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IMKTA > SEC Filings for IMKTA > Form 10-Q on 6-Aug-2013All Recent SEC Filings

Show all filings for INGLES MARKETS INC | Request a Trial to NEW EDGAR Online Pro

Form 10-Q for INGLES MARKETS INC


6-Aug-2013

Quarterly Report


Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Overview

Ingles, a leading supermarket chain in the Southeast, operates 204 supermarkets in Georgia (74), North Carolina (70), South Carolina (36), Tennessee (21), Virginia (2) and Alabama (1). The Company locates its supermarkets primarily in suburban areas, small towns and rural communities. Ingles supermarkets offer customers a wide variety of nationally advertised food products, including grocery, meat and dairy products, produce, frozen foods and other perishables and non-food products, including health and beauty care products and general merchandise, as well as quality private label items. In addition, the Company focuses on selling high-growth, high-margin products to its customers through the development of book sections, media centers, floral departments, premium coffee kiosks, certified organic products, bakery departments and prepared foods including delicatessen sections. As of June 29, 2013, the Company operated 84 in-store pharmacies and 74 fuel centers.

Ingles also operates two other lines of business, fluid dairy processing and shopping center rentals. The fluid dairy processing segment sells approximately 31% of its products to the retail grocery segment and approximately 69% of its products to third parties. Real estate ownership (including the shopping center rental segment) is an important component of the Company's operations, providing both operational and economic benefits.

Critical Accounting Policies

Critical accounting policies are those accounting policies that management believes are important to the portrayal of the Company's financial condition and results of operations, and require management's most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain. Estimates are based on historical experience and other factors believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Management estimates, by their nature, involve judgments regarding future uncertainties, and actual results may therefore differ materially from these estimates.

Self-Insurance

The Company is self-insured for workers' compensation and group medical and dental benefits. Risks and uncertainties are associated with self-insurance; however, the Company has limited its exposure by maintaining excess liability coverage of $750,000 per occurrence for workers' compensation, $500,000 for general liability, and $325,000 per covered person for medical care benefits for a


policy year. Self-insurance liabilities are established based on claims filed and estimates of claims incurred but not reported. The estimates are based on data provided by the respective claims administrators. These estimates can fluctuate if historical trends are not predictive of the future. The majority of the Company's properties are self-insured for casualty losses and business interruption; however, liability coverage is maintained. At June 29, 2013, the Company's self insurance reserves totaled $28.8 million for employee group insurance, workers' compensation insurance and general liability insurance.

Asset Impairments

The Company accounts for the impairment of long-lived assets in accordance with Financial Accounting Standards Board Accounting Standards Codification ("FASB ASC") Topic 360. For assets to be held and used, the Company tests for impairment using undiscounted cash flows and calculates the amount of impairment using discounted cash flows. For assets held for sale, impairment is recognized based on the excess of remaining book value over expected recovery value. The recovery value is the fair value as determined by independent quotes or expected sales prices developed by internal associates. Estimates of future cash flows and expected sales prices are judgments based upon the Company's experience and knowledge of local operations and cash flows that are projected for several years into the future. These estimates can fluctuate significantly due to changes in real estate market conditions, the economic environment, capital spending decisions and inflation. The Company monitors the carrying value of long-lived assets for potential impairment each quarter based on whether any indicators of impairment have occurred. There were no asset impairments during the three- or nine-month periods ended June 29, 2013.

Closed Store Accrual

For closed properties under long-term lease agreements, a liability is recognized and expensed based on the difference between the present value of any remaining liability under the lease and the present value of the estimated market rate at which the Company expects to be able to sublease the properties, in accordance with FASB ASC Topic 420. The Company's estimates of market rates are based on its experience, knowledge and third-party advice or market data. If the real estate and leasing markets change, sublease recovery could vary significantly from the recoveries originally assumed, resulting in a material change in the Company's recorded liability. The closed store accrual is included in the line item "Accrued expenses and current portion of other long-term liabilities" on the Unaudited Condensed Consolidated Balance Sheets. The closed store accrual was not material to the Unaudited Condensed Consolidated Balance Sheet.

Vendor Allowances

The Company receives funds for a variety of merchandising activities from the many vendors whose products the Company buys for resale in its stores. These incentives and allowances are primarily comprised of volume or purchase based incentives, advertising allowances, slotting fees, and promotional discounts. The purpose of these incentives and allowances is generally to help defray the costs incurred by the Company for stocking, advertising, promoting and selling the vendor's products. These allowances generally relate to short term arrangements with vendors, often relating to a period of a month or less, and are negotiated on a purchase-by-purchase or transaction-by-transaction basis. Whenever possible, vendor discounts and allowances that relate to buying and merchandising activities are recorded as a component of item cost in inventory and recognized in merchandise costs when the item is sold. Due to system constraints and the nature of certain allowances, it is sometimes not practicable to apply allowances to the item cost of inventory. In those instances, the allowances are applied as a reduction of merchandise costs using a rational and systematic methodology, which results in the recognition of these incentives when the inventory related to the vendor consideration received is sold. Vendor allowances applied as a reduction of merchandise costs totaled $29.4 million and $29.0 million for the fiscal quarters ended June 29, 2013 and June 23, 2012, respectively. For the nine-month periods ended June 29, 2013 and June 23, 2012, vendor allowances applied as a reduction of merchandise costs totaled $93.1 million and $84.4 million, respectively. Vendor advertising allowances that represent a reimbursement of specific identifiable incremental costs of advertising the vendor's specific products are recorded as a reduction to the related expense in the period in which the related expense is incurred. Vendor advertising allowances recorded as a reduction of advertising expense totaled $3.3 million for the fiscal quarter ended June 29, 2013 and $3.1 million for the fiscal quarter ended June 23, 2012. For the nine-month periods ended June 29, 2013 and June 23, 2012, vendor advertising allowances recorded as a reduction of advertising expense totaled $10.8 million and $9.7 million, respectively.

If vendor advertising allowances were substantially reduced or eliminated, the Company would likely consider other methods of advertising, as well as the volume and frequency of the Company's product advertising, which could increase or decrease the Company's expenditures.

Similarly, the Company is not able to assess the impact of vendor advertising allowances on creating additional revenue, as such allowances do not directly generate revenue for the Company's stores.

Uncertain Tax Positions

Despite the Company's belief that its tax positions are consistent with applicable tax laws, the Company believes that certain positions are likely to be challenged by taxing authorities. Settlement of any challenge can result in no change, a complete disallowance, or


some partial adjustment reached through negotiations or litigation. Significant judgment is required in evaluating the Company's tax positions. The Company's positions are evaluated in light of changing facts and circumstances, such as the progress of its tax audits as well as evolving case law. Income tax expense includes the impact of provisions for and changes to uncertain tax positions as the Company considers appropriate. Unfavorable settlement of any particular position would require use of cash. Favorable resolution would be recognized as a reduction to income tax expense at the time of resolution.

Results of Operations

Ingles operates on a 52 or 53-week fiscal year ending on the last Saturday in September. There are 13 and 39 weeks of operations included in the unaudited Condensed Consolidated Statements of Income for the three and nine-month periods ended June 29, 2013 and June 23, 2012. Comparable store sales are defined as sales by grocery stores in operation for five full fiscal quarters. Management analyzes comparable store sales for the 13 and 39 weeks ended June 29, 2013 with the corresponding 13 and 39 calendar weeks of the previous year, which may be different from the 13 and 39 weeks used for the previous year's financial statements. Sales from replacement stores, major remodels, minor remodels and the addition of fuel stations to existing stores are included in the comparable store sales calculation from the date thereof. A replacement store is a new store that is opened to replace an existing nearby store that is closed. A major remodel entails substantial remodeling of an existing store and may include additional retail square footage. For the three and nine-month periods ended June 29, 2013 and June 23, 2012, comparable store sales include 203 stores.

The following table sets forth, for the periods indicated, selected financial information as a percentage of net sales. For information regarding the various segments of the business, see Note I "Segment Information" to the Condensed Consolidated Financial Statements.

                                          Three Months Ended        Nine Months Ended
                                         June 29,     June 23,     June 29,    June 23,
                                           2013         2012         2013        2012
Net sales                                 100.0  %     100.0  %    100.0  %     100.0  %
Gross profit                               22.6  %      22.4  %     22.2  %      22.1  %
Operating and administrative expenses      19.1  %      18.8  %     19.0  %      18.9  %
Rental income, net                             - %       0.1  %         - %       0.1  %
Gain from sale or disposal of assets           - %          - %      0.1  %          - %
Income from operations                      3.5  %       3.8  %      3.4  %       3.3  %
Other income, net                           0.1  %       0.1  %      0.1  %       0.1  %
Interest expense                            1.7  %       1.6  %      1.7  %       1.7  %
Loss on early extinguishment of debt        4.6  %          - %      1.6  %          - %

Income tax expense (benefit) (1.2) % 0.8 % - % 0.6 % Net income (loss) (1.6) % 1.4 % 0.2 % 1.1 %

Three Months Ended June 29, 2013 Compared to the Three Months Ended June 23, 2012

Net loss for the third quarter of fiscal 2013 totaled $14.4 million, compared with net income of $13.1 million earned for the third quarter of fiscal 2012. During the third quarter of fiscal 2013, the Company incurred $43.1 million of pre-tax debt extinguishment costs in conjunction with refinancing the majority of its borrowing arrangements at lower interest rates and on more favorable terms.

Net Sales. Net sales increased $14.2 million, or 1.5% to $931.9 million for the three months ended June 29, 2013 from $917.8 million for the three months ended June 23, 2012. Excluding gasoline, net sales increased 1.0%. Ingles operated 204 stores at June 29, 2013, and 203 stores at June 23, 2012. Retail square footage was approximately 11.1 million at June 29, 2013 and 11.0 million at June 23, 2012.


Grocery segment sales grew $13.5 million, or 1.5% in the third quarter of fiscal 2013 compared to the third quarter of fiscal 2012. Easter occurred during the second quarter of fiscal 2013 and occurred in the third quarter of fiscal 2012. Comparable store sales, excluding the effect of gasoline and the extra Easter sales in the last year's third fiscal quarter, increased 1.4%. Retail gasoline sales prices decreased approximately 5% and the number of gallons sold increased approximately 10% during the third quarter of fiscal 2013 compared with the third quarter of fiscal 2012. The number of customer transactions (excluding gasoline) increased 0.8%, and the average transaction size (excluding gasoline) increased slightly.

Sales by product category (amounts in thousands) are as follows:

                          Three Months Ended
                         June 29,     June 23,
                           2013         2012
Grocery                 $ 344,742    $ 349,250
Non-foods                 178,402      177,672
Perishables               229,523      218,322
Gasoline                  146,868      140,772
Total grocery segment   $ 899,535    $ 886,016

The grocery category includes grocery, dairy, and frozen foods.

The non-foods include alcoholic beverages, tobacco, pharmacy, health and video.

The perishables category includes meat, produce, deli and bakery.

Changes in grocery segment sales for the quarter ended June 29, 2013 are summarized as follows (dollars in thousands):

Total grocery sales for the three months ended June 23, 2012         $ 886,016
Comparable store sales increase (including gasoline)                    12,368
Effect of Easter in third quarter of fiscal 2012                        (8,176)
Impact of stores opened in fiscal 2013                                   6,305
Other, including effect of calendar week vs fiscal week comparison       3,022
Total grocery sales for the three months ended June 29, 2013         $ 899,535

Net sales to outside parties for the Company's milk processing subsidiary increased $0.6 million, or 2.0%, in the June 2013 quarter compared to the June 2012 quarter. The sales increase is attributable to a 10.9% increase in raw milk costs, offset by a decrease in the volume of gallons sold.

Gross Profit. Gross profit for the three-month period ended June 29, 2013 increased $4.4 million, or 2.1%, to $210.3 million, or 22.6% of sales, compared to $205.9 million, or 22.4% of sales, for the three-month period ended June 23, 2012.

Grocery segment gross profit as a percentage of total sales was affected by a more favorable mix of products sold and by lower gasoline margins. Excluding gasoline sales, grocery segment gross profit as a percentage of sales increased 49 basis points in the third quarter of fiscal 2013 compared with the same fiscal 2012 period.

Gross profit for the Company's milk processing subsidiary for the June 2013 quarter increased $0.2 million, or 4.5%, to $5.1 million, or 11.2% of sales, compared to $4.9 million, or 10.8% of sales for the June 2012 quarter. Raw milk prices were higher during the June 2013 quarter, and the cents per gallon margin increased over the comparable third fiscal quarters.

In addition to the direct product cost, the cost of goods sold line item for the grocery segment includes inbound freight charges and the costs related to the Company's distribution network. The milk processing segment is a manufacturing process; therefore, the costs mentioned above as well as purchasing, production costs, and internal transfer costs incurred by the milk processing segment are included in the cost of goods sold line item, while these items are included in operating and administrative expenses in the grocery segment.

Operating and Administrative Expenses. Operating and administrative expenses increased $5.5 million, or 3.2%, to $177.8 million for the three months ended June 29, 2013, from $172.3 million for the three months ended June 23, 2012. As a percentage of sales, operating and administrative expenses were 19.1% for the three months ended June 29, 2013 compared to 18.8% for the three months ended June 23, 2012. Excluding gasoline sales and associated gasoline operating expenses (primarily payroll), operating expenses were 22.5% of sales for the third fiscal quarter of 2013 compared with 22.0% of sales for the third fiscal quarter of 2012.


A breakdown of the major increases in operating and administrative expenses is as follows:

                                                 Increase
                                  Increase      as a % of
                                 in millions      sales
Salaries and wages              $        3.6       0.38  %
Depreciation and amortization   $        1.5       0.16  %
Taxes and licenses              $        1.0       0.11  %
Store supplies                  $        0.7       0.07  %
Repairs and maintenance         $        0.5       0.05  %

Salaries and wages increased in dollars due to additional labor hours required for the increased sales volume, including the opening of a new store at the beginning of the third 2013 fiscal quarter.

Depreciation and amortization increased as a result of equipment purchases related to the larger number of interior store remodels.

Taxes and licenses increased as a result of municipal license increases and costs related to new locations and services.

Store supplies increased in conjunction with the Company's program to improve the appearance, layout and convenience in a number of stores.

Repairs and maintenance increased as a result of additional outsourced services.

Rental Income, Net. Rental income, net totaled $0.3 million for the June 2013 quarter compared with $0.5 million for the June 2012 quarter. Vacancies increased slightly during the current year fiscal quarter.

Gain from Sale or Disposal of Assets. Gain from Sale or Disposal of Assets was insignificant for the June 2013 quarter compared with $0.5 million for the June 2012 quarter. There were no significant sale or disposal transactions in the third quarter of either fiscal 2013 or 2012.

Other Income, Net. Other income, net totaled $0.8 million and $0.9 million for the three-month periods ended June 29, 2013 and June 23, 2012, respectively. The principal component of other income is waste paper and packaging sales.

Interest Expense. Interest expense increased $1.1 million for the three-month period ended June 29, 2013 to $16.0 million from $14.9 million for the three-month period ended June 23, 2012. Total debt at June 2013 was $934.5 million compared to $846.1 million at June 2012. Much of the debt increase took place late in the third fiscal quarter of 2013, as more fully described in the section "Liquidity and Capital Resources".

Loss on Early Extinguishment of Debt. In connection with the early payoff of the $575.0 million senior notes due 2017, the Company paid $27.8 million in debt extinguishment costs and expensed $15.3 million of unamortized loan costs.

Income Taxes. As a result of the loss on early extinguishment of debt, the Company incurred a net loss before income taxes and recorded an income tax benefit during the third quarter of fiscal 2013. Income tax expense as a percentage of pre-tax income was 37.0% in the June 2012 quarter.

Net Income (loss). Net loss totaled $14.4 million for the three-month period ended June 29, 2013. Basic and diluted loss per share for Class A Common Stock were each $0.62 for the June 2013 quarter. Basic and diluted loss per share for Class B Common Stock were each $0.56 for the June 2013 quarter. Net income totaled $13.1 million, 1.4% of sales, for the three-month period ended June 23, 2012. Basic and diluted earnings per share for Class A Common Stock were $0.56 and $0.54, respectively, for the June 2012 quarter. Basic and diluted earnings per share for Class B Common Stock were each $0.51 for the June 2012 quarter.

Nine Months Ended June 29, 2013 Compared to the Nine Months Ended June 23, 2012

Net income for the first nine months of fiscal 2013 totaled $5.2 million, compared with net income of $30.2 million earned for the first nine months of fiscal 2012. Excluding the $43.1 million of pretax debt extinguishment costs incurred during the fiscal 2013 period, income before income taxes totaled $48.9 million, an increase of $2.1 million, or 4.5% over the comparable nine-month period of fiscal 2012.

Net Sales. Net sales for the nine months ended June 29, 2013 increased 2.4% to $2.78 billion, compared to $2.72 billion for the nine months ended June 23, 2012. Excluding gasoline, net sales increased 2.2%. The average per gallon retail price of gasoline was


approximately 1% lower and the number of gallons sold approximately 5% higher comparing the nine months of fiscal 2013 with the previous year.

Grocery segment comparable store sales excluding gasoline for the nine-month period grew $41.6 million, or 1.9%. The number of customer transactions (excluding gasoline) increased 1.8%, while the average transaction size (excluding gasoline) increased slightly.

Sales by product category (amounts in thousands) are as follows:

                             Nine Months Ended
                          June 29,       June 23,
                            2013           2012
Grocery                 $ 1,075,061    $ 1,067,885
Non-foods                   526,783        520,324
Perishables                 667,905        630,770
Gasoline                    415,956        400,566
Total grocery segment   $ 2,685,705    $ 2,619,545

The grocery category includes grocery, dairy, and frozen foods.

The non-foods include alcoholic beverages, tobacco, pharmacy, health and video.

The perishables category includes meat, produce, deli and bakery.

Changes in grocery segment sales for the nine months ended June 29, 2013 can be summarized as follows (dollars in thousands):

Total grocery sales for the nine months ended June 23, 2012          $ 2,619,545
Comparable store sales increase (including gasoline)                      55,418
Impact of stores opened in fiscal 2013                                     6,305
Other, including effect of calendar week vs fiscal week comparison         4,437
Total grocery sales for the nine months ended June 29, 2013          $ 2,685,705

Net sales to outside parties for the Company's milk processing subsidiary decreased $0.5 million, or 0.5%, in the June 2013 nine-month period compared to the June 2012 nine-month period. The sales decrease is attributable to higher raw milk prices, offset by decreased gallons sold.

The Company expects comparable store sales growth for the remainder of fiscal 2013 to approximate the rate of growth experienced in the first nine months of this fiscal year. Sales growth for the remainder of fiscal year 2013 will be influenced to some extent by market fluctuations in the per gallon price of gasoline and milk, changes in commodity prices and general economic conditions. The spring and summer of fiscal 2013 have been unusually wet in much of the Company's market area, which has impacted outdoor activities that benefit the Company's sales. The Company also expects that the maturation of new and remodeled stores will contribute to sales growth.

Gross Profit. Gross profit for the nine months ended June 29, 2013 increased $16.4 million, or 2.7%, to $616.5 million compared to $600.1 million, for the nine months ended June 23, 2012. As a percentage of sales, gross profit totaled 22.2% for the nine months ended June 29, 2013 and 22.1% for the nine months ended June 23, 2012.

Grocery segment gross profit as a percentage of total sales was affected by a more favorable mix of products sold and by lower gasoline margins. Excluding gasoline sales, grocery segment gross profit as a percentage of sales increased 19 basis points for the first nine months of fiscal 2013 compared with the same fiscal 2012 period.

Gross profit for the Company's milk processing subsidiary for the June 2013 nine month period increased $0.2 million, or 1.5%, to $15.6 million, or 11.0% of sales, compared to $15.4 million, or 10.9% of sales for the June 2012 nine month period. Raw milk prices and the cents per gallon margin were slightly higher during the June 2013 period.

Operating and Administrative Expenses. Operating and administrative expenses increased $14.4 million, or 2.8%, to $527.6 million for the nine months ended June 29, 2013, from $513.2 million for the nine months ended June 23, 2012. As a percentage of sales, operating and administrative expenses were 19.0% for the June 2013 nine-month period compared with 18.9% for the same period last year. Excluding gasoline sales and associated gasoline operating expenses (primarily payroll), operating expenses were 22.1% of sales for the nine-month fiscal 2013 period compared to 22.0% for the same period of fiscal 2012.


A breakdown of the major increases in operating and administrative expenses is as follows:

                                      Increase
                       Increase      as a % of
                      in millions      sales
Salaries and wages   $        9.9       0.36  %
Insurance expenses   $        2.2       0.08  %
Taxes and licenses   $        1.9       0.07  %
Store supplies       $        1.9       0.07  %

Salaries and wages increased in dollars due to additional labor hours required for the increased sales volume, including the opening of a new store at the beginning of the third 2013 fiscal quarter.

Insurance expense increased due to higher claims under the Company's self-insurance programs.

Taxes and licenses increased as a result of municipal license increases and costs related to new locations and services.

Store supplies increased in conjunction with the Company's program to improve the appearance, layout and convenience in a number of stores.

Rental Income, Net. Rental income, net decreased $0.3 million to $1.0 million in the June 2013 nine-month period from $1.3 million in the June 2012 comparable period. Vacancies increased slightly during the current year period.

Gain from sale or disposal of assets. During the second quarter of fiscal 2013, the Company sold a former store property for $7.5 million and recognized a pre-tax gain of $3.9 million. There were no significant sale or disposal transactions during the first nine months of fiscal 2012.

Other Income, Net. Other income, net totaled $2.1 million for the nine-month . . .

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