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| CC > SEC Filings for CC > Form 10-Q on 9-Jul-2004 | All Recent SEC Filings |
9-Jul-2004
Quarterly Report
On May 12, 2004, we acquired a controlling interest in InterTAN, Inc. for cash consideration of 265.6 million, which includes transaction costs and is net of cash acquired of $30.6 million. InterTAN is a leading consumer electronics retailer of both private-label and internationally branded products with headquarters in Barrie, Ontario, Canada. In addition to enabling us to accelerate the offering of private-label merchandise to our customers, the acquisition of InterTAN gives us our first presence in the Canadian market. Total sales for the first quarter include sales of $21.7 million generated by InterTAN from the date of the acquisition on May 12, 2004, to the quarter end on May 31, 2004. InterTAN did not have a material impact on the net loss from continuing operations for the first quarter of the current fiscal year.
On May 25, 2004, we completed the sale of our private-label finance operation, comprised of our private-label and co-branded Visa credit card programs, to Bank One Corporation. Results from the private-label finance operation, including transition and transaction cost of approximately $6 million related to the sale of the operation to Bank One, are included in finance income. We also entered into a Consumer Credit Card Program Agreement with Bank One under which Bank One is offering private-label and co-branded credit
cards to new and existing customers. As part of the program agreement, we plan to jointly develop and introduce new features, products and services to drive additional sales. We are compensated under the program primarily based on the number of new accounts opened. Bank One is obligated to offer special promotional financing terms to our customers. We determine the frequency, volume and, subject to certain limits, the terms of these promotions. Bank One is compensated for these promotions in accordance with a negotiated fee schedule. The program agreement has an initial seven-year term with automatic three-year renewals. The agreement has customary representations, warranties, covenants, events of default and termination rights for an agreement of this type. After the sale date, the earnings contribution from the program agreement has been included in net sales and operating revenues on the consolidated statements of operations, but was immaterial in this fiscal year's first quarter. See Note 4 and Note 12 to the consolidated financial statements in this report for additional discussion concerning the sale of the private-label finance operation.
On November 18, 2003, we completed the sale of our bankcard finance operation, which included Visa and MasterCard credit card receivables and related cash reserves. Results from the bankcard finance operation are presented as results from discontinued operation. See Note 2 to the consolidated financial statements in this report for additional discussion concerning the sale of the bankcard finance operation.
CRITICAL ACCOUNTING POLICIES
See the discussion of critical accounting policies under Management's Discussion and Analysis of Results of Operations and Financial Condition incorporated by reference in our fiscal 2004 Annual Report on Form 10-K. These policies relate to the calculation of the value of retained interests in securitization transactions, the calculation of the liability for lease termination costs, accounting for pension plans, accounting for stock-based compensation expense and accounting for cash consideration received from vendors.
During the first quarter of fiscal 2005, we recognized goodwill and other intangible assets related to our acquisition of InterTAN. We have added the following critical accounting policy.
Accounting for Goodwill and Intangible Assets
We account for goodwill and intangible assets in accordance with Statement of Financial Accounting Standards No. 142, "Goodwill and Other Intangible Assets." SFAS No. 142 requires that goodwill and other intangible assets with indefinite useful lives no longer be amortized, but instead evaluated for impairment on an annual basis, or more frequently if certain events or circumstances exist. We will evaluate the goodwill balance in the last quarter of the fiscal year. Through the impairment test, goodwill, other intangible assets, and tangible assets and liabilities are divided among reporting units. If the fair value of those reporting units is less than the carrying value, then the implied fair value of the goodwill of the reporting unit must be compared to the carrying value of that goodwill. In the instance that the fair value of the goodwill is less than the carrying value, goodwill is deemed to be impaired and an impairment loss, equal to the excess of the fair value over the carrying value, must be recorded.
The performance of the goodwill impairment test is subject to significant judgement in determining the fair value of reporting units, due to the estimation of future cash flows, discount rates, and other assumptions. Changes in these estimates and assumptions could have a significant impact on the fair value and/or goodwill impairment of each reporting unit.
RESULTS OF OPERATIONS
Our operations, in common with other retailers in general, are subject to seasonal influences. Historically, we have realized more of our net sales and net earnings in the fourth quarter, which includes the majority of the holiday selling season, than in any other fiscal quarter. The net earnings of any quarter are seasonally disproportionate to net sales since administrative and certain operating expenses remain relatively constant during the year. Therefore, quarterly results should not be relied upon as necessarily indicative of results for the entire fiscal year.
Discussion of our results of operations includes InterTAN results unless otherwise noted.
Net Sales and Operating Revenues
Total sales for the first quarter of fiscal 2005 increased 6.9 percent to $2.07 billion from $1.93 billion in last fiscal year's first quarter. Comparable store merchandise sales increased 6.4 percent for the first quarter of fiscal 2005. A store is included in comparable store merchandise sales after the store has been open for a full year. Relocated stores are included immediately in the comparable store base. InterTAN stores open at the date of acquisition will be included in the comparable store base beginning in June 2005.
The first quarter comparable store sales increase in part reflects the soft performance in last year's first quarter, when we produced our weakest comparable store sales performance of that year. Year-over-year improvements in the average ticket size and the close ratio, despite relatively unchanged levels of traffic, demonstrate the increased focus on execution in our stores. We also continued to generate strong growth in Web-originated sales.
The percent of merchandise sales represented by each major product category for the three months ended May 31, 2004 and 2003 was as follows:
Three Months Ended
May 31
2004 2003
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Video............................................. 42% 40%
Audio............................................. 13 14
Information technology............................ 33 33
Entertainment..................................... 12 13
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Total............................................. 100% 100%
======================
In the video category, we produced an upper-single-digit comparable store sales
increase, driven by sales of new-technology televisions. Video category sales
reflect double-digit growth in digital televisions and triple-digit growth in
plasma and LCD televisions. Double-digit comparable store sales growth in DVD
players and in digital imaging products further contributed to the category's
comparable store sales increase. A double-digit decline in tube television sales
and a slight decline in camcorder sales partly offset the growth in other video
products.
A low-single-digit comparable store sales increase for the audio category includes single-digit comparable store sales growth in mobile audio products and double-digit comparable store sales growth in portable audio, but double-digit sales declines in home audio.
In the information technology category, we generated an upper-single-digit comparable store sales increase led by double-digit comparable store sales growth in personal computer hardware. Double-digit comparable store sales growth in notebooks and monitors and single-digit growth in desktop computers was partly offset by double-digit comparable store sales declines in printers.
In the entertainment category, we produced a low-single-digit comparable store sales increase that included double-digit comparable store sales growth in video software and single-digit sales growth in music software. Growth in these categories was partly offset by double-digit declines in game software and hardware sales.
Our domestic retail operation sells extended warranty programs on behalf of unrelated third parties that are the primary obligors. For our domestic retail operation segment, the total extended warranty revenue included in total sales was $77.2 million, or 3.8 percent of domestic retail sales, in the first quarter of fiscal 2005, compared with $72.4 million, or 3.7 percent of sales, in last fiscal year's first quarter.
The following table provides the numbers of our domestic retail segment units:
May 31, 2004 Feb. 29, 2004 May 31, 2003
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Superstores....................................... 602 599 611
Mall-based stores................................. 5 5 15
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Total domestic retail segment units............... 607 604 626
==========================================================
In fiscal 2005, we expect to open 60 to 70 Superstores in our domestic retail
operation segment, approximately half of which will be new locations and half of
which will be relocations. In the first quarter of fiscal 2005, we opened two
new Superstores and opened one Superstore that was a replacement for a
Superstore we closed in late fiscal 2004.
The following table provides the numbers of our international retail segment units:
May 31, 2004
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Company-operated stores........................... 509
Dealer outlets.................................... 379
Rogers Wireless stores............................ 84
Battery Plus stores............................... 30
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Total international retail segment units.......... 1,002
=================
InterTAN's company operated stores operate under the trade name "RadioShack."
Dealer outlets are independent retail businesses which operate under their own
trade names but are permitted, under dealer agreements, to purchase any of the
products sold by InterTAN company stores. Rogers Wireless stores are dedicated
primarily to the sale of wireless services, including related hardware, offered
by Rogers Wireless, Inc. Battery Plus stores retail batteries and other
specialty consumer electronics products.
Cost of Sales, Buying and Warehousing
The gross profit margin was 23.2 percent of sales in both the first quarter of fiscal 2005 and the first quarter of fiscal 2004. Increased efficiency in our product service organization and the inclusion of InterTAN drove improvements in the gross profit margin, but these improvements were offset by promotional pricing in a number of categories. The inclusion of InterTAN results from May 12 to May 31 contributed 18 basis points to this year's first quarter gross profit margin.
Finance Income
We completed the sale of our private-label finance operation, comprised of our private-label and co-branded Visa credit card programs, to Bank One on May 25, 2004. Results from the private-label finance operation through the date of the sale, including transition and transaction costs of approximately $6 million related to the sale of the operation to Bank One, are included in finance income. See Note 1, Note 4 and Note 12 to the consolidated financial statements in this report for additional discussion concerning the sale of our private-label finance operation.
For the three months ended May 31, 2004 and 2003, the components of pretax finance income were as follows:
Three Months Ended
May 31
(Amounts in millions) 2004 2003
----------------------------------------------------------------------------------------------
Securitization income........................................... $28.1 $ 28.4
Less: Payroll and fringe benefit expenses....................... 7.6 8.0
Other direct expenses................................... 14.9 12.4
----------------------------
Finance income.................................................. $ 5.6 $ 8.0
============================
Finance income is reduced by payroll, fringe benefits and other costs directly associated with the management and securitization of the private-label receivables. Payroll and fringe benefit expenses generally vary with the amount of serviced receivables. Other direct expenses include third-party data processing fees, rent, credit promotion expenses, Visa fees, transition and transaction costs related to the sale of the private-label finance operation and other operating expenses. Finance income does not include any allocation of indirect costs or income. Examples of indirect costs not included are corporate expenses such as human resources, administrative services, marketing, information systems, accounting, legal, treasury and executive payroll, as well as retail store expenses.
Selling, General and Administrative Expenses
Three Months Ended May 31
2004 2003
% of % of
(Dollar amounts in millions) $ Sales $ Sales
-------------------------------------------------------------------------------------
Store expenses.......................... $451.3 21.8% $442.6 22.9%
General and administrative
expenses........................... 35.9 1.8 36.1 1.9
Remodel expenses........................ 0.1 - 11.4 0.6
Relocation expenses..................... 1.9 0.1 5.1 0.2
Pre-opening expenses.................... 0.8 - 1.7 0.1
Interest income......................... (2.1) (0.1) (2.4) (0.1)
------------------------------------------
Total ................................. $487.9 23.6% $494.5 25.6%
=========================================
The year-over-year 200-basis-point improvement was primarily driven by:
o lower rent and occupancy costs as a percent of sales, largely resulting
from the closure of 19 under-performing stores in February 2004 and
leverage generated by comparable store sales growth;
o a reduction in relocation and remodel expense, which reflected a lower
level of activity in this year's first quarter; and
o positive leverage in payroll costs for the stores as well as district and
regional store operations.
The inclusion of InterTAN results in the consolidated results from May 12 to May 31 increased the expense ratio by 13 basis points. The increase in the dollar amount of store expenses largely reflects the inclusion of InterTAN expenses.
This year's first quarter expenses included $1.9 million of relocation costs associated with accelerated depreciation of assets related to planned future relocations. Expenses in last year's first quarter included $16.5 million of remodel and relocation costs, including costs related to the refixturing of nine Superstores, the relocation of three Superstores and the full remodel of one Superstore, as well as accelerated depreciation on assets to be taken out of service as a result of the store remodeling and relocation program.
We continue to anticipate that capital expenditures, net of sale-leasebacks and tenant improvement allowances, will total approximately $165 million in the current fiscal year and that expenses related to relocations and one remodel will total approximately $52 million in fiscal 2005. We incurred $1.9 million or approximately 4 percent of the anticipated remodel and relocation expenses in the first quarter and expect the remainder to be spread approximately evenly across the remaining three quarters of the fiscal year.
Interest Expense
Interest expense was $0.4 million for the three months ended May 31, 2004, and $1.0 million for the three months ended May 31, 2003. Interest expense for the first quarter of last fiscal year reflects interest paid as a result of completed audits of prior year income tax returns.
Income Taxes
The effective income tax rate applicable to results from continuing operations was 36.6 percent for the three months ended May 31, 2004, and 39.9 percent for the three months ended May 31, 2003. The decrease reflects lower estimated state and local income taxes. The estimated effective income tax rate applicable to results from continuing operations for the domestic retail operation segment for fiscal 2005 is expected to be 36.7 percent. The estimated effective income tax rate applicable to results from continuing operations for the international retail operation segment for fiscal 2005 is expected to be 38.5 percent. The consolidated effective income tax rate applicable to results from continuing operations will be the weighted average of all of our segments' rates.
Net Loss from Continuing Operations
The net loss from continuing operations was $5.2 million, or 3 cents per share, in the first quarter ended May 31, 2004, compared with $28.1 million, or 14 cents per share, in the first quarter of last fiscal year. The first quarter net loss from continuing operations includes after-tax transition and transaction costs of approximately $4 million related to the disposition of the private-label finance operation. InterTAN results did not have a material impact on the net loss from continuing operations.
Net Loss from Discontinued Operation
On November 18, 2003, we completed the sale of our bankcard finance operation to FleetBoston Financial. Results from the bankcard finance operation are presented as results from discontinued operation. The sale agreement included a transition services agreement under which employees of our finance operation continued to service the bankcard accounts until final conversion of the bankcard portfolio to FleetBoston, which occurred on April 2, 2004. Through that date, FleetBoston reimbursed us for operating costs incurred during the transition period. We incurred severance costs ratably through the final conversion date.
The after-tax loss from the discontinued bankcard finance operation totaled $0.7 million for the quarter ended May 31, 2004, and $18.6 million for the same period last fiscal year.
Operations Outlook
Our attention is focused on building value for shareholders by providing superior consumer electronics solutions to families. We remain focused on four basic areas: 1) driving store revenue growth, 2) growing Web-based revenues, 3) stabilizing gross margins and 4) bringing our overall cost and expense structure in line with our current level of revenues. We believe we have the right plan in place to combine profitable revenue growth with improved in-store execution, and we have the resources to execute that plan.
Growing store revenues requires a focused team effort among numerous functions including store operations, merchandising, Circuit City Direct, marketing, real estate and finance. An important component of driving sales growth is the ongoing store revitalization plan, which incorporates opening new locations in vibrant trade areas, relocating stores to better locations within existing trade areas and, to a lesser extent, improving the performance of existing stores through remodeling activities designed to improve the shopping experience. From the beginning of fiscal 2001 through May 31, 2004, 134 Superstores, or 22 percent of our 602 Superstores, had been newly constructed, relocated or fully remodeled to provide a contemporary shopping experience with easy product access and more powerful merchandising displays. We expect that ratio to reach approximately 30 percent by the end of this fiscal year. At the end of the first quarter, we had 27 relocated stores that have been open for more than six months. In their first full six months following grand opening, these 27 stores averaged sales changes that were approximately 27 percentage points better than the sales pace of the remainder of the store base during the same time periods and an internal rate of return of approximately 16 percent. We expect some movement in the sales lift and IRR statistics as we add new stores to what is a relatively small relocation base, but we continue to expect that over the long term, store relocations will produce attractive results. In fiscal 2005, we expect to open 60 to 70 Superstores, approximately half of which will be new locations and half of which will be relocations.
Our Circuit City Direct organization is focused on continuing to drive strong Web-originated sales growth. We have an aggressive plan that includes new merchandise offerings; improved Web site capabilities and functionality; new partnerships; the introduction of on-line credit applications and financing through Bank One; strengthening of integration and cross-marketing with our Superstores; and continual testing of new price and promotional strategies. In the fall, we expect to launch our redesigned Web site with many of these features. Our recent acquisition of the assets of MusicNow reflects our belief that there is a significant Internet-based opportunity to drive sales through the delivery of licensed content.
We have many ongoing activities throughout the company that we expect to benefit the gross profit margin, which may include o expanding our own-brand product assortments as we head into the holiday season, especially through integrating InterTAN's products; o reducing the cost of acquisition of products through increased competition among vendors in certain product areas; o examining the balance of products within each product category, particularly between price points and across vendors; o rationalizing the number of items offered in low-volume stores; o expanding the use of markdown optimization tools; o improving inventory forecasting; and o focusing on selling attachments and services.
We were pleased with the year-over-year improvement in our selling, general and administrative expenses as a percentage of sales for the quarter. During fiscal 2004, we implemented improvements such as consolidating districts, regions and divisions; centralizing indirect procurement; rightsizing corporate missions; and closing under-performing stores. We continue to believe that reducing our expense structure is an integral component of building a new Circuit City and will continue to focus on driving additional expense reductions.
FINANCIAL CONDITION
Liquidity and Capital Resources
At May 31, 2004, we had cash and cash equivalents of $990.6 million, compared with $783.5 million at February 29, 2004. The higher cash balance primarily reflects the net cash proceeds of $472.7 million from the sale of the private-label finance operation partly offset by acquisition costs for InterTAN of $265.6 million, net of cash acquired. During the first quarter of fiscal 2005, we also used $71.1 million of cash to repurchase common stock under the company's stock buyback authorization.
At May 31, 2003, we had cash and cash equivalents of $615.6 million. The year-over-year change in the cash balance largely reflects the net cash proceeds of $472.7 million from the sale of the private-label finance operation and the net cash proceeds of $282 million from the sale of the bankcard finance operation, partly offset by acquisition costs for InterTAN of $265.6 million, net of cash acquired. Since the end of the first quarter of fiscal 2004 through May 31, 2004, we also used $141.5 million of cash to repurchase common stock under the company's stock buyback authorization.
Operating Activities. In the three months ended May 31, 2004, net cash provided by operating activities was $105.5 million, compared with net cash used in operating activities of $154.0 million in the three months ended May 31, 2003. The increase in net cash provided by operating activities is primarily due to changes in retained interests in securitized receivables; accounts payable; and accrued expenses and other current liabilities, and accrued income taxes. The change in merchandise inventory is consistent with the prior year change due to the seasonal nature of our business.
Retained interests in securitized receivables decreased by $32.9 million in the first three months of fiscal 2005, compared with an increase of $115.6 million in the first three months of last fiscal year. The current year decrease relates to the sale of the private-label finance operation. The prior year increase reflects the
completion of a $500 million private-label credit card securitization transaction to replace a maturing term securitization.
Accounts payable increased by $70.5 million in the first three months of fiscal 2005, compared with a decrease of $63.3 million in the first three months of last fiscal year. The $133.8 million difference primarily relates to slowed purchasing activity in the last two months of fiscal 2004 to correct our inventory levels following lower-than-anticipated December 2003 sales.
Accrued expenses and other current liabilities and accrued income taxes decreased by $4.7 million in the first three months of fiscal 2005, compared with a decrease of $43.6 million in the first three months of last fiscal year. The $38.9 million difference primarily reflects the impact of accrued income taxes related to the sale of our private-label finance operation.
Investing Activities. For the three months ended May 31, 2004, net cash provided by investing activities was $176.7 million compared with net cash used in investing activities of $20.6 million for the three months ended May 31, 2003. The increase in net cash provided by investing activities is primarily due to net cash proceeds of $472.7 million from the sale of the private-label finance operation offset by net acquisition costs for InterTAN of $265.6 million.
Financing Activities. For the three months ended May 31, 2004, net cash used in financing activities was $69.3 million, compared with net cash used in financing activities of $17.2 million for the three months ended May 31, 2003. The change primarily reflects $71.1 million used to repurchase common stock during the first quarter of this fiscal year compared with $13.9 million used during the same period last fiscal year. Based on the market value of the common stock at May 31, 2004, the then remaining $44.6 million of the original $200 million authorization would allow for the repurchase of up to approximately 2 percent of the 199.3 million shares then outstanding. In June 2004, the board authorized a $200 million increase in the company's stock repurchase authorization. Based on the market value of the common stock at May 31, 2004, the $244.6 million that remains authorized would allow for the repurchase of up to approximately 10 percent of the 199.3 million shares outstanding on May 31, 2004.
We have a $500 million revolving credit facility secured by inventory. At May 31, 2004, there were no short-term borrowings on this facility. At May 31, 2004, outstanding letters of credit related to this facility were $64.8 million, leaving $435.2 million available for borrowing. We were in compliance with all covenants under this facility at May 31, 2004.
We expect that available cash resources, credit facilities, sale-leaseback transactions, landlord reimbursements and cash generated by operations will be sufficient to fund capital expenditures and working capital for the foreseeable future.
FORWARD-LOOKING STATEMENTS
The provisions of the Private Securities Litigation Reform Act of 1995 provide companies with a "safe harbor" when making forward-looking statements. This "safe harbor" encourages companies to provide prospective information about their companies without fear of litigation. We wish to take advantage of the "safe harbor" provisions of the Act. Our statements that are not historical facts, including statements about management's expectations for fiscal 2005 and beyond, are forward-looking statements and involve various risks and uncertainties.
Forward-looking statements are estimates and projections reflecting our judgment and involve a number of risks and uncertainties that could cause actual results to differ materially from those suggested by the forward-looking statements. Although we believe that the estimates and projections reflected in the forward-looking statements are reasonable, our expectations may prove to be incorrect. The retail industry, and the specialty retail industry in particular, are dynamic by nature and have undergone significant changes in recent years. Our ability to anticipate and successfully respond to the continuing challenges of our industry is key to
achieving our expectations. Important factors that could cause actual results to differ materially from estimates or projections contained in our forward-looking statements include
o changes in the amount and degree of promotional intensity exerted by current competitors and potential new competition from competitors using either similar or alternative methods or channels of distribution such as online and telephone shopping services and mail order; o changes in general economic conditions including, but not limited to, consumer credit availability, consumer credit delinquency and default rates, interest rates, inflation, personal discretionary spending levels, trends in consumer retail spending, both in general and in our product categories, and consumer sentiment about the economy in general; o the presence or absence of, or consumer acceptance of, new products or product features in the merchandise categories we sell and changes in our merchandise sales mix; o significant changes in retail prices for products we sell; o changes in availability or cost of financing for working capital and capital expenditures, including financing to support development of our business; o lack of availability or access to sources of inventory; o inability to liquidate excess inventory should excess inventory develop; o failure to successfully implement sales and profitability improvement programs for our Circuit City Superstores, including our remodeling and relocation plan; o consumer reaction to new store locations and changes in our store design and merchandise; o the timing and amount of any adjustments affecting the transaction costs, severance costs or post-closing adjustments to income that may be required as a result of the sale of the private-label finance operation; o our ability and the ability of Bank One to successfully integrate our retail business with the credit card program being offered by Bank One; o future levels of sales activity and the acceptance of the Bank One credit program by consumers on an ongoing basis; o our ability to attract and retain an effective management team or changes in the costs or availability of a suitable work force to manage and support our service-driven operating strategies; o changes in production or distribution costs or costs of materials for our advertising; o availability of appropriate real estate locations for relocations and new stores; o successful implementation of our customer service initiatives; o the imposition of new restrictions or regulations regarding the sale of products and/or services we sell, changes in tax rules and regulations applicable to us or our competitors, the imposition of new environmental restrictions, regulations or laws or the discovery of environmental conditions at current or future locations, or any failure to comply with such laws or any adverse change in such laws; o our ability to integrate and operate InterTAN successfully and to realize the anticipated benefits of the transaction, including successfully introducing InterTAN's products in our Superstores and realizing inventory purchasing synergies; o reduced investment returns in our pension plan; o changes in our anticipated cash flow; o adverse results in significant litigation matters, including the outcome and impact on InterTAN of litigation instituted by RadioShack Corporation to terminate InterTAN's right to use the RadioShack(R) name in Canada and related rights to purchase merchandise through RadioShack; o currency exchange rate fluctuations between Canadian and U.S. dollars and other currencies; and o the regulatory and trade environment in the U.S. and Canada.
We believe our forward-looking statements are reasonable; however, undue reliance should not be placed on forward-looking statements, which are based on current expectations.
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