| BACKGROUND AND BASIS OF PRESENTATION | BACKGROUND AND BASIS OF PRESENTATION Background Sears Hometown and Outlet Stores, Inc. is a national retailer primarily focused on selling home appliances, lawn and garden equipment, and tools. As of May 4, 2019 the Company or its dealers and franchisees operated a total of 639 stores across 49 states, Puerto Rico, and Bermuda. In these notes and elsewhere in this Quarterly Report on Form 10-Q the terms “we,” “us,” “our,” “SHO,” and the “Company” refer to Sears Hometown and Outlet Stores, Inc. and its subsidiaries. Our common stock trades on the NASDAQ Stock Market under the trading symbol “SHOS.” 2012 Separation The Company separated from Sears Holdings Corporation (“Sears Holdings”) in October 2012 (the “2012 Separation”). The Company has specified rights to use the "Sears" name under a license agreement from Transform Holdco LLC (as assignee from Sears Holdings). Basis of Presentation These unaudited Condensed Consolidated Financial Statements include the accounts of Sears Hometown and Outlet Stores, Inc. and its subsidiaries, all of which are wholly owned. These unaudited Condensed Consolidated Financial Statements do not include all of the information and footnotes required in annual consolidated financial statements prepared in accordance with accounting principles generally accepted in the United States of America ("GAAP"). In the opinion of management, all adjustments (which include normal recurring adjustments) considered necessary for a fair presentation have been included. Operating results for the 13 weeks ended May 4, 2019 are not necessarily indicative of the results that may be expected for the full fiscal year. These financial statements and related notes should be read in conjunction with the audited consolidated financial statements and notes thereto included in our Annual Report on Form 10-K for the fiscal year ended February 2, 2019 (the "2018 10-K"). We operate through two segments--our Sears Hometown segment ("Hometown") and our Sears Outlet segment ("Outlet"). Our first fiscal-quarter end is the Saturday closest to April 30. For 2019 and 2018 , our first fiscal quarters ended as follows: Fiscal Year First Quarter Ended Weeks 2019 May 4, 2019 13 2018 May 5, 2018 13 Our fiscal year end is the Saturday closest to January 31. Our 2019 fiscal year will end February 1, 2020. Unless otherwise stated, references to specific years and quarters in these notes are to fiscal years and fiscal quarters, respectively. The Company's Merger Agreement with Transform Holdco LLC The Company, Transform Holdco LLC (“Transform”), an affiliate of Edward S. Lampert (“ESL”), and Transform Merger Corporation, a wholly owned subsidiary of Transform (“Merger Subsidiary”), have entered into an Agreement and Plan of Merger dated as of June 1, 2019 (the “Merger Agreement”) pursuant to which Merger Subsidiary will merge with and into the Company (the “Merger”) after first affording the Company an opportunity for a specified period of time to sell the Company’s Sears Outlet and Buddy’s Home Furnishing Stores businesses (together, the “Outlet Segment”) to a third party. At the completion of the Merger, each share of the Company’s outstanding common stock not owned by ESL and his affiliates will be converted into the right to receive an amount in cash equal to $2.25 per share (the “Base Merger Consideration”), subject to an upward adjustment in the event a sale of the Outlet Segment (an “Outlet Sale”) has occurred that satisfies criteria specified in the Merger Agreement (the “Sale Criteria”). The Sale Criteria include that (i) the Outlet Sale will result in net proceeds (after taking account of specified deductions, including transaction fees, expenses and taxes incurred by the Company in connection with the sale, and any excess net working capital transferred to the buyer of the Outlet Segment) to the Company of not less than $97.5 million (the “Outlet Sale Minimum Proceeds”), (ii) an Outlet Sale agreement is entered into with a third party buyer not later than August 24, 2019 (extendable by ten days in specified circumstances) and (iii) the Outlet Sale has been completed by October 23, 2019 (extendable by fifteen days in specified circumstances). The per share upward adjustment to the Base Merger Consideration, if any, will be calculated by dividing (i) the excess, if any, of the net proceeds received by the Company as a result of the Outlet Sale over the Outlet Sale Minimum Proceeds by (ii) the aggregate number of shares of Company common stock and unvested Company restricted stock units issued and outstanding as of the closing of the Merger. Under the terms of the Merger Agreement, Transform will have the opportunity to match the economic terms of any proposed Outlet Sale to a third party that is expected to result in net proceeds to the Company of less than $120 million The Merger is expected to close in the Company’s third fiscal quarter of 2019, subject to the satisfaction of specified closing conditions. ESL, together with his affiliates, owns more than 58% of the outstanding shares of the Company’s common stock. The Merger Agreement was negotiated on behalf of the Company, and approved by, a special committee of the Company’s Board of Directors consisting of a director who is independent and disinterested. The Company's Relationship with Sears Holdings and Transform Subsequent to the 2012 Separation and until mid-February 2019 we had significant business relationships with Sears Holdings and its subsidiaries, and we relied on them for merchandise and services through various agreements among the Company, Sears Holdings and, in some circumstances, subsidiaries of Sears Holdings (together the “Operative Agreements”). During October 2018, Sears Holdings and many of its subsidiaries (together the “Sears Holdings Companies”) filed voluntary petitions in the United States Bankruptcy Court for the Southern District of New York seeking relief under Chapter 11 of Title 11 of the United States Code. The Company, which is not a subsidiary of Sears Holdings, is not included in the bankruptcy petitions filed by the Sears Holdings Companies, and neither the Company nor its subsidiaries have filed a bankruptcy petition. As part of the Sears Holdings Companies' bankruptcy proceedings Transform acquired most of the operating assets (including Sears stores) and related assets of the Sears Holdings Companies (together the “Sears Assets”), and the Operative Agreements were assigned by the Sears Holdings Companies to, and the obligations thereunder were assumed by, Transform on or about February 11, 2019. Senior ABL Facility and Term Loan The Company is party to an Amended and Restated Credit Agreement with a syndicate of lenders, including Bank of America, N.A., as administrative agent and collateral agent, which provides (subject to availability under a borrowing base) for aggregate maximum borrowings of $170 million (the “Senior ABL Facility”). The Company is also a party to a Term Loan Agreement with Gordon Brothers Finance Company, as agent, lead arranger, and sole bookrunner, and Gordon Brothers Finance Company, LLC, as lender (the “Term Loan”). See Note 9 Financing Arrangements. The Senior ABL Facility will mature on the earliest of the following dates: (1) February 29, 2020; (2) six months prior to the expiration of specified "Separation Agreements" (which term is defined in the Senior ABL Facility to include specified Operative Agreements) unless the Separation Agreements are extended to a date later than February 29, 2020 or are terminated on a basis reasonably satisfactory to the Senior ABL lenders; and (3) acceleration of the maturity date following an event of default in accordance with the Senior ABL Facility. The Term Loan will mature on the earliest of (1) the maturity date specified in the Senior ABL Facility, (2) February 16, 2023, and (3) acceleration of the maturity date following an event of default in accordance with the Term Loan Agreement. The Senior ABL Facility and the Term Loan Agreement each provides that the termination of "the Separation Agreements" is an event of default thereunder, which could result in all amounts outstanding becoming immediately due and payable. The Company and specified subsidiaries have entered into an Amendments Agreement dated March 12, 2019 with Transform and its subsidiaries party thereto, as assignees. The Amendments Agreement extends until February 1, 2023 the duration of those Separation Agreements that by their express terms would have expired on February 1, 2020 (October 11, 2022 with respect to the Shop Your Way Rewards Retail Establishment Agreement). The Company is subject to Accounting Standards Update 2014-15, Presentation of Financial Statements - Going Concern, codified as Accounting Standards Codification (ASC) 205-40 (the "Accounting Evaluation Requirements"), which requires management to evaluate an entity’s ability to continue as a going concern within one year after the date that the financial statements are issued (or, in certain cases, available to be issued). ASC 205-40 states that conditions or events that raise "substantial doubt" about an entity’s ability to continue as a going concern typically relate to the entity’s ability to meet its obligations as they become due, generally within one year after the date that the financial statements are issued. The evaluation of whether substantial doubt is raised does not take into account the potential mitigating effect of management’s plans that have not been fully implemented. If conditions or events indicate that substantial doubt is raised, management is required to evaluate whether its plans that are intended to mitigate those conditions and events will alleviate substantial doubt. ASC 205-40 specifies that management may consider its plans only when it is "probable" that those plans will be effectively implemented and that the plans will mitigate the relevant conditions and events within one year after the financial statements are issued. This probability determination is based on the specific facts and circumstances of the entity and involves significant judgment. As a result of our inability to conclude at this time that the refinancing of the Senior ABL Facility and the Term Loan will occur before their February 2020 maturity dates, and due to the uncertain impact on our business and financial performance associated with ongoing operating losses in our Hometown segment, "substantial doubt" (as defined by the Accounting Evaluation Requirements) is deemed to exist about our ability to continue as a going concern for the purposes of the Accounting Evaluation Requirements. We note, however, that we expect we will complete the Merger in accordance with the Merger Agreement during the Company's fiscal third quarter of 2019 prior to the maturity of the Senior ABL Facility and the Term Loan. The May 3, 2019 report of the Company's independent registered public accounting firm that accompanied the Consolidated Financial Statements included in the Annual Report on Form 10-K incorporated the firm's audit opinion, which expressed "Going Concern Uncertainty" (hereinafter the "Going Concern Uncertainty"). The Senior ABL Facility and the Term Loan Agreement provide that the Company's inability to obtain from the Company's independent registered public accounting firm a report and opinion that "shall not be subject to any 'going concern' or like qualification or exception" constitutes an event of default, which would give the Senior ABL Facility and the Term Loan Agreement lenders the right to accelerate the maturity of all outstanding loans, among other actions. The Senior ABL Facility and the Term Loan Agreement lenders have waived through October 31, 2019 any default resulting from the Going Concern Uncertainty. Reclassifications Certain amounts have been reclassified in order to conform to the current-period presentation. Revenue Recognition Revenues from contracts with customers include sales of merchandise, commissions on merchandise sales made through www.sears.com, Company websites, services and extended-service plans, financing programs, and delivery and handling revenues related to merchandise sold. Revenue is measured based on the amount of fixed consideration that we expect to receive, reduced by estimates for variable consideration such as returns. Revenue also excludes any amounts collected from customers and remitted or payable to governmental authorities. In arrangements where we have multiple performance obligations, the transaction price is allocated to each performance obligation using the relative stand-alone selling price. We recognize revenues from retail operations upon the transfer of control of goods to the customer. We satisfy our performance obligations at the point of sale for retail store transactions and upon delivery for online transactions. We defer revenue for retail store and online transactions including commissions on extended-service plans, where we have received consideration but have not transferred control of the goods to the customer at the end of the period. The performance obligation is generally satisfied in the following reporting period. The balance of deferred revenue was $15.1 million and $11.9 million at May 4, 2019 and February 2, 2019 , respectively. The change in deferred revenue represents additional revenue deferred during the first quarter of 2019 . We recognize revenues from commissions on services, and delivery and handling revenues related to merchandise sold, at the point of sale as we are not the primary obligor with respect to such services and have no future obligations for future performance. Commissions earned on services, and delivery and handling revenues are presented net of related costs because we are acting as an agent in arranging the services for the customer and do not control the services being rendered. The Company accepts Transform's Sears gift cards as tender for purchases and is reimbursed weekly by Transform for gift cards tendered. Refund Liability and Right of Return Asset Revenues from merchandise sales and services are reported net of estimated returns and allowances and exclude sales taxes. The typical return period is 30 days. The refund liability for returns is calculated as a percentage of sales based on historical return percentages. Estimated returns are recorded as a reduction of revenues. The refund liability was $2.9 million at May 4, 2019 and February 2, 2019 . We also recognize a return asset, and corresponding adjustment to cost of sales, for our right to recover the goods returned by the customer, measured at the former carrying amount of the goods, less any expected recovery cost. The right of return asset was $1.4 million at May 4, 2019 and February 2, 2019. At each financial reporting date, we assess our estimates of expected returns, refund liabilities, and return assets. Cost of Sales and Occupancy Cost of sales and occupancy is comprised principally of merchandise costs, warehousing and distribution (including receiving and store delivery) costs, retail store occupancy costs, home services and installation costs, warranty cost, royalties payable to Transform (as assignee from Sears Holdings) related to our sale of products branded with one of the KENMORE ® , CRAFTSMAN ® , and DIEHARD ® marks (the "KCD Marks"), customer shipping and handling costs, vendor allowances, markdowns, and physical inventory losses. The KCD Marks are owned by, or licensed to, subsidiaries of Transform (as assignee from Sears Holdings). Variable Interest Entities and Consolidation The Financial Accounting Standards Board ("FASB") has issued guidance on variable interest entities and consolidation for determining whether an entity is a variable interest entity ("VIE") as well as the methods permitted for determining the primary beneficiary of a VIE. In addition, this guidance requires ongoing reassessments as to whether a reporting company is the primary beneficiary of a VIE and disclosures regarding the reporting company’s involvement with a VIE. On an ongoing basis the Company evaluates its business relationships, such as those with its independent dealers, independent franchisees, and suppliers, to identify potential VIE's. Generally, these businesses either qualify for a scope exception under the consolidation guidance or, where a variable interest exists, the Company does not possess the power to direct the activities that most significantly impact the economic performance of these businesses. The Company has not consolidated any of such entities in the periods presented. Fair Value of Financial Instruments We determine the fair value of financial instruments in accordance with standards pertaining to fair value measurements. Such standards define fair value and establish a framework for measuring fair value under GAAP. Under fair value measurement accounting standards, fair value is considered to be the exchange price in an orderly transaction between market participants to sell an asset or transfer a liability at the measurement date. We report the fair value of financial assets and liabilities based on the fair value hierarchy prescribed by accounting standards for fair value measurements, which prioritizes the inputs to valuation techniques used to measure fair value into three levels, as follows: Level 1 inputs —unadjusted quoted prices in active markets for identical assets or liabilities that we have the ability to access. An active market for the asset or liability is one in which transactions for the asset or liability occurs with sufficient frequency and volume to provide ongoing pricing information. Level 2 inputs —inputs other than quoted market prices included in Level 1 that are observable, either directly or indirectly, for the asset or liability. Level 2 inputs include, but are not limited to, quoted prices for similar assets or liabilities in an active market, quoted prices for identical or similar assets or liabilities in markets that are not active, and inputs other than quoted market prices that are observable for the asset or liability, such as interest-rate curves and yield curves observable at commonly quoted intervals, volatilities, credit risks, and default rates. Level 3 inputs —unobservable inputs for the asset or liability. Cash and cash equivalents, merchandise payables, accrued expenses (Level 1), accounts and franchisee notes receivable, and short-term debt (Level 2) are reflected in the Condensed Consolidated Balance Sheets at cost, which approximates fair value due to the short-term nature of these instruments. For short-term borrowings and our Term Loan, the variable interest rates are a significant input in our fair value assessments and are consistent with the interest rates in the market. The carrying value of long-term notes receivable approximates fair value. We may be required, on a nonrecurring basis, to adjust the carrying value of the Company's long-lived assets. When necessary, these valuations are determined by the Company using Level 3 inputs. These assets are subject to fair value adjustments in certain circumstances as when there is evidence that impairment may exist. The Company was not required to measure any other significant non-financial asset or liability at fair value as of May 4, 2019 . Recently Issued Accounting Pronouncements Recently issued accounting pronouncements that are not yet effective and that we have not discussed in the 2018 10-K or below are either inapplicable to us or, if applicable, we do not expect that they will have a material impact on our consolidated results of operations, consolidated financial condition, or consolidated cash flows. Recently Adopted Accounting Pronouncements ASU 2016-02 "Leases (Topic 842)" In February 2016, the FASB issued Accounting Standards Update ("ASU") 2016-02, "Leases (Topic 842)", which establishes a right-of-use model and requires an entity that is a lessee to recognize the right-of-use assets and liabilities arising from leases on the balance sheet. ASU No. 2016-02 also requires disclosures about the amount, timing, and uncertainty of cash flows arising from leases. Leases will be classified as finance or operating, with classification affecting both the pattern and classification of expense recognition in the statements of earnings. This guidance was subsequently amended by ASU No. 2018-01, Land Easement Practical Expedient for Transition to Topic 842; ASU No. 2019-10, Codification Improvements to Topic 842; and ASU No. 2018-11, Targeted Improvements. ASU No. 2016-02 and subsequent updates require a modified retrospective transition, with the cumulative effect of transition, including initial recognition of lease assets and liabilities for existing operating leases, as of (i) the effective date or (ii) the beginning of the earliest comparative period presented. These updates also provide a number of practical expedients for implementation which we are applying, as discussed below. On February 3, 2019 (the "effective date"), we adopted ASU No. 2016-02 and subsequent updates, collectively referred to as Topic 842, using the modified retrospective transition method. In addition, we adopted the package of practical expedients in transition, which permits us to not reassess our prior conclusions pertaining to lease identification, lease classification and initial direct costs on leases that commenced prior to our adoption of the new standard. We also elected to treat the lease and non-lease components of leases as a single lease component and to exempt leases with an initial term of twelve months or less from balance sheet recognition. As a result of adopting Topic 842, we recognized net operating right-of-use assets of $119.6 million and operating lease liabilities of $123.3 million on the effective date. Existing prepaid rent, accrued rent, and deferred rent were recorded as an offset to our gross operating lease right-of-use assets. The cumulative effect of the adoption resulted in a $2.4 million adjustment to the opening balance of retained earnings as of February 3, 2019. The standard did not have a material impact on our results of operations or cash flows. |
