaction and entering into arrangements with Michael Gold and RT Management and other management additions, which may occur, is to implement our strategy to return our Company to profitability. We believe that the SAC Transaction will provide us with the capital needed to effect closures, if necessary, while
maintaining appropriate inventory levels at stores we intend to keep open as well as to absorb operating losses that may be incurred while we implement our plans. With regard to our merchandise,continue our merchandising strategy implemented by Mr. Gold” and “The shares to be issued under our 2005 Stock Incentive Plan will focus on price, while increasingresult in a substantial dilution of our salesearnings per square foot by offering fresh inventory reflecting current fashion trends.share”). As no agreement has been reached regarding Mr. Gold’s incentive compensation, we have not recorded any amounts in the accompanying statement of operations for the period ended April 30, 2005.
As a result of the pending SAC Transaction and to facilitate the execution of a new business plan, a number of management changes have occurred during the month of November 2004. The Company’s Chairman and Chief Executive Officer Peter D. Whitford and the Wet Seal division President Allan D. Haims, resigned. The Wet Seal board of directors named Henry Winterstern, a current Wet Seal board member, Chairman of the Board. Concurrently with the appointment of Mr. Winterstern, the Board accepted the resignation of Anne Zehren as a director. The Board also appointed Joe Deckop as interim Chief Executive Officer. Mr. Deckop has served as Executive Vice President of the Company since April 2004. The Company is taking steps to identify a permanent chief executive officer.
Our ability to execute our business plans, fund our future operations and capital expenditures will most likely depend upon the SAC Transaction being approved by our shareholders. In the event the SAC Transaction is not approved there can be no assurance that additional funding, or another liquidity event, will become available to us, or that an alternative transaction involving the sale of all or part of the company’s assets would occur on a timely basis. In that event, we would be required to consider other alternatives, including a reorganization under Chapter 11 of the U.S. bankruptcy code (see “Risk Factors” set forth elsewhere in this report).
Code of Conduct
We recently introduced a Code of Conduct for Vendors and Suppliers for all of our domesticvendors and foreign suppliers which providesprovide guidelines for their employment practices such as wage and benefits, health and safety, working age, environmental conditions and related employment matters.
Critical Accounting Policies and Estimates
Our condensed consolidated condensed financial statements were prepared in conformity with accounting principles generally accepted in the United States of America for interim financial information and the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements.
The preparation of financial statements in conformity with generally accepted accounting principles requires the appropriate application of certain accounting policies, some of which require us to make
estimates and assumptions about future events and their impact on amounts reported in our financial statements. Since future events and their impact cannot be determined with absolute certainty, the actual results will inevitably differ from our estimates.
We believe the application of our accounting policies, and the estimates inherently required therein, are reasonable. Our accounting policies and estimates are reevaluated on an ongoing basis, and adjustments are made when facts and circumstances dictate a change. Our accounting policies are more fully described in Note 1 to the consolidated condensed financial statementsCondensed Consolidated Financial Statements and in Management’s Discussion and Analysis of Financial Condition and Results of Operations included in our Annual Report on Form 10-K for the fiscal year ended January 31, 2004.29, 2005.
Our accounting policies include certain policies that require more significant management judgments and estimates. These include revenue recognition, inventorymerchandise inventories and long-lived asset valuations,assets, recovery of deferred income taxes, and insurance coverage.
Revenue Recognition
Sales are recognized upon purchase by customers at the Company’s retail store locations or through the Company’s web-site.locations. For online sales, revenue is recognized at the estimated time goods are received by customers. Additionally, shipping and handling fees billed to customers isare classified as revenue. Customers typically receive goods within 5-75 to 7 days of being shipped. The Company hasWe have recorded reserves to estimate sales returns by customers based on historical sales return results. A customer may return regular or promotionally priced merchandise within 30 days of the original purchase date. Actual return rates have historically been within management’s expectationestimates and the reserves established. ShippingAs the reserve for merchandise returns is based on estimates the actual returns could differ from the reserve, which could impact sales. For the 13 weeks ended April 30, 2005 and May 1, 2004, shipping and handling fees billed to customers are included in net saleswere $0.1 million and approximated $89,000 and $66,000 for the quarters ended October 30, 2004 and November 1, 2003 and $244,000 and $162,000 for the nine months ended October 30, 2004 and November 1, 2003,$0.1 million, respectively.
The Company recognizes the sales from gift cards and gift certificates and the issuance of store credits as they are redeemed.
The Company, through itsour Wet Seal division, has a Frequent Buyer Card program that entitles the customer to receive a 10 percent10% to 20 % discount on all purchases made during the twelve-month program period. The revenue from the annual membership fee of $20.00 is non-refundable. Revenue is recognized over the twelve-month membership period basedbase upon historical spending patterns for Wet Seal customers.
The Company, through its Arden B. division, introduced a customer loyalty program in August of 2004. Under the program, customers accumulate points based on purchase activity. Once a loyalty member achieves a certain point threshold, they earn awards that may be redeemed at any time for merchandise. Anticipated merchandise certificate redemptions are accrued and expensed as points are earned by the customer, adjusted for expected redemption. The related expense is recorded as a reduction of sales. As the accrual for merchandise certificate redemption is based on estimates the actual redemption could differ from the accrual, which could impact sales.
Inventory ValuationMerchandise Inventories
Merchandise inventories are stated at the lower of cost (first in, first out) or market. Market is determined based on the estimated net realizable value, which generally is the merchandise selling price. Cost is determinedcalculated using the retail inventory method. Under the retail inventory method, inventory is stated at its
current retail selling value. Inventory retail values are converted to a cost basis by applying a specific average cost factor that represents the average cost-to-retail ratio based on beginning inventory and the fiscal year purchase activity. The retail inventory method inherently requires management judgments and estimates, such as the amount and timing of permanent markdowns to clear unproductive or slow-moving inventory, which may impact the ending inventory valuation as well as gross margins.
Markdowns for clearance activities are recorded when the utility of the inventory has diminished. Factors considered in the determination of permanent markdowns include current and anticipated demand, customer preferences, and age of the merchandise and fashion trends. When a decision is made to permanently mark down merchandise, the resulting gross profit reduction is recognized in the period the markdown is recorded. For the third quarter ending October 30, 2004, totalrecorded.Total markdowns on a cost basis for the 13 weeks ended April 30, 2005 represented 19.0%8.6% of total retail sales compared to 13.7%13.2% for the third quarter of the prior fiscal yearfirst 13 weeks ended NovemberMay 1, 2003.2004.
To the extent that management’s estimates differ from actual results, additional markdowns may be required that could reduce the Company’sour company’s gross margin, operating income and the carrying value of inventories.
The Company’s Our company’s success is largely dependent upon itsour ability to anticipate the changing fashion tastes of itsour customers and to respond to those changing tastes in a timely manner. If the Companyour company fails to anticipate, identify or react appropriately to changing styles, trends or brand preferences of itsour customers, itwe may experience lower sales, excess inventories and more frequent and extensive markdowns, which would adversely affect itsour operating results.
Long-LivedLong-lived Assets
The Company evaluates the carrying value of long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying value of such assets may not be recoverable. Factors that are considered important that could trigger an impairment review include a current-period operating or cash flow loss combined with a history of operating or cash flow losses and a projection or forecast that demonstrates continuing losses associated with the use of a long-lived asset or asset group. Other factors include a significant change in the manner of the use of the asset or a significant negative industry or economic trend. This evaluation is performed based on estimated undiscounted future cash flows from operating activities compared with the carrying value of the related assets. If the undiscounted future cash flows are less than the carrying value, an impairment loss is recognized, measured by the difference between the carrying value and the estimated fair value of the assets, with such estimated fair values determined using the best information available, generally based on prices for similar assets for stores recently opened. In light of disappointing sales results during the back-to-school period, expectations for continued operating losses and the Company’s historical operating performance, the Company concluded that
an indication of impairment existed as of July 31, 2004. Accordingly, the Company conducted an impairment evaluation in accordance with Statement of Financial Accounting Standards No. 144 “Accounting for the Impairment or Disposal of Long-Lived Assets” (“SFAS 144”) as of July 31, 2004. This analysis included reviewing the stores’ historical cash flows, estimateddiscounted future cash flows over remaining lease terms and recoverability of each store’s long-lived assets. Based on the resultsassets using a rate that approximates the Company’s weighted cost of this analysiscapital. On a quarterly basis, the Company wrote downassesses whether events or changes in circumstances occur that potentially indicate the carrying value of these impaired long-lived assets as of July 31, 2004 by $36.7 million, a noncash charge tomay not be recoverable. The Company concluded that there were no such events or changes in circumstances during the consolidated statement of operations.13 weeks ended April 30, 2005 and May 1, 2004.
Deferred Income Taxes
The CompanyOur company accounts for income taxes in accordance with SFAS No. 109, “Accounting for Income Taxes,” (“SFAS 109”) which requires that deferred tax assets and liabilities be recognized using enacted tax rates for the effect of temporary differences between the book and tax bases of recorded assets and liabilities. SFAS No. 109 also requires that deferred tax assets be reduced by a valuation allowance if it is more likely than not that some portion or all of the entire net deferred tax asset will not be realized. As a result of disappointing sales results during the 2004 back-to-school season and the Company’sour historical operating performance, the Companymanagement concluded that it is more likely than not that the Company willcompany would not realize its net deferred tax assets. As a result of this conclusion, the Company reduced itsour deferred tax assets were reduced by establishing a tax valuation allowance of $38.8$40.4 million as of July 31,in fiscal 2004. In addition, the Companyour company has discontinued recordingrecognizing income tax benefits in ourthe consolidated condensed income statements of operations until we determineit is determined that it is more likely than not that we will generate sufficient taxable income to realize ourthe deferred income tax assets. As of April 30, 2005, the deferred tax asset valuation allowance was $100.8 million.
Insurance Coverage
The Company is partially self-insured for itsour worker’s compensation and group health plans. Under the workers’ compensation insurance program, the Companyour company is liable for a deductible of $250,000 for each individual claim and an aggregate annual liability of $1,600,000.$5.0 million. Under the Company’sour company’s group health plan, the Companyour company is liable for a deductible of $100,000$150,000 for each claim and an aggregate monthly liability of $500,000.$0.5 million. The monthly aggregate liability is subject to the number of participants in the plan each month. For both of the insurance plans, the Companyour company records a liability for the costs associated with reported claims and a projected estimate for unreported claims due to historical experience and industry standards. The CompanyOur company will continue to adjust the estimates as the actual experience dictates. A significant change in the number or dollar amount of claims could cause the Companyour company to revise itsour estimate of potential losses and affect its reported results.
New Accounting Pronouncements
Information regarding new accounting pronouncements is contained in Item 1, Note 1 to the Condensed Consolidated Condensed Financial Statements.
Results of Operations
Except as otherwise noted, the following discussion of our financial position and results of operations excludes our discontinued Zutopia division, which was closed by the second week of the second quarter of fiscal yearMay 2004.
The following table sets forth selected income statement data as a percentage of net sales for the fiscal periods13-week period indicated. The discussion that follows should be read in conjunction with the table below:
Fiscal Period Ended | As a Percentage of 13 Weeks Ended | As a Percentage of 39 Weeks Ended | ||||||||||
| October 30, 2004 | November 1, 2003 | October 30, 2004 | November 1, 2003 | |||||||||
Net sales | 100.0 | % | 100.0 | % | 100.0 | % | 100.0 | % | ||||
Cost of sales (including buying, merchandise planning, distribution and occupancy costs) | 83.8 | % | 78.1 | % | 86.5 | % | 80.5 | % | ||||
Gross margin | 16.2 | % | 21.9 | % | 13.5 | % | 19.5 | % | ||||
Selling, general and administrative expenses | 38.4 | % | 29.6 | % | 37.7 | % | 30.3 | % | ||||
Asset impairment | 0.0 | % | 0.0 | % | 11.6 | % | 0.0 | % | ||||
Operating loss | (22.3 | %) | (7.7 | %) | (35.8 | %) | (10.8 | %) | ||||
Interest income, net | 0.0 | % | 0.3 | % | 0.0 | % | 0.3 | % | ||||
Loss before provision (benefit) for income taxes | (22.3 | %) | (7.4 | %) | (35.8 | %) | (10.5 | %) | ||||
Provision (benefit) for income taxes | 0.0 | % | (2.6 | %) | 9.5 | % | (3.7 | %) | ||||
Loss from continuing operations | (22.3 | %) | (4.8 | %) | (45.3 | %) | (6.8 | %) | ||||
Loss from discontinued operations, net of income taxes | 0.0 | % | (0.9 | %) | (1.4 | %) | (1.1 | %) | ||||
Net loss | (22.3 | %) | (5.7 | %) | (46.7 | %) | (7.9 | %) | ||||
| As a Percentage of Sales 13 Weeks Ended | ||||||
| April 30, 2005 | May 1, 2004 | |||||
Net sales | 100.0 | % | 100.0 | % | ||
Cost of sales | 68.6 | 85.7 | ||||
Gross margin | 31.4 | 14.3 | ||||
Selling, general and administrative expenses | 32.9 | 39.2 | ||||
Store closure costs | 5.0 | — | ||||
Operating loss | (6.5 | ) | (24.9 | ) | ||
Interest (expense) income, net | (1.7 | ) | 0.2 | |||
Loss before benefit for income taxes | (8.2 | ) | (24.7 | ) | ||
Benefit for income taxes | — | (8.8 | ) | |||
Net (loss) income from continuing operations | (8.2 | ) | (15.9 | ) | ||
Loss from discontinued operations, net of income taxes | — | (4.2 | ) | |||
Net loss | (8.2 | )% | (20.1 | )% | ||
Thirteen Weeks Ended OctoberApril 30, 20042005 Compared to Thirteen Weeks Ended NovemberMay 1, 20032004
Net Sales
| 13 Weeks Ended 30-Oct-04 | Change From Prior Year 13 Weeks | 13 Weeks Ended November 1, 2003 | |||||||||||
| (in millions) | |||||||||||||
Net sales | $ | 110.8 | $ | (21.0 | ) | -15.9 | % | $ | 131.8 | ||||
Comparable store sales percentage | -12.6 | % | |||||||||||
Net sales (in millions) | 13 Weeks Ended | Change From Prior Fiscal Period | 13 Weeks Ended | |||||||||
Net Sales | $ | 103.8 | $ | 3.9 | 3.9 | % | $ | 99.9 | ||||
Comparable store sales | 29.8 | % | ||||||||||
ForNet sales for the 13 weeks ended OctoberApril 30, 2004, net2005 increased as a result of significant growth in comparable store sales.
Cost of sales (in millions) | 13 Weeks Ended | Change From Prior Fiscal Period | 13 Weeks Ended | ||||||||||||
Cost of sales | $ | 71.3 | $ | (14.3 | ) | (16.7 | )% | $ | 85.6 | ||||||
Percent of net sales | 68.6 | % | (17.1 | )% | 85.7 | % | |||||||||
Cost of sales include the decrease in net sales.cost of merchandise, markdowns, inventory shortages, valuation adjustments, inbound freight, payroll expenses associated with design, buying and sourcing, inspection costs, processing, receiving and other warehouse costs, rent and depreciation and amortization expense associated with our stores and distribution center.
Cost of sales dollars and as a percent to sales decreased due to:
Cost of Sales (including buying, merchandise planning, distribution and occupancy)
13 Weeks Ended October 30, 2004 | Change From Prior Year 13 Weeks | 13 Weeks Ended November 1, 2003 | |||||||||||||
| (in millions) | |||||||||||||||
Cost of Sales (including buying, merchandise planning, distribution and occupancy) | $ | 92.9 | $ | (10.1 | ) | -9.8 | % | $ | 103.0 | ||||||
% of net sales | 83.8 | % | 5.7 | % | 78.1 | % | |||||||||
For the 13 weeks ended October 30, 2004, cost of sales decreased $10.1 million from the same period last year, but increased 570 basis points as a percentage of net sales as a result of the following key factors:
Selling, General and Administrative Expenses
13 Weeks Ended October 30, 2004 | Change From Prior Year 13 Weeks | 13 Weeks Ended November 1, 2003 | ||||||||||||
| (in millions) | ||||||||||||||
Selling, general & administrative expenses | $ | 42.6 | $ | 3.6 | 9.2 | % | $ | 39.0 | ||||||
% of net sales | 38.4 | % | 8.8 | % | 29.6 | % | ||||||||
Selling, general and administrative expenses (SG&A) (in millions) | 13 Weeks Ended | Change From Prior Fiscal Period | 13 Weeks Ended | ||||||||||||
Selling, general and administrative expenses | $ | 34.2 | $ | (4.9 | ) | (12.5 | )% | $ | 39.1 | ||||||
Percent of net sales | 32.9 | % | 6.3 | % | 39.2 | % | |||||||||
Our selling, general and administrative (“SG&A”)&A expenses are comprised of two components. The selling expense component includes store and field support costs including personnel, advertising, and merchandise delivery costs as well as internet/catalog processing costs. The general and administrative (“G&A”) expense component includes the cost of corporate overhead functions.functions such as legal, accounting, information systems, human resources, real estate, and other centralized services.
Selling expenses decreased $5.6 million to 24.5% of sales, or 650 basis points from a year ago. The decrease in store operating expenses over last year was primarily due to the closing of 153 low volume Wet Seal stores. In addition to the favorable impact of closing 153 low volume Wet Seal stores, selling expenses as a percent to sales improved due to the increased sales volume of ongoing stores.
General and administrative expenses increased approximately $0.7 million over last year to $8.8 million. As a percent ofto sales, SG&Ageneral and administrative expenses increased 880were 8.5%, or 40 basis points compared tohigher than a year ago. Though the prior year third quarter. The major components to the increase as a percentCompany realized approximately $0.5 million, or 50 basis points of sales were:lower spending for salary and wages, this was more than offset by:
Store Closure Costs (in millions) | 13 Weeks Ended | Change From Prior Fiscal Period | 13 Weeks Ended | |||||||||
Store closure costs | $ | 5.2 | $ | 5.2 | — | — | ||||||
Percent of net sales | 5.0 | % | 5.0 | % | — | |||||||
The Company closed 153 Wet Seal stores and completed the store closings previously announced on March 5, 2005. For the 13-week period ended April 30, 2005, the Company recognized $5.2 million in store closure costs associated with the closure of the remaining Wet Seal Stores during the quarter. The store closure costs consisted of $4.9 million for estimated lease termination costs, $0.6 million for third party inventory liquidation costs and a benefit of approximately $0.3 million related to employee turnoverthe write-off of deferred rent associated with these stores.
Interest (expense) income, net (in millions) | 13 Weeks Ended | Change From Prior Fiscal Period | 13 Weeks Ended | ||||||||||||
Interest (expense) income, net | $ | (1.8 | ) | $ | (2.0 | ) | — | $ | 0.2 | ||||||
Percent of net sales | (1.7 | )% | (1.9 | )% | 0.2 | % | |||||||||
We incurred net interest expense of $1.8 million for the 13-week period ended April 30, 2005 as a result of:
Net Interest Income (Expense)
13 Weeks Ended October 30, 2004 | Change From Prior Year 13 Weeks | 13 Weeks Ended November 1, 2003 | |||||||||||
| (in millions) | |||||||||||||
Net interest income (expense) | $ | 0.0 | $ | (0.4 | ) | 95.6 | % | $ | 0.4 | ||||
% of net sales | — | -0.3 | 0.3 | ||||||||||
The decrease in netexpense was offset somewhat by interest income was primarily due to a decrease in invested cash balances compared to the same period a year ago. Total cash and investments were $22.7of approximately $0.3 million at the end of October 30, 2004 compared to $69.3 million at November 1, 2003. We also incurred interest expense, including the amortization of costs, related to our Credit Facility (as defined below).investment of excess cash during the period.
Income Taxes Provision (Benefit)
13 Weeks Ended October 30, 2004 | Change From Prior Year 13 Weeks | 13 Weeks Ended November 1, 2003 | ||||||||||||||||||||||||
| (in millions) | ||||||||||||||||||||||||||
Income taxes - provision (benefit) | $ | — | $ | 3.4 | -100.0 | % | $ | (3.4 | ) | |||||||||||||||||
Income taxes (in millions) | 13 Weeks Ended | Change From Prior Fiscal Period | 13 Weeks Ended | |||||||||||||||||||||||
Income taxes - benefit | $ | — | $ | 8.8 | — | $ | (8.8 | ) | ||||||||||||||||||
Effective tax rate | 0.0 | % | -35.0 | % | 35.0 | % | — | 35.8 | % | |||||||||||||||||
The change in income taxes from the same quarter a year ago was a result of establishing aCompany ceased recognizing tax valuation allowance. This was deemed necessary in light of disappointing sales resultsbenefits related to its net operating losses and our historical operating performance. We established this tax valuation allowance in accordance with SFAS 109 “Accounting for Income Taxes”, which requiresother deferred tax assets be reduced by a valuation allowance ifbeginning with its second quarter of the year ended January 29, 2005. The Company did not recognize income tax benefits related to net operating losses generated during the 13-week period ended April 30, 2005 as the Company has determined that it is more likely than not that some or all of the deferred tax assetsCompany will not be realized in the foreseeable future.
The Thirty-Nine Weeks Ended October 30, 2004 Comparedgenerate sufficient taxable income to the Thirty-Nine Weeks Ended November 1, 2003
Net Sales
39 Weeks Ended October 30, 2004 | Change From Prior Year 39 Weeks | 39 Weeks Ended November 1, 2003 | |||||||||||
| (in millions) | |||||||||||||
Net sales | $ | 316.4 | $ | (58.3 | ) | -15.6 | % | $ | 374.7 | ||||
Comparable store sales percentage | -13.5 | % | |||||||||||
For the 39 weeks ended October 30, 2004, net sales decreased $58.3 million from the same period last year. The decrease was primarily due to fewer stores in operation and a comparable store sales decrease of 13.5%, compared to a comparable store sales decrease of 18.7% for the 39 weeks ended November 1, 2003.
The comparable store sales decrease was attributable to a 20.6%
|
Cost of Sales (including buying, merchandise planning, distribution and occupancy)
39 Weeks Ended October 30, 2004 | Change From Prior Year 39 Weeks | 39 Weeks Ended November 1, 2003 | |||||||||||||
| (in millions) | |||||||||||||||
Cost of Sales (including buying, merchandise planning, distribution and occupancy) | $ | 273.7 | $ | (27.9 | ) | -9.2 | % | $ | 301.6 | ||||||
% of net sales | 86.5 | % | 6.0 | % | 80.5 | % | |||||||||
For the 39 weeks ended October 30, 2004, cost of sales decreased $27.9 million from the same period last year but increased 600 basis points as a percentage of sales due to the following key factors:
Selling, General and Administrative Expenses
39 Weeks Ended% October 30, 2004 | Change From Prior Year 39 Weeks | 39 Weeks Ended% November 1, 2003 | ||||||||||||
| (in millions) | ||||||||||||||
Selling, general & administrative expenses | $ | 119.2 | $ | 5.6 | 5.0 | % | $ | 113.6 | ||||||
% of net sales | 37.7 | % | 7.4 | % | 30.3 | % | ||||||||
For the 39 weeks ended October 30, 2004, SG&A increased $5.6 million compared to the same period last year and as a percent of sales, SG&A increased 740 basis points. The principal factors for the increases were:
Asset Impairment
We recorded a non-cash impairment charge of $36.7 million related to certain long-lived assets at July 31, 2004 including store-related assets such as leasehold improvements, furniture, fixtures and equipment. We recorded the impairment charge on certain long-lived assets as a result of disappointing sales results for “Back-To-School”, our expectations for operating results for the balance of fiscal year 2004 and recent historical results.
We determined the impairment charge in accordance with SFAS 144. Our evaluation and determination of the impairment charge was the result of a store-by-store analysis, their respective historical operating performance over the past three years as well as their future operating performance over the remaining lease term.
Net Interest Income (Expense)
39 Weeks Ended October 30, 2004 | Change From Prior Year 39 Weeks | 39 Weeks Ended November 1, 2003 | ||||||||||||
| (in millions) | ||||||||||||||
Net interest income (expense) | $ | 0.1 | $ | (1.1 | ) | 93.4 | % | $ | 1.2 | |||||
% of net sales | — | -0.3 | % | 0.3 | % | |||||||||
The decrease in net interestrealize these deferred income was primarily due to a decrease in average invested cash balances compared to the same period a year ago. The cash and investments at October 30, 2004 and November 1, 2003 were $22.7 million and $69.3 million, respectively. We also incurred interest expense associated with the amortization of costs related to our Credit Facility (as defined below).
Income Taxes Provision (Benefit)
39 Weeks Ended October 30, 2004 | Change From Prior Year 39 Weeks | 39 Weeks Ended November 1, 2003 | ||||||||||||
| (in millions) | ||||||||||||||
Income taxes - provision (benefit) | $ | 30.0 | $ | 43.7 | -318.4 | % | $ | (13.7 | ) | |||||
Effective tax rate | 0.0 | % | -35.0 | % | 35.0 | % | ||||||||
The change in income taxes from the same period a year ago was a result of establishing a tax valuation allowance of $38.8 million against all of our deferred tax assets. We established this tax valuation allowance in accordance with SFAS 109 “Accounting for Income Taxes”, which requires deferred tax assets be reduced by a valuation allowance if it is more likely than not that some or all of the deferred tax assets will not be realized in the foreseeable future.
Discontinued Operations
The loss reported in the first quarter for the discontinuedCompany closed 31 Zutopia chain included the loss associated with the division’s operating losses as well as the $5.3 million lease termination costs for 27 Zutopia store closures. The loss reported in the second quarter included the operating losses of four Zutopia stores closed during the first two weeksquarters of fiscal 2004. The loss of $4.2 million reflects the second quarter.operating losses during the 13-week period ended May 1, 2004 including lease termination costs.
Liquidity and Capital Resources
Net cash used in operating activities for continuing operations was $64.3$22.9 million for the nine months13-week period ended OctoberApril 30, 2004,2005, compared to $2.3$9.3 million net for the same period last year. OperatingFor the 13-week period ended April 30, 2005, operating cash flows were directly impacted by our loss from continuing operations net of $143.2 million, offset by non-cashnon cash charges of $15.4$3.4 million, related to depreciationthe seasonal build-up of merchandise inventories under shorter vendor terms of $14.3 million and amortization, $36.7 million for an asset impairment charge,cash used as a $27.6 million tax valuation allowance and other non-cash itemsresult of $0.7 million. We used $1.5 million of cash related to changes in other operating assets and liabilities. This net use included a $10.7 million tax refund, offset by an increase in inventoryliabilities of $12.1$5.2 million. At OctoberApril 30, 2004,2005, the net owned inventory ratio was 2.113.03 compared to the prior year ratio on May 1, 2004 of 1.68.1.54. The increase in the inventory ratio was due to seasonal build up. The net owned inventory ratio increased due to the acceleration of payment terms on merchandise payables.
Cash provided by investing activities of $44.8 million included the net sales of marketable securities of $49.5 million offset by capital expenditures of $4.7 million. Capital expenditures were primarily associated with store construction.
Cash provided by financing activities of $33.8 million consisted of net proceeds of $25.6 related to the private placement of 6.0 million shares of Class A common stock and warrants to acquire an additional
2.1 million shares of Class A common stock and the exercise of stock options of $0.2 million. Additionally, the Company received $8.0 million related to the term portion of the Credit Facility (as defined below). Additional information is contained in Item 1, Notes 3 and 7 to the Consolidated Condensed Financial Statements.shorter vendor credit terms.
For the 39 weeks13-week period ended OctoberApril 30, 2004,2005, net cash used in discontinued operationsinvesting activities was for capital expenditures of $2.4 million. Capital expenditures for the Zutopia division was $5.1 million which included a loss of $4.5 million, offset by a net increase in the cash components ofperiod were primarily for new store development and store relocations for our working capital related to discontinued operations of approximately $0.6 million.Arden B. division.
The total of cash and investments at OctoberApril 30, 20042005 was $22.8$46.4 million, compared to $69.3$71.7 million at November 1, 2003 and $63.5 at January 31, 2004.
Capital improvements totaled $4.7 million for the 39 weeks ended October 30, 2004 compared to $12.7 million at November 1, 2003. The expenditure of $4.7 million primarily reflects costs for 7 new stores and 8 remodels completed during the 39 weeks ended October 30, 2004. During the nine months of fiscal year 2003, we opened 29, stores and remodeled 20 stores. Capital expenditures for fiscal year 2004 are anticipated to be approximately $5.9 million, relating primarily to store construction.2005.
Our working capital at OctoberApril 30, 20042005 was $17.9$18.7 million compared to $57.8 million at November 1, 2003 and $38.6$27.0 million at January 31, 2004. The overall reduction in our working capital primarily reflects cash used in operations, capital expenditures and for lease buy-out requirements related to the closure of the Zutopia stores.
On October 1, 2002, our Board of Directors authorized the repurchase of up to 5,400,000 shares of our outstanding Class A common stock. This amount included the remaining shares previously authorized for repurchase by the Board of Directors. During fiscal years 2002 and 2003 the Company repurchased and retired 1,071,900 shares. As of October 30, 2004, there were 4,328,100 shares remaining that are authorized for repurchase. Presently, there are no plans to repurchase additional shares.29, 2005.
We have a $58$58.0 million secured revolving credit facility with Fleet Retail Group, Inc. and other lenders (the “Credit Facility”“Facility”). The Credit Facility consists of a $50$50.0 million senior secured revolving line-of-credit with a $50$50.0 million sub-limit for letters of credit and an $8$8.0 million junior secured term loan. Additional information regarding the Credit Facility is contained in Item 1, Note 35 “ Bridge Loan Payable, Long-Term Debt, and Secured Convertible Notes” to the Condensed Consolidated Condensed Financial Statements.
At OctoberApril 30, 2004,2005, the amount outstanding under the Credit Facility consisted of the $8$8.0 million junior secured term loan as well as $14.7$10.3 million in open documentary letters of credit related to merchandise purchases and $16.4$16.0 million in outstanding standby letters of credit, which included $15.0$12.6 million for inventory purchases. At OctoberApril 30,
2004, the Company 2005, our company had $11.4$23.7 million available for cash advances and/or for the issuance of additional letters of credit. At OctoberApril 30, 2004, the Company2005, our company was in compliance with all covenant requirements related to the Credit Facility.
Due to our financial resultsAs a result of the continuing operating losses over the past 2733 months, we have experienced a tightening of credit extended to us by vendors, factors, and others for merchandise and services. The impact of this credit tightening has required us to issue letters of credit outside of the ordinary course of business, or, in somemany instances, shorten vendor credit terms. We expect this tight credit environment to continue through the remainder of this fiscal year with a potentially negative impact on our holiday season business as well as our initial spring inventory position. All of these factors will placeled us to seek additional demandfinancing for the purpose of executing our new turnaround strategy, funding future negative cash flows from operations, satisfying working capital.
See Item 1,capital needs, funding expected capital expenditures of $7.0 million in fiscal 2005 and improving the credit worthiness of our company. During fiscal 2004, we raised approximately $92.9 million in net proceeds through a series of financings to meet our cash needs. In addition, on April 29, 2005, we announced the signing of a Securities Purchase Agreement with several investors that participated in our company’s January 2005 Private Placement. On May 3, 2005, we received approximately $18.9 million in net proceeds from this transaction after payment of approximately $12.0 million for the retirement of our bridge loan facility and capitalized interest. (See Note 116 “May 2005 Private Placement” to the Consolidated Condensed Financial Statements for additional information regarding this transaction).
For the 4-week period ended January 29, 2005, we experienced a discussioncomparable store sales increase of 8.2%. This comparable store sales increase was the first in over two years. In addition, we initiated a financing arrangement entered into bykey component to our turnaround strategy, our new merchandise approach, in January. Subsequently, we reported comparable store sales increases of 16.4%, 36.3%, 35.7% and 56.9% for the Company subsequentmonths of February, March, April and May 2005, respectively. In light of our improving trend in comparable store sales, our cash position of $46.4 million at April 30, 2005 and the completion of our May 2005 Private Placement, we believe, if current sales trends continue, we will have sufficient capital to themeet our operating and capital requirements for fiscal 2005. However, we cannot assure you that we will not experience future declines in comparable store sales. If our current fiscal period.sales trends do not continue and our comparable store sales drop significantly, this could impact our operating cash flow and we may be forced to seek alternatives to address our cash constraints, including seeking additional debt and/or equity financing.
Seasonality and Inflation
Our business is seasonal in nature with the Christmas season, beginning the week of Thanksgiving and ending the first Saturday after Christmas, and the “back-to-school”back-to-school season, beginning the last week of July and ending the first week of September, historically accounting for a large percentage of our sales volume. For the past three fiscal years, the Christmas and “back-to-school”back-to-school seasons together accounted for an average slightly less thanof 30% of our annual sales, after adjusting for sales increases related to new stores. We do not believe that inflation has had a material effect on the results of operations during the past three years. However, we cannot provide assurancesbe certain that our business will not be affected by inflation in the future.
Commitments and Contingencies
Our principalAt April 30, 2005, our contractual obligations consist of minimum annual rental commitments under non-cancelable leases for our stores, our corporate office, warehouse facility, automobiles, computer equipment and copiers. We also have commitments to fund a supplemental employee retirement plan (“SERP”). At October 30, 2004, our contractual obligations under these leases and other commitments were as follows (in thousands):of:
| Payments Due By Period | Payments Due By Period | |||||||||||||||||||||||||||||
Contractual Obligations (in thousands) | Total | Less Than 1 Year | 1–3 Years | 4–5 Years | After 5 Years | Total | Less Than 1 Year | 1–3 Years | 4–5 Years | Over 5 Years | ||||||||||||||||||||
Operating leases | $ | 360,672 | $ | 62,515 | $ | 162,958 | $ | 72,750 | $ | 62,449 | $ | 259,496 | $ | 46,469 | $ | 119,559 | $ | 52,425 | $ | 41,043 | ||||||||||
Credit Facility-term loan | $ | 10,428 | $ | 940 | $ | 9,488 | ||||||||||||||||||||||||
Store closure costs | 8,950 | 8,950 | — | — | — | |||||||||||||||||||||||||
Bridge loan | 11,671 | 11,671 | — | — | — | |||||||||||||||||||||||||
Junior term loan | 8,000 | — | 8,000 | — | — | |||||||||||||||||||||||||
Convertible notes | 56,529 | — | — | — | 56,529 | |||||||||||||||||||||||||
Supplemental Employee Retirement Plan | $ | 1,600 | — | $ | 1,600 | — | — | 2,200 | 220 | 660 | 440 | 880 | ||||||||||||||||||
Projected interest on contractual obligations | 18,575 | 1,191 | 1,083 | — | 16,301 | |||||||||||||||||||||||||
We maintainhave a SERPdefined benefit Supplemental Employee Retirement Plan (the “SERP”) for a previousone former director. The SERP provides for retirement death benefits through life insurance and for retirement benefits.insurance. The Company funded the SERP in 1998 and 1997 through contributions to a trust fund known as a “Rabbi” trust.
The projected interest component on our company’s contractual obligations was estimated based on the prevailing or contractual interest rates for the respective obligations over the period of the agreements (see Note 5 of Notes to Condensed Consolidated Financial Statements).
Our principal commercial commitments consist primarily of letters of credit, related primarily tofor the procurement of merchandise.domestic and imported merchandise, secured by our Facility. At OctoberApril 30, 2004,2005, our contractual commercial commitments under these letters of credit arrangements were as follows (in thousands):follows:
Other Commercial Commitments (in thousands) | Total Amounts | Amount of Commitment Expiration Per Period | Total Amounts | Amount of Commitment Expiration Per Period | |||||||||||||||||||||
| Less Than 1 Year | 1–3 Years | 4–5 Years | Over 5 Years | Less Than 1 Year | 1–3 Years | 4–5 Years | Over 5 Years | ||||||||||||||||||
Letters of credit | $ | 31,048 | $ | 31,048 | — | — | — | $ | 26,228 | $ | 15,753 | $ | 10,475 | — | — | ||||||||||
We do not maintain any long-term or exclusive commitments or arrangements to purchase merchandise from any single supplier.
Statement Regarding Forward-Looking Disclosure
Certain sections of this Quarterly Report on Form 10-Q, including the preceding “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” may contain various forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, (the “Exchange Act”) which represent our expectations or beliefs concerning future events.
Forward-looking statements include statements that are predictive in nature, which depend upon or refer to future events or conditions, which include words such as “believes,” “plans,” “anticipates,” “estimates,” “expects” or similar expressions. In addition, any statements concerning future financial performance, ongoing business strategies or prospects, and possible future actions, which may be
provided by our management, are also forward-looking statements. Forward-looking statements are based on current expectations and projections about future events and are subject to risks, uncertainties, and assumptions about our company, economic and market factors and the industry in which we do business, among other things. These statements are not guaranties of future performance and we undertake no obligation to publicly update any forward-looking statements, whether as a result of new information, future events or otherwise.
Actual events and results may differ from those expressed in any forward-looking statements due to a number of factors. Factors that could cause our actual performance, future results and actions to differ materially from any forward-looking statements include, but are not limited to, those discussed in the “Risk Factors” section below.
RISK FACTORSRisk Factors
Risks Related to our Business
If we fail to consummate the SAC Transaction, weWe may be unable to sustain recent positive comparable store sales which could significantly impact our economic viability.
The economic survival of our company is significantly dependent on our ability to reverse declines in comparable store sales and then sustain comparable store sales growth. Our comparable store sales results have declined significantly during the past two years and a substantial portion of these declines have been attributable to our Wet Seal division. Our ability to improve our comparable store sales results depends in large part on a number of factors, some of which are outside of our control, including improving our forecasting of demand and fashion trends, providing an appropriate mix of appealing merchandise for our targeted customer base, managing inventory effectively, using more effective pricing strategies, selecting effective marketing techniques, optimizing store performance by closing under-performing stores, calendar shifts of holiday periods and general economic conditions. We cannot assure you that we will not experience future declines in comparable store sales and net losses from continuing operations, both of which would significantly impact our ability to continue as a going concern.
We have entered into the SAC Transaction, the closing of which is subject to limited conditions including shareholder approval. We anticipate that a shareholder meeting for this purpose will occur in January 2005. If approved by the shareholders, the SAC Transaction is expected to close promptly thereafter. We believe that the financing provided by the SAC Transaction will provide adequate funding for the next several months. If, for any reason, the SAC Transaction is not consummated, the Company’s financial position would be materially and adversely affected, which could result in a default under the Bridge Loan and the Credit Facility and may force the Company to consider reductions in capital and other expenditures, the sale of assets or other strategic alternatives, including a reorganization under Chapter 11 of the U.S. bankruptcy code.
We have incurred operating losses and negative cash flows in recent periods, which have ledthe past two years and we may not be able to liquidity constraints. Further, we have experienced a tightening of credit extended to us by vendors, factors and others for merchandise and services, which could cause continued delays or disruptions in merchandise flow.reverse these losses.
We have incurred operating losses during the past nine quarters, and expect to experience further operating losses for the balance of fiscal 2004. In addition, we experienced negative cash flows during alleach of fiscal years 2003, 2004 and for the 13-week period ending April 30, 2005. Although we have received approximately $78.3 million in net proceeds, after transaction expenses, in the January 2005 Private Placement and the three-quarters of fiscal 2004. As a result, the substantial cash and short-term investment balances, whichMay 2005 Private Placement, we have historically maintained, have been substantially depleted and we have encounteredwill encounter liquidity constraints. Ifconstraints if our operating losses and negative cash flows continue at the same rate, our liquidity constraints could
become more severe andcontinue. In such event, we will be forced to seek alternatives to address these constraints, including seeking additional debt financing or equity financing or a potential reorganization under Chapter 11 of the U.S. bankruptcy code.United States Bankruptcy Code. In the event we need to seek additional financing, we will need to obtain the prior approval of our lenders and there is no assurance we will receive such approvals on terms acceptable to us.
BecauseAs a result of our operating losses and negative cash flows, we have experienced a tightening of credit extended to us by vendors, factors and others for merchandise and services, which could cause us to experience delays or disruption in merchandise flow.
Due to our recent financial results, we have experienced a tightening of credit extended to us by vendors, factors, and others for merchandise and services. The impact of this credit tightening has required us to issue letters of credit outside of the ordinary course of business, or, in somemany instances, shorten vendor credit terms. To date,If supply difficulties arise due to this credit tightening we have experienced somecould experience delays or disruption ofin merchandise flow. As a result of our comparable sales through October 30, 2004 and our expectations for our fourth quarter ending January 29, 2005, the credit tightening from factors, vendors and others has increased and placed additional demand on the Company’s liquidityflow, which, in order to maintain the flow of new merchandise into our stores. Continued credit tightening and increased merchandise delays could jeopardize our holiday season business and as a result, our cash flow position.
We may be unable to reverse declines in comparable store sales and net losses from continuing operations, both of whichturn, could have a materialan adverse effect on our business, financial condition and results of operations and liquidity.operations.
Our decision to close certain Wet Seal stores may not significantly improve our financial condition or results of operations.
Growth inOn December 28, 2004, we announced that we would close approximately 150 Wet Seal stores as part of our business depends, in part, on our abilityturn-around strategy. We appointed Hilco to reverse declines in comparable store sales and then sustain comparable store sales growth. We usemanage the term “comparable store sales” to refer to sales ininventory liquidations for the stores that we have been open for at least 14 full fiscal months. Our abilityclosed and Hilco Advisors to improve our comparablenegotiate with the respective landlords. We completed the store sales results depends in large partclosing effort on March 5, 2005 and through that date we closed a numbertotal of factors, including improving our forecasting of demand and fashion trends, selecting effective marketing techniques, providing an appropriate mix of merchandise for our broad and diverse customer base, managing inventory effectively, using more effective pricing strategies, optimizing store performance by closing under performing stores, calendar shifts of holiday periods and general economic conditions.153 stores.
Our comparable store sales resultsMoreover, although these stores have declined significantlybeen underperforming as compared with our other Wet Seal stores, there is no assurance that in the past year andlong term these store closures will have continued to decline for the 39 week period ended October 30, 2004. Comparable store sales for the 13 weeks ended October 30, 2004 declined 12.6% and declined 19.5% during November 2004. We experienced a net loss from continuing operations during the third quarter of fiscal 2004. We cannot assure yousignificant positive impact upon our operating results or that we will not experience future declineshave to close additional stores in comparablethe future. Furthermore, if we are not successful in reducing our non-store expenses, including our general and administrative overhead, in line with our reduced store count and projected revenues, it is unlikely that we would achieve significant profitability even if our net sales and net losses from continuing operations, both of which could have a material adverse effect on our business, financial condition, results of operations and liquidity.revenue increases.
Any failure to meet the expectations of investors or security analysts with respect to comparable store sales in one or more future periods could reduce the market price of our Class A common stock.
Covenants contained in agreements governing our Credit Facility with Fleet Retail Group, Inc.,existing indebtedness restrict the manner in which we conduct our business and our failure to comply with these covenants could result in a default under the Credit Facility and, consequently,these agreements, which would have a material adverse effect on our business, financial condition, growth prospects and ability to procure merchandise for our stores.
Our Creditsenior credit facility, Bridge Loan Facility with Fleet contains a number ofand the indenture governing our Notes contain covenants that restrict the manner in which we conduct of our business. Subject to certain exceptions, these covenants restrict, among other things, our ability, and the ability of certain of our subsidiaries, to:
A breach of any of these covenants could result in a default under the Credit Facility,agreements governing our existing indebtedness, acceleration of any amounts due under this facility andthen outstanding, the foreclosure upon collateral securing the debt obligations, or the unavailability of the lines of credit available under this facility.credit. As a result, our business, financial condition, growth prospects and ability to procure merchandisecontinue as a going concern would be significantly impacted and may require our company to file for our stores could be materially and adversely affected.bankruptcy protection under Chapter 11 of the United States Bankruptcy Code.
We may not have sufficient funds to make required payments on the Notes.
Although we received approximately $78.3 million in net proceeds, after transaction expenses, in the January 2005 Private Placement and the May 2005 Private Placement, we may not have sufficient funds to make the interest and principal payments on the Notes when due, either at maturity or upon the occurrence of certain events. If we do not have sufficient funds to make these payments, we will have to obtain an alternative source of funds, including sales of our assets or assets of our subsidiaries or sales of our equity securities or capital. We cannot assure you that we will be able to obtain sufficient funds to meet our payment obligations on the Notes through any of these alternatives or that we will be permitted by our senior lenders to obtain funds through any of these alternatives. In addition, the Credit Facilityevent that we are not able to make the required payments at maturity or otherwise, we will be forced to seek alternatives, including seeking additional debt financing or equity financing or a potential reorganization under Chapter 11 of the United States Bankruptcy Code.
Our company is secureda defendant in a class action and the subject of an investigation by all presently ownedthe Securities and hereafter acquired assetsExchange Commission.
As previously reported, our company, certain of our former directors, and former and current officers, have been named as defendants in several securities class actions. These actions have now been consolidated in the United States District Court for the Central District of California.
On or about February 1, 2005, the District Court appointed lead plaintiffs in the consolidated action, filed their Consolidated Class Action Complaint for Violation of the Federal Securities Laws, entitled “Laborer’s International Union of North America Local Union and District Counsel Fund, Laborer’s National (Industrial) Pension Fund, et. al, plaintiffs, v. Wet Seal Inc., Irving Teitelbaum, Peter D. Whitford, Douglas C. Felderman, Walter Parks, Joseph E. Deckop, Allan Haims, Stephen Gross, and La Senza Corporation, defendants.”
The consolidated complaint alleges violations of Section 10(b) of the Securities Exchange Act and Rule 10b-5 promulgated thereunder, and Section 20(a) of the Exchange Act by, among other allegations, making false and misleading statements concerning the progress of our company to stem the losses of our Wet Seal division and return that business to profitability as well as the illegal use of material non-public information by former directors and a company controlled by them. The plaintiff seeks class certification, compensatory damages, interest, costs and attorney’s fees and expenses.
We have filed a motion to dismiss the consolidated complaint but there is no assurance it will be successful. If significant damages are assessed against our company it may, in the future, have a material adverse effect on the financial condition of our company and the results of operations.
In February, we announced that the Pacific Regional Office of the SEC had commenced an informal, non-public inquiry regarding our wholly-owned subsidiaries, The Wet Seal Retail, Inc.Company. We indicated that the SEC’s inquiry generally related to the events and Wet Seal Catalog, Inc., each of which may be a borrower underannouncements regarding our Company’s 2004 second quarter earnings and the Credit Facility. These secured assets include allsale of our trademarks. If an eventClass A common stock by La Senza Corporation and its affiliates during 2004. The SEC has advised us that on April 19, 2005 it issued a formal order of default occurs underinvestigation in connection with its review of certain matters relating to the Credit Facility, thenCompany.
Consistent with the lenders underprevious announcement, the Credit Facility may foreclose on these assets, including our trademarks, which wouldCompany intends to cooperate fully with the SEC’s inquiry. It is too soon to determine whether the outcome of this inquiry will have a material adverse effect on our business.business, financial condition, results of operations or cash flows.
We have had significant management changes recently and these changes may impact our ability to execute our turn-around strategy in the near term.
In general, our success depends to a significant extent on the performance of our senior management, particularly personnel engaged in merchandising and store operations, and on our ability to identify, hire and retain additional key management personnel. In November 2004, the Chairman and Chief Executive Officer and the President of our Wet Seal division resigned from our company. In addition, as part of our turn-around strategy, all of the members of our board of directors, other than Henry D. Winterstern and Alan Siegel, have either resigned or retired. In December 2004 and January 2005, we appointed a new President and Chief Executive Officer and four members to our board of directors. We anticipate that we will experience a transition period before this new management team is fully integrated with our company, which could impact our ability to confront the financial challenges that impact our company. In addition, there is a risk that we may lose additional members of our senior management team. If so, due to the intense competition for qualified personnel in the retail apparel industry, we cannot assure you that we will be able to identify, hire or retain the key personnel with the merchandising and management skills necessary to implement our turn-around strategy and offer appealing products to our target market.
We need to employ personnel with the requisite merchandising skills to continue our merchandising strategy implemented by
Mr. Gold.
Michael Gold has assisted our company merchandising initiatives. Under the direction of Mr. Gold, our Wet Seal division has introduced and implemented a new merchandising strategy to attract teenage girls to our stores. Mr. Gold and our company have not yet entered into a formal agreement to compensate Mr. Gold for these efforts and there is no assurance that a mutually satisfactory agreement can be reached. If we reach an agreement, we intend to provide him with a significant incentive-based compensation package which may take the form of restricted stock grants, warrants or options in order to compensate him for his efforts to date and in the near term future.
Mr. Gold’s commitment to our company has been and will continue to be part-time. We therefore, are actively seeking personnel with sufficient merchandising skills to continue the merchandising strategy implemented by Mr. Gold. In the event we are unable to identify and retain personnel with outstanding merchandising skills to replace Mr. Gold, our comparable store sales and sales revenue could decline.
The shares to be issued under our 2005 Stock Incentive Plan will result in a substantial dilution of our earnings per share.
We recently established our 2005 Stock Incentive Plan to attract and retain directors, officers, employees and consultants. We have reserved 10.0 million shares of our Class A common stock for issuance under this incentive plan, and will be asking our stockholders for approval to increase the number of shares issuable under the plan by 2.5 million. As of June 10, 2005, 4.8 million shares of restricted Class A common stock had been granted to Joel N. Waller, our Chief Executive Officer, our Executive Vice President of Wet Seal and our non-employee directors. In the near term we anticipate granting additional restricted shares in connection with the hiring or appointment of individuals, as well as company management who will assist us in returning our company to profitability, including Mr. Gold. As a result of the granting of restricted shares, we will incur non-cash compensation charges to our earnings over the vesting periods or when the restrictions lapse. As a result, the shares to be issued under the 2005 Stock Incentive Plan will have a significant adverse effect on our results of operation and on our earnings per share.
Our issuance of the Notes, Preferred Stock and related warrants will have a significant adverse effect on our earnings and earnings per share.
As a result of our issuance of the Notes, Preferred Stock and related Warrants and in accordance with accounting guidelines noted in Emerging Issues Task Force (EITF) 98-5, “Accounting for Convertible Securities with Beneficial Conversion Features or Contingently Adjustable Conversion Ratios” and EITF 00-27 “Application of EITF Issue No. 98-5, Accounting for Convertible Securities with Beneficial Conversion Features or Contingently Adjustable Conversion Ratios, to Certain Convertible Instruments” and Accounting Principles Board No. 14 “Accounting for Convertible Debt issued with stock Purchase Warrants”, we determined the fair market value of the warrants issued as well as the value of the beneficial conversion feature associated with the Notes. The value assigned to the warrants and the beneficial conversion feature reduced the face value of the Notes resulting in a discount that will be amortized over the life of the Notes. The amortization of the discount will result in significant non-cash charges and will have an adverse effect on our earnings and earnings per share.
The Notes accrue interest at an annual rate of 3.76%. If the Notes remain outstanding for all of fiscal 2005, interest expense, whether capitalized or paid, will have a significant impact on our financial results.
Prior to the conversion of the Notes and the Preferred Stock and the exercise of the related warrants, the shares of Class A common stock underlying these securities would not be included in the calculation of basic or fully diluted per share results in the event of a net loss. Conversely, these securities would be included in the determination of fully diluted per share results in the event the Company has net income. Although the holders of these securities may not convert or exercise the respective securities if they would own (together with any affiliates) more than 9.99% of our Class A common stock, upon such conversion and/or exercise, as applicable, our earnings per share would be expected to decrease, or our net loss per share to decrease, as a result of the inclusion of the underlying shares of Class A common stock in our per share calculations.
Our internal controls have material weaknesses.
We received an adverse opinion on the effectiveness of our internal controls over financial reporting as of January 29, 2005 because of material weaknesses identified in management’s assessment of the effectiveness of such controls. These material weaknesses, if not remediated, create increased risk of misstatement of our financial results, which, if material, may require restatement thereof.
If we are unable to anticipate and react to new fashion trends and/or if there is a decrease in the demand for fashionable, casual apparel, our financial condition and results of operations could be adversely affected.
The retail apparel industry is subject to rapidly evolving fashion trends and shifting consumer demands. Accordingly, ourOur brand image and our ability to return to profitability are heavilyis dependent upon both the priority our target customers place on fashion and on our ability to anticipate, identify and capitalize upon emergingprovide fresh inventory reflecting current fashion trends. If
we fail to anticipate, identify or react appropriately or in a timely manner to these fashion trends, we could experience reduced consumer acceptance of our products, a diminished brand image and higher markdowns. These factors could result in lower selling prices and sales volumes for our products, which could adversely affect our financial condition and results of operations. This risk is particularly acute because we rely on a limited demographic customer base for a large percentage of our sales.
Our sales and ability to return to profitability also depend upon the continued demand by our customers for fashionable, casual apparel. Demand for our merchandise could be negatively affected by shifts in consumer discretionary spending to other goods, such as electronic equipment, computers and music. If the demand for apparel and related merchandise were to decline, our financial condition and results of operations would be adversely affected by any resulting decline in sales.
Our failure to successfully implement our new sourcing and supply program could have a material adverse effect on our business and results of operations.
We introduced a new company-wide sourcing and supply program. As part of this program, we expect that over time we will increase the volume of merchandise that is designed and developed by individuals working for the Company and decrease the volume of merchandise that is designed and developed by third parties. In the future, we also expect that our merchandise will be primarily sourced from manufacturers located outside the United States, with less reliance on small clothing manufacturers located in the United States. We introduce numerous lines of merchandise each year, and even a brief delay in bringing new merchandise to market could harm our sales and financial results to the extent that the tastes of our customers change during that time. We believe that our new sourcing and supply program will mitigate this risk by enabling us to quickly develop and bring to market new merchandise before it is no longer in fashion with our customers. However, we cannot assure you that we will be able to successfully implement this program and our failure to do so, together with any accompanying supply chain disruptions that are not anticipated or mitigated, could have a material adverse effect on our business and results of operations.
Closing stores or curtailing certain operations could result in significant asset impairments and costs to us, which would adversely impact our financial results and cash position.
During the 13 weeks ended November 1, 2003, we made a strategic decision to close all 31 of our Zutopia stores, due to the poor financial results of these stores and their limited ability to become profitable in the future in a highly competitive market. These closures took place in the first and second quarters of fiscal 2004. The financial losses generated by Zutopia and the write down of its fixed
assets to their estimated fair value have been identified as discontinued operations.
During the 13 weeks ended July 31, 2004, we determined that, in light of disappointing sales results during the back-to-school season and our most recent historical operating performance, it would be unlikely that we would recover or realize the carrying value of certain long-lived store assets and, accordingly, we wrote down the carrying value of these impaired assets by $36.7 million, a non-cash charge to our consolidated condensed statements of operations for the second quarter of fiscal 2004.
In the event that we decide in the future to close additional stores or curtail operations that are generating continuing financial losses, we would be required to write down the carrying value of these impaired assets to realizable value, a non-cash event which would negatively impact our earnings and earnings per share. Further, if we elect to close any stores before the expiration of the applicable lease term, we may be required to make payments to landlords to terminate or “buy out” the remaining term of the applicable lease. We also may incur costs related to the employees at such stores. All of the foregoing asset impairments and costs would adversely impact our financial results and cash position.
Our failure to effectively compete with other retailers for sales and locations could have a material adverse effect on our financial condition and results of operations.
The women’s retail apparel industry is highly competitive, with fashion, quality, price, location, in-store environment and service being the principal competitive factors. We compete for sales with specialty apparel retailers, department stores and certain other apparel retailers, such as American Eagle, Banana Republic, BCBG, bebe, Charlotte Russe, Express, Forever 21, Gap, H&M, Old Navy, Pacific Sunwear and Urban Outfitters. We face a variety of competitive challenges, including:
In addition to the competitive challenges specified above, many of our competitors are large national chains, which have substantially greater financial, marketing and other resources than we do and which may be better able to adapt to changing conditions that affect the competitive market. Also, our industry has low barriers to entry that allows the introduction of new products or new competitors at a faster pace. Any of these factors could result in reductions in sales or the prices of our products which, in turn, could have a material adverse effect on our financial condition and results of operations.
In addition,Further, although we believe that we compete effectively for favorable site locations and lease terms in shopping malls and other locations, competition for prime locations and lease terms within shopping malls, in particular, and at other locations is intense, and we cannot assure you that we will be able to obtain new locations or maintain our existing locations on terms favorable to us, if at all.
Historically we have grown through opening new stores; however, due to our financial condition we do not anticipate opening a significant number of additional stores in the immediate future which could adversely affect the growth of our business.
Our company has historically expanded by opening new stores, remodeling existing stores and acquiring other store locations or businesses that complement and enhance our operations. From time to time we have created new retail concepts such as Arden B. However, as result of our financial condition we may not be able to take advantage of certain business opportunities in the same manner as we have historically. While a conservative approach to opening new stores may assist our efforts in the return to profitability, it may have a negative impact upon our growth within certain markets or require us to expend more capital to gain entry in the future.
Because of the importance of our brand names, we may lose market share to our competitors if we fail to adequately protect our intellectual property rights.
We believe that our trademarks and other proprietary rights are important to our success and our competitive position. We have registered trademarks for Wet Seal Contempo Casuals and Arden B. (which are registered in the retail store services class and pending in others). We take actions to establish and protect our intellectual property. However, we cannot assure you that others will not imitate our products or infringe on our intellectual property rights. In addition, we cannot assure you that others will not resist or seek to block the sale of our products as violative of their intellectual property rights. If we are required to stop using any of our registered or non-registered marks, our sales could decline and, consequently, our business and results of operations could be adversely affected.
Our business is affected by local, regional and national economic conditions.
Our business is sensitive to consumer spending patterns and preferences. Various economic conditions affect the level of spending on the merchandise we offer, including general business conditions, interest rates, taxation, and the availability of consumer credit and consumer confidence in future economic conditions. Our growth, sales and profitability may be adversely affected by unfavorable occurrences in these economic conditions on a local, regional or national level. We are especially affected by economic conditions in California, where approximately 13% of our stores are located.
Further, the majority of our stores are located in regional shopping malls. We derive sales, in part, from the high volume of traffic in these malls. The inability of mall “anchor” tenants and other area attractions to generate consumer traffic around our stores, or the decline in popularity of malls as shopping destinations would reduce
our sales volume and, consequently, adversely affect our financial condition and results of operations.
Our success depends upon the performance of our senior management and our ability to identify, hire and retain key management personnel.
Our success depends to a significant extent on the performance of our senior management, particularly personnel engaged in merchandising and store operations, and on our ability to identify, hire and retain additional key management personnel. Competition for qualified personnel in the retail apparel industry can be intense, and we cannot assure you that we will be able to identify, hire or retain the key personnel necessary to grow and operate our business as currently contemplated. Further, we have encountered difficulty in retaining senior management, including our chief executive officer and the president of our Wet Seal division, and, despite new retention agreements, there is a risk that we may lose additional members of senior management in the future.
Increases in Federal and state statutory minimum wages could increase our expenses, which could adversely affect our results of operations.
Connecticut, Illinois, Oregon, Rhode Island, and Washington have each increased their state minimum wages to a level that significantly exceeded the Federal minimum wage as of May 1, 2004. As of October 30, 2004, we operated a total of 50 stores in those states. These recent increases in the state statutory minimum wage and any future Federal or state minimum wage increases could raise minimum wages above the current wages of some of our employees. As a result, competitive factors could require us to make corresponding increases in our employees’ wages. Increases in our wage rates increase our expenses, which could adversely affect our results of operations.
Inappropriate, unethical or illegal practices by our suppliers may negatively affect our sales and profitability.
If one or more of our domestic or foreign suppliers engages in inappropriate, unethical or illegal practices and these practices are made known to the public, our customers may refuse to purchase our products. Accordingly, our sales and profitability may be negatively affected.
As part of our commitment to human rights, we require our domestic and foreign suppliers to abide by a Code of Conduct for Vendors and Suppliers, which sets forth guidelines for acceptable factory policies and procedures regarding workplace conditions, including wages and benefits, health and safety, working hours, working age, environmental conditions and ethical and legal matters. If one of our suppliers is not in compliance with our Code, we may be required to discontinue our relationship with that supplier, which could result in a gap in our inventory and negatively affect our sales and profitability.
Our business is seasonal in nature, and any decrease in our sales or margins during these periods could have a material adverse effect on our company.
The retail apparel industry is highly seasonal. We generate our highest levels of sales during the Christmas season, which begins the week of Thanksgiving and ends the first Saturday after Christmas, and the “back-to-school” season, which begins the last week of July and ends the first week of September. Our profitability depends, to a significant degree, on the sales generated during these peak periods. Any decrease in sales or margins during these periods, whether as a result of economic conditions, poor weather or other factors beyond our control, could have a material adverse effect on our company.
We depend upon key vendors to supply us with merchandise for our stores, and the failure of these vendors to provide this merchandise could have a material adverse effect on our business, financial condition and results of operations.
Our business depends on our ability to purchase current season apparel in sufficient quantities at competitive prices. The inability or failure of our key vendors to supply us with adequate quantities of desired merchandise, the loss of one or more key vendors or a material change in our current purchase terms could adversely affect our financial condition and results of operations by causing us to experience excess inventories and higher markdowns. We have no long-term purchase contracts or other contractual assurances of continued supply, pricing or access to new products. We cannot assure you that we will be able to acquire desired merchandise in sufficient quantities or on terms acceptable to us in the future, and any failure to do so could have a material adverse effect on our business, financial condition and results of operations.
We depend upon a single distribution facility, and any significant disruption in the operation of this facility could harm our business, financial condition and results of operations.
The distribution functions for all of our stores are handled from a single, leased facility in Foothill Ranch, California. Any significant interruption in the operation of this facility due to a natural disaster, accident, system failure or other unforeseen event could delay or impair our ability to distribute merchandise to our stores and, consequently, lead to a decrease in sales. As a result, our business, financial condition and results of operations wouldcould be harmed.
We do not authenticate the license rights of our suppliers.
We purchase merchandise from a number of vendors who hold manufacturing and distribution rights under the terms of license agreements. We generally rely upon each vendor’s representation concerning those manufacturing and distribution rights and do not
independently verify whether each vendor legally holds adequate rights to the licensed properties they are manufacturing or distributing. If we acquire unlicensed merchandise, we could be obligated to remove it from our stores, incur costs associated with destruction of the merchandise if the vendor is unwilling or unable to reimburse us and be subject to civil and criminal liability. The occurrence of any of these events could adversely affect our financial condition and results of operations.
We experience business risks as a result of our Internet business.
We compete with internetInternet businesses that handle similar lines of merchandise. These competitors have certain advantages, including the inapplicability of sales tax and the absence of retail real estate and related costs. As a result, increased internetInternet sales by our competitors could result in increased price competition and decreased margins. Our internetInternet operations are subject to numerous risks, including:
Our inability to effectively address these risks and any other risks that we face in connection with our internetInternet business could adversely affect the profitability of our internetInternet business.
We are subject to risks associated with our international operations,procurement of products from non-U.S. based vendors, any of which could have a material adverse effect on our business, financial condition or results of operations.
A significant portion of our products is manufactured outside the United States. As a result, we are subjectsusceptible to the risk of greater losses fromas a result of a number of risks inherent in doing business in international markets and from a number of factors beyond our control, any of which could have a material adverse effect on our business, financial condition or results of operations. These factors include:
Our imports are limited by textile agreements between the United States and a number of foreign jurisdictions, including Hong Kong, China, Taiwan and South Korea. These agreements impose quotas on the amounts and types of merchandise that may be imported into the United States from these countries. These agreements also allow the United States to limit the importation of categories of merchandise that are not now subject to specified limits. The United States and the countries in which our products are produced or sold may also, from time to time, impose new quotas, duties, tariffs or other restrictions, or adversely adjust prevailing quota, duty or tariff levels. In addition, none of our international suppliers or international manufacturers supplies or manufactures our products exclusively. As a result, we compete with other companies for the production capacity of independent manufacturers and import quota capacity. If we were unable to obtain our raw materials and finished apparel from the countries where we wish to purchase them, either because room or space under the necessary quotas was unavailable or for any other reason, or if the cost of doing so should increase, it could have a material adverse effect on our business, financial condition or results of operations and financial condition.operations.
Increases in Federal and state statutory minimum wages could increase our expenses, which could adversely affect our results of operations.
Connecticut, Illinois, Oregon, District of Columbia, New York, and Washington have each increased their state minimum wages to a level that significantly exceeded the Federal minimum wage as of January 1, 2005. As of April 30, 2005, we operated 57 stores in those states. These recent increases in the state statutory minimum wage and any future Federal or state minimum wage increases could raise minimum wages above the current wages of some of our employees. As a result, competitive factors could require us to make corresponding increases in our employees’ wages. Increases in our wage rates increase our expenses, which could adversely affect our results of operations.
Violation of labor laws and practices by our suppliers could harm our business and results of operations.
As part of our commitment to human rights, we require our domestic and foreign suppliers to abide by a Code of Conduct for Vendors and Suppliers, which sets forth guidelines for acceptable factory policies and procedures regarding workplace conditions, including wages and benefits, health and safety, working hours, working age, environmental conditions and ethical and legal matters. If one of our suppliers fails to comply with this Code, we may be required to discontinue our relationship with that supplier, which could result in a shortfall in our inventory levels. Further, if the supplier’s non-compliance were publicly disclosed, our customers may refuse to purchase our products. Either of these events could harm our business and results of operations.
Our involvement in lawsuits, both now and in the future, could negatively impact our business.
Between August 26, 2004 and October 12, 2004, six securitiesWe are currently a defendant in a number of lawsuits, including a class action lawsuits were filedlawsuit, and we have been involved in a variety of other legal proceedings in the United States District Court forpast. Although we intend to vigorously defend the Central District of California (the “Court”), on behalf of persons who purchased the Company’s common stock between January 7, 2003 and August 19, 2004. The Company and certain present and former executives of the Company were named as defendants. The complaints allege violations of Section 10(b) and 20(a) of the Exchange Act, and Rule 10b-5 of the Exchange Act, on the grounds that, among other things, the Company failed to disclose and misrepresented material adverse facts, which were known to the defendants or disregarded by them. On November 17, 2004, the Court consolidated the actions and appointed lead plaintiffs and counsel.
From time to time, the Company is involved in litigation relating to claims arising out of our operations in the normal course of business. The Company’s management believes that, in the event of a settlement or an adverse judgment ofagainst us, if any of the pending litigations, the Company is adequately covered by insurance. As of October 30, 2004, the Company was not engagedclaims in these lawsuits or any legal proceedings thatfuture lawsuit are expected, individuallyresolved unfavorably to us, we may be required to pay substantial monetary damages or in the aggregate, topursue alternative business strategies. This could have a material adverse effect on our business. In addition, our defense of these actions has resulted, and may continue to result, in substantial costs to us as well as require the Company.significant dedication of management resources. If we choose to settle any of these lawsuits, the settlement costs could have a material adverse effect on our cash resources and financial condition.
Risks Related to our Class A Common Stock
Our stockholders may experience dilution of their investment.significant dilution.
In connection withSince May 2004, we have completed private placements, which are potentially very dilutive to our recentstockholders.
Although certain conversion and exercise restrictions are placed upon the holders of the January Securities and the May Securities, the issuance of the additional 2,109,275 shares of Class A common stock which causedwill cause our existing stockholders to experience substantialsignificant dilution in their investment in our company.
As part of In addition, if the SAC Transaction, the Company has agreedcash liquidity issues described elsewhere in these risk factors require us to issue $40,000,000 of secured convertible notes; AIRS to purchase up to anobtain additional $15,850,000 of secured convertible notes, all of which are convertible into shares of our Class A common stock and, subject to satisfaction of certain conditions, as to which the Company has the right to require exercise into additional secured convertible notes; and warrants to purchase up to 13,600,000 shares of Class A common stock. Warrants to acquire 2,300,000 shares of common stock of the aggregate warrants to acquire 13,600,000 shares of common stock have been issued to the investors in connection with entering into the SAC Transaction, which caused our existing shareholders to experience substantial dilution in their investment in our Company. Uponfinancing involving the issuance of the securedequity securities or securities convertible notes, AIRS and warrants, and upon the conversion and/or exercise of the secured convertible notes, AIRS and the warrants,into equity securities, our existing shareholders will experiencestockholders’ investment would be further dilution in their investment in our Company.
diluted. Such dilution could cause the market price of our Class A common stock to decline, andwhich could impair our ability to raise additional financing.
The price of ourOur Class A common stock has beencould be subject to short selling and may continue to be volatile.
Inother hedging techniques and, if this occurs, the quarter ended October 30, 2004, fiscal 2002 and 2003, the daily closing price of our Class A common stock has ranged from a low of $0.74 to a high of $25.73. The market price of our Class A common stock is likely to fluctuate, both because of actual and perceived changes in our operating results and prospects and because of general volatility in the stock market. The market price of our Class A common stock could continue to fluctuate widely in response to factors such as:be adversely affected.
Our Company’s Class A common stock could be subject to a number of hedging transactions including the practice of short selling. Short selling, or anticipated variations“shorting,” occurs when stock is sold which is not owned directly by the seller, instead, the stock is “loaned” for the sale by a broker-dealer to someone who “shorts” the stock. In most situations, this is a short-term strategy by a seller, and based upon volume, may at times drive stock values down.
Based upon a review of the current stock ownership filings with the SEC made by our stockholders, we have identified several investment firms that own equity interests in our results of operations;
Fluctuations in the price and trading volumeshort selling of our Class A common stockstock. Moreover, a significant percentage of the convertible securities issued in response to factorsour recent private placement transactions are held by investment firms who may engage in such as those set forth abovetransactions. Any such hedging activities could be unrelated or disproportionate toreduce the value of our actual operating performancecurrent stockholders’ equity interests in our company at and could result in you losing all or a portion of your investment.after the time the hedging transactions have occurred.
We have never paid dividends on our Class A common stock and do not plan to do so in the future.
Holders of shares of our Class A common stock are entitled to receive any dividends that may be declared by our board of directors. However, we have not paid any cash dividends on our Class A common stock and we do not expect to do so in the future. Also, our agreements with our senior credit facility prohibitslenders and the indenture governing the Notes prohibit us from paying dividends to our stockholders. We intend to retain any future earnings to provide funds for operations of our business. Investors who anticipate the need for dividends from investments should not purchase our Class A common stock.
Our charter provisions, rights plan and Delaware law may have anti-takeover effects.
Our certificate of incorporation and bylaws authorize our board of directors to designate and issue, without stockholder approval, preferred stock with voting, conversion and other rights and preferences that could differentially and adversely affect the voting power or other rights of the holders of our common stock, which could be used to discourage an unsolicited acquisition proposal. In addition, under certain circumstances our board of directors may grant rights to our stockholders under our rights plan. Furthermore, certain provisions of Delaware law applicable to our company could also delay or make more difficult a merger, tender offer or proxy contest involving our company, including Section 203 of the Delaware General Corporation Law, which prohibits a Delaware corporation from engaging in any business combination with any interested stockholder for a period of three years unless certain conditions are met.
The possible issuance of preferred stock, the rights granted to stockholders under our rights plan and Delaware law could each have the effect of delaying, deferring or preventing a change in control of our company, including, without limitation, discouraging a proxy contest, making more difficult the acquisition of a substantial block of our common stock and limiting the price that investors might in the future be willing to pay for shares of our common stock.
Item 3 -3. Quantitative and Qualitative Disclosures About Market Risk
To the extent that we borrow under our credit facility,Credit Facility, we are exposed to market risk related to changes in interest rates. At OctoberApril 30, 2004,2005, no borrowings were outstanding under our senior revolving credit facility, however we haddid have $8.0 million outstanding under our credit facility.junior secured note. The junior secured note bears interest at prime plus 7.0%. Based on the outstanding balance at April 30, 2005 and the current market condition, a one percent increase in the applicable interest rate would decrease the Company’s annual cash flow by $0.1 million. Conversely, a one percent decrease in the applicable interest rate would increase annual cash flow by $0.1 million. We are not a party to any derivative financial instruments. However, we are exposedinstruments, except as disclosed in Note 5 to market risk related to changes in interest rates on the investment grade interest-bearing securities in which we invest. If there were changes in interest rates, those changes would affect the investment income we earn on those investments. Based on the weighted average interest rate of 0.96% on our invested cash balance during the three months ended October 30, 2004, if interest rates were to decrease 10%, the net loss would increase by approximately $3,000 per year.condensed consolidated financial statements.
Item 4 -4. Controls and Procedures
Evaluation of Disclosure Controls and Internal ControlsProcedures
OurThe Company conducted an evaluation, under the supervision and with the participation of the Company’s chief executive officer and chief financial officer, of the effectiveness of the design and operation of our company’s disclosure controls and procedures (as defined in Rulethe Securities Exchange Act of 1934 Rules 13a-15(e) underand 15d-15(e) as of April 30, 2005. Based upon that evaluation, the Exchange Act) (“Disclosure Controls”) arechief executive officer and chief financial officer concluded that there were no significant changes in the Company’s disclosure controls and procedures that are designedas of the end of the period covered by this report (and therefore these disclosure controls and procedures were not effective) since material weaknesses were discovered in the Company’s financial reporting controls as of January 29, 2005.
Disclosure Controls and Procedures
In connection with the objectivepreparation of ensuring that information required to be disclosed in our reports filedthe Company’s 2004 Annual Report on Form 10-K for the year ended January 29, 2005, an evaluation was performed under the supervision, and with the participation of, the Company’s management, including its principal executive officer and principal financial officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act suchof 1934, as this quarterly report, is recorded, processed, summarized and reported within the time periods specifiedamended). Management identified internal control deficiencies that represented material weaknesses in the SEC’s rules and forms. Disclosure Controls are also designed with the objective of ensuring that this information is accumulated and communicated to our management, including our interim Chief Executive Officer and our Chief Financial Officer, as appropriate to allow timely
decisions regarding required disclosure. Our internal control over the financial reporting (“Internal Controls”) is a process designed by,statement close process. The control deficiencies generally related to (i) our company’s resources and level of technical accounting expertise within the accounting function were insufficient to properly evaluate and account for non-routine or undercomplex transactions, such as the supervisiontimely determination of the appropriate accounting for our Interim Chief Executive Officerleases or financing transaction completed in January 2005, (ii) timely preparation, review and Chief Financial Officer,approval of certain account analyses and effected byreconciliations of significant accounts.
These material weaknesses continue to affect our Board of Directors, managementability to prepare interim and other personnel, with the objective of providing reasonable assurance regarding the reliability of financial reporting and the preparation ofannual consolidated financial statements for external purposes in accordance with generally accepted accounting principles. Internal Controls also include policies and procedures that:
1) pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of the assets of our company;
2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statementsaccompanying footnote disclosures in accordance with generally accepted accounting principles and the rules and regulations of the Securities and Exchange Commission.
In order to address and correct the deficiencies identified above, we indicated that receiptscorrective actions during the first quarter would include: 1) engaging outside professional experts to support management in remediation of certain deficiencies, 2) strengthening the experience and expenditures ofminimum competency requirements for critical accounting and financial reporting positions, 3) increasing training in accounting, internal controls and financial reporting for employees in critical accounting and financial reporting positions and 4) where appropriate, replacing and/or adding experienced personnel to our companyaccounting and financial reporting functions to review and monitor transactions, accounting processes and control activities more effectively. While we are being made onlycontinuing with all the corrective actions as identified above, we have not yet remediated the deficiencies as identified in accordance with authorizations of management and directors of our company; andthe Company’s 2004 Annual Report on Form 10-K .
3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of our company’s assets that could have a material effect onThere were no other changes in the financial statements.
Limitations on the Effectiveness of Controls
Our management, including our interim Chief Executive Officer and our Chief Financial Officer, does not expect that our Disclosure Controls or Internal Controls will prevent all errors and all fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs.
Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within our company have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty and that breakdowns can occur because of a simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people or by management override of the control. Moreover, the design of any system of controls is also based in part upon certain assumptions about the likelihood of future events.
Notwithstanding the foregoing limitations, we believe that our Disclosure Controls and Internal Controls provide reasonable assurances that the objectives of our control system are met.
Quarterly evaluation of the Company’s Disclosure Controls and Internal Controls
There has been no change in our internal controls over financial reporting during our most recent fiscalthe quarter ended April 30, 2005 that hashave materially affected, or isare reasonably likely to materially affect, ourthe Company’s internal controls over financial reporting.
Item 1 –1. Legal Proceedings.Proceedings
Between August 26, 2004 and October 12, 2004, six securities class action lawsuits were filed in the United States District Court for the Central District of California (the “Court”), on behalf of persons who purchased the Company’sour Class A common stock between January 7, 2003 and August 19, 2004. The CompanyOur company and certain of our present and former directors and executives of the Company were named as defendants. The complaints allege violations of Section 10(b) and 20(a) of the Exchange Act, and Rule 10b-5 of the Exchange Act, on the grounds that, among other things, the Companywe failed to disclose and misrepresented material adverse facts whichthat were known to the defendants or disregarded by them. On November 17, 2004, the Court consolidated the actions and appointed lead plaintiffs and counsel. Pursuant to stipulations with plaintiffs’ counsel,On January 29, 2005, the lead plaintiffs have until January 18, 2005 to file afiled their consolidated amendedclass action complaint that will becomewith the operative pleading in the case. The Company will then have 60 days after receiptCourt, which consolidated all of the amendedpreviously reported class actions. The consolidated complaint alleges that the defendants, including our company, violated the federal securities laws by making material misstatements of fact or failing to filedisclose material facts during the class period, from March 2003 to August 2004, concerning its prospects to stem ongoing losses in its Wet Seal division and return that business to profitability. The consolidated complaint also alleges that certain former directors and La Senza Corporation, a Canadian company controlled by them, unlawfully utilized material non-public information in connection with the sale of our Class B common stock by La Senza. The consolidated complaint seeks class certification, compensatory damages, interest, costs, attorney’s fees and injunctive relief. Our company is vigorously defending this litigation and filed a motion to dismiss the consolidated complaint in April 2005. There can be no assurance that this litigation will be resolved in a favorable manner.
In February 2005, we announced that the Pacific Regional Office of the Securities and Exchange Commission (“SEC”) had commenced an informal, non-public inquiry regarding our company. We indicated that the SEC’s inquiry generally related to the events and announcements regarding the company’s 2004 second quarter earnings and the sale of company stock by La Senza Corporation and its affiliates during 2004. The SEC has advised us that on April 19, 2005 it issued a formal responseorder of investigation in connection with its review of matters relating to our company. Consistent with the Court.previous announcements, the Company intends to cooperate fully with the SEC’s inquiry. It is too soon to determine whether the outcome of this inquiry will have a material adverse effect on our business, financial condition, results of operations or cash flows.
In May 2004, our company was notified by a consumer group, alleging that five products consisting of certain rings and necklaces contained an amount of lead that exceeded the maximum .1 parts per million of lead under Proposition 65 of the California Health and Safety Code; however, no money damages were requested. Each such contact constitutes a separate violation. The maximum civil penalty for each such violation is $2,500. The vendor of the products confirmed that the jewelry in question contained some lead. The vendor has confirmed, however, that it will accept our tender of liability. Our company has no outstanding invoices with the vendor. Our company has placed all future jewelry orders, effective October 2004, as lead free orders, which may lead to a 10% to 30% increase in cost. On June 22, 2004, the California Attorney General filed a complaint on behalf of the Center for Environmental Health. On June 24, 2004, our company was added to that complaint as a named defendant. The case is currently being mediated for resolution on industry standards.
From time to time, the Company iswe are involved in other litigation matters relating to claims arising out of our operations in the normal course of business. The Company’sOur management believes that, in the event of a settlement or an adverse judgment of any of the pending litigations, the Company islitigation, we are adequately covered by insurance. As of OctoberApril 30, 2004, the Company was2005, we were not engaged in any legal proceedings that are expected, individually or in the aggregate, to have a material adverse effect on the Company.us.
Item 2 -2. Unregistered Sales of Equity Securities
On May 3, 2005, we issued, pursuant to a private placement (the “May Private Placement”), 24,600 shares of convertible preferred stock (the “Preferred Stock”) for an aggregate purchase price of $24.6 million and Usenew warrants (the “New Warrants”) to acquire initially up to 7.5 million shares of Proceeds.our Class A common stock. The Preferred Stock is convertible into 8.2 million shares of our Class A common stock, reflecting an initial $3.00 per share conversion price (subject to anti-dilution adjustments). The New Warrants are exercisable beginning November 3, 2005 and will expire on November 3, 2010. The New Warrants have an initial exercise price equal to $3.68 (subject to anti-dilution adjustments). In connection with the issuance of the Preferred Stock and the New Warrants, the investors who received warrants in the company’s private placement completed in January 2005 agreed to exercise all of their outstanding Series A Warrants and a pro rata portion of the outstanding Series B Warrants. Approximately 3.4 million shares of our Class A common stock were issued in the warrant exercise at an aggregate exercise price of up to approximately $6.4 million.
We have agreed to register the shares of the Class A common stock issuable upon conversion and exercise of the Preferred Stock and the New Warrants, as the case may be, pursuant to the terms of a Registration Rights Agreement among our company and the investors in the May 2005 Private Placement. The shares of Class A common stock issued upon exercise of the Series A Warrants and the Series B Warrants will also be included in such registration statement.Not ApplicableThe securities were issued pursuant to Regulation D of the SEC’s rules and regulations under the Securities Act of 1933, as amended.
Item 3 -3. Defaults Upon Senior Securities.Securities
Not Applicable
Item 4 -4. Submission of Matters to a Vote of Security Holders.HoldersNot Applicable
No matters were submitted to a vote of security holders through solicitations of proxies or otherwise during the first quarter ended April 30, 2005 covered by this report.
Item 5 -5. Other Information.Information
The description of shareholder lawsuits described in “Item 1 - Legal Proceedings” is incorporated by reference herein.
| 31.1 | Certification of the | |||
| 31.2 | Certification of the Chief Financial Officer filed herewith pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. | |||
| 32.1 | Certification of the | |||
| 32.2 | Certification of the Chief Financial Officer furnished herewith pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. | |||
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
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(REGISTRANT) | ||||
| By: | / | |||
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Chief Executive Officer | ||||
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| By: | / | ||
Douglas C. Felderman | ||||
Executive Vice President and | ||||
Chief Financial Officer | ||||
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