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FDO > SEC Filings for FDO > Form 10-Q on 3-Jan-2013All Recent SEC Filings

Show all filings for FAMILY DOLLAR STORES INC

Form 10-Q for FAMILY DOLLAR STORES INC


3-Jan-2013

Quarterly Report


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

The following discussion summarizes the significant factors affecting our consolidated results of operations and financial condition for the thirteen-week periods ended November 24, 2012, and November 26, 2011 ("first quarter of fiscal 2013" and "first quarter of fiscal 2012", respectively). This discussion should be read in conjunction with, and is qualified by, the financial statements included in this Report, the financial statements for the fiscal year ended August 25, 2012 ("fiscal 2012"), and Management's Discussion and Analysis of Financial Condition and Results of Operations ("MD&A") contained in our Annual Report on Form 10-K for fiscal 2012. This discussion also should be read in conjunction with the "Cautionary Statement Regarding Forward Looking Statements" set forth following this MD&A, and the "Risk Factors" set forth in Part I-Item 1A of our Annual Report on Form 10-K for fiscal 2012. Executive Overview
We operate a chain of more than 7,500 general merchandise retail discount stores in 45 states, providing consumers with a selection of competitively priced merchandise in convenient neighborhood stores. Our merchandise assortment includes Consumables, Home Products, Apparel and Accessories, and Seasonal and Electronics. We sell merchandise at prices that generally range from less than $1 to $10.
During the first quarter of fiscal 2013, as compared with the first quarter of fiscal 2012, our net sales increased 12.7% to $2.4 billion, our net income of $80.3 million was approximately flat, and our diluted net income per common share increased 1.5% to $0.69 per share. Comparable store sales (stores open more than 13 months) for the first quarter of fiscal 2013 increased 6.6% compared with the first quarter of fiscal 2012.
Our results during the first quarter of fiscal 2013 were driven primarily by our strong sales performance, particularly in the Consumables category. Many of the initiatives we launched over the past several years continue to deliver results, including the expansion of our global sourcing efforts, increased investment in our private brands assortment, our multi-year comprehensive store renovation program, and the expansion of our key consumables categories, including tobacco. During fiscal 2013, we remain focused on increasing our relevancy with customers, delivering profitable sales growth, and strengthening our value and convenience proposition. Additionally, in fiscal 2012, we formed a six-year, exclusive partnership with McLane Company, Inc. ("McLane"), a highly successful supply chain services company. This partnership allows us to carry a more consistent assortment, improve in-stock levels of refrigerated and frozen merchandise, consolidate a fragmented network of regional wholesalers to one national wholesaler, and distribute tobacco products to our stores efficiently. McLane also distributes selected categories outside of refrigerated and frozen merchandise, providing flexibility to our distribution network for new items. McLane began delivering this broad assortment of merchandise to our stores beginning in September 2012.
During the first quarter of fiscal 2013, we opened 125 stores and closed 1 store for a net addition of 124 stores, compared with the opening of 101 stores and closing of 4 stores for a net addition of 97 stores during the first quarter of fiscal 2012. We plan to open approximately 500 new stores during fiscal 2013. Leveraging our concept renewal efforts, enhanced merchandising and supply chain capabilities, a refreshed store technology platform, and a better trained and more productive workforce, we continue to deliver on our multi-year comprehensive renovation program intended to re-energize the Family Dollar brand. During the first quarter of fiscal 2013, we renovated, relocated or expanded 169 stores under this new format. We plan to renovate, relocate or expand approximately 850 stores in this new format in fiscal 2013. The renovations address both the interior and exterior of the stores and create more customer-focused assortments and layouts and more customer-centric teams. In today's uncertain economic environment, value and convenience continues to resonate with consumers. Our strategy of providing customers with value and convenience continues to attract more customers with greater frequency. We continue to invest aggressively in the business to respond to the challenging macro-economic environment and customer demand. Over the prior two fiscal years, we executed significant, chain-wide expansions in key consumable categories. Additionally, in fiscal 2012 we added tobacco to our assortment in the majority of our stores and in the first quarter of fiscal 2013, McLane began delivering a broad assortment of merchandise to our stores. As a result, in the first quarter of fiscal 2013, our Consumables sales increased by 18.5% as compared to the first quarter of fiscal 2012. As a percentage of net sales, Consumables increased from 70.3% of net sales in the first quarter of fiscal 2012 to 73.9% of net sales in the first quarter of fiscal 2013. This acceleration of sales of lower-margin consumables, combined with softer sales of higher-margin discretionary items, has pressured gross profit, as a percentage of net sales, in the first quarter of fiscal 2013 as compared to the first quarter of fiscal 2012. The investments we are making in global sourcing, private brands and price management capabilities have created favorable purchase markups that continue to help to offset some of the pressure created by the shift in sales mix to lower margin Consumables.


Results of Operations
Our results of operations for the first quarter of fiscal 2013 and the first
quarter of fiscal 2012 are highlighted in the table below and discussed in the
following paragraphs:

                                              November 24,                        November 26,
(in thousands)                                    2012        % of Net Sales          2011        % of Net Sales
Net sales                                   $    2,421,688                      $    2,148,287
Cost and expenses:
Cost of sales                                    1,594,894           65.9 %          1,390,715           64.7 %
Selling, general and administrative                699,825           28.9 %            627,585           29.2 %
Cost of sales and operating expenses             2,294,719           94.8 %          2,018,300           93.9 %
Operating profit                                   126,969            5.2 %            129,987            6.1 %
Investment income                                       75            0.0 %                234            0.0 %
Interest expense                                     7,122            0.3 %              6,712            0.3 %
Other income                                         6,362            0.3 %              4,923            0.2 %
Income before income taxes                         126,284            5.2 %            128,432            6.0 %
Income taxes                                        46,005            1.9 %             48,082            2.2 %
Net Income                                  $       80,279            3.3 %     $       80,350            3.7 %

Net Sales
Net sales increased 12.7% in the first quarter of fiscal 2013 compared to the first quarter of fiscal 2012. The net sales increase in the first quarter of fiscal 2013 reflects an increase in comparable store sales of 6.6%, with the balance of the increase due primarily to sales from new stores opened as part of our store growth program. Comparable store sales include stores that have been open more than 13 months. Stores that have been renovated, relocated or expanded are included in the comparable store sales calculation to the extent that they had sales during comparable weeks in each year. The method of calculating comparable store sales varies across the retail industry. As a result, our comparable store sales calculation may not be comparable to similarly titled measures reported by other companies.
The 6.6% increase in comparable store sales in the first quarter of fiscal 2013 resulted from both an increase in customer traffic and higher average customer transaction values, as measured by the number of register transactions in comparable stores. Sales during the first quarter of fiscal 2013, on a comparable store basis, were strongest in the Consumables category. The average number of stores in operation during the first quarter of fiscal 2013 was 6.1% higher than the average number of stores in operation during the first quarter of fiscal 2012. We had 7,566 stores in operation at the end of the first quarter of fiscal 2013 compared with 7,120 stores in operation at the end of the first quarter of fiscal 2012, representing an increase of 6.3%. As of November 24, 2012, we had, in the aggregate, approximately 54.2 million square feet of selling space compared to 50.8 million as of November 26, 2011.

Cost of Sales
Cost of sales increased 14.7% in the first quarter of fiscal 2013 compared to the first quarter of fiscal 2012. The increase was due primarily to additional sales volume. Cost of sales, as a percentage of net sales, was 65.9% in the first quarter of fiscal 2013 and 64.7% in the first quarter of fiscal 2012. Cost of sales, as a percentage of net sales, was negatively impacted by the significant shift in sales mix to lower-margin consumable merchandise, higher markdowns, and an increase in inventory shrinkage. These pressures were partially offset by an increase in the markups on the sales of merchandise and lower freight expense. The growth in sales of lower-margin consumables (73.9% of net sales in the first quarter of fiscal 2013 compared with 70.3% of net sales in the first quarter of fiscal 2012) as well as the softness in sales of discretionary items continues to pressure cost of sales as a percentage of net sales. We continue to use markdowns in our stores to drive revenue growth in a challenging macro-economic environment as well as increase market share. Inventory shrinkage increased during the first quarter of fiscal 2013 as compared to the first quarter of fiscal 2012 as a result of increased activities in the stores including renovations and significant merchandise expansions in fiscal 2012. We continue to focus on improving our purchase markups through the continued development of our private brand assortment, the expansion of our global sourcing efforts, and improved price management capabilities. The decrease in freight expense was a result of our changing business model as it relates to our


newly formed relationship with McLane, which results in less merchandise being handled through our own distribution network. Selling, General and Administrative Expenses Selling, general and administrative expenses ("SG&A") increased 11.5% in the first quarter of fiscal 2013 compared to the first quarter of fiscal 2012. The increase in these expenses was due in part to additional sales volume and additional costs arising from the continued growth in the number of stores in operation. SG&A expenses, as a percentage of net sales, were 28.9% in the first quarter of fiscal 2013 and 29.2% in the first quarter of fiscal 2012. Most expenses in the first quarter of fiscal 2013 were leveraged as a result of a 6.6% increase in comparable store sales. In addition, SG&A expenses, as a percentage of net sales, were leveraged as a result of a decrease in store payroll costs (approximately 0.3% of net sales). These improvements were offset by increased insurance expense (approximately 0.4% of net sales) and an increase in marketing expense (approximately 0.1% of net sales) in fiscal 2013, as compared to fiscal 2012.
The decrease in store payroll costs was a result of the continued benefit from improvements implemented to re-engineer many of our core store processes, which has increased workforce productivity. Over the past several years, we have improved our risk management programs and managed worker's compensation and general liability claims better. As a result of positive trends in overall claim frequency and the cost of each claim, we have reduced our liabilities related to prior year claims, which lowered our overall insurance expense. In the first quarter of fiscal 2012, our insurance expense benefited from these reductions in our liabilities related to prior year claims. In the first quarter of fiscal 2013, we did not receive any benefit related to changes in prior year claim liabilities, which led to the increase in insurance expense, as a percentage of net sales. Our marketing expense increased as a percentage of net sales as we expanded our customer communications, leveraged various marketing vehicles and improved our marketing and promotional materials. Investment Income
The change in investment income in the first quarter of fiscal 2013 compared to the first quarter of fiscal 2012 was not material. Interest Expense
The change in interest expense in the first quarter of fiscal 2013 compared to the first quarter of fiscal 2012 was not material. Other Income
The change in other income in the first quarter of fiscal 2013 compared to the first quarter of fiscal 2012 was not material. Income Taxes
The effective tax rate was 36.4% for the first quarter of fiscal 2013 compared with 37.4% for the first quarter of fiscal 2012. The decrease in the effective tax rate was due primarily to foreign tax benefits associated with our global sourcing efforts and favorable resolution of uncertain state tax positions, partially offset by a decrease in federal jobs tax credits. Liquidity and Capital Resources
General
We have consistently maintained a strong liquidity position. During the first quarter of fiscal 2013, our cash and cash equivalents increased $19.9 million. Our operating cash flows and credit facilities are sufficient to fund our regular operating needs, capital expenditure program, share repurchases, cash dividend payments, and principal and interest payments. We have availability under our two credit facilities to borrow up to $700 million (less standby letters of credit needed for collateral for our insurance programs of $20.3 million) to supplement operating cash flows. During the first quarter of fiscal 2013, to help supplement our operating cash flows and to support the build of inventory for the holiday season and other growth initiatives, we borrowed a net amount of $194.0 million under the credit facilities. We expect to repay this outstanding balance during the second quarter of fiscal 2013. Working capital at the end of the first quarter of fiscal 2013 was $615.0 million compared to $508.6 million at the end of the first quarter of fiscal 2012. We believe operating cash flows and capacity under existing credit facilities will continue to provide sufficient liquidity for our ongoing operations and growth initiatives.

Credit Facilities
On November 17, 2010, we entered into a new four-year unsecured revolving credit facility with a syndicate of lenders for borrowings of up to $400 million. The credit facility matures on November 17, 2014, and provides for two, one-year extensions that require lender consent. Any borrowings under the credit facility accrue interest at a variable rate based on short-term market interest rates. The credit facility replaced our previous 364-day $250 million unsecured revolving credit facility.


On August 17, 2011, we entered into a new five-year unsecured revolving credit facility with a syndicate of lenders for borrowings of up to $300 million. The credit facility matures on August 17, 2016, and provides for two, one-year extensions that require lender consent. Any borrowings under the credit facility accrue interest at a variable rate based on short-term market interest rates. The credit facility replaced our previous five-year $200 million unsecured credit facility.
As noted above, during the first quarter of fiscal 2013, we borrowed $598.0 million and re-paid $404.0 million under the credit facilities. Our borrowings during the first quarter of fiscal 2013 had a weighted-average interest rate of 1.5%. As of November 24, 2012, we had $209.0 million outstanding under the credit facilities. The credit facilities contain certain restrictive financial covenants, which include a consolidated debt to consolidated capitalization ratio, a fixed charge coverage ratio, and a priority debt to consolidated net worth ratio. As of November 24, 2012, we were in compliance with all such covenants.
Principal Payment
During the first quarter of fiscal 2013, we made a scheduled principal payment on our private placement notes in the amount of $16.2 million. The next principal payment of $16.2 million is due in September 2013.

Restricted Cash and Investments
We have restricted cash and investments that serve as collateral for certain of our insurance obligations that are held at our wholly owned captive insurance subsidiary. These restricted funds cannot be withdrawn from the Company's account without the consent of the secured party. As of November 24, 2012, the Company held $55.2 million in this restricted account, of which $46.7 million was included in Restricted Cash and Investments and $8.5 million was included in Other Assets in the Consolidated Condensed Balance Sheet. The classification between current and non-current is based on the timing of expected payments of the secured insurance obligations.
Additionally, in conjunction with the sale-leaseback transactions completed during fiscal 2012, certain proceeds from the transactions were placed into an escrow account with an independent third party in connection with a like-kind exchange transaction, which permits the deferral of a portion of the tax gain associated with the sale of the stores. We used these proceeds to purchase additional new stores and was required to do so within 180 days to realize the deferral. We held $34.2 million in this account as of November 24, 2012. These assets are classified as Restricted Cash and Investments in the Consolidated Condensed Balance Sheet. Subsequent to the end of the first quarter, on November 28, 2012, the 180 day realization period expired for the Company to realize the deferral and the remaining proceeds of $23.3 million held in the escrow account were returned to the Company free of restrictions.

Fee Development Program

We occupy most of our stores under operating leases. As part of our new store growth strategy, we have created a Fee
Development Program ("Fee Development Program"), intended to provide us with a more cost effective means to finance the construction of new and relocated store locations. Previously, developers would use their own capital to fund the construction of the stores, which they would then lease to us. Under this program, we work with select developers to construct the sites using our own investment grade credit rating to achieve a lower all-in cost. Upon completion of construction we own the stores. We intend to continue to use sale-leaseback transactions as a source of capital, providing additional liquidity for the Fee Development Program. As a result, we expect to achieve a lower cost of occupancy when compared to the previous program. During the first quarter of fiscal 2013, we constructed stores at a cost of $90.3 million under this program.

Subsequent to the first quarter of 2013, we completed a sale-leaseback transaction under which we sold 126 stores to an unrelated third party, with net proceeds from the sales of approximately $162.4 million. We realized a gain of approximately $73.1 million on the sale of the store, which we will amortize over the initial lease term of 15 years. In conjunction with the transaction, $48.1 million of the net proceeds was placed into an escrow account with an independent third party in connection with a like-kind exchange transaction, which permits the deferral of a portion of the tax gain associated with the sale of the stores. We intend to use these proceeds to purchase additional new stores and are required to do so within P180D days to realize the deferral. These proceeds will be classified as Restricted Cash and Investments in the Consolidated Condensed Balance Sheet in subsequent reporting periods. Other Considerations
Our merchandise inventories at the end of the first quarter of fiscal 2013 were 22.3% higher than at the end of the first quarter of fiscal 2012. Average inventory per store at the end of the first quarter of fiscal 2013 was 15.1% higher than average inventory per store at the end of the first quarter of fiscal 2012. The increases were due primarily to the expansion of our assortment of consumables merchandise, including tobacco.


Capital expenditures for the first quarter of fiscal 2013 were $196.4 million compared with $130.9 million for the first quarter of fiscal 2012. The increase in capital expenditures during the first quarter of fiscal 2013 relate primarily to the expansion of our Fee Development Program. Capital expenditures for fiscal 2013 are expected to be between $600 and $650 million. The planned increase in capital expenditures in fiscal 2013 is primarily made up of continued investments in new stores, including expenditures related to our Fee Development Program; investments related to renovations, relocations and expansions; and the completion of the construction of our 11th distribution center. We plan to open approximately 500 new stores and renovate, relocate or expand approximately 850 stores in fiscal 2013.
In the first quarter of fiscal 2013 we opened 125 stores, closed 1 store, and renovated, relocated or expanded 169 stores. The renovations are part of our multi-year comprehensive store renovation program intended to re-energize the Family Dollar brand. The renovations address both the interior and exterior of the stores, create more customer-focused assortments and layouts, and position more customer-centric teams. Store opening, closing, relocation, expansion, and renovation plans, as well as overall capital expenditure plans, are continually reviewed and may change.
During the first quarter of fiscal 2013, we purchased a total of 0.4 million shares of our common stock at a cost of $25.0 million, compared to 0.5 million shares at a cost of $27.4 million in the first quarter of fiscal 2012. On September 28, 2011, we announced that the Board of Directors authorized the Company to purchase up to $250 million of the Company's outstanding common stock. As of the end of the first quarter of fiscal 2013, the Company had $120.8 million remaining under the current authorization.
The timing and amount of any shares repurchased have been and will continue to be determined by management based on its evaluation of market conditions and other factors. Our share repurchase program does not have a stated expiration date, and purchases may be made through open market purchases, private market transactions or other structured transactions.
In addition to the Restricted Cash and Investments noted in Note 4, our wholly-owned captive insurance subsidiary maintains additional balances in cash and cash equivalents and investment securities that are used in connection with our retained workers' compensation, general liability and automobile liability risks and are not designated for general corporate purposes. As of the end of the first quarter of fiscal 2013, these cash and cash equivalents and investment securities balances (including Restricted Cash and Investments) were $5.6 million, and $89.7 million, respectively. Cash Flows From Operating Activities
During the first quarter of fiscal 2013, we had a cash outflow from operating activities of $27.8 million compared to a cash outflow of $46.7 million in the first quarter of fiscal 2012. The change was due primarily to changes in accounts payable and accrued liabilities, offset partially by increases in merchandise inventories and prepayments and other current assets, all in the ordinary course of business.
Cash Flows From Investing Activities
During the first quarter of fiscal 2013, we had a cash outflow from investing activities of $152.3 million compared to a cash outflow of $74.4 million in the first quarter of fiscal 2012. The change was due primarily to an increase in capital expenditures. The increase in capital expenditures during the first quarter of fiscal 2013 relate primarily to the expansion of our Fee Development Program.
Cash Flows From Financing Activities
During the first quarter of fiscal 2013, we had a cash inflow from financing activities of $200.0 million compared to a cash inflow of $83.4 million during the first quarter of fiscal 2012. The increase was due primarily net proceeds from borrowings on our line of credit.
Recent Accounting Pronouncements

There have been no recent accounting pronouncements or changes in accounting pronouncements that impacted the first quarter of fiscal 2013, or which are expected to impact future periods, that were not already adopted and disclosed in prior periods.
Critical Accounting Policies
Our financial statements have been prepared in accordance with accounting policies generally accepted in the United States of America. Our discussion and analysis of our financial condition and results of operations are based on these financial statements. The preparation of these financial statements requires the application of accounting policies in addition to certain


estimates and judgments by our management. Our estimates and judgments are based on currently available information, historical results and other assumptions we believe are reasonable. Actual results could differ from these estimates. There have been no material changes to the Critical Accounting Policies disclosed in our Annual Report on Form 10-K for fiscal 2012. Cautionary Statement Regarding Forward-Looking Statements

Certain statements contained in this Report, or in other public filings, press releases, or other written or oral communications made by Family Dollar or our representatives, which are not historical facts, are forward-looking statements that are subject to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. These forward-looking statements address, among other things, our plans, activities or events which we expect will or may occur in the future and may include express or implied projections of revenue or expenditures; statements of plans and objectives for future operations, growth or initiatives; statements of future economic performance, including, but not limited to, investment and financing plans, net sales, comparable store sales, cost of sales, selling, general and administrative ("SG&A") expenses, earnings per diluted share, dividends and share repurchases; or statements regarding the outcome or impact of pending or threatened litigation. These forward-looking statements may be identified by the use of the words "believe," "plan," "estimate," "expect," "anticipate," "probably," "should," "project," "intend," "continue," and other similar terms and expressions. Various risks, uncertainties and other factors may cause our actual results to differ materially from those expressed or implied in any forward-looking statements. Factors, uncertainties and risks that may result in actual results differing from such forward-looking information include, but are not limited to, those listed in Part I - Item 1A of our Annual Report on Form 10-K for fiscal 2012, as well as other factors discussed throughout this Report, including, without limitation, the factors described under "Critical Accounting Policies" in Part I
- Item 2 above, or in other filings or statements made by us. All of the forward-looking statements in this Report and other documents or statements are qualified by these and other factors, risks and uncertainties.

You should not place undue reliance on the forward-looking statements included . . .

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