The Company’s sales mix for the three and nine-month periods ended October 29, 2005 and October 30, 2004 was as follows:
Management expects to address the competitive climate for apparel and home goods off-price retailers by pursuing and refining the Company’s existing strategies and by continuing to strengthen its organization, to diversify the merchandise mix, and to more fully develop the organization and systems to strengthen regional merchandise offerings. Although the Company’s strategies and store expansion program contributed to sales gains for the three and nine-month periods ended October 29, 2005, there can be no assurance that these will result in a continuation of revenue or profit growth.
Cost of goods sold as a percentage of sales for the three months ended October 29, 2005 increased approximately 60 basis points compared with the same period in the prior year. This increase is primarily due to higher inventory shortage that increased 130 basis points over the prior year period and 65 basis points in charges related to the reconciliation of merchandise accounts payable. These increases were partially offset by a 50 basis point decrease in store occupancy and depreciation costs and a 25 basis point decrease in buying expenses, both of which benefited from leverage related to the 9% gain in comparable store sales during the third quarter. In addition, merchandise margin improved by 30 basis points and distribution and logistics costs decreased by 30 basis points due to improved productivity.
Cost of goods sold increased $422 million for the nine months ended October 29, 2005 compared to the same period in the prior year, mainly due to increased sales from the opening of 84 net new stores between October 30, 2004 and October 29, 2005.
Cost of goods sold as a percentage of sales for the nine months ended October 29, 2005 increased approximately 100 basis points compared with the same period in the prior year. This increase is primarily due to a 50 basis point decrease in merchandise margin mainly due to higher markdowns during the first six months of the year, a 40 basis point increase in inventory shortage over the prior year period, 20 basis points in charges related to the reconciliation of merchandise accounts payable, and a 20 basis point increase in distribution and logistics costs as a percent of sales. These increases were partially offset by a 20 basis point decrease in store occupancy costs and a 10 basis point decrease in buying expenses, both of which benefited from leverage resulting from the 6% gain in comparable store sales during the year-to-date period.
There can be no assurance that the gross profit margins realized for the three and nine-month periods ended October 29, 2005 will continue in the future.
Selling, General and Administrative Expenses. Selling, general, and administrative expenses increased $39 million for the three months ended October 29, 2005 compared to the same period in the prior year, primarily due to increased store operating costs reflecting the opening of 84 net new stores between October 30, 2004 and October 29, 2005, increased incentive plan expenses, and increased information technology costs and related depreciation.
For the three months ended October 29, 2005, selling, general and administrative expenses as a percentage of sales increased approximately 45 basis points compared to the same period in the prior year. This increase is due to an approximate 105 basis point increase primarily related to increased incentive plan expenses and increased information technology costs. During 2004, the incentive plan expense accruals for the first half of that year were reversed in the third quarter when the Company determined that no bonuses would be paid out under the plan. This was partially offset by a decrease of approximately 60 basis points relating to store operating and advertising costs that benefited from leverage resulting from the 9% increase in comparable store sales.
Selling, general, and administrative expenses increased $83 million for the nine months ended October 29, 2005 compared to the same period in the prior year, primarily due to increased store operating costs reflecting the opening of 84 net new stores between October 30, 2004 and October 29, 2005, increased incentive plan expenses and increased information technology costs and related depreciation.
For the nine months ended October 29, 2005, selling, general and administrative expenses as a percentage of sales increased approximately 10 basis points compared to the same period in the prior year. This increase is primarily due to an approximate 40 basis point increase relating to higher incentive plan expenses and increased information technology costs and related depreciation. During 2004, the incentive plan expense accruals for the first half of that year were reversed in the third quarter when the Company determined that no bonuses would be paid out under the plan. In addition, an approximate 10 basis point increase was due to higher depreciation and occupancy costs. This increase was partially offset by a 40 basis point decrease in advertising and store operating costs primarily due to leverage resulting from the 6% increase in comparable store sales.
Impairment/Gain on Disposal of Long-Lived Assets. During the second quarter of 2004, the Company relocated its corporate headquarters from Newark, California to Pleasanton, California and decided to pursue a sale of its Newark, California distribution center and corporate headquarters (“Newark Facility”). The Company recognized a non-cash impairment charge of $18 million before taxes in the second quarter 2004 to write-down the carrying value of its Newark Facility from its net book value of approximately $33 million to the estimated fair value at the time of approximately $15 million. During the third quarter, the Company sold the Newark Facility for net proceeds of approximately $17 million. The Company recognized a gain (reduction in impairment loss) of approximately $2 million in the third quarter 2004 on the sale of its Newark Facility. For the nine months ended October 30, 2004, the net impairment charge recognized by the Company was approximately $16 million.
Taxes on Earnings. The Company’s effective tax rate for the three and nine months ended October 29, 2005 and October 30, 2004 was approximately 39%, which represents the applicable Federal and State statutory rates reduced by the Federal benefit received for State taxes. The effective rate is affected by changes in law, location of new stores, level of earnings and the result of tax audits. The Company anticipates that its effective tax rate for fiscal 2005 will be approximately 38% to 40%.
Net Earnings. The decrease in net earnings as a percentage of sales for the three months ended October 29, 2005, compared to the same period in the prior year, is primarily due to higher cost of goods sold and selling, general and administrative expenses as a percentage of sales. Diluted earnings per share remained flat at $.25 compared to the same prior year period as a result of a decrease in net earnings which is offset by a decrease in weighted average diluted shares outstanding, which was largely attributable to the acquisition of common stock under the Company’s stock repurchase program.
Net earnings as a percentage of sales for the nine months ended October 29, 2005, compared to the same period in the prior year, decreased primarily due to higher cost of goods sold as a percentage of sales offset by the effect of impairment charges in the prior year period. Diluted earnings per share increased to $.87 from $.78 in the same prior year period as a result of an increase in net earnings and a decrease in weighted average diluted shares outstanding, which was largely attributable to the acquisition of common stock under the Company’s stock repurchase program.
15
Financial Condition
Liquidity and Capital Resources
The Company’s primary sources of funds for its business activities are cash flows from operations and short-term trade credit. The Company’s primary ongoing cash requirements are for seasonal and new store merchandise inventory purchases and capital expenditures in connection with opening new stores, and investments in information systems and infrastructure. The Company also uses cash to repurchase stock under its stock repurchase program and to pay dividends.
The following is a summary of the Company’s interim condensed consolidated statements of cash flows for the nine months ended October 29, 2005 and October 30, 2004:
| | Nine Months Ended | |
| |
| |
($000) | | October 29,
2005 | | October 30,
2004 | |
| |
|
| |
|
| |
Cash flows from operating activities | | $ | 264,201 | | $ | 114,857 | |
Cash flows used in investing activities | | | (71,931 | ) | | (94,776 | ) |
Cash flows used in financing activities | | | (129,848 | ) | | (163,840 | ) |
| |
|
| |
|
| |
Net increase (decrease) in cash and cash equivalents | | $ | 62,422 | | $ | (143,759 | ) |
| |
|
| |
|
| |
Operating Activities
Net cash provided by operating activities was $264 million for the nine months ended October 29, 2005, and $115 million for the nine months ended October 30, 2004. The primary source of cash from operations for the nine months ended October 29, 2005 was net earnings plus non-cash expenses for depreciation and amortization. The increase in cash flows from operations for the nine months ended October 29, 2005 was primarily due to an increase of accounts payable leverage (defined as accounts payable divided by merchandise inventory) from 51% at October 30, 2004 to 61% at October 29, 2005, primarily due to the timing of accounts payable check processing. Working capital (defined as current assets less current liabilities) was $386 million at October 29, 2005, compared to $384 million at October 30, 2004. The Company’s primary source of liquidity is the sale of its merchandise inventory. Management regularly reviews the age and condition of the merchandise and is able to maintain current merchandise inventory in its stores through replenishment processes and liquidation of slower-moving merchandise through clearance markdowns.
Investing Activities
During the nine-month periods ended October 29, 2005 and October 30, 2004, the Company spent approximately $139 million and $112 million, respectively, for capital expenditures (excluding leased equipment) for fixtures and leasehold improvements to open new stores, implement management information technology systems, install and implement materials handling equipment and related distribution center systems, and various other expenditures related to existing stores, buying offices, corporate offices and the purchase of a warehouse in Moreno Valley, California. The Company opened 86 and 83 net new stores during the nine months ended October 29, 2005 and October 30, 2004, respectively. In addition, the Company sold $67 million, net, in auction-rate securities classified as short-term investments during the nine months ended October 29, 2005. Lastly, during the nine-month period ended October 30, 2004, the Company received approximately $17 million in proceeds from the sale of the Newark Facility.
The Company is forecasting approximately $180 million in capital expenditures for fiscal 2005 to fund fixtures and leasehold improvements to open both new Ross stores and dd’s DISCOUNTS® stores. In addition, these capital expenditures are expected to cover the relocation, or remodel of existing stores, and investments in store and merchandising systems, distribution center land, buildings, equipment and systems, and various central office expenditures. The Company expects to fund these expenditures out of cash flows from operations, and existing bank and credit facilities.
16
Financing Activities
During the nine-month periods ended October 29, 2005 and October 30, 2004, liquidity and capital requirements were provided by cash flows from operations and trade credit. Substantially all of the Company’s store locations, buying offices, its headquarters, and certain distribution centers are leased and, except for certain leasehold improvements and equipment, do not represent long-term capital investments. The Company owns its distribution center in Carlisle, Pennsylvania and its warehouse in Moreno Valley, California.
The Company repurchased 4.9 million and 5.6 million shares of common stock for an aggregate purchase price of approximately $133 million and $150 million during the nine-month periods ended October 29, 2005 and October 30, 2004, respectively. These stock repurchases were funded by cash flows from operations.
Short-term trade credit represents a significant source of financing for investments in merchandise inventory. Trade credit arises from customary payment terms and trade practices with the Company’s vendors. Management regularly reviews the adequacy of credit available to the Company from all sources and has been able to maintain adequate lines to meet the capital and liquidity requirements of the Company.
The table below presents significant contractual payment obligations of the Company as of October 29, 2005:
($000)
Contractual Obligations | | Less
than 1
Year | | 2 – 3
Years | | 4 – 5
Years | | After 5
Years | | Total | |
| |
|
| |
|
| |
|
| |
|
| |
|
| |
Long-term debt | | $ | 2,794 | | $ | 50,466 | | $ | — | | $ | — | | $ | 53,260 | |
Operating leases | | | 228,773 | | | 407,241 | | | 318,018 | | | 417,055 | | | 1,371,087 | |
Other financings: | | | | | | | | | | | | | | | | |
Synthetic leases | | | 11,918 | | | 8,561 | | | 8,182 | | | 11,250 | | | 39,911 | |
Other synthetic lease obligations | | | 84,353 | | | 1,856 | | | — | | | 56,000 | | | 142,209 | |
Purchase obligations | | | 658,799 | | | 10,782 | | | 3,114 | | | — | | | 672,695 | |
| |
|
| |
|
| |
|
| |
|
| |
|
| |
Total contractual obligations | | $ | 986,637 | | $ | 478,906 | | $ | 329,314 | | $ | 484,305 | | $ | 2,279,162 | |
| |
|
| |
|
| |
|
| |
|
| |
|
| |
Long-Term Debt. The Company has a $50 million senior unsecured term loan agreement to finance the equipment and information technology systems for its Perris, California distribution center. Total borrowings under the term loan were $50 million as of October 29, 2005. The Company has estimated interest on long-term debt of $3 million during the term of the loan, which is calculated based upon prevailing interest rates (LIBOR plus 150 basis points) and is included in “Long-term debt” in the table above. Interest is payable no less than quarterly at the bank’s applicable prime rate or at LIBOR plus an applicable margin (currently 150 basis points) which resulted in an effective interest rate of 5.6% at October 29, 2005. All amounts outstanding under the term loan will be due and payable in December 2006. Borrowings under this term loan are subject to certain operating and financial covenants including maintaining certain interest coverage and leverage ratios.
Off-Balance Sheet Arrangements
Operating Leases. Substantially all of the Company’s store locations, certain distribution centers, and the Company’s buying offices and corporate headquarters are leased and, except for certain leasehold improvements and equipment, do not represent long-term capital investments. The Company owns its distribution center in Carlisle, Pennsylvania and its warehouse in Moreno Valley, California.
17
The Company has lease arrangements for certain equipment in its stores for its point-of-sale (“POS”) hardware and software systems. These leases are accounted for as operating leases for financial reporting purposes. The initial terms of these leases are two years and the Company typically has options to renew the leases for two to three one-year periods. Alternatively, the Company may purchase or return the equipment at the end of the initial or each renewal term. The Company has guaranteed the value of the equipment at the end of the respective initial lease terms of $12 million, which is included in “Other synthetic lease obligations” in the table above.
In January 2004, the Company commenced its lease on its corporate headquarters in Pleasanton, California. The lease has an initial term of 10.5 years with three five-year renewal options.
In October 2004, the Company entered into a lease arrangement to use a portion of its previously sold Newark Facility to support distribution activities for dd’s DISCOUNTS® for an initial lease term of two years, with a one-year renewal option, a minor part of its remaining useful life.
Other Financings. The Company leases a 1.3 million square foot distribution center in Fort Mill, South Carolina. This distribution center, including equipment and systems, is being financed under an $87 million, five-year operating lease, commonly referred to as a synthetic lease, which expires in May 2006. Monthly rent expense is currently payable at 90 basis points over LIBOR on the lease balance of $87 million. The Company has estimated rent expense on the lease which is calculated based upon prevailing interest rates (LIBOR plus 90 basis points, which resulted in an effective interest rate of 4.7% at October 29, 2005) and is included in “Synthetic leases” in the contractual obligations table above. At the end of the lease term, the Company must refinance the $87 million synthetic lease facility, purchase the distribution center at the amount of the then-outstanding lease balance, or arrange a sale of the distribution center to a third party. The Company has agreed under a residual value guarantee to pay the lessor up to 85% of the lease balance. The Company’s obligation under this residual value guarantee of $74 million is included in “Other synthetic lease obligations” in the contractual obligations table above.
The Company also leases a 1.3 million square foot distribution center in Perris, California. This distribution center is being financed under a $70 million ten-year synthetic lease facility that expires in July 2013. Rent expense on this center is payable monthly at a fixed annual rate of 5.8% on the lease balance of $70 million. At the end of the lease term, the Company must refinance the $70 million synthetic lease facility, purchase the distribution center at the amount of the then-outstanding lease balance, or arrange a sale of the distribution center to a third party. If the distribution center is sold to a third party for less than $70 million, the Company has agreed under a residual value guarantee to pay the lessor the shortfall below $70 million not to exceed $56 million. The Company’s contractual obligation of $56 million is included in “Other synthetic lease obligations” in the above table. The $50 million financing of equipment and systems for the Perris, California center is included in “Long-term debt” in the table above.
In accordance with Financial Accounting Standards Board (“FASB”) Interpretation (“FIN”) No. 45, “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others,” the Company has recognized a liability and corresponding asset for the fair value of the residual value guarantee in the amount of $8 million for the Perris, California distribution center and $2 million for the POS lease. These residual value guarantees are being amortized on a straight-line basis over the original terms of the leases. The current portion of the related asset and liability is recorded in “Prepaid expenses and other” and “Accrued expenses and other,” respectively, and the long-term portion of the related assets and liabilities is recorded in “Other long-term assets” and “Other long-term liabilities,” respectively, in the accompanying condensed consolidated balance sheets.
In addition, the Company leases two separate warehouse facilities for packaway storage in Carlisle, Pennsylvania with operating leases expiring through 2011. In January 2004, the Company entered into a two-year lease with two one-year options for a warehouse facility in Fort Mill, South Carolina, the first option of which has been exercised extending the term to February 1, 2007. These three leased facilities are being used primarily to store packaway merchandise.
The synthetic lease facilities described above, as well as the Company’s long-term debt and revolving credit facility, have covenant restrictions requiring the Company to maintain certain interest coverage and leverage ratios. In addition, the interest rates under these agreements may vary depending on the Company’s actual interest coverage ratios. As of October 29, 2005, the Company was in compliance with these covenants.
18
In December 2003, the FASB issued the revised FIN No. 46(R), “Consolidation of Variable Interest Entities,” which addresses consolidation by business enterprises of entities that are not controllable through voting interests or in which the equity investors do not bear the residual economic risks and rewards. FIN No. 46(R) explains how to identify variable interest entities and how an enterprise should assess its interest in an entity to decide whether to consolidate that entity. The Company was not required under FIN No. 46(R) to consolidate its synthetic leases since the lessors/owners are not variable interest entities.
Purchase Obligations. As of October 29, 2005, the Company had purchase obligations of $673 million. These purchase obligations primarily consist of merchandise inventory purchase orders, commitments related to store fixtures, supplies, and information technology service and maintenance contracts. Total merchandise inventory purchase orders of $634 million are all purchase obligations of less than one year as of October 29, 2005.
Commercial Credit Facilities
The table below presents significant commercial credit facilities available to the Company as of October 29, 2005:
| | Amount of Commitment Expiration Per Period | | | | |
| |
| | Total
Amount
Committed | |
($000)
Commercial Credit Commitments | | Less than
1 Year | | 2 - 3
Years | | 4 - 5
Years | | Over 5
Years | | |
| |
|
| |
|
| |
|
| |
|
| |
|
| |
Revolving credit facility1 | | $ | — | | $ | — | | $ | 600,000 | | $ | — | | $ | 600,000 | |
| |
|
| |
|
| |
|
| |
|
| |
|
| |
Total commercial commitments | | $ | — | | $ | — | | $ | 600,000 | | $ | — | | $ | 600,000 | |
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|
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|
1 | Contains a $200 million sublimit for issuances of letters of credit, of which $62 million is outstanding and $138 million is available as of October 29, 2005. |
Revolving Credit Facility. In 2004, the Company entered into a $600 million revolving credit facility with its banks, which contains a $200 million sublimit for issuances of letters of credit of which $138 million was available at October 29, 2005. Interest is LIBOR-based plus an applicable margin (currently 75 basis points) and is payable upon borrowing maturity but no less than quarterly. Borrowing under this credit facility is subject to the Company maintaining certain interest coverage and leverage ratios. The Company has had no borrowings under this facility. This revolving credit facility is scheduled to expire in March 2009.
Standby Letters of Credit. The Company uses standby letters of credit to collateralize certain obligations related to its self-insured workers’ compensation and general liability claims. The Company had $62 million and $61 million in standby letters of credit outstanding at October 29, 2005 and October 30, 2004, respectively.
Trade Letters of Credit. The Company had $18 million and $19 million in trade letters of credit outstanding at October 29, 2005 and October 30, 2004, respectively.
Dividends. In May 2005, a quarterly cash dividend payment of $.05 per common share was declared by the Company’s Board of Directors, and was paid on July 1, 2005. In August 2005, a quarterly cash dividend of $.05 per common share was declared by the Company’s Board of Directors, and was paid on September 30, 2005. On November 9, 2005, a quarterly cash dividend of $.06 per common share was declared by the Company’s Board of Directors, payable on or about January 3, 2006, to stockholders of record as of December 7, 2005.
Stock Repurchase Program. In January 2004, the Company announced that the Board of Directors authorized a stock repurchase program of up to $350 million for 2004 and 2005. During the nine months ended October 29, 2005, the Company repurchased approximately 4.9 million shares for an aggregate purchase price of approximately $133 million. In November 2005, the Company announced that the Board of Directors authorized a new two-year stock repurchase program of up to $400 million.
19
The Company estimates that cash flows from operations, bank credit lines and trade credit are adequate to meet operating cash needs, fund its planned capital investments, repurchase common stock and make quarterly dividend payments for at least the next twelve months.
Critical Accounting Policies
The preparation of the Company’s interim condensed consolidated financial statements requires management of the Company to make estimates and assumptions that affect the reported amounts. These estimates and assumptions are evaluated on an ongoing basis and are based on historical experience and on various other factors that management believes to be reasonable. The Company believes the following critical accounting policies describe the more significant judgments and estimates used in the preparation of its interim condensed consolidated financial statements:
Merchandise Inventory. The Company’s merchandise inventory is stated at the lower of cost or market with cost determined on a weighted average cost method. The Company purchases manufacturer overruns and canceled orders both during and at the end of a season which are referred to as “packaway” inventory. Packaway inventory is purchased with the intent that it will be stored in the Company’s warehouses until a later date, which may even be the beginning of the same selling season in the following year. Included in the carrying value of the Company’s merchandise inventory is a provision for shrinkage. The shrinkage reserve is based on historical shrinkage rates as evaluated through the Company’s physical merchandise inventory counts and cycle counts. If actual market conditions, markdowns, or shrinkage are less favorable than those projected by management, or if sales of the merchandise inventory are more difficult than anticipated, additional merchandise inventory write-downs may be required.
Long-lived Assets. The Company records a long-lived asset impairment charge when events or changes in circumstances indicate that the carrying amount of a long-lived asset may not be recoverable based on estimated future cash flows. An impairment loss would be recognized if analysis of the undiscounted cash flow of an asset group was less than the carrying value of the asset group. During the second quarter of 2004, the Company relocated its corporate headquarters from Newark, California to Pleasanton, California and decided to pursue a sale of its Newark Facility. The Company recognized a non-cash impairment charge of $18 million before taxes in the second quarter of 2004 to write-down the carrying value of its Newark Facility from its net book value of approximately $33 million to the estimated fair value of approximately $15 million. During the third quarter of 2004, the Company sold the Newark Facility for net proceeds of approximately $17 million. The Company recognized a gain (reduction in impairment loss) of approximately $2 million in the third quarter of 2004 on the sale of its Newark Facility. For the nine months ended October 30, 2004, the net impairment charge recognized by the Company was approximately $16 million.
Self-Insurance. The Company self insures certain of its workers’ compensation and general liability risks as well as certain of its health insurance plans. The Company’s self-insurance liability is determined actuarially, based on claims filed and an estimate of claims incurred but not reported. Should a greater amount of claims occur compared to what is estimated or the costs of medical care and state statutory requirements increase beyond what was anticipated, reserves recorded may not be sufficient and additional charges could be required.
The above listing is not intended to be a comprehensive list of all of the Company’s accounting policies. In many cases, the accounting treatment of a particular transaction is specifically dictated by Generally Accepted Accounting Principles, with no need for management’s judgment in their application.
New Accounting Pronouncements
In November 2004, the FASB issued the revised SFAS No. 151, “Inventory Costs,” which clarifies the accounting for abnormal amounts of idle facility expense, freight, handling costs and wasted material (spoilage). SFAS No. 151 is effective for inventory costs incurred during fiscal years beginning after June 15, 2005. The Company does not believe that the adoption of SFAS No. 151 will have a material impact on the Company’s operating results or financial position.
20
In December 2004, the FASB issued the revised SFAS No. 123(R), “Share-Based Payment,” which establishes standards for the accounting for transactions in which an entity exchanges its equity instruments for goods or services. SFAS No. 123(R) requires recognition of stock-based compensation expense in the consolidated financial statements over the period during which an employee is required to provide service in exchange for the award. SFAS No. 123(R) is effective for the fiscal year beginning after June 15, 2005. The Company will implement the requirements of the standard as of the beginning of its fiscal year 2006. The impact of adopting SFAS No. 123(R) will be dependent on numerous factors including, but not limited to, the valuation model chosen by the Company to value stock-based awards; the assumed award forfeiture rate; the accounting policies adopted concerning the method of recognizing the fair value of awards over the requisite service period; and the transition method chosen for adopting SFAS No. 123(R). The Company is in the process of quantifying the effects of the adoption of SFAS No. 123(R).
In May 2005, the FASB issued SFAS No. 154, “Accounting Changes and Error Corrections” which requires retrospective application to prior periods’ financial statements of changes in accounting principle, unless it is impracticable to determine either the period-specific effects or the cumulative effect of the change. The Company does not expect the adoption of SFAS No. 154, which is effective for accounting changes and corrections of errors made in fiscal years beginning after December 15, 2005, to have a material impact on the consolidated financial statements.
In October 2005, the FASB issued FASB Staff Position (“FSP”) 13-1, “Accounting for Rental Costs Incurred During a Construction Period,” to clarify the proper accounting for rental costs incurred on building or ground operating leases during a construction period. The FSP requires that rental costs incurred during a construction period be expensed, not capitalized. The statement is effective for the first reporting period beginning after December 15, 2005. The Company is currently evaluating the impact of adopting this guidance.
dd’s DISCOUNTS®
The Company operates 20 dd’s DISCOUNTS® stores, its off-price concept targeted to serve the needs of lower-income households, which it believes to be one of the fastest growing demographic markets in the country. dd’s DISCOUNTS® features a moderately-priced assortment of first-quality, in-season, name brand apparel, accessories, footwear and home fashions at everyday savings of 20 to 70 percent off moderate department and discount store regular prices. The Company opened ten initial stores at locations in California during the second half of 2004 and ten stores during the first nine months of 2005. This new business generally has similar merchandise departments and categories to those of Ross, but features a different mix of brands, consisting mostly of moderate department store and discount store labels at lower average price points. The average dd’s DISCOUNTS® store is approximately 26,000 square feet and is located in an established strip shopping center in densely populated urban and suburban neighborhoods. The dd’s DISCOUNTS® and Ross merchant, store and distribution organizations are separate and distinct; however, dd’s DISCOUNTS® shares other certain corporate and support services with Ross.
Forward-Looking Statements and Factors Affecting Future Performance
This report includes certain forward-looking statements regarding forecasted capital expenditures, and expected sales and earnings levels, which reflect the Company’s current beliefs, projections and estimates with respect to future events and the Company’s future financial performance, operations and competitive position. The words “expect,” “anticipate,” “estimate,” “believe,” “looking ahead,” “forecast,” “guidance,” “plan,” “projected,” and similar expressions identify forward-looking statements. These forward looking statements are subject to risks and uncertainties that could cause the Company’s actual results to differ materially from historical results or current expectations.
Risks and uncertainties that apply to both Ross and dd’s DISCOUNTS® stores include, without limitation, the Company’s ability to effectively operate and integrate various new supply chain and core merchandising systems, including generation of all necessary information in a timely and cost effective manner; achieving and maintaining targeted levels of productivity and efficiency in its distribution centers; obtaining acceptable new store locations; competitive pressures in the apparel industry; changes in the level of consumer spending on or preferences for apparel or home-related merchandise; changes in geopolitical and general economic conditions; unseasonable weather trends; disruptions in supply chain; lower than planned gross margin, including higher than planned markdowns and higher than expected inventory shortage and greater than planned operating costs; the Company’s ability to continue to purchase attractive brand-name merchandise at desirable discounts, the Company’s ability to identify and successfully enter new geographic markets, and the Company’s ability to attract and retain personnel with the retail talent necessary to execute its strategies.
21
The Company’s corporate headquarters, certain of its distribution centers and 29% of its stores are located in California. Therefore, a downturn in the California economy or a major California natural disaster could significantly affect the Company’s operating results and financial condition.
The Company’s continued success depends, in part, upon its ability to increase sales at existing locations, and to open new stores and to operate stores on a profitable basis. There can be no assurance that the Company’s existing strategies and store expansion program will result in a continuation of revenue growth or profit growth.
Future economic and industry trends that could potentially impact revenue and profitability remain difficult to predict. The factors underlying the Company’s forecasts are dynamic and subject to change. As a result, any forecasts speak only as of the date they are given and do not necessarily reflect the Company’s outlook at any other point in time. The Company disclaims any obligation to update or revise these forward-looking statements.
Other risk factors are detailed in the Company’s Securities and Exchange Commission filings including, without limitation, the Form 10-K for fiscal 2004.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is exposed to market risks, which primarily include changes in interest rates. The Company does not engage in financial transactions for trading or speculative purposes.
Interest that is payable on the Company’s revolving credit facilities and long-term debt is based on variable interest rates and is, therefore, affected by changes in market interest rates. In addition, lease payments under certain of the Company’s synthetic lease agreements are determined based on variable interest rates and are, therefore, affected by changes in market interest rates. As of October 29, 2005, the Company had no borrowings outstanding under its revolving credit facilities and had $50 million of long-term debt outstanding which accrues interest at LIBOR plus 150 basis points.
A hypothetical 100 basis point increase in prevailing market interest rates would not have materially impacted the Company’s consolidated financial position, results of operations, or cash flows as of and for the three and nine-month periods ended October 29, 2005. The Company does not consider the potential losses in future earnings and cash flows from reasonably possible near term changes in interest rates to be material.
The Company occasionally uses forward contracts to hedge against fluctuations in foreign currency prices. The Company had no outstanding forward contracts at October 29, 2005.
ITEM 4. CONTROLS AND PROCEDURES
Disclosure Controls and Procedures
Management, with the participation of the Chief Executive Officer and Chief Financial Officer, conducted an evaluation of the effectiveness of the Company’s “disclosure controls and procedures” (as defined in Exchange Act Rule 13a-15(e)) as of the end of the quarterly period covered by this report. Based on that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures were effective as of the end of the period covered by this report.
It should be noted that any system of controls, however well designed and operated, can provide only reasonable, and not absolute, assurance that the objectives of the system will be met. In addition, the design of any control system is based in part upon certain assumptions about the likelihood of future events.
22
Quarterly Evaluation of Changes in Internal Control Over Financial Reporting
Management, with the participation of the Chief Executive Officer and Chief Financial Officer, also conducted an evaluation of the Company’s internal control over financial reporting to determine whether any change occurred during the third fiscal quarter of 2005 that has materially affected, or is reasonably likely to materially affect, internal control over financial reporting. Based on that evaluation, management has concluded that there was no such change during the third fiscal quarter.
23
PART II – OTHER INFORMATION
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
Information regarding shares of common stock repurchased by the Company during the third quarter of 2005 is as follows:
Period | | Total
Number of
Shares (or
Units)
Purchased1 | | Average
Price Paid
per Share
(or Unit) | | Total Number of
Shares (or Units)
Purchased as Part
of Publicly
Announced Plans or
Programs | | Maximum Number (or
Approximate Dollar
Value) of Shares (or
Units) that May Yet Be
Purchased Under the
Plans or Programs
($000) | |
| |
|
| |
|
| |
|
| |
|
| |
August (7/31/2005-8/27/2005) | | | 388,410 | | $ | 25.78 | | | 387,659 | | $ | 76,000 | |
September (8/28/2005-10/1/2005) | | | 793,938 | | $ | 23.96 | | | 792,755 | | $ | 57,000 | |
October (10/2/2005-10/29/2005) | | | 583,489 | | $ | 25.77 | | | 581,250 | | $ | 42,000 | |
| |
|
| | | | |
|
| | | | |
Total | | | 1,765,837 | | $ | 24.96 | | | 1,761,664 | | $ | 42,000 | |
| |
|
| | | | |
|
| | | | |
|
1 | The Company acquired 4,173 shares during the quarter ended October 29, 2005 related to income tax withholdings for restricted stock. All remaining shares were repurchased under the two-year $350 million stock repurchase program publicly announced on February 5, 2004. |
ITEM 6. EXHIBITS
Incorporated herein by reference to the list of Exhibits contained in the Exhibit Index within this Report.
24
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this Report to be signed on its behalf by the undersigned thereunto duly authorized.
| ROSS STORES, INC. |
|
|
| (Registrant) |
| | |
| | |
Date: December 7, 2005 | By: | /s/ J. Call |
| | John G. Call |
| | Senior Vice President, Chief Financial Officer, |
| | Principal Accounting Officer and Corporate Secretary |
25
INDEX TO EXHIBITS
Exhibit
Number | | Exhibit |
| |
|
3.1 | | Amendment of Certificate of Incorporation dated May 21, 2004 and Amendment of Certificate of Incorporation dated June 5, 2002 and Corrected First Restated Certificate of Incorporation, incorporated by reference to Exhibit 3.1 to the Form 10-Q filed by Ross Stores for its quarter ended July 31, 2004. |
| | |
3.2 | | Amended By-laws, dated August 25, 1994, incorporated by reference to Exhibit 3.2 to the Form 10-Q filed by Ross Stores for its quarter ended July 30, 1994. |
| | |
10.1 | | First Amendment to the Employment Agreement effective October 1, 2005 between Lisa Panattoni and Ross Stores, Inc. |
| | |
15 | | Letter re: Unaudited Interim Financial Information from Deloitte & Touche LLP dated December 6, 2005. |
| | |
31.1 | | Certification of Chief Executive Officer Pursuant to Sarbanes-Oxley Act Section 302(a). |
| | |
31.2 | | Certification of Chief Financial Officer Pursuant to Sarbanes-Oxley Act Section 302(a). |
| | |
32.1 | | Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350. |
| | |
32.2 | | Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350. |
26
