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HOTT > SEC Filings for HOTT > Form 10-Q on 20-Nov-2012All Recent SEC Filings

Show all filings for HOT TOPIC INC /CA/

Form 10-Q for HOT TOPIC INC /CA/


20-Nov-2012

Quarterly Report


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

CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS
From time to time, in both written reports (such as this report) and oral statements, we make "forward-looking statements" within the meaning of
Section 27A of the Securities Act of 1933, as amended, or the Securities Act, and Section 21E of the Securities Exchange Act of 1934, as amended, or the Exchange Act. We intend that such forward-looking statements be subject to the "safe harbors" created by these sections. Generally, the words "believes," "anticipates," "expects," "continue," "intends," "will," "may," "plans" and similar expressions identify such forward-looking statements, although not all forward-looking statements contain these identifying words. These statements include, for example, statements regarding our expectations, beliefs, intentions or strategies regarding the future, such as the extent and timing of future revenues and expenses, economic conditions affecting consumer demand, ability to realize anticipated benefits of cost reduction plans and business changes, ability to grow or maintain comparable sales, response to new concepts and other expected financial results and information. All forward-looking statements included in this report are based on information available to us as of the date of this report and we assume no obligation to update or revise any forward-looking statements to reflect events or circumstances that occur after such statements are made. Readers are cautioned not to place undue reliance on these forward-looking statements as they involve risks and uncertainties which may cause our actual results, performance or achievements to be materially different from any future results, performance or achievements. These risks, as well as other risks and uncertainties, are located, among other places, in this Part I, Item 2 and in Part II, Item 1A under the caption "Risk Factors."


OVERVIEW

Business We are a mall and web-based specialty retailer of apparel, accessories, music and gift items for young men and women whose lifestyles reflect a passion for music, fashion and pop culture. We primarily operate under two concepts: Hot Topic and Torrid. Our business is discussed in more detail in "NOTE 1 - Organization and Basis of Presentation" contained in the accompanying financial statements. During the fourth quarter of fiscal 2012, we launched a new test retail concept, Blackheart, which is discussed in more detail in "NOTE
15 - Subsequent Events" contained in the accompanying financial statements.

Strategic Business Changes We have completed the implementation of all planned initiatives related to the strategic business changes approved by the Board in fiscal 2011 to improve our operating results and to better position us for growth. The business changes involved discontinuing the operations of ShockHound; writing down inventory; writing down property and equipment that are no longer critical to our strategic direction; and implementing other strategic business and operational initiatives. As of the end of the second quarter of fiscal 2011, we had incurred all charges related to the strategic business changes.

Cost Reduction Plan The cost reduction plan, which was designed to meet the challenges of the environment at that time, involved closing approximately 50 underperforming stores, a majority of which closed at the end of the first quarter of fiscal 2011. These closures occurred as a result of natural lease expirations, exercising lease kick out clauses and other negotiations. The implementation of the cost reduction plan was expected to improve annual income of approximately $13 million. The cost reduction plan also included reducing our home office and field management positions, reducing planned capital expenditures in fiscal 2011 to approximately $25 million from $31 million in fiscal 2010 and implementing other non-payroll overhead expense reduction initiatives. As of the end of the second quarter of fiscal 2011, we had recorded all charges related to the cost reduction plan, completed the announced reduction of our home office and field management positions, and completed the implementation of non-payroll overhead expense reduction initiatives as part of the cost reduction plan. As of the end of the second quarter of fiscal 2012, we had closed all underperforming stores related to the cost reduction plan, totaling 41 Hot Topic stores and seven Torrid stores.


The following table details charges related to the strategic business changes and the cost reduction plan recorded since their implementation in the first quarter of fiscal 2011 and the fourth quarter of fiscal 2010, respectively (in thousands).

                                           Non-Store Related
                                             Severance and         Inventory and
                      Store Related          Outplacement          Asset-Related        Consulting       Stock Option
                     Closure Costs 1             Costs                Costs 2              Fees            Expense           Total
Balance at October
30, 2010             $              -     $                 -     $              -     $          -     $            -     $        -
Cost Reduction
Plan charges                   (7,077 )                (1,850 )               (830 )              -                  -         (9,757 )
Cash payments                      93                     985                    -                -                  -          1,078
Non-cash
adjustments                     6,497                       -                  830                -                  -          7,327
Balance at January
29, 2011                         (487 )                  (865 )                  -                -                  -         (1,352 )
Cost Reduction
Plan recovery                     365                       -                    -                -                  -            365
Strategic Business
Changes charges                     -                  (1,583 )             (9,605 )         (1,606 )                -        (12,794 )
Cash payments                     699                     889                    -            1,645                  -          3,233
Non-cash
adjustments                      (659 )                     -                4,891                -                  -          4,232
Balance at April
30, 2011                          (82 )                (1,559 )             (4,714 )             39                  -         (6,316 )
Cost Reduction
Plan recovery                     174                       -                    -                -                  -            174
Strategic Business
Changes charges                     -                  (1,330 )               (532 )         (1,383 )           (1,072 )       (4,317 )
Cash payments                     144                     812                  182              753                  -          1,891
Non-cash
adjustments                      (455 )                     -                4,866                -              1,072          5,483
Balance at July
30, 2011                         (219 )                (2,077 )               (198 )           (591 )                -         (3,085 )
Cash payments                     197                     464                    -              473                  -          1,134
Non-cash
adjustments                        22                     (43 )                 18               20                  -             17
Balance at October
29, 2011                            -                  (1,656 )               (180 )            (98 )                -         (1,934 )
Cash payments                       -                     682                   20                -                  -            702
Non-cash
adjustments                         -                       -                   75                -                  -             75
Balance at January
28, 2012                            -                    (974 )                (85 )            (98 )                -         (1,157 )
Cash payments                       -                     476                    -                -                  -            476
Non-cash
adjustments                         -                      17                   68               98                  -            183
Balance at April
28, 2012                            -                    (481 )                (17 )              -                  -           (498 )
Cash payments                       -                     318                    -                -                  -            318
Non-cash
adjustments                         -                      23                   17                -                  -             40
Balance at July
28, 2012                            -                    (140 )                  -                -                  -           (140 )
Cash payments                       -                     133                    -                -                  -            133
Non-cash
adjustments                         -                       7                    -                -                  -              7
Balance at October
27, 2012             $              -     $                 -     $              -     $          -     $            -     $        -

1 Store related closure costs represent charges for the closure of approximately 50 underperforming stores. Such charges include the write down and accelerated depreciation of store assets, the write down of inventory, early lease terminations and store severance, partially offset by certain credits and allowances.

2 Inventory and asset-related costs represent charges related to the write down and impairment of inventory and non-critical property and equipment.

We recorded charges related to store closures, write down of assets; store severance; non-store related severance and outplacement; consulting fees; and stock option expense in selling, general and administrative expenses in our consolidated statements of operations. Charges related to the write down of store inventory; accelerated depreciation of store assets; and early lease terminations were recorded in cost of goods sold in our consolidated statements of operations.


Discontinued Operations During the second quarter of fiscal 2011, due to its slower than expected revenue growth, ShockHound's operations were discontinued. Revenues from partnerships entered into in the earlier part of fiscal 2010, as well as other revenues, did not build as much as we had anticipated. See "Strategic Business Changes" above for more information concerning the discontinuation of ShockHound's operations.

Comparable Sales and Store Count We consider a store comparable after it has been open for 15 full fiscal months. If a store is closed during a fiscal year, it is only included in the computation of comparable sales for full fiscal months in which it was open. Partial fiscal months are excluded from the computation of comparable sales. During the first quarter of fiscal 2012, we began including our internet sales in the computation of comparable sales. All prior year comparable sales results have been adjusted. The following table shows our comparable sales results, including Internet, by division for the third quarter of fiscal 2012 and 2011 and fiscal year-to-date 2012 and 2011.

                    % Change                              % Change
Third Quarter   2012       2011       Year-to-date    2012       2011
Hot Topic         0.1 %     (1.5 )%   Hot Topic         4.2 %     (0.3 )%
Torrid            0.5 %      3.3 %    Torrid            2.4 %      5.7 %
Total Company     0.2 %     (0.5 )%   Total Company     3.8 %      1.2 %

During the third quarter of fiscal 2012, the comparable sales increase in the Hot Topic division resulted primarily from increases in the fashion apparel and license categories, partially offset by decreases in the music and fashion accessories categories. During the same period, the comparable sales increase in the Torrid division was due to an increase in apparel, partially offset by a decrease in accessories.

We continue to evaluate the need to open, remodel, relocate or close stores. The following table shows our store expansion and closure activity during the fiscal year-to-date 2012 and 2011. Our planned store expansion and closure activity in fiscal 2012 is also reflected in the table.

                                            Number of Stores
                                        Actual                          Estimate
                       Nine Months Ended       Nine Months Ended
                       October 27, 2012        October 29, 2011        Fiscal 2012
Hot Topic
Beginning of Period                   628                     657               628
   Open                                 2                       1                 2
   Close                              (10 )                   (24 )             (13 )
End of Period                         620                     634               617
Remodel/relocate                       47                      29                49

Torrid
Beginning of Period                   148                     153               148
   Open                                45                       2                50
   Close                               (7 )                    (9 )              (8 )
End of Period                         186                     146               190
Remodel/relocate                        5                       1                 6

Share Repurchase Our recent share repurchase activity is discussed in more detail in "NOTE 14 - Share Repurchase" contained in the accompanying financial statements.


Cash Dividends We began to pay cash dividends during the first quarter of fiscal 2010. Cash dividends are discussed in more detail in "NOTE 4 - Cash Dividends" contained in the accompanying financial statements.

Segment Information We currently have one reportable segment given the similarities of the economic characteristics among the Hot Topic and Torrid concepts.

Seasonality Our business, particularly at Hot Topic, is subject to seasonal influences. Refer to "Item 1 - Business" included in our annual report on Form 10-K filed on March 21, 2012, for further discussion about the seasonality of our business.

Key Performance Indicators There are several key indicators that we use to help us evaluate the financial condition and operating performance of our business, including:

Store Sales Productivity is used to assess the operational performance of each of our stores. Store productivity metrics include year over year store sales comparisons (or comparable sales results), net store sales per average square foot, number of transactions per store, dollars per transaction, number of units sold per store and number of units per transaction.

Merchandise Margin is used to allocate a variety of resources to each of our concepts, determine initial mark-ups, mark-downs, inventory reserves, freight costs, etc. for both concepts and to measure the general performance of each of our stores. We consider merchandise margin to be the difference between net sales and certain costs associated with our merchandise, such as product costs, markdowns, freight, vendor allowances and inventory reserves.

Gross Margin is the difference between merchandise margin and buying, distribution and store occupancy costs.

Income from Operations is primarily driven by net sales, gross margin, our ability to control selling, general and administrative expenses, and our level of capital expenditures that affect depreciation expense.

RESULTS OF OPERATIONS

The following discussion of our results of operations, financial condition and liquidity and other matters should be read in conjunction with our condensed consolidated financial statements and the notes related thereto.

Three Months Ended October 27, 2012 Compared to the Three Months Ended October 29, 2011

The following table shows, for the periods indicated, certain selected statement of operations data expressed as a percentage of net sales. The discussion that follows should be read in conjunction with this table:


                                                            October 27,         October 29,
For the three months ended:                                    2012                2011

Net sales                                                          100.0   %           100.0   %
Cost of goods sold, including buying, distribution and
occupancy costs                                                     64.2                66.1

Gross margin                                                        35.8                33.9
Selling, general and administrative expenses                        32.0                31.5

Income before provision for income taxes                             3.8                 2.4
Provision for income taxes                                           1.4                 0.6

Net income                                                           2.4   %             1.8   %

Net sales increased $3.6 million, or 2.0%, to $179.4 million during the third quarter of fiscal 2012, from $175.8 million during the third quarter of fiscal 2011. The components of this $3.6 million increase in net sales are as follows:

    Amount
 (in millions)                                   Description
                    Increase in sales from Torrid stores not yet qualifying as comparable
$           6.7     stores.
            0.2     Torrid comparable sales increase of 0.5%.
            0.1     Hot Topic comparable sales increase of 0.1%.
                    Increase in sales from Hot Topic stores not yet qualifying as
            0.1     comparable stores.
           (3.5 )   Decrease in sales due to store closures and other.
$           3.6     Total

Gross margin increased $4.6 million, or 7.7%, to $64.2 million during the third quarter of fiscal 2012, from $59.6 million during the third quarter of fiscal 2011. As a percentage of net sales, gross margin increased to 35.8% during the third quarter of fiscal 2012, from 33.9% in the third quarter of fiscal 2011. The significant components of this 1.9 percentage point increase in gross margin as a percentage of net sales are as follows:


    %                                      Description
      1.7     Increase in merchandise margin as a result of higher realized markup
              primarly due to an increase in products designed internally and a
              decrease in clearance sales.
              Decrease in store depreciation expenses related to lower expenses from
      0.3     comparable stores and store closures.
              Decrease in distribution expenses primarily due to lower depreciation
              and supply expenses and leverage on higher sales, partially offset by
      0.1     higher
              freight costs.
              Increase in store occupancy expense primarily due to higher rent
     (0.1 )   expense as a result of an increase in the number of stores.
     (0.1 )   Increase in buying payroll expenses.
      1.9 %   Total

Selling, general and administrative expenses increased $2.0 million, or 3.6%, to $57.4 million during the third quarter of fiscal 2012, from $55.4 million during the third quarter of fiscal 2011. As a percentage of net sales, selling, general and administrative expenses increased to 32.0% in the third quarter of fiscal 2012, from 31.5% in the third quarter of fiscal 2011. The significant components of the 0.5 percentage point increase in selling, general and administrative expenses as a percentage of net sales are as follows:

    %                                      Description
      1.5     Increase in performance based bonuses.
              Increase in preopening expenses as a result of a greater number of
              new, relocated and remodeled stores in the third quarter of fiscal
      0.2     2012.
              Increase in store payroll expenses as a result of higher store
      0.1     performance based bonuses.
     (0.5 )   Decrease in depreciation, store asset impairment write-offs,
              telecommunication expenses and travel costs, partially offset by an
              increase in computer maintenance costs.
     (0.8 )   Decrease in other store expenses primarily due to lower utility costs,
              supply expenses, debit/credit card processing fees, and
              telecommunication expenses.
      0.5 %   Total

Income from operations increased $2.7 million to $6.9 million during the third quarter of fiscal 2012, from $4.2 million during the third quarter of fiscal 2011. As a percentage of net sales, income from operations was 3.8% in the third quarter of fiscal 2012, compared to 2.4% in the third quarter of fiscal 2011.

Provision for income taxes was $2.6 million in the third quarter of fiscal 2012, compared to $1.2 million in the third quarter of fiscal 2011. The effective tax rate was 37.8% for the third quarter of fiscal 2012, compared to 27.8% for the third quarter of fiscal 2011. The effective tax rate increase is due to a reduction in the liability for income tax associated with the unrecognized tax benefits in the third quarter of fiscal 2011.


Nine Months Ended October 27, 2012 Compared to the Nine Months Ended October 29, 2011

The following table shows, for the periods indicated, certain selected statement of operations data expressed as a percentage of net sales. The discussion that follows should be read in conjunction with this table:

                                                            October 27,         October 29,
For the nine months ended:                                     2012                2011

Net sales                                                          100.0   %           100.0   %
Cost of goods sold, including buying, distribution and
occupancy costs                                                     64.7                67.5

Gross margin                                                        35.3                32.5
Selling, general and administrative expenses                        33.0                36.2

Income (loss) before provision (benefit) for income
taxes                                                                2.3                (3.7 )
Provision (benefit) for income taxes                                 0.9                (1.5 )

Net income (loss)                                                    1.4   %            (2.2 ) %

Net sales increased $20.8 million, or 4.3%, to $508.8 million during fiscal year-to-date 2012, from $488.0 million during fiscal year-to-date 2011. The components of this $20.8 million increase in net sales are as follows:

    Amount
 (in millions)                                   Description
                    Increase in sales from Torrid stores not yet qualifying as comparable
$          14.5     stores.
           14.4     Hot Topic comparable sales increase of 4.2%.
            2.7     Torrid comparable sales increase of 2.4%.
                    Increase in sales from Hot Topic stores not yet qualifying as
            0.7     comparable stores.
          (11.5 )   Decrease in sales due to store closures and other.
$          20.8     Total

Gross margin increased $21.1 million, or 13.3%, to $179.8 million during fiscal year-to-date 2012, from $158.7 million during fiscal year-to-date 2011. As a percentage of net sales, gross margin increased to 35.3% during fiscal year-to-date 2012, from 32.5% in fiscal year-to-date 2011. The significant components of this 2.8 percentage point increase in gross margin as a percentage of net sales are as follows:


    %                                      Description
      2.3     Increase in merchandise margin as a result of lower markdowns, which
              included markdowns from strategic business changes in the prior fiscal
              year, higher realized markup primarly due to an increase in products
              designed internally and a decrease in clearance sales.
              Decrease in store depreciation expenses related to lower expenses from
      0.4     comparable stores and store closures.
              Decrease in distribution expenses primarily due to lower depreciation,
      0.3     supplies, freight and payroll expenses, and leverage on higher sales.
     (0.2 )   Increase in buying payroll expenses.
      2.8 %   Total

Selling, general and administrative expenses decreased $8.8 million, or 5.0%, to $168.1 million during fiscal year-to-date 2012, from $176.9 million during fiscal year-to-date 2011. As a percentage of net sales, selling, general and administrative expenses decreased to 33.0% in fiscal year-to-date 2012, from 36.2% in fiscal year-to-date 2011. The significant components of the 3.2 percentage point decrease in selling, general and administrative expenses as a percentage of net sales are as follows:

    %                                       Description
     (2.3 )    Costs associated with the write-down of non-critical property and
               equipment, severance payments, consulting fees and other costs related
               to the strategic business changes incurred in the prior fiscal year.
     (1.0 )    Decrease in store and internet payroll expenses and related benefits
               as a result of leverage on higher sales and improved productivity.
               Decrease in other store expenses primarily due to lower utility costs,
     (0.8 )    debit/credit card processing fees, and supply expenses.
     (0.5 )    Decrease in general and administrative payroll and related benefits,
               depreciation, telecommunication expenses and relocation costs,
               partially offset by an increase in computer maintenance costs.
               Increase in preopening expenses as a result of a greater number of
      0.2      new, relocated and remodeled stores in fiscal 2012.
      1.2      Increase in performance based bonuses.
     (3.2 )%   Total

Income from operations increased $30.0 million to $11.7 million during fiscal year-to-date 2012, from loss from operations of $18.3 million during fiscal year-to-date 2011. As a percentage of net sales, income from operations was 2.3% in fiscal year-to-date 2012, compared to loss from operations of 3.7% in the fiscal year-to-date 2011.

Provision for income taxes was $4.4 million in fiscal year-to-date 2012, compared to a benefit for income taxes of $7.3 million in fiscal year-to-date 2011. The effective tax rate was 37.6% for fiscal year-to-date 2012 compared to . . .

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