EXHIBIT 13
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
FISCAL 2006
ANNUAL REPORT TO STOCKHOLDERS
1
TABLE OF CONTENTS
Executive Chairman Letter to Stockholders................................. 3
President and Chief Executive Officer Letter to Stockholders.............. 5
Management's Discussion and Analysis...................................... 9
Consolidated Statements of Operations..................................... 39
Consolidated Statements of Stockholders' Equity
and Comprehensive Income (Loss)........................................ 40
Consolidated Balance Sheets............................................... 41
Consolidated Statements of Cash Flows..................................... 42
Notes to Consolidated Financial Statements................................ 43
Management's Annual Report on Internal Control over Financial Reporting... 108
Report of Independent Registered Public Accounting Firm................... 109
Five Year Summary of Selected Financial Data.............................. 111
Executive Officers........................................................ 113
Board of Directors........................................................ 113
Stockholder Information................................................... 114
COMPANY PROFILE
The Great Atlantic & Pacific Tea Company, Inc. ("We," "Our," "Us," "A&P," or
"our Company"), based in Montvale, New Jersey, operates conventional
supermarkets, combination food and drug stores, and limited assortment food
stores in 9 U.S. states and the District of Columbia under the A&P(R),
Waldbaum's(TM), The Food Emporium(R), Super Foodmart, Super Fresh(R), Farmer
Jack(R), Sav-A-Center(R) and Food Basics(R) trade names.
2
EXECUTIVE CHAIRMAN LETTER TO STOCKHOLDERS
To Our Stockholders:
A&P made significant progress in 2006 improving operating performance and
continuing its strategic transformation. Following our successful divestiture of
A&P Canada, executive leadership changes, and the reengineering of our
administration and support functions during 2005, we entered this year with a
stronger balance sheet, reduced overhead and a more efficient and responsive
organization.
This improved financial and operating platform enabled us to deliver the
following positive developments in fiscal 2006 which in turn generated increased
shareholder value for the year:
- - Our new retail leadership headed by President and Chief Executive Officer
Eric Claus improved our operating results in line with our turnaround
timetable, while also creating and launching consumer oriented retail
formats to position our stores to effectively compete in our core markets.
- - The balance sheet impact of our better-than-expected proceeds from the A&P
Canada sale enabled us to reward our shareholders through the payment of a
$300 million special dividend.
- - The growth in value of our original investment position in Metro, Inc. as
part of the Canada divestiture also exceeded expectations, due to greater
than anticipated merger synergies and the strong ongoing results of our
former A&P operations.
- - In early March, after several months of negotiations, we announced an
agreement to acquire Pathmark for cash and stock, which marks the next
major step in our strategic transformation. This combination will enable
A&P to achieve sustainable profitability on an accelerated basis and enable
us to compete more effectively in the highly competitive Northeast food
retail industry.
Those major developments highlighted a year of many positives for our
Company, and fulfilled the strategic objectives that our Board of Directors
determined necessary and implemented. While difficult and challenging for our
organization, they enabled us in less than two years to produce favorable
operating trends, move substantially closer to overall profitability, ensure
long-term investment in the business, reward our shareholders, and take a
leadership role in our industry's consolidation in the Northeast.
Augmenting management's ongoing focus on the key retail strategies already
improving our existing business, the anticipated completion of the Pathmark
acquisition will accelerate the transformation of our Company, through:
- - Formation of a 460-store, $10 billion chain with improved ability to serve
consumers in Metro New York and New Jersey and greater Philadelphia.
- - Annual integration synergies of approximately $150 million within two
years, through cost reductions in overhead, greater efficiencies, increased
utilization of support facilities and mutual best practices between the two
companies.
- - Retention of the Pathmark banner, format, customer appeal and sales
productivity - benefiting the consumer through the breadth of offerings
available from the combined companies, and the continuation of community
outreach efforts.
3
- - Consolidation of A&P and Pathmark management and administrative employees
in Montvale, New Jersey, and combined information systems integration into
A&P's modern technology platform.
- - Establishment of a platform for investment in existing and new stores to
better compete in the Northeast retail food industry.
As part of this transaction, Tengelmann will retain its ownership stake and
remain the Company's largest shareholder.
Other significant achievements included comprehensive real estate and tax
management strategies resulting in substantial cash proceeds and extraordinary
income benefits throughout the year - augmenting our operating improvements in
the drive toward overall profitability.
Another important element to A&P's performance was the strengthening of
annual and longer-range incentive plans for Company management and employees,
linked to A&P's performance. These programs ensure the correlation of executive
management and shareholder interests, and in turn tie corporate strategic goals
to the activities and priorities of all levels of Company management. These
comprehensive performance incentive plans are designed to keep A&P's immediate
operating performance on the forward track while at the same time encouraging
strategies to create longer-term growth in revenue, earnings and shareholder
value.
Although we were clearly focused on strategies to accelerate both A&P's
turnaround and future growth, we also addressed our efforts and commitments in
terms of corporate and community citizenship.
In fiscal 2006, we were proud to enter into a new alliance with the New
York-based Children's Health Fund, in addition to our continuing efforts on
behalf of the Muscular Dystrophy research, St. Jude's Hospital and other equally
worthy organizations, and ongoing support of breast cancer research through the
Waldbaum's Foundation. We hope these corporate efforts, and stores'
participation in their local communities, will continue to grow along with our
business success in the months and years to come.
Overall we are pleased with our progress and increasingly confident in our
future. With the acquisition of Pathmark in sight we are now positioned to
achieve substantial and sustainable profitability and consequently able to
determine our own destiny in the future of the food retail industry.
Looking back on our progress, and forward to an exciting future, my thanks
go to our shareholders, our Board of Directors, our many customers, our
management team, our union leaders and most of all to our valued associates for
their support, leadership and efforts on behalf of A&P. In return, our goal in
fiscal 2007 and beyond is to further improve - as merchants and retailers, as
value-creators for investors, as employers, and as corporate and community
citizens.
Sincerely,
Christian Haub
Executive Chairman
4
PRESIDENT AND CHIEF EXECUTIVE OFFICER LETTER TO STOCKHOLDERS
To Our Stockholders:
Fiscal 2006 was my first full year as your Chief Executive Officer, and a
challenging transition year for A&P, but I am pleased to report that we
generated positive momentum in most key performance measures.
Fortified by the lower cost structure produced by our reorganization in the
latter part of 2005, we entered 2006 focused on the following strategies to
return A&P to sustainable profitability:
- - Profitable sales improvement through improved buying, merchandising and
operating practices.
- - The commencement of a long-range capital plan to convert conventional stores
to our new fresh, discount and gourmet/fine food prototypes.
- - The ongoing elimination of costs that do not contribute to the improvement
of our business and results, and,
- - The decision to strengthen our presence in core markets by pursuing viable
acquisition opportunities.
We moved forward on all counts in fiscal 2006, as noted by these key
accomplishments:
- - Improved sales trends in core Northeast banners.
- - Positive EBITDA performance, with improving contribution from our core market
operations.
- - The conversion of 24 conventional stores to our innovative and
successful fresh format.
- - Successful launch of the reformatted Food Basics
discount concept.
- - Introduction of the new generation Food Emporium Fine
Foods concept in New York City.
- - Continued bottom line benefits from previous cost reduction initiatives, and
the ongoing cost conservation mandate embedded in all Company activities.
As noted by Christian Haub in his foregoing message, our financial and
operating improvements enabled us to pursue an exciting expansion opportunity in
the form of our announced Pathmark Stores Inc. acquisition.
Driving Profitable Sales
Our goal of driving profitable sales development reflected a total
commitment from end to end of our supply chain in fiscal 2006.
We worked closely with C&S Wholesale Grocers and directly with our product
vendors to improve variety and service levels and lower the delivered cost of
goods to our stores and customers. Internally, we increased both the creativity
and discipline of our merchandising and promotion, to maximize impact and
return, and eliminate throwaway spending.
This was evidenced by more powerful and targeted weekly promotions reaching
existing consumers and attracting new ones to our stores - while we refrained
from some traditional industry tactics, including certain holiday giveaways that
have proven ultimately unproductive.
5
We also began addressing the pricing issues that have impeded past
development, implementing longer-range price reduction programs in our
mainstream banners. This aspect is a key work in progress, and will be aligned
with increasing cost of goods and operating efficiencies.
In terms of variety, we generally reduced the overpopulation of certain
center store assortments, while expanding and improving higher-margin fresh,
organic and specialty food offers, sharing selected elements of our larger fresh
store prototype development across the board. This included the introduction of
enticing signature products in produce, gourmet selections from cheeses to
chocolates, artisan breads and other baked specialties, and a range of hot and
cold prepared entrees and desserts - offering convenient mealtime and
entertainment solutions that customers are proud to serve.
Another popular improvement was the significant change in our general and
seasonal merchandise approach, upgrading the quality level and customer appeal
of these in-and-out categories that create in-store excitement and incremental
sales and profit.
The volume, profit and image-enhancing measures underway are not quick
fixes, but focused, ongoing strategies to establish our banners as marketing
leaders, with the support of continuously improving logistics and store-level
execution.
Midway through the year, we enhanced our leadership of this important area
by appointing Rebecca Philbert as Senior Vice President, Merchandising & Supply
and Logistics and a member of my Executive Management Team. Recently
instrumental in the development of Safeway Stores' lifestyle marketing
initiative, Rebecca's experience and achievements mesh perfectly with our
multifaceted sales agenda, and I look forward to working together to build on
the solid progress established in fiscal 2006.
Store Formats
A&P's departure from the marketing "middle ground " was demonstrated by the
aggressive rollout of our mainstream fresh store concept, the very successful
launch of our improved Food Basics discount format, and the debut in New York
City of the new generation Food Emporium Fine Foods concept for upscale,
cosmopolitan markets.
Based on our well-received Midland Park, N.J. store opened just over a year
ago, we accelerated our Fresh store development in fiscal 2006. We're very
pleased with their performance, and continue to learn from each project and
build from this successful model. These stores have consistently generated
returns exceeding our cost of capital - based on strong sales and the
distribution shift from center store to fresh department merchandise, which has
improved margins.
The vast majority of the 24 fresh stores launched in fiscal 2006 were
existing store conversions under our A&P, Waldbaum's and Super Fresh banners in
the Northeast. We continue to seek new ways to enhance their appeal and
performance, and will be introducing exciting nuances to the concept as we move
forward in the current year.
On the discount side, our Food Basics operations are emerging as strong
performers within our corporate portfolio. Having adjusted the original and
successful A&P Canada discount formula to better appeal to American markets, we
believe Food Basics is poised for takeoff, based on results at our most recent
openings, and the overall sales and profit improvement of the current store
group.
6
The viability of a discount alternative that doesn't feel like one to
shoppers in terms of quality and atmosphere is borne out by Food Basics' current
trend. Like the larger and more upscale fresh stores, we see considerable
opportunity to expand Food Basics through conversion of existing or closed
conventional stores going forward.
Appealing to yet a third profitable consumer segment is The Food Emporium,
whose new gourmet/fine foods concept debuted last December at our historic
BridgeMarket location in Manhattan.
The Food Emporium is being transformed into a true destination for fine
food lovers with a distinctly global appeal. Having first elevated its high end
and specialty assortment, we are currently adjusting the center store product
complement, to enhance The Food Emporium's appeal as a true neighborhood market
serving basic needs, with an unequaled gourmet flair.
With respect to the existing A&P store network, these three concepts are
the basis of our projected capital development plan established in 2005. Beyond
that, the potential acquisition of Pathmark Stores, with its big-box price and
value appeal, will provide a powerful fourth concept with which to build
customer satisfaction and profitable growth.
Cost Reduction
Our reorganization of A&P in fiscal 2005 lowered overhead by $50 million
by reducing administrative and certain operating positions and other expenses.
At that time, we also projected additional cost savings of approximately $25
million to be realized in fiscal 2006, which in fact was achieved.
While we believe our administrative and support organization was
essentially right-sized in fiscal 2006, we continued to emphasize the review of
all expense lines on a continuous basis, further lowering costs wherever
possible.
Store Operations
As a crucial contributor to both sales and profit performance, we continued
to emphasize fundamental best practices, including cleanliness standards,
display and signage execution, courteous and professional associates, and store
managers who are visible to employees and customers on the sales floor.
To support our operational effectiveness, we carried out comprehensive
training of our approximately 38,000 store associates during fiscal 2006, as we
rolled out our "Make It Personal" customer care initiative across our Company.
As with other aspects of our business, consistent adherence to operating and
customer service standards is not a fixed destination, but an ongoing pursuit -
and as such it will receive consistent management emphasis going forward.
In addition to the basics of operations and service, we continued the
development of online shopping service as an added customer convenience.
Initially introduced at The Food Emporium in Manhattan, we expanded the
service to Waldbaum's on Long Island in fiscal 2006, and based on overall usage
and increasing cost effectiveness, we plan to extend it to our A&P operations in
the current year.
7
Fiscal 2007
With our fiscal 2006 results delivered as projected, our agenda for fiscal
2007 is essentially two-fold: to remain focused on the same strategies that
generated our improved trend last year, complete the acquisition of Pathmark
Stores Inc. and successfully integrate its operations.
I am excited to lead the operations of this iconic Company as we embark on
a year in which we believe we can return to sustained profitability and growth.
I want to express my appreciation to Christian Haub, the Tengelmann organization
and our Board of Directors for their ongoing confidence and dynamic actions to
grow our Company; to my leadership team for their tireless efforts in effecting
positive change; and to all of our associates for their patience, efforts and
loyalty.
It is my belief that our customers, our shareholders and our employees will
be rewarded as A&P continues to make important strides forward in fiscal 2007.
Sincerely,
Eric Claus
President and Chief Executive Officer
8
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS
INTRODUCTION
The following Management's Discussion and Analysis is intended to help the
reader understand the financial position, operating results, and cash flows of
The Great Atlantic and Pacific Tea Company, Inc. It should be read in
conjunction with our financial statements and the accompanying notes ("Notes").
It discusses matters that Management considers relevant to understanding the
business environment, financial position, results of operations and our
Company's liquidity and capital resources. These items are presented as follows:
- - Basis of Presentation - a discussion of our Company's fiscal year-end.
- - Overview - a general description of our business; the value drivers of our
business; measurements; opportunities; challenges and risks; and
initiatives.
- - 2007 Outlook - a discussion of certain trends or business initiatives for
the upcoming year that Management wishes to share with the reader to assist
in understanding the business.
- - Review of Continuing Operations and Liquidity and Capital Resources - a
discussion of results for fiscal 2006 and 2005, significant business
initiatives, current and expected future liquidity and the impact of
various market risks on our Company.
- - Market Risk - a discussion of the impact of market changes on our
consolidated financial statements.
- - Critical Accounting Estimates - a discussion of significant estimates made
by Management.
- - Impact of New Accounting Pronouncements - a discussion of authoritative
pronouncements that have been or will be adopted by our Company.
BASIS OF PRESENTATION
Our fiscal year ends on the last Saturday in February. Fiscal 2006 ended
February 24, 2007, fiscal 2005 ended February 25, 2006, and fiscal 2004 ended
February 26, 2005. Fiscal 2006, fiscal 2005 and fiscal 2004 were each comprised
of 52 weeks. Except where noted, all amounts are presented in millions, and all
net income (loss) per share data presented is both basic and diluted.
OVERVIEW
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC., based in Montvale, New
Jersey, operates conventional supermarkets, combination food and drug stores and
discount food stores in 9 U.S. states and the District of Columbia. Our
Company's business consists strictly of our retail operations, which totaled 406
stores as of February 24, 2007.
Our UNITED STATES retail operations are organized in three regions: North
Region, operating A&P supermarkets in New York and Northern New Jersey, The Food
Emporium in Westchester County, N.Y, A&P/Super Foodmart stores in Connecticut,
and all Food Basics discount stores;
Central Region, operating all Waldbaum's supermarkets, The Food Emporium in
Manhattan, and the Farmer Jack supermarkets in Michigan; and South Region,
operating Super Fresh supermarkets in Baltimore and Philadelphia, A&P
supermarkets in Central New Jersey and Sav-A-Center supermarkets in the greater
New Orleans market.
On March 5, 2007, our Company announced that we have reached a definitive
merger agreement with Pathmark Stores, Inc. in which we will acquire Pathmark
Stores, Inc., ("Pathmark") for $1.5 billion in cash, stock, and debt assumption
or retirement. This transaction is expected to be completed during the second
half of our fiscal year 2007 and is subject to the completion of shareholder and
regulatory approvals, as well as other customary closing conditions. For further
details surrounding the Pathmark transaction, refer to our Company's Form 8-K
and the accompanying exhibits filed with the U.S. Securities and Exchange
Commission on March 6, 2007.
Under the terms of the transaction, The Tengelmann Group ("Tengelmann"),
currently A&P's majority shareholder, will remain the largest single shareholder
of the combined entity. Christian Haub, Executive Chairman of A&P, will continue
as Executive Chairman of the combined company; Eric Claus, President and CEO of
A&P, will also maintain the same position in the combined company.
9
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS - CONTINUED
Pathmark shareholders will receive $9.00 in cash and 0.12963 shares of A&P
stock for each Pathmark share. As a result, Pathmark shareholders, including its
largest investor, The Yucaipa Companies LLC ("Yucaipa Companies"), will receive
a stake in the combined companies.
The boards of both A&P and Pathmark have unanimously approved the
transaction. Both Yucaipa Companies and Tengelmann have entered into voting
agreements to support the transaction.
On April 24, 2007, based upon unsatisfactory operating trends and the need
to devote resources to our expanding Northeast core business, our Company
announced that we are in negotiations for the potential sale of groups of
non-core stores within our Midwest operations. No definitive sale agreements
have been signed at this time; however, based upon submitted bids received to
date, it is possible that an impairment on long-lived assets that are currently
held and used in our Midwest operations may be likely in the near term. In
addition, in connection with this potential sale, it is possible that
liabilities for closed stores and warehouses as well as pension withdrawal from
our multi-employer union pension plans may be recorded in the near term.
A&P continued on course in the fourth quarter with respect to ongoing
operating, merchandising, store development and cost control strategies.
Sales development was in line with industry peers despite competitive
responses to our sales and promotion strategies in our improving Northeastern
operations; temporary disruption caused by our increased store renovation
activity in those regions; cycling against 2005 sales in New Orleans when we led
the industry in restoring operations post Hurricane Katrina, and the continued
difficult economic environment in Michigan.
Performance was driven by the improvement of core operations, consistent
operating discipline and cost controls; and margin improvement associated with
our ongoing fresh store development, among other factors.
In addition to ongoing fundamental operating improvements, our Company
continued its conversion of suitable locations to the successful fresh format,
completing 4 conversions during the fourth quarter. Beyond immediate sales
increases, the emphasis on fresh category distribution in those stores
translates to a more profitable business model with excellent growth potential
on both the top and bottom lines.
The evolution and expansion of our discount Food Basics operations
continued, providing customers in certain markets with an excellent value
alternative. In concert with the fresh stores and the new gourmet, Fine Food
concept being implemented by The Food Emporium in New York, this fulfills the
multi-tier marketing strategy initiated by the new executive management team in
2005.
Strategic accomplishments for the full fiscal 2006 year included the
following:
- - Improvement of prior sales trends in core operating markets;
- - Positive earnings momentum in core Northeastern operations;
- - Approximately 24 conversions to the new fresh store concept, generating
double-digit sales increases upon completion for those stores;
- - Successful launch of the reformatted Food Basics discount concept;
- - Introduction of the new generation Food Emporium Fine Foods concept in New
York City;
- - Cash and earnings flow from comprehensive real estate and tax management
strategies; and
- - Continued financial benefits from previous cost reduction measures and
ongoing controls.
2007 OUTLOOK
A&P's key objectives for fiscal 2007 are to sustain and enhance execution
of the guiding strategies in place, to further accelerate performance
improvement of our core Northeast operations, complete the recently announced
acquisition of Pathmark Stores Inc., and begin integrating that business into
our Company.
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THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS - CONTINUED
Chief among the pre-existing strategies in place are the ongoing
improvement of merchandising and operating performance, the execution of capital
improvement projects for maximum return, and general adherence to cost control
disciplines. Key elements are:
- - Continued development of merchandising, promotion and pricing strategies to
drive profitable sales growth;
- - Execute core market capital plan for conversion of conventional locations
to fresh or discount formats, fine-tune and monitor gourmet format
development; and convert or dispose closed store leaseholds; and
- - Pursue operating/strategic solutions to challenged operations in Midwest
and New Orleans.
In preparation for the anticipated acquisition of Pathmark, management is
assembling a comprehensive plan for the integration of its operations upon
completion of the transaction. Primary initial objectives are to ensure:
- - Continuity of all core retail operations during integration process;
- - Divesture of non-core stores in the Midwest and New Orleans;
- - Efficient consolidation of headquarters personnel and support functions at
present A&P headquarters in Montvale;
- - Timely achievement of significant synergies identified as result of merging
the two businesses;
- - Communication to both organizations regarding process, timetable for
integration-related changes; and
- - Consumer communication regarding the continuation of both the A&P-operated
and Pathmark banners and store formats, and related marketing and
promotional efforts.
Overall, fiscal 2007 will be a year of both continuity and momentous
change, as management focuses on both sustaining the improvement already
achieved, and completing and implementing the addition of Pathmark's operations
- - thus creating a profitable and growing 460-store, $10 billion chain with
critical mass in our core Northeast region, and improved positions in Metro New
York/New Jersey and greater Philadelphia.
Various factors could cause us to fail to achieve these goals. These
include, among others, the following:
- - Actions of competitors could adversely affect our sales and future profits.
The grocery retailing industry continues to experience fierce competition
from other food retailers, super-centers, mass merchandisers, warehouse
clubs, drug stores, dollar stores and restaurants. Our continued success is
dependent upon our ability to effectively compete in this industry and to
reduce operating expenses, including managing health care and pension costs
contained in our collective bargaining agreements. The competitive
practices and pricing in the food industry generally and particularly in
our principal markets may cause us to reduce our prices in order to gain or
maintain our market share of sales, thus reducing margins.
- - Changes in the general business and economic conditions in our operating
regions, including the rate of inflation, population growth, the rising
prices of oil and gas, the nature and extent of continued consolidation in
the food industry and employment and job growth in the markets in which we
operate, may affect our ability to hire and train qualified employees to
operate our stores. This would negatively affect earnings and sales growth.
General economic changes may also affect the shopping habits and buying
patterns of our customers, which could affect sales and earnings. We have
assumed economic and competitive situations will not worsen in fiscal 2007.
However, we cannot fully foresee the effects of changes in economic
conditions, inflation, population growth, the rising prices of oil and gas,
customer shopping habits and the consolidation of the food industry on our
business.
- - Our capital expenditures could differ from our estimate if development and
remodel costs vary from those budgeted, or if performance varies
significantly from expectations or if we are unsuccessful in acquiring
suitable sites for new stores.
- - Our ability to achieve our profit goals will be affected by (i.) our
success in executing category management and purchasing programs that we
have underway, which are designed to improve our gross margins and reduce
product costs while making our product selection more attractive to
consumers, (ii.) our ability to achieve productivity improvements and
reduce shrink in our stores, (iii.) our success in generating efficiencies
in our supporting activities, and (iv.) our ability to eliminate or
maintain a minimum level of supply and/or quality control problems with our
vendors.
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THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS - CONTINUED
- - The vast majority of our employees are members of labor unions. While we
believe that our relationships with union leaderships and our employees are
satisfactory, we operate under collective bargaining agreements which
periodically must be renegotiated. In the coming year, we have several
contracts expiring and under negotiation. In each of these negotiations,
rising health care and pension costs will be an important issue, as will
the nature and structure of work rules. We are hopeful, but cannot be
certain, that we can reach satisfactory agreements without work stoppages
in these markets. However, the actual terms of the renegotiated collective
bargaining agreements, our future relationships with our employees and/or a
prolonged work stoppage affecting a substantial number of stores could have
a material effect on our results.
- - The amount of contributions made to our pension and multi-employer plans
will be affected by the performance of investments made by the plans and
the extent to which trustees of the plans reduce the costs of future
service benefits.
- - Our Company is currently required to acquire a significant amount of our
saleable inventory from one supplier, C&S Wholesale Grocers, Inc. Although
there are a limited number of distributors that can supply our stores, we
believe that other suppliers could provide similar product on reasonable
terms. However, a change in suppliers could cause a delay in distribution
and a possible loss of sales, which would affect operating results
adversely.
- - We have estimated our exposure to claims, administrative proceedings and
litigation and believe we have made adequate provisions for them, where
appropriate. Unexpected outcomes in both the costs and effects of these
matters could result in an adverse effect on our earnings.
- - Completion of the acquisition of Pathmark is conditioned upon the receipt
of certain governmental authorizations, consents, orders and approvals,
including the expiration or termination of the applicable waiting period
(and any extension of the waiting period) under the Hart-Scott-Rodino Act.
The success of the acquisition will depend, in part, on our Company's
ability to realize the anticipated benefits from combining the business
of A&P and Pathmark. If our Company is not able to achieve these
objectives, the anticipated benefits of the acquisition may not be
realized fully or at all or may take longer to realize than expected. Our
Company will take on substantial indebtedness to finance this acquisition,
which will decrease our business flexibility and increase our borrowing
costs.
Other factors and assumptions not identified above could also cause actual
results to differ materially from those set forth in the forward-looking
information. Accordingly, actual events and results may vary significantly from
those included in or contemplated or implied by forward-looking statements made
by us or our representatives.
REVIEW OF CONTINUING OPERATIONS AND LIQUIDITY AND CAPITAL RESOURCES
Our consolidated financial information presents the results related to our
operations of discontinued businesses separate from the results of our
continuing operations. Both the discussion and analysis that follows focus on
continuing operations.
We sold our Canadian operations to Metro, Inc. at the close of business on
August 13, 2005. Therefore, comparative information relating to our Canadian
business that follows was comprised of zero weeks, 24 weeks, and 52 weeks during
fiscal years 2006, 2005 and 2004, respectively.
FISCAL 2006 COMPARED WITH FISCAL 2005
Sales for fiscal 2006 were $6.9 billion compared with $8.7 billion for
fiscal 2005; comparable store sales, which includes stores that have been in
operation for two full fiscal years and replacement stores, decreased 0.5%.
Income from continuing operations of $26.5 million in fiscal 2006 decreased from
$390.4 million for fiscal 2005 primarily due to the absence of the gain on sale
of our Canadian operations of $912.1 million. Net income per share - basic and
diluted for fiscal 2006 was $0.65 and $0.64, respectively, compared to net
income per share - basic and diluted of $9.74 and $9.64, respectively, for
fiscal 2005.
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THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS - CONTINUED
Fiscal 2006 Fiscal 2005 Unfavorable % Change
----------- ----------- ----------- --------
Sales $6,850.3 $8,740.3 $(1,890.0) (21.6%)
(Decrease) increase in
comparable store sales (0.5%) 0.5% NA NA
(Loss) gain on sale of
Canadian operations (1.3) 912.1 (913.4) (100.1%)
Income from continuing operations 26.5 390.4 (363.9) (93.2%)
Income from discontinued operations 0.4 2.2 (1.8) (81.8%)
Net income 26.9 392.6 (365.7) (93.1%)
Net income per share - basic 0.65 9.74 (9.09) (93.3%)
Net income per share - diluted 0.64 9.64 (9.00) (93.4%)
SALES
Sales for fiscal 2006 of $6,850.3 million decreased $1,890.0 million or
21.6% from sales of $8,740.3 million for fiscal 2005. The lower sales were due
to a decrease in U.S. sales of $166.1 million and a decrease in Canadian sales
of $1,723.9 million. The following table presents sales for each of our
reportable operating segments for fiscal 2006 and fiscal 2005:
Fiscal 2006 Fiscal 2005 Decrease % Change
----------- ----------- --------- --------
United States $6,850.3 $7,016.4 $ (166.1) (2.4%)
Canada -- 1,723.9 (1,723.9) (100.0)
-------- -------- --------- ------
Total $6,850.3 $8,740.3 $(1,890.0) (21.6%)
======== ======== ========= ======
The following details the dollar impact of several items affecting the
decrease in sales by reportable operating segment from fiscal 2005 to fiscal
2006:
Impact Impact Comparable Impact of
of New of Closed Store Hurricane
Stores Stores Sales Katrina Other Total
------ --------- ---------- --------- --------- ---------
United States $40.7 $(232.9) $(36.0) $53.6 $ 8.5 $ (166.1)
Canada -- -- -- -- (1,723.9) (1,723.9)
----- ------- ------ ----- --------- ---------
Total $40.7 $(232.9) $(36.0) $53.6 $(1,715.4) $(1,890.0)
===== ======= ====== ===== ========= =========
The decrease in U.S. sales was primarily attributable to the closing of 58
stores since the beginning of fiscal 2005, of which 9 were closed in fiscal 2006
decreasing sales by $232.9 million, the decrease in comparable store sales for
fiscal 2006 of $36.0 million or 0.5% as compared with fiscal 2005 driven mainly
by a decrease in comparable store sales of 5.6% for the Midwest. These decreases
were partially offset by the opening or re-opening of 12 new stores since the
beginning of fiscal 2005, of which 10 were opened or re-opened in fiscal 2006,
increasing sales by $40.7 million, the increase in sales for our New Orleans
stores that were temporarily closed as a result of Hurricane Katrina of $53.6
million and the increase in sales relating to an information technology services
agreement with Metro, Inc. of $8.5 million. Included in the 58 stores closed
since the beginning of fiscal 2005 were 35 stores closed as part of the asset
disposition initiative as discussed in Note 8 of our Consolidated Financial
Statements. Included in the 12 stores opened since the beginning of fiscal 2005
was 6 Clemens Markets stores we purchased from C&S Wholesale Grocers, Inc.
during fiscal 2006.
The decrease in Canadian sales of $1,723.9 million was due to the sale of
our Canadian operations during the second quarter of fiscal 2005 which resulted
in the inclusion of zero weeks of sales for fiscal 2006 as compared to the
inclusion of 24 weeks for fiscal 2005.
Average weekly sales per supermarket for the U.S. were approximately
$337,000 for fiscal 2006 versus $330,000 for the corresponding period of the
prior year, an increase of 2.1% primarily due to the impact of closing smaller
stores offset by the negative comparable store sales.
13
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS - CONTINUED
GROSS MARGIN
The following table presents gross margin dollar results and gross margin
as a percentage of sales by reportable operating segment for fiscal 2006 as
compared to fiscal 2005. Gross margin as a percentage of sales increased 147
basis points to 30.14% for fiscal 2006 from 28.67% for fiscal 2005 primarily
caused by the sale of our Canadian operations which had a lower gross margin
rate. We believe the impact on margin for changes in costs and special
reductions was not significant.
Fiscal 2006 Fiscal 2005
------------------ ------------------
Gross Rate to Gross Rate to
Margin Sales% Margin Sales%
-------- ------- -------- -------
United States $2,064.4 30.14% $2,084.4 29.71%
Canada -- -- 420.7 24.40
-------- ----- -------- -----
Total $2,064.4 30.14% $2,505.1 28.67%
======== ===== ======== =====
The following table details the dollar impact of several items affecting
the gross margin dollar decrease from fiscal 2005 to fiscal 2006:
Sales
Volume Rate Other Total
------ ----- ------- -------
United States $(49.4) $29.4 $ -- $ (20.0)
Canada -- -- (420.7) (420.7)
------ ----- ------- -------
Total $(49.4) $29.4 $(420.7) $(440.7)
====== ===== ======= =======
STORE OPERATING, GENERAL AND ADMINISTRATIVE EXPENSE
The following table presents store operating, general and administrative
expense ("SG&A") by reportable operating segment, in dollars and as a percentage
of sales for fiscal 2006 compared with fiscal 2005. SG&A expense was $2,074.5
million or 30.28% for fiscal 2006 as compared $2,825.7 million or 32.33% for
fiscal 2005.
Fiscal 2006 Fiscal 2005
------------------ ------------------
Rate to Rate to
SG&A Sales% SG&A Sales%
-------- ------- -------- -------
United States $2,074.5 30.28% $2,462.2 35.09%
Canada -- -- 363.5 21.09
-------- ----- -------- -----
Total $2,074.5 30.28% $2,825.7 32.33%
======== ===== ======== =====
Included in SG&A in the U.S. for fiscal 2006 were certain charges as follows:
- - costs relating to the closing of our owned warehouses in Edison, New Jersey
and Bronx, New York of $5.5 million (8 basis points) that were not sold as
part of the sale of our U.S. distribution operations and some warehouse
facilities and related assets to C&S Wholesale Grocers as discussed in Note
8 - Asset Disposition Initiatives;
- - costs relating to the closure of stores in the Midwest as discussed in Note
8 - Asset Disposition Initiatives of $3.9 million (6 basis points);
- - costs relating to the consolidation of our operating offices in line with
our smaller operations in the U.S. of $3.8 million (5 basis points); and
- - costs relating to a voluntary labor buyout program in the South region of
$4.5 million (7 basis points).
14
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS - CONTINUED
Partially offset by:
- - net gains on real estate activity of $21.9 million (32 basis points) during
fiscal 2006; and
- - gain from proceeds of insurance settlement of $9.2 million (13 basis
points) received during fiscal 2006 for a portion of our losses caused by
Hurricane Katrina as discussed in Note 16 - Hurricane Katrina and Impact on
U.S. Business.
SG&A in the U.S. for fiscal 2005 also included certain charges as follows:
- - costs relating to the closing of our owned warehouses in Edison, New Jersey
and Bronx, New York of $83.2 million (119 basis points) that were not sold
as part of the sale of our U.S.
distribution operations and some warehouse facilities and related assets to
C&S Wholesale Grocers as discussed in Note 8 - Asset Disposition
Initiatives;
- - costs relating to the closure of stores in the Midwest as discussed in Note
8 - Asset Disposition Initiatives of $114.0 million (163 basis points);
- - costs relating to future occupancy costs for four stores closed in
connection with Hurricane Katrina, the write-off of an asset for a
favorable lease that was recorded for one of these stores that is now
closed, our insurance deductible, and other related hurricane costs as
discussed in Note 16 - Hurricane Katrina and Impact on U.S. Business of
$19.0 million (27 basis points);
- - costs relating to the impairment of unrecoverable assets of $17.7 million
(25 basis points) as discussed in Note 6 - Valuation of Long-Lived Assets;
- - costs relating to an administrative reorganization during fiscal 2005 of
$17.6 million (25 basis points);
- - costs relating to the consolidation of our operating offices in line with
our smaller operations in the U.S. of $14.8 million (21 basis points);
- - costs relating to the cash tender offer completed during fiscal 2005 as
discussed in Note 9 - Indebtedness of $32.6 million (46 basis points);
- - costs relating to the settlement of our net investment hedge as discussed
in Note 18 - Hedge of Net Investment in Foreign Operations of $15.4 million
(22 basis points); and
- - costs relating to workers compensation state assessment charges as
discussed in Note 1 - Summary of Significant Accounting Policies of $9.7
million (14 basis points).
Partially offset by:
- - recoveries from our VISA/Mastercard antitrust class action litigation as
discussed in Note 19 - Commitments and Contingencies of $1.5 million (2
basis points); and
- - net gains on real estate activity of $14.9 million (21 basis points) during
fiscal 2005.
Excluding the items listed above, SG&A within our core U.S. operations, as
a percentage of sales, decreased by 23 basis points during fiscal 2006 as
compared to fiscal 2005 primarily due to the continued focus on discretionary
spend, particularly within the administrative departments of $23.8 million (29
basis points).
The decrease in SG&A in Canada of $363.5 million was due to the sale of our
Canadian operations during the second quarter of fiscal 2005 which resulted in
the inclusion of zero weeks of costs in fiscal 2006 as compared to 24 weeks in
fiscal 2005.
15
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS - CONTINUED
During fiscal 2006 and fiscal 2005, we recorded impairment losses on
long-lived assets as follows:
Fiscal 2006 Fiscal 2005
------------------------ --------------------------
U.S. Canada Total U.S. Canada Total
------ ------ ------ ------- ------ -------
Impairments due to closure or conversion
in the normal course of business $4,836 $-- $4,836 $ 9,851 $506 $10,357
Impairments due to unrecoverable assets -- -- -- 17,728 -- 17,728
Impairments due to closure of stores
impacted by Hurricane Katrina (1) -- -- -- 6,090 -- 6,090
Impairments related to the our asset
disposition initiatives (2) 1,049 -- 1,049 15,463 -- 15,463
------ --- ------ ------- ---- -------
Total impairments $5,885 $-- $5,885 $49,132 $506 $49,638
====== === ====== ======= ==== =======
(1) Refer to Note 16 - Hurricane Katrina and Impact on U.S. Business
(2) Refer to Note 8 - Asset Disposition Initiatives
The effects of changes in estimates of useful lives were not material to
ongoing depreciation expense.
If current operating levels do not improve, there may be additional future
impairments on long-lived assets, including the potential for impairment of
assets that are held and used, particularly in our Midwest operations.
16
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS - CONTINUED
(LOSS) GAIN ON SALE OF CANADIAN OPERATIONS
We sold our Canadian operations to Metro, Inc. at the close of business on
August 13, 2005. As a result of this sale, we recorded a pretax gain of $912.1
million (gain of $805.3 million after tax) during fiscal 2005. In fiscal 2006,
we recorded a charge of $1.3 million as a result of a post-closing working
capital adjustment as provided in the Stock Purchase Agreement.
INTEREST EXPENSE
Interest expense of $73.8 million for fiscal 2006 decreased from the prior
year amount of $92.2 million due primarily to (i.) the repurchase of the
majority of our 7.75% Notes due April 15, 2007 and our 9.125% Senior Notes due
December 15, 2011 resulting in a reduction in interest expense of $17.2 million,
and (ii.) the absence of interest expense of $8.4 million relating to our
Canadian operations that was recorded during fiscal 2005 but not recorded during
fiscal 2006 as a result of its sale, partially offset by (iii.) an increase in
interest expense of $5.4 million due to our increased borrowings on our
revolving line of credit.
EQUITY IN EARNINGS OF METRO, INC.
We use the equity method of accounting to account for our investment in
Metro, Inc. on the basis that we have significant influence over substantive
operating decisions made by Metro, Inc. through our membership on Metro, Inc.'s
Board of Directors and its committees and through an information technology
services agreement with Metro, Inc. During fiscal 2006 and fiscal 2005, we
recorded $40.0 million and $7.8 million, respectively, in equity earnings
relating to our equity
17
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS - CONTINUED
investment in Metro, Inc. Refer to Note 20 - Subsequent Events for further
discussion regarding our equity investment in Metro, Inc. subsequent to February
24, 2007.
INCOME TAXES
The benefit from income taxes from continuing operations for fiscal 2006
was $62.1 million compared to a provision for income taxes from continuing
operations for fiscal 2005 of $128.9 million (a $110.4 million provision for our
U.S. operations and an $18.5 million provision for our Canadian operations).
Consistent with the prior year, we continue to record a valuation allowance
against our U.S. net deferred tax assets.
For fiscal 2006, our effective income tax rate of 174.5% changed from the
effective income tax rate of 24.8% for fiscal 2005 as follows:
Fiscal 2006 Fiscal 2005
------------------- ---------------------
Tax Effective Tax Effective
Benefit Tax Rate Provision Tax Rate
------- --------- --------- ---------
United States $62,088 (174.5%) $(110,388) 21.3%
Canada -- -- (18,539) 3.5
------- ------ --------- ----
$62,088 (174.5%) $(128,927) 24.8%
======= ====== ========= ====
The change in our effective tax rate was primarily due to (i.) the
recognition of tax benefits during fiscal 2006 as we continue to experience
operating losses and these operating losses decrease the overall tax provision
previously recorded during fiscal 2005 in connection with our Company's Domestic
Reinvestment Plan and events surrounding the sale of our Canadian operations in
fiscal 2005, (ii) the recognition of foreign tax credits, (iii) the increase in
our valuation allowance that was recorded through the current year tax benefit,
(iv) the tax benefit from not providing deferred taxes on the undistributed
earnings of our investment in Metro, Inc., and (v.) the absence of a tax
provision that was recorded for our Canadian operations during fiscal 2005 that
was not recorded during fiscal 2006 due to the sale of our Canadian operations
during the second quarter of fiscal 2005.
18
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS - CONTINUED
DISCONTINUED OPERATIONS
Beginning in the fourth quarter of fiscal year 2002 and in the early part
of the first quarter of fiscal 2003, we decided to sell our operations located
in Northern New England and Wisconsin, as well as our Eight O'Clock Coffee
business. These asset sales are now complete.
Although the Canadian operations have been sold as of February 25, 2006,
the criteria necessary to classify the Canadian operations as discontinued have
not been satisfied as our Company has retained significant continuing
involvement in the operations of this business upon its sale.
Income from operations of discontinued businesses, net of tax, for fiscal
2006 was $0.4 million as compared to $1.6 million for fiscal 2005, which was
primarily due to adjustments as a result of changes in estimates partially
offset by interest accretion on future occupancy payments that were recorded at
present value at the time of the original charge.
The gain on disposal of discontinued operations, net of tax, was $0.6
million for fiscal 2005, which was related to the sale of a Kohl's warehouse in
fiscal 2005. There were no similar gains for fiscal 2006.
19
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS - CONTINUED
FISCAL 2005 COMPARED WITH FISCAL 2004
Sales for fiscal 2005 were $8.7 billion, compared with $10.9 billion for
fiscal 2004; comparable store sales, which includes stores that have been in
operation for two full fiscal years and replacement stores, increased 0.5%. Loss
from continuing operations reversed from $184.0 million for fiscal 2004 to
income from continuing operations of $390.4 million for fiscal 2005 primarily
due to the gain on sale of our Canadian operations of $912.1 million. Net income
per share - basic and diluted for fiscal 2005 was $9.74 and $9.64, respectively,
compared to a net loss per share - basic and diluted of $4.88 for fiscal 2004.
(Unfavorable)
Fiscal 2005 Fiscal 2004 Favorable / % Change
----------- ----------- ------------- --------
Sales $8,740.3 $10,854.9 $(2,114.6) (19.5%)
Increase in comparable store sales 0.5% 0.1% NA NA
Gain on sale of Canadian operations 912.1 -- 912.1 100.0
Income (loss) from continuing operations 390.4 (184.0) 574.4 >100.0
Income (loss) from discontinued operations 2.2 (4.1) 6.3 >100.0
Net income (loss) 392.6 (188.1) 580.7 >100.0
Net income (loss) per share - basic 9.74 (4.88) 14.62 >100.0
Net income (loss) per share - diluted 9.64 (4.88) 14.52 >100.0
SALES
Sales for fiscal 2005 of $8,740.3 million decreased $2,114.6 million or
19.5% from sales of $10,854.9 million for fiscal 2004. The lower sales were due
to a decrease in U.S. sales of $301.2 million and a decrease in Canadian sales
of $1,813.4 million. The following table presents sales for each of our
reportable operating segments for fiscal 2005 and fiscal 2004:
Fiscal Fiscal
2005 2004 Decrease % Change
-------- --------- --------- --------
United States $7,016.4 $ 7,317.6 $ (301.2) (4.1%)
Canada 1,723.9 3,537.3 (1,813.4) (51.3)
-------- --------- --------- -----
Total $8,740.3 $10,854.9 $(2,114.6) (19.5%)
======== ========= ========= =====
The following details the dollar impact of several items affecting the
decrease in sales by reportable operating segment from fiscal 2004 to fiscal
2005:
Impact Impact Foreign Comparable Impact of
of New of Closed Exchange Store Hurricane
Stores Stores Rate Sales Katrina Other Total
------ --------- -------- ---------- --------- --------- ---------
United States $25.2 $(330.0) $ -- $30.7 $(36.3) $ 9.2 $ (301.2)
Canada 47.6 (65.1) 162.0 1.6 -- (1,959.5) (1,813.4)
----- ------- ------ ----- ------ --------- ---------
Total $72.8 $(395.1) $162.0 $32.3 $(36.3) $(1,950.3) $(2,114.6)
===== ======= ====== ===== ====== ========= =========
The decrease in U.S. sales was primarily attributable to the closing of 67
stores since the beginning of fiscal 2004, of which 49 were closed in fiscal
2005 primarily in the Midwest, decreasing sales by $330.0 million, and the
decrease in sales caused by the overall impact of
20
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS - CONTINUED
Hurricane Katrina of $36.3 million. These decreases were partially offset by the
opening or re-opening of 18 new stores since the beginning of fiscal 2004, of
which 2 were opened or re-opened in fiscal 2005, increasing sales by $25.2
million, the increase in comparable store sales for fiscal 2005 of $30.7 million
or 0.5% as compared with fiscal 2004, and the increase in sales relating to an
information technology services agreement with Metro, Inc. of $9.2 million.
The decrease in Canadian sales was primarily attributable to the sale of
our Canadian operations that resulted in the inclusion of 24 weeks of sales
during fiscal 2005 as compared to 52 weeks during fiscal 2004, decreasing sales
by $1,959.5 million, and the closure of 14 stores since the beginning of fiscal
2004, of which 1 was closed in fiscal 2005, decreasing sales by $65.1 million.
These decreases were partially offset by the opening or re-opening of 9 stores
since the beginning of fiscal 2004, of which 1 was opened or re-opened in fiscal
2005, increasing sales by $47.6 million, the favorable effect of the Canadian
exchange rate, which increased sales by $162.0 million, and the increase in
comparable store sales for fiscal 2005 of $1.6 million or 0.1% for
Company-operated stores and franchised stores combined, as compared to fiscal
2004.
Average weekly sales per supermarket for the U.S. were approximately
$330,000 for fiscal 2005 versus $323,100 for the corresponding period of the
prior year, an increase of 2.1% primarily due to the impact of closing smaller
stores and positive comparable store sales. Average weekly sales per supermarket
for Canada were approximately $298,600 for fiscal 2005 versus $285,900 for the
corresponding period of the prior year, an increase of 4.4%. This increase was
primarily due to the increase in the Canadian exchange rate and higher
comparable store sales.
21
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS - CONTINUED
GROSS MARGIN
The following table presents gross margin dollar results and gross margin
as a percentage of sales by reportable operating segment for fiscal 2005 as
compared to fiscal 2004. Gross margin as a percentage of sales increased 65
basis points to 28.67% for fiscal 2005 from 28.02% for fiscal 2004 primarily
caused by the sale of our Canadian operations which had a lower gross margin
rate. We believe the impact on margin for changes in costs and special
reductions was not significant.
Fiscal 2005 Fiscal 2004
------------------ ------------------
Gross Rate to Gross Rate to
Margin Sales % Margin Sales %
-------- ------- -------- -------
United States $2,084.4 29.71% $2,177.9 29.76%
Canada 420.7 24.40 863.2 24.40
-------- ----- -------- -----
Total $2,505.1 28.67% $3,041.1 28.02%
======== ===== ======== =====
The following table details the dollar impact of several items affecting
the gross margin dollar decrease from fiscal 2004 to fiscal 2005:
Gross Margin
Sales Volume Rate Exchange Rate Other Total
------------ ----- ------------- ------- -------
United States $ (89.6) $(3.9) $ -- $ -- $ (93.5)
Canada (58.8) 4.5 32.9 (421.1) (442.5)
------- ----- ----- ------- -------
Total $(148.4) $ 0.6 $32.9 $(421.1) $(536.0)
======= ===== ===== ======= =======
22
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS - CONTINUED
STORE OPERATING, GENERAL AND ADMINISTRATIVE EXPENSE
The following table presents store operating, general and administrative
expense ("SG&A") by reportable operating segment, in dollars and as a percentage
of sales for fiscal 2005 compared with fiscal 2004. SG&A expense was $2,825.7
million or 32.33% for fiscal 2005 as compared to $3,114.1 million or 28.69% for
fiscal 2004.
Fiscal 2005 Fiscal 2004
------------------------- -------------------------
SG&A Rate to Sales% SG&A Rate to Sales%
-------- -------------- -------- --------------
United States $2,462.2 35.09% $2,307.2 31.53%
Canada 363.5 21.09 806.9 22.81
-------- ----- -------- -----
Total $2,825.7 32.33% $3,114.1 28.69%
======== ===== ======== =====
Included in SG&A in the U.S. for fiscal 2005 were certain charges as follows:
- - costs relating to the closing of our owned warehouses in Edison, New Jersey
and Bronx, New York of $83.2 million (119 basis points) that were not sold
as part of the sale of our U.S. distribution operations and some warehouse
facilities and related assets to C&S Wholesale Grocers as discussed in Note
8 - Asset Disposition Initiatives;
- - costs relating to the closure of stores in the Midwest as discussed in Note
8 - Asset Disposition Initiatives of $114.0 million (163 basis points);
- - costs relating to future occupancy costs for four stores closed in
connection with Hurricane Katrina, the write-off of an asset for a
favorable lease that was recorded for one of these stores that is now
closed, our insurance deductible, and other related hurricane costs as
discussed in Note 16 - Hurricane Katrina and Impact on U.S. Business of
$19.0 million (27 basis points);
- - costs relating to the impairment of unrecoverable assets of $17.7 million
(25 basis points) as discussed in Note 6 - Valuation of Long-Lived Assets;
- - costs relating to an administrative reorganization during fiscal 2005 of
$17.6 million (25 basis points);
- - costs relating to the consolidation of our operating offices in line with
our smaller operations in the U.S. of $14.8 million (21 basis points);
- - costs relating to the cash tender offer completed during fiscal 2005 as
discussed in Note 9 - Indebtedness of $32.6 million (46 basis points);
- - costs relating to the settlement of our net investment hedge as discussed
in Note 18 - Hedge of Net Investment in Foreign Operations of $15.4 million
(22 basis points); and
- - costs relating to workers compensation state assessment charges as
discussed in Note 1 - Summary of Significant Accounting Policies of $9.7
million (14 basis points).
Partially offset by:
- - recoveries from our VISA/Mastercard antitrust class action litigation as
discussed in Note 19 - Commitments and Contingencies of $1.5 million (2
basis points); and
- - net gains on real estate activity of $14.9 million (21 basis points) during
fiscal 2005.
23
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS - CONTINUED
SG&A in the U.S. for fiscal 2004 also included certain charges as follows:
- - costs relating to the impairment of unrecoverable assets of $34.7 million
(47 basis points);
- - costs relating to severance and other charges of $10.7 million (15 basis
points) relating to an administrative reorganization; and
- - costs relating to an increase in our workers' compensation and general
liability reserves of $27.2 million (37 basis points) in response to both
adverse development of prior years' costs and other developments including
a continuing trend of rising costs.
Partially offset by:
- - a reduction in the vacation accrual of $8.6 million (12 basis points) due
to a change in the vacation entitlement practice. Prior to the change in
the vacation operating policy, non-union employees were fully vested on the
first day of the calendar year. As such under SFAS No. 43, "Compensated
Absences", our Company accrued vacation as it was earned by non-union
employees (earned in the calendar year immediately preceding the January 1
vesting date). Under the new vacation operating policy, non-union employees
vest over the year that vacation is earned, and accordingly, our Company
recorded a one-time adjustment to reduce the liability; and
- - net gains on real estate activity of $22.5 million (31 basis points) during
fiscal 2005.
Excluding the items listed above, SG&A within our core U.S. operations, as
a percentage of sales, decreased by 25 basis points during fiscal 2005 as
compared to fiscal 2004 primarily due to a reduction in administrative expenses
of $49.5 million, a reduction in advertising costs of $9.9 million, and a
reduction in depreciation expense of $9.9 million partially offset by an
increase in utilities expense of $15.9 million due to rising costs of oil and
gas.
The decrease in SG&A in Canada of $443.4 million (172 basis points) is
primarily due to the inclusion of 24 weeks of costs during fiscal 2005 as
compared to 52 weeks of costs during fiscal 2004, in addition to (i.) lower
depreciation expense of $21.6 million as the Canadian assets were sold during
fiscal 2005, and (ii.) the absence of costs relating to the settlement of the
Canadian lawsuit of $24.9 million which were included in fiscal 2004.
During fiscal 2005 and fiscal 2004, we recorded impairment losses on
long-lived assets as follows:
Fiscal 2005 Fiscal 2004
-------------------------- --------------------------
U.S. Canada Total U.S. Canada Total
------- ------ ------- ------- ------ -------
Impairments due to closure or conversion
in the normal course of business $ 9,851 $506 $10,357 $ 6,000 $709 $ 6,709
Impairments due to unrecoverable assets 17,728 -- 17,728 34,688 -- 34,688
Impairments due to closure of stores
impacted by Hurricane Katrina (1) 6,090 -- 6,090 -- -- --
Impairments related to our asset
disposition initiatives (2) 15,463 -- 15,463 2,749 -- 2,749
------- ---- ------- ------- ---- -------
Total impairments $49,132 $506 $49,638 $43,437 $709 $44,146
======= ==== ======= ======= ==== =======
24
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS - CONTINUED
(1) Refer to Note 16 - Hurricane Katrina and Impact on U.S. Business
(2) Refer to Note 8 - Asset Disposition Initiatives
The effects of changes in estimates of useful lives were not material to
ongoing depreciation expense.
If current operating levels do not improve, there may be additional future
impairments on long-lived assets, including the potential for impairment of
assets that are held and used.
GAIN ON SALE OF CANADIAN OPERATIONS
We sold our Canadian operations to Metro, Inc. at the close of business on
August 13, 2005. As a result of this sale, we recorded a pretax gain of $912.1
million (gain of $805.3 million after tax) during fiscal 2005.
INTEREST EXPENSE
Interest expense of $92.2 million for fiscal 2005 decreased from the prior
year amount of $114.1 million due primarily to (i.) the repurchase of the
majority of our 7.75% Notes due April 15, 2007 and our 9.125% Senior Notes due
December 15, 2011 resulting in a reduction in interest expense of $15.8 million,
(ii.) a decrease in capitalized interest expense of $1.0 million due mainly to a
reduction in new store builds, and (iii.) lower interest expense of $8.8 million
relating to our Canadian operations due to the inclusion of its operating
results for 24 weeks for fiscal 2005 as compared to 52 weeks for fiscal 2004 as
a result of its sale, partially offset by higher interest expense resulting from
our on-balance sheet long-term real estate liabilities, which includes
sale-leaseback of Company-owned properties entered into in the fourth quarter of
fiscal 2003, of approximately $1.4 million and sale-leaseback of locations for
which we received landlord allowances of $0.5 million.
INCOME TAXES
The provision for income taxes from continuing operations for fiscal 2005
was $128.9 million (a $110.4 million provision for our U.S. operations and a
$18.5 million provision for our Canadian operations) compared to a provision for
income taxes from continuing operations for fiscal 2004 of $0.5 million (a $4.5
million provision for our U.S. operations and a $4.0 million benefit for our
Canadian operations). Consistent with prior year, we continue to record a
valuation allowance against our U.S. net deferred tax assets.
For fiscal 2005, our effective income tax rate of 24.8% changed from the
effective income tax rate of 0.3% for fiscal 2004 as follows:
Fiscal 2005 Fiscal 2004
--------------------- ---------------------------
Tax Effective Tax (Provision) Effective
Provision Tax Rate Benefit Tax Rate
--------- --------- --------------- ---------
United States $(110,388) 21.3% $(4,500) 2.5%
Canada (18,539) 3.5% 3,972 (2.2%)
--------- ---- ------- ----
$(128,927) 24.8% $ (528) 0.3%
========= ==== ======= ====
25
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS - CONTINUED
The change in our effective tax rate was primarily due to the tax
provisions we recorded in the U.S. in connection with (i.) our Company's
Domestic Reinvestment Plan as discussed in Note 12 - Income Taxes and (ii.) the
sale of our Canadian operations that occurred during fiscal 2005.
DISCONTINUED OPERATIONS
Beginning in the fourth quarter of fiscal year 2002 and in the early part
of the first quarter of fiscal 2003, we decided to sell our operations located
in Northern New England and Wisconsin, as well as our Eight O'Clock Coffee
business. These asset sales are now complete.
Although the Canadian operations have been sold as of February 25, 2006,
the criteria necessary to classify the Canadian operations as discontinued have
not been satisfied as our Company has retained significant continuing
involvement in the operations of this business upon its sale.
Income from operations of discontinued businesses, net of tax, for fiscal
2005 was $1.6 million, which was primarily related to adjustments as a result of
changes in estimates partially offset by interest accretion on future occupancy
payments that were recorded at present value at the time of the original charge.
Loss from operations of discontinued businesses, net of tax, was $1.4 million
for fiscal 2004, which was primarily related to interest accretion on future
occupancy payments that were recorded at present value at the time of the
original charge and additional closing costs related to these businesses.
The gain on disposal of discontinued operations, net of tax, was $0.6
million for fiscal 2005, which was related to the sale of a Kohl's warehouse.
The loss on disposal of discontinued operations, net of tax, of $2.7 million for
fiscal 2004 related to a post-sale working capital settlement between the buyer
and our Company for which the amount was not determinable at the time of the
sale of our Eight O'Clock Coffee business.
26
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS - CONTINUED
LIQUIDITY AND CAPITAL RESOURCES
CASH FLOWS
The following table presents excerpts from our Consolidated Statements of
Cash Flows:
Fiscal 2006 Fiscal 2005 Fiscal 2004
----------- ----------- -----------
Net cash provided by (used in) operating activities $ 36,722 $ (76,007) $ 114,458
--------- --------- ---------
Net cash provided by (used in) investing activities $ 48,755 $ 459,297 $(162,501)
--------- --------- ---------
Net cash (used in) provided by financing activities $(228,937) $(411,566) $ 4,164
--------- --------- ---------
Net cash flow provided by operating activities of $36.7 million for fiscal
2006 primarily reflected our net income of $26.9 million, adjusted for non-cash
charges for (i.) depreciation and amortization of $177.8 million, (ii.) asset
disposition initiatives of $2.3 million, (iii.) proceeds from dividends from
Metro, Inc. of $6.9 million partially offset by (iv.) gains on the disposal of
owned property of $28.1 million, (v.) income tax benefit of $66.4 million, and
(vi.) our equity in earnings of Metro, Inc of $40.0 million, a decrease in
receivables of $62.7 million partially offset by a decrease in other accruals of
$61.4 million primarily due to timing and a decrease in non-current liabilities
of $37.6 million due mainly to closed store accruals. Refer to Working Capital
below for discussion of changes in working capital items. Net cash flow used in
operating activities of $76.0 million for fiscal 2005 primarily reflected our
net income of $392.6 million, adjusted for non-cash charges for (i.)
depreciation and amortization of $207.3 million, (ii.) asset disposition
initiatives of $185.1 million, (iii.) income tax provision of $98.1 million, and
(iv.) other property impairments of $28.1 million, a decrease in inventories of
$109.5 million and an increase in other accruals of $48.9 million partially
offset by the gain on sale of Canadian operations of $912.1 million, an increase
in receivables of $56.1 million, a decrease in accounts payable of $101.3
million, and a decrease in other non-current liabilities of $76.3 million
primarily due to the sale of our Canadian operations. Net cash provided by
operating activities of $114.5 million for fiscal 2004 primarily reflected our
net loss of $188.1 million, adjusted for non-cash charges of $268.1 million for
depreciation and amortization and $34.7 million for the Midwest long lived
assets / goodwill impairment partially offset by a gain on disposal of owned
property and write-down of property, net of $28.7 million, a decrease in
accounts receivable of $29.2 million, and an increase in accounts payable of
$46.3 million partially offset by an increase in inventories of $12.6 million,
an increase in prepaid assets and other current assets of $6.0 million, an
increase in other assets of $19.0 million, and a decrease in other accruals of
$34.1 million.
Net cash flow provided by investing activities of $48.8 million for fiscal
2006 primarily reflected proceeds received from the sale of certain of our
assets of $41.9 million, an increase in restricted cash of $95.1 million and net
proceeds from maturities of marketable securities of $145.8 million partially
offset by the purchase of 6 Clemens Markets stores from C&S Wholesale Grocers,
Inc. of $24.6 million and property expenditures totaling $208.2 million, which
included 4 new supermarkets and 30 major remodels and 35 minor remodels. Net
cash flow provided by investing activities of $459.3 million for fiscal 2005
primarily reflected proceeds from the sale of our Canadian operations of $960.7
million, proceeds received from the sale of certain of our assets of $72.3
27
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS - CONTINUED
million partially offset by property expenditures totaling $191.1 million, which
included 3 new supermarkets and 41 major remodels, disposal related expenditures
for sale of the Canadian operations of $53.9 million, payments for derivatives
of $15.4 million, the increase in restricted cash of $146.3 million, and the net
purchases of marketable securities of $167.0 million. Net cash used in investing
activities of $162.5 million for fiscal 2004 primarily reflected property
expenditures totaling $216.1 million, which included 24 new supermarkets and 18
major remodels partially offset by cash received from the sale of certain of our
assets of $53.6 million.
On March 5, 2007, our Company announced that we have reached a definitive
merger agreement with Pathmark Stores, Inc. in which we will acquire Pathmark
Stores, Inc., ("Pathmark") for $1.5 billion in cash, stock, and debt assumption
or retirement. This transaction is expected to be completed during the second
half of our fiscal year 2007 and is subject to the completion of shareholder and
regulatory approvals, as well as other customary closing conditions. For further
details surrounding the Pathmark transaction, refer to our Company's Form 8-K
and the accompanying exhibits filed with the U.S. Securities and Exchange
Commission on March 6, 2007.
Based on our announced acquisition of Pathmark, for fiscal 2007, we have
reduced our planned capital expenditures to $150.0 million, which relate
primarily to opening new supermarkets under the Fresh format, opening
new liquor stores, enlarging or remodeling supermarkets to the new
Fresh format, and converting supermarkets to the new Gourmet format.
Net cash flow used in financing activities of $228.9 million for fiscal
2006 primarily reflected principal payments on revolving lines of credit of
$1,687.1 million, principal payments on capital leases of $5.3 million, and
dividends paid of $299.1 million partially offset by proceeds under revolving
lines of credit of $1,757.1 million and proceeds from the exercise of stock
options of $6.0 million. Net cash flow used in financing activities of $411.6
million for fiscal 2005 primarily reflected principal payments on long term
borrowings of $414.0 million and principal payments on capital leases of $11.0
million partially offset by proceeds from the exercise of stock options of $26.1
million. Net cash provided by financing activities of $4.2 million for fiscal
2004 primarily reflected net proceeds from long term real estate liabilities of
$37.1 million partially offset by principal payments on capital leases of $13.5
million, a decrease in book overdrafts of $13.7 million and principal payments
on long term borrowings of $6.1 million.
We operate under an annual operating plan which is reviewed and approved by
our Board of Directors and incorporates the specific operating initiatives we
expect to pursue and the anticipated financial results of our Company. Our plan
for fiscal 2007 at this time has been approved and we believe that our present
cash resources, including invested cash on hand as well as our marketable
securities, available borrowings from our Revolving Credit Agreement
("Revolver") and other sources, are sufficient to meet our needs.
Profitability, cash flow, asset sale proceeds and timing can be impacted by
certain external factors such as unfavorable economic conditions, competition,
labor relations and fuel and utility costs which could have a significant impact
on cash generation. If our profitability and cash flow do not improve in line
with our plans or if the taxing authorities do not affirm the adequacy of our
Company's Domestic Reinvestment Plan, we anticipate that we would be able to
liquidate our investment in Metro, Inc. and or modify the operating plan in
order to ensure that we have appropriate resources.
28
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS - CONTINUED
On April 25, 2006, our Company paid a special one-time dividend to our
shareholders of record on April 17, 2006 equal to $7.25 per share. This dividend
payout totaling $299.1 million was recorded as a reduction of "Additional paid
in capital" in our Consolidated Balance Sheets at February 24, 2007. The
transaction was funded primarily by cash available on the balance sheet
resulting from the strategic restructuring of the Company during fiscal 2005.
Our planned acquisition of Pathmark requires approximately $1.5 billion of
cash proceeds to finance the equity purchase and pay down debt obligations. Our
Company has adequate funding to meet these needs including fully committed
financing from Bank of America and Lehman Brothers.
WORKING CAPITAL
We had working capital of $190.5 million at February 24, 2007 compared to
working capital of $599.7 million at February 25, 2006. We had cash and cash
equivalents aggregating $86.2 million at February 24, 2007 compared to $229.6
million at February 25, 2006. The decrease in working capital was attributable
primarily to the following:
- - A decrease in cash and cash equivalents as detailed in the Consolidated
Statements of Cash Flows;
- - A decrease in restricted cash and marketable securities due primarily to
the payment of a one-time special dividend as discussed in Note 3 - Special
One-time Dividend;
- - A decrease in accounts receivable mainly due to special initiatives to
reduce receivables;
- - A decrease in prepaid expenses and other current assets mainly due to the
timing of payments; and
- - An increase in the current portion of our long-term debt primarily due to
our 7.75% Notes becoming due on April 15, 2007.
Partially offset by the following:
- - A decrease in accounts payable (inclusive of book overdrafts) due to the
timing of payments;
- - A decrease in accrued salaries, wages and benefits, and taxes due primarily
to the timing of payments; and
- - A decrease in other accruals due to timing.
LETTER OF CREDIT AGREEMENT
During fiscal 2005, we entered into a cash collateralized, Letter of Credit
Agreement that enabled us to issue letters of credit up to $200 million. During
the third quarter of fiscal 2006, our Company transferred 6,000,000 of our Class
A subordinate shares of Metro, Inc. from our foreign subsidiary to the United
States. These transferred shares were being used as collateral for the Letter of
Credit Agreement and have allowed us to reduce the amount of restricted cash
and/or marketable securities we were previously required to maintain as
collateral. As a result of this transfer, the Letter of Credit Agreement was
amended to enable us to issue letters of credit up to
29
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS - CONTINUED
$150 million. At February 24, 2007 and February 25, 2006, there were $138.3
million and $144.7 million, respectively, in letters of credit outstanding under
this agreement.
On March 13, 2007, in connection with our agreement to acquire Pathmark
Stores, Inc., our Company sold 6,350,000 shares of its holdings in Metro, Inc.
for proceeds of approximately $203.5 million resulting in a net gain of $71.6
million. Of the total proceeds received, $190.0 million are being held as
restricted cash to collateralize our outstanding letters of credit. After the
sale, our Company continues to hold 11,726,645 Class A subordinate shares of
Metro, Inc, representing approximately 10.21% of the outstanding shares of
Metro, Inc. as of its first quarter ended December 23, 2006.
In March 2007, our Letter of Credit Agreement and Revolver were amended to
allow for the sale of such shares provided that the net proceeds from such sales
are deposited in a restricted cash account.
REVOLVING CREDIT AGREEMENT
During fiscal 2005, we also secured a $150 million Revolver with four
lenders enabling us to borrow funds on a revolving basis for working capital
loans and letters of credit. The Revolver includes a $100 million accordion
feature which gives us the ability to increase commitments from $150 million to
$250 million. Effective April 4, 2006, we exercised the accordion option and
increased our commitments to $250 million. Under the terms of this agreement,
should availability fall below $25.0 million and should cash on hand fall below
$50.0 million, a borrowing block will be implemented which provides that no
additional loans be made unless we are able to maintain a minimum consolidated
EBITDA covenant on a trailing twelve month basis. In the event that availability
falls below $25.0 million, cash on hand falls below $50.0 million, and we do not
maintain the required minimum EBITDA covenant, unless otherwise waived or
amended, the lenders may, at their discretion, declare, in whole or in part, all
outstanding obligations immediately due and payable.
The Revolver is collateralized by inventory, certain accounts receivable
and pharmacy scripts. Borrowings under the Revolver bear interest based on LIBOR
or Prime interest rate pricing. This agreement expires in November 2010. At
February 24, 2007, there were no letters of credit outstanding under this
agreement and there were $70.0 million in outstanding borrowings under the
Revolver. As of February 24, 2007, after reducing availability for borrowing
base requirements, we had $180.0 million available under the Revolver. Combined
with cash we held in short-term investments and restricted marketable securities
of $25.4 million, we had total cash availability of $205.4 million at February
24, 2007.
Under the Revolver, we are permitted to pay cumulative cash dividends on
common shares as well as make bond repurchases.
PUBLIC DEBT OBLIGATIONS
Outstanding notes totaling $244.7 million at February 24, 2007 consisted of
$31.9 million of 7.75% Notes due April 15, 2007, $12.8 million of 9.125% Senior
Notes due December 15, 2011
30
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS - CONTINUED
and $200 million of 9.375% Notes due August 1, 2039. Interest is payable
quarterly on the 9.375% Notes and semi-annually on the 9.125% and 7.75% Notes.
The 7.75% Notes are not redeemable prior to their maturity. The 9.375% Notes are
now callable at par ($25 per bond) and the 9.125% Notes are now callable at a
premium to par (104.563%). The 9.375% Notes are unsecured obligations and were
issued under the terms of our senior debt securities indenture, which contains
among other provisions, covenants restricting the incurrence of secured debt.
The 9.375% Notes are effectively subordinate to the Revolver and do not contain
cross default provisions. All covenants and restrictions for the 7.75% Notes and
the 9.125% Senior Notes have been eliminated in connection with the cash tender
offer as discussed in Note 9 - Indebtedness in the Notes to the Consolidated
Financial Statements. Our notes are not guaranteed by any of our subsidiaries.
During fiscal 2006, there were no repurchases of our public debt obligations.
During fiscal 2005, we repurchased in the open market $14.9 million of our
7.75% Notes due April 15, 2007. The cost of this open market repurchase resulted
in a pretax loss due to the early extinguishment of debt of $0.6 million. In
accordance with SFAS No. 145, "Rescission of FASB Statements 4, 44 and 64,
Amendment of FASB 13, and Technical Corrections" ("SFAS 145"), this loss has
been classified within loss from operations.
Also during fiscal 2005, we repurchased in the open market $166.7 million
of our 7.75% Notes due April 15, 2007 and $203.7 million of our 9.125% Senior
Notes due December 15, 2011 through a cash tender offer. The cost of this open
market repurchase resulted in a pretax loss due to the early extinguishment of
debt of $29.4 million. In accordance with SFAS No. 145, this loss has been
classified within loss from operations. Refer to Note 9 - Indebtedness in the
Notes to the Consolidated Financial Statements for further discussion of the
cash tender offer.
OTHER
During fiscal 2006 and fiscal 2005, we sold 1 and 5 properties,
respectively, and simultaneously leased them back from the purchaser. However,
due to our Company's continuing involvement with 1 of these properties in fiscal
2005, as (i.) we receive sublease income that is more than 10% of the fair
market value of this property, (ii.) lease contains renewal options that extend
beyond the economic useful life of the property, and (iii.) we are obligated to
repurchase the property if certain circumstances occur, the sale did not qualify
for sale-leaseback accounting in accordance with SFAS 98, "Accounting for
Leases" but rather as a long-term real estate liability under the provisions of
SFAS 66, "Accounting for Sales of Real Estate" ("SFAS 66"). In accordance with
SFAS 66, the carrying value of this property of approximately $9.0 million
remained on our Consolidated Balance Sheets at February 26, 2005, and no sale
was recognized. Instead the sales price of this property of $20.8 million was
recorded as a long-term real estate liability with a maturity of 20 years within
"Long-term real estate liabilities" on our Consolidated Balance Sheets at
February 25, 2006. In addition, the lease payments are being charged to
"Interest expense" in our Consolidated Statements of Operations. This property
was sold for a profit resulting in a gain, after deducting expenses, which has
been deferred and will not be recognized until the end of the lease when our
continuing involvement ceases.
"Long-term real estate liabilities" on our Consolidated Balance Sheets also
include various leases in which our Company received landlord allowances to
offset the costs of structural improvements we made to the leased space. As we
had paid directly for a substantial portion of
31
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS - CONTINUED
the structural improvement costs, we were considered the owner of the building
during the construction period. In all situations upon completion of the
construction, we were unable to meet the requirements under SFAS 98, "Accounting
for Leases" to qualify for sale-leaseback treatment; thus, the landlord
allowances have been recorded as long-term real estate liabilities on our
Consolidated Balance Sheets and have been amortized over the lease term based on
rent payments designated in the lease agreements. These leases have terms
ranging between 12 and 25 years and effective annual percentage rates between
4.74% and 44.78%. The effective annual percentage rates were implicitly
calculated based upon technical accounting guidance.
The remaining 1 and 4 properties sold and simultaneously leased back from
the purchaser during fiscal 2006 and fiscal 2005, respectively, had a carrying
value of approximately $2.5 million and $16.1 million, respectively. Net
proceeds received related to these transactions amounted to approximately $9.2
million and $32.6 million, respectively. These properties were sold for a profit
resulting in (i.) a gain that was immediately recognized of $1.3 million and
$5.1 million, respectively, as we are leasing back more than a minor part but
less than substantially all of the property sold in accordance with SFAS 28,
"Accounting for Sales with Leasebacks," and (ii.) a deferred gain after
deducting expenses of $5.4 million and $11.1 million, respectively, which will
be recognized as an offset to rent expense over the remaining life of the
leases.
During fiscal 2006, fiscal 2005, and fiscal 2004, we recognized gains
related to all of our sale-leaseback transactions of $5.3 million, of which $1.3
million related to recognition of a portion of the gain on sale in the current
year as we are leasing back more than a minor part but less than substantially
all of the property as discussed above, $8.8 million, of which $5.1 million
related to recognition of a portion of the gain on sale in the current year as
we are leasing back more than a minor part but less than substantially all of
the property sold as discussed above, and $2.6 million, respectively. The
remaining deferred gain at February 24, 2007 and February 25, 2006 amounted to
$64.7 million and $63.5 million, respectively.
We may enter into similar transactions for other owned properties from time
to time in the future.
We currently have effective Registration Statements filed with the
Securities and Exchange Commission dated January 23, 1998 and June 23, 1999,
allowing us to offer up to $75 million of debt and/or equity securities at terms
contingent upon market conditions at the time of sale.
Although our Company paid a special one-time dividend to our shareholders
of record on April 17, 2006 equal to $7.25 per share, our Company's policy is to
not pay dividends. As such, we have not made dividend payments in the previous
three years and do not intend to pay dividends in the normal course of business
in fiscal 2007. However, our Company is permitted, under the terms of our
Revolver, to pay cash dividends on common shares.
32
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS - CONTINUED
As of February 24, 2007, we have the following contractual obligations and
commitments:
Payments Due by Period (in millions)
--------------------------------------------------------------
Less than
Contractual Obligations Total 1 Year 1 - 3 Years 4 - 5 Years Thereafter
- ----------------------- --------- --------- ----------- ----------- ----------
Debt (1) $ 316.3 $ 32.1 $ 0.2 $ 83.1 $ 200.9
Capital Leases (2) 68.1 4.6 8.9 8.1 46.5
Operating Leases (2) 2,063.0 182.7 354.5 323.6 1,202.2
Long-term Real Estate
Liabilities (2) 639.3 36.4 73.2 73.8 455.9
Pension Obligations (3) 40.7 4.3 8.5 8.4 19.5
Postretirement
Obligations (4) 18.6 1.0 2.2 2.4 13.0
Occupancy Payments (5) 390.5 42.7 76.3 65.9 205.6
Severance and other
related items (6) 7.5 5.0 1.1 0.3 1.1
Interest (7) 614.4 20.3 40.0 39.8 514.3
Environmental Liability (8) 2.7 0.9 0.8 0.6 0.4
Postemployment
Obligations (9) 9.5 1.3 2.6 2.6 3.0
Defined Contribution
Plans (10) 9.0 9.0 -- -- --
Multi-employer Pension
Plans (10) 32.1 32.1 -- -- --
Purchase Commitments (11)
Equipment Purchases 2.7 2.7 -- -- --
Equipment Rentals 2.9 0.7 1.7 0.5 --
Suppliers 27,346.9 2,671.9 4,657.8 3,875.6 16,141.6
Manufacturers/Vendors 12.8 8.5 1.5 1.1 1.7
Service Contracts 44.9 22.0 22.9 -- --
Consulting 7.3 6.8 0.5 -- --
--------- -------- -------- --------- ---------
Total $31,629.2 $3,085.0 $5,252.7 $ 4,485.8 $18,805.7
========= ======== ======== ========= =========
(1) Amounts represent contractual amounts due. Refer to Note 9 of our
Consolidated Financial Statements for information regarding long-term debt.
We expect to settle such long-term debt by several methods, including cash
flows from operations.
(2) Amounts represent contractual amounts due. Refer to Note 11 of our
Consolidated Financial Statements for information regarding capital leases,
operating leases and long-term real estate liabilities.
33
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS - CONTINUED
(3) Amounts represent future contributions to our defined benefit pension
plans. Refer to Note 13 of our Consolidated Financial Statements for
information regarding our defined benefit pension plans.
(4) Amounts represent future benefit payments that were actuarially determined
for our postretirement benefit obligation. Refer to Note 13 of our
Consolidated Financial Statements for information regarding our
postretirement benefits.
(5) Amounts represent our future occupancy payments primarily relating to our
asset disposition initiatives (refer to Note 8 of our Consolidated
Financial Statements), discontinued operations (refer to Note 7 of our
Consolidated Financial Statements) and store closures made during the
normal course of business.
(6) Amounts represent our future severance obligations and other related items
primarily relating to our normal course of business, asset disposition
initiatives, and discontinued operations.
(7) Amounts represent contractual amounts due. Refer to Note 9 of our
Consolidated Financial Statements for information regarding our interest
payments. Note that amounts presented exclude estimates on current and
future variable interest rate payments as these amounts cannot be estimated
as of the balance sheet date due to the variability in our expected
borrowings.
(8) Amounts represent our future contractual amounts payable.
(9) Amounts represent our future benefit payments that were actuarially
determined for our short and long term disability programs. Refer to Note
13 of our Consolidated Financial Statements for information regarding our
postemployment obligations.
(10) Amounts represent our best estimate of our immediate funding requirements
of our defined contribution and multiemployer plans in which we
participate. Refer to Note 13 of our Consolidated Financial Statements for
information regarding these obligations.
(11) The purchase commitments include agreements to purchase goods or services
that are enforceable and legally binding and that specify all significant
terms, including open purchase orders. We expect to fund these commitments
with cash flows from operations.
Expiration of Commitments (in millions)
----------------------------------------------------------
Less than
Other Commitments Total 1 Year 1 - 3 Years 4 - 5 Years Thereafter
- ----------------- ----- --------- ----------- ----------- ----------
Guarantees $1.5 $0.2 $0.5 $0.8 $--
==== ==== ==== ==== ===
We are the guarantor of a loan of $1.5 million related to a shopping
center, which will expire in 2011.
In the normal course of business, we have assigned to third parties various
leases related to former operating stores (the "Assigned Leases"). When the
Assigned Leases were assigned, we generally remained secondarily liable with
respect to these lease obligations. As such, if any of the assignees were to
become unable to continue making payments under the Assigned Leases, we could be
required to assume the lease obligation. As of February 24, 2007, 110 Assigned
Leases remain in place. Assuming that each respective assignee became unable to
continue to make payments under an Assigned Lease, an event we believe to be
remote, we estimate our maximum potential obligation with respect to the
Assigned Leases to be approximately $323.2 million, which could be partially or
totally offset by reassigning or subletting such leases.
Our existing senior debt rating was Caa1 with negative outlook with Moody's
Investors Service ("Moody's") and B- with stable outlook with Standard & Poor's
Ratings Group ("S&P") as of February 24, 2007. Our liquidity rating was SGL3
with Moody's as of February 24, 2007. Our recovery rating was 1 with S&P as of
February 24, 2007 indicating a high expectation of 100% recovery of our senior
debt to our lenders. On March 5, 2007, Moody's placed our long term ratings
under review for possible downgrade and affirmed the Speculative Grade Liquidity
Rating of SGL-3 in connection with our agreement to acquire Pathmark Stores,
Inc. On February 28, 2007, S&P changed our existing senior debt rating from B-
with stable outlook to B- with negative implications in connection with our
agreement to acquire Pathmark Stores, Inc.
34
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS - CONTINUED
MARKET RISK
Market risk represents the risk of loss from adverse market changes that
may impact our consolidated financial position, results of operations or cash
flows. Among other possible market risks, we are exposed to such risk in the
areas of interest rates and foreign currency exchange rates.
From time to time, we may enter hedging agreements in order to manage risks
incurred in the normal course of business including forward exchange contracts
to manage our exposure to fluctuations in foreign exchange rates.
INTEREST RATES
Our exposure to market risk for changes in interest rates relates primarily
to our debt obligations. We do not have cash flow exposure due to rate changes
on our $246.3 million in total indebtedness as of February 24, 2007 because they
are at fixed interest rates. However, we do have cash flow exposure on our
committed bank lines of credit due to our variable floating rate pricing.
Accordingly, during fiscal 2006, a presumed 1% change in the variable floating
rate would have impacted interest expense by $0.8 million. During fiscal 2005
and fiscal 2004, a presumed 1% change in the variable floating rate would not
have impacted interest expense as there were minimal or no borrowings under our
committed bank lines of credit.
FOREIGN EXCHANGE RISK
We are exposed to foreign exchange risk to the extent of adverse
fluctuations in the Canadian dollar. A change in the Canadian currency of 10%
would have resulted in a fluctuation in our investment in Metro, Inc. of $30.2
million and $33.9 million at February 24, 2007 and February 25, 2006,
respectively. We do not believe that a change in the Canadian currency of 10%
will have a material effect on our statements of operations or cash flows.
During fiscal 2005, we entered into a six month currency exchange forward
contract totaling $900 million Canadian dollar notional value to hedge our net
investment in our Canadian foreign operation against adverse movements in
exchange rates. Also during fiscal 2005 and upon completion of the sale of our
Canadian operations as discussed in Note 18 - Hedge of Net Investment in Foreign
Operations, this forward contract was terminated prior to its expiration.
CRITICAL ACCOUNTING ESTIMATES
Critical accounting estimates are those accounting estimates that we
believe are important to the portrayal of our financial condition and results of
operations and require our 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.
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America ("U.S. GAAP")
requires us to make estimates and assumptions that affect the reported amounts
of assets and liabilities and disclosures of contingent assets and liabilities
at the date of the financial statements, and the reported amounts of revenues
and expenses during the reporting period. Actual results could differ from those
estimates.
SELF-INSURANCE RESERVES
Our Consolidated Balance Sheets include liabilities with respect to
self-insured workers' compensation and general liability claims. We estimate the
required liability of such claims on a discounted basis, utilizing an actuarial
method, which is based upon various assumptions, which include, but are not
limited to, our historical loss experience, projected loss development factors,
actual payroll and other data. The total current and non-current liability for
self-insurance reserves recorded at February 24, 2007 was $133.0 million. The
discount rate used at February 24, 2007 was 4.75% and was based on the timing of
the projected cash flows of future payments to be made for claims. A 1% increase
in the discount rate would decrease the required liability by $3.7 million.
Conversely, a 1% decrease in the discount rate would increase the required
liability by $4.0 million. The required liability is also subject to adjustment
in the future based upon the changes in claims experience, including changes in
the number of incidents (frequency) and changes in the ultimate cost per
incident (severity).
35
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS - CONTINUED
LONG-LIVED ASSETS
We review the carrying values of our long-lived assets for possible
impairment whenever events or changes in circumstances indicate that the
carrying amount of assets may not be recoverable. Such review is based upon
groups of assets and the undiscounted estimated future cash flows from such
assets to determine if the carrying value of such assets is recoverable from
their respective cash flows. If such review indicates an impairment exists, we
measure such impairment on a discounted basis using a probability weighted
approach and a 7 year U.S. Treasury risk free rate.
We also review assets in stores planned for closure or conversion for
impairment upon determination that such assets will not be used for their
intended useful life. During fiscal 2006, we recorded property impairment losses
of $5.9 million as follows:
Fiscal 2006
-----------
Impairments due to closure or conversion in the normal course
of business $4,836
Impairments related our asset disposition initiatives (1) 1,049
------
Total impairments $5,885
======
(1) Refer to Note 8 - Asset Disposition Initiatives.
All of these amounts are included in SG&A in our Consolidated Statements of
Operations. The effects of changes in estimates of useful lives were not
material to ongoing depreciation expense.
If current operating levels do not improve, there may be additional future
impairments on long-lived assets, including the potential for impairment of
assets that are held and used, particularly in our Midwest operations.
CLOSED STORE AND CLOSED WAREHOUSE RESERVES
For closed stores and warehouses that are under long-term leases, we record
a discounted liability using a risk free rate for the future minimum lease
payments and related costs, such as utilities and taxes, from the date of
closure to the end of the remaining lease term, net of estimated probable
recoveries from projected sublease rentals. If estimated cost recoveries exceed
our liability for future minimum lease payments, the excess is recognized as
income over the term of the sublease. We estimate future net cash flows based on
our experience in and our knowledge of the market in which the closed store and
warehouse is located. However, these estimates project net cash flow several
years into the future and are affected by variable factors such as inflation,
real estate markets and economic conditions. While these factors have been
relatively stable in recent years, variation in these factors could cause
changes to our estimates. As of February 24, 2007, we had recorded liabilities
for estimated probable obligations of $160 million. Of this amount, $17 million
relates to stores closed in the normal course of business, $135 million relates
to stores closed as part of the asset disposition initiatives (see Note 8 of our
Consolidated Financial Statements), and $8 million relates to stores closed as
part of our exit of the northern New England and Kohl's businesses (see Note 7
of our Consolidated Financial Statements).
36
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS - CONTINUED
EMPLOYEE BENEFIT PLANS
The determination of our obligation and expense for pension and other
postretirement benefits is dependent, in part, on our selection of certain
assumptions used by our actuaries in calculating these amounts. These
assumptions are disclosed in Note 13 of our Consolidated Financial Statements
and include, among other things, the discount rate, the expected long-term rate
of return on plan assets and the rates of increase in compensation and health
care costs. In accordance with U.S. GAAP, actual results that differ from our
Company's assumptions are accumulated and amortized over future periods and,
therefore, affect our recognized expense and recorded obligation in such future
periods. While we believe that our assumptions are appropriate, significant
differences in our actual experience or significant changes in our assumptions
may materially affect our pension and other postretirement obligations and our
future expense.
An example of how changes in these assumptions can affect our financial
statements occurred in fiscal 2006. Based on our review of market interest
rates, actual return on plan assets and other factors, we raised our discount
rate for U.S. plans to 5.75% at year-end 2006 from 5.50% at year-end 2005. We
also raised our expected return on plan assets for U.S. plans to 6.75% at
year-end 2006 from 6.50% at year-end 2005. These rates are applied to the
calculated value of plan assets and liabilities, which results in an amount that
is included in pension expense or income in the following years. When not
considering other changes in assumptions or actual return on plan assets, a 1%
change in the discount rate alone would either increase the benefit obligation
by $22.9 million or decrease the benefit obligation by $19.3 million, and a 1%
change in expected return on plan assets alone would either increase or decrease
2006 U.S. pension expense by $1.8 million.
When not considering other changes in assumptions for our postretirement
benefits, a 1% change in the U. S. discount rate for each future year on the sum
of U.S. 2006 service and interest cost would either increase by $0.03 million or
decrease by $0.04 million, while the accumulated postretirement benefit
obligation would either increase by $1.9 million or decrease by $1.6 million.
The effect of a 1% change in the assumed health care cost trend rate for each
future year on the sum of U.S. 2006 service and interest cost would either be an
increase or decrease of $0.1 million, while accumulated postretirement benefit
obligation would either increase by $1.1 million or decrease by $1.0 million.
Refer to Note 13 - Retirement Plans and Benefits in the Notes to
Consolidated Financial Statements for a full discussion of our Company's
employee benefit plans.
INVENTORIES
We evaluate inventory shrinkage throughout the year based on actual
physical counts and record reserves based on the results of these counts to
provide for estimated shrinkage between the store's last inventory and the
balance sheet date.
INCOME TAXES
As discussed in Note 12 of the Consolidated Financial Statements, our
Company recorded a valuation allowance for the entire U.S. net deferred tax
asset since, in accordance with SFAS 109, it was more likely than not that the
net deferred tax asset would not be utilized based on historical cumulative
losses. Under SFAS 109, this valuation allowance could be reversed in future
periods if our Company experiences improvement in our U.S. operations.
IMPACT OF NEW ACCOUNTING PRONOUNCEMENTS
In October 2005, the Financial Accounting Standards Board ("FASB") issued
FASB Staff Position FAS 13-1 ("FSP FAS 13-1"), which requires companies to
expense rental costs associated with ground or building operating leases that
are incurred during a construction period. As a result, companies that are
currently capitalizing these rental costs are required to expense them beginning
in its first reporting period beginning after December 15, 2005. FSP FAS 13-1
was effective for our Company as of the first quarter of fiscal 2006. We
evaluated the provisions of FSP FAS 13-1 and have adopted the guidance. This
adoption did not have a material impact on our Company's financial position or
results of operations.
In July 2006, the FASB issued FASB Interpretation No. 48, Accounting for
Uncertainty in Income Taxes--an Interpretation of FASB Statement 109 ("FIN 48"),
which clarifies the accounting for uncertainty in tax positions. This
Interpretation provides that the tax effects from an uncertain tax position can
be recognized in our financial statements, only if the position is more likely
than not of being sustained on audit, based on the technical merits of the
position. The provisions of FIN 48 are effective as of the beginning of fiscal
2007, with the cumulative effect of the change in accounting principle recorded
as an adjustment to opening retained earnings. We are currently evaluating the
impact of adopting FIN 48 on our financial statements.
37
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS - CONTINUED
In September 2006, the FASB issued Statement of Financial Accounting
Standards No. 157, "Fair Value Measurements" ("SFAS 157"). SFAS 157 defines fair
value, establishes a framework for measuring fair value in accordance with
generally accepted accounting principles, and expands disclosures about fair
value measurements. The provisions of SFAS 157 are effective for fiscal years
beginning after November 15, 2007 (our year ended February 28, 2009). Our
Company is currently evaluating the impact, if any, of the provisions of SFAS
157.
In September 2006, the FASB issued SFAS 158, "Employers' Accounting for
Defined Benefit Pension and Other Postretirement Plans, an amendment of FASB
Statements No. 87, 88, 106 and 132(R)" ("SFAS 158") and is effective for our
fiscal year ended February 24, 2007. SFAS 158 was issued to improve the overall
financial statement presentation of pension and other postretirement plans and
does not impact the determination of net periodic benefit cost or the
measurement of plan assets or obligations. This standard requires companies to
recognize the funded status of their defined benefit pension and other
postretirement benefit plans as a net liability or asset on their balance sheets
and requires any unrecognized prior service costs and actuarial gains or losses
to be recognized as a component of accumulated other comprehensive income or
loss. We adopted these requirements of SFAS 158 as of February 24, 2007.
Additionally, SFAS 158 no longer allows companies to measure their plans as of
any date other than the end of their fiscal year; however, this provision is not
effective for companies until fiscal years ending after December 15, 2008 (our
year ended February 28, 2009). We currently measure our plan assets and
obligations using a December 31 measurement date. We are currently evaluating
which of the two transition methods to use and when we will adopt the change in
measurement date. Refer to Note 13 - Retirement Plans and Benefits for the
disclosures required by SFAS 158 and the impact of its adoption.
In September 2006, the Securities and Exchange Commission ("SEC") issued
Staff Accounting Bulletin No. 108, "Considering the Effects of Prior Year
Misstatements When Quantifying Misstatements in Current Year Financial
Statements" ("SAB 108"). This bulletin provides guidance on the consideration of
the effects of prior year misstatements in quantifying current year
misstatements for the purpose of materiality assessment. SAB 108 is effective
for our fiscal year ending February 24, 2007. The cumulative effect, if any, of
applying the provisions of SAB 108 will be reported as an adjustment to
beginning-of-year retained earnings. We have evaluated the provisions of SAB 108
and the guidance did not have an impact on our Company's financial condition or
results of operations.
In February 2007, the FASB issued SFAS No. 159, "The Fair Value Option for
Financial Assets and Financial Liabilities--including an amendment of FASB
Statement No. 115." SFAS No. 159 permits entities to choose to measure many
financial instruments and certain other items at fair value. Unrealized gains
and losses on items for which the fair value option has been elected will be
recognized in earnings at each subsequent reporting date. The provisions of SFAS
159 are effective for fiscal years beginning after November 15, 2007 (our year
ended February 28, 2009). Our Company is currently evaluating the impact, if
any, of the provisions of SFAS 159.
CAUTIONARY NOTE
This presentation may contain forward-looking statements about the future
performance of our Company, and is based on our assumptions and beliefs in light
of information currently available. We assume no obligation to update this
information. These forward-looking statements are subject to uncertainties and
other factors that could cause actual results to differ materially from such
statements including but not limited to: competitive practices and pricing in
the food industry generally and particularly in our principal markets; our
relationships with our employees; the terms of future collective bargaining
agreements; the costs and other effects of lawsuits and administrative
proceedings; the nature and extent of continued consolidation in the food
industry; changes in the financial markets which may affect our cost of capital
or the ability to access capital; supply or quality control problems with our
vendors; and changes in economic conditions, which may affect the buying
patterns of our customers.
38
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(Dollars in thousands, except per share amounts)
Fiscal 2006 Fiscal 2005 Fiscal 2004
----------- ----------- -----------
Sales $ 6,850,268 $ 8,740,347 $10,854,911
Cost of merchandise sold (4,785,821) (6,235,275) (7,813,771)
----------- ----------- -----------
Gross margin 2,064,447 2,505,072 3,041,140
Store operating, general and
administrative expense (2,074,522) (2,825,730) (3,114,062)
----------- ----------- -----------
Loss from operations (10,075) (320,658) (72,922)
(Loss) gain on sale of Canadian operations (1,299) 912,129 --
Interest expense (73,814) (92,248) (114,107)
Interest income 9,613 13,457 2,776
Minority interest in earnings of consolidated
franchisees -- (1,131) 772
Equity in earnings of Metro, Inc. 40,003 7,801 --
----------- ----------- -----------
(Loss) income from continuing operations
before income taxes (35,572) 519,350 (183,481)
Benefit from (provision for) income taxes 62,088 (128,927) (528)
----------- ----------- -----------
Income (loss) from continuing operations 26,516 390,423 (184,009)
Discontinued operations:
Income (loss) from operations of
discontinued businesses, net of
tax provision of $274, $1,178 and $0 for
the years ended February 24, 2007,
February 25, 2006, and February 26, 2005,
respectively 377 1,626 (1,387)
Gain (loss) on disposal of discontinued
operations, net of tax provision
of $0, $421 and $0 for the years ended
February 24, 2007, February 25, 2006,
February 26, 2005, respectively -- 581 (2,702)
----------- ----------- -----------
Income (loss) from discontinued operations 377 2,207 (4,089)
----------- ----------- -----------
Net income (loss) $ 26,893 $ 392,630 $ (188,098)
=========== =========== ===========
Net income (loss) per share - basic:
Continuing operations $ 0.64 $ 9.69 $ (4.77)
Discontinued operations 0.01 0.05 (0.11)
----------- ----------- -----------
Net income (loss) per share - basic $ 0.65 $ 9.74 $ (4.88)
=========== =========== ===========
Net income (loss) per share - diluted:
Continuing operations $ 0.63 $ 9.59 $ (4.77)
Discontinued operations 0.01 0.05 (0.11)
----------- ----------- -----------
Net income (loss) per share - diluted $ 0.64 $ 9.64 $ (4.88)
=========== =========== ===========
Weighted average common shares outstanding:
Basic 41,430,600 40,301,132 38,558,598
=========== =========== ===========
Diluted 41,902,358 40,725,942 38,558,598
=========== =========== ===========
See Notes to Consolidated Financial Statements.
39
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY AND COMPREHENSIVE INCOME (LOSS)
(Dollars in thousands, except share amounts)
(Accumu-
Accumulated lated
Common stock Additional other deficit) Total
-------------------- paid-in comprehensive retained stockholders'
Shares Amount capital (loss) income earnings equity
---------- ------- ---------- ------------- --------- -------------
BALANCE AT 2/28/04 38,518,905 38,519 459,579 (27,239) (78,100) 392,759
Net loss (188,098) (188,098)
Stock options exercised 246,094 246 1,380 1,626
Other share based awards 3,584 3,584
Other comprehensive income 23,931 23,931
---------- ------- --------- -------- --------- ---------
BALANCE AT 2/26/05 38,764,999 38,765 $ 464,543 (3,308) (266,198) 233,802
Net income 392,630 392,630
Stock options exercised 2,378,685 2,379 23,677 26,056
Other share based awards 5,303 5 8,973 8,978
Other comprehensive income 10,261 10,261
---------- ------- --------- -------- --------- ---------
BALANCE AT 2/25/06 41,148,987 $41,149 $ 497,193 $ 6,953 $ 126,432 $ 671,727
Net income 26,893 26,893
Cash dividends on common stock-
$7.25 per share (299,089) (299,089)
Stock options exercised 414,104 414 5,580 5,994
Other share based awards 26,104 26 8,108 8,134
Tax benefit of stock options 1,076 1,076
Initial adoption of SFAS 158 19,196 19,196
Other comprehensive loss (3,261) (3,261)
---------- ------- --------- -------- --------- ---------
BALANCE AT 2/24/07 41,589,195 $41,589 $ 212,868 $ 22,888 $ 153,325 $ 430,670
========== ======= ========= ======== ========= =========
COMPREHENSIVE INCOME (LOSS) Fiscal 2006 Fiscal 2005 Fiscal 2004
- --------------------------- ----------- ----------- -----------
Net income (loss) $26,893 $392,630 $(188,098)
------- -------- ---------
Foreign currency translation adjustment (3,164) 9,839 26,927
Net unrealized gain (loss) on marketable securities, net of tax 993 (1,015) --
Net unrealized (loss) gain on derivatives, net of tax -- (57) 215
Minimum pension liability adjustment, prior to adoption of
SFAS 158, net of tax (1,090) 1,494 (3,211)
------- -------- ---------
Other comprehensive (loss) income, net of tax (3,261) 10,261 23,931
------- -------- ---------
Total comprehensive income (loss) $23,632 $402,891 $(164,167)
======= ======== =========
ACCUMULATED OTHER COMPREHENSIVE (LOSS) INCOME BALANCES
Pension
Net Unrealized & Other Accumulated
Foreign (Loss) / Gain Net Unrealized Post- Other
Currency on Marketable (Loss) / Gain retirement Comprehensive
Translation Securities on Derivatives Benefits (Loss) Income
----------- -------------- -------------- ---------- -------------
Balance at
February 28, 2004 $(23,892) $ -- $(158) $ (3,189) $(27,239)
Current period change 26,927 -- 215 (3,211) 23,931
-------- ------- ----- -------- --------
Balance at
February 26, 2005 $ 3,035 -- 57 (6,400) (3,308)
Current period change 9,839 (1,015) (57) 1,494 10,261
-------- ------- ----- -------- --------
Balance at
February 25, 2006 12,874 (1,015) -- (4,906) 6,953
Current period change (3,164) 993 -- (1,090)
(3,261)
Initial adoption of SFAS 158 -- -- -- 19,196 19,196
-------- ------- ----- -------- --------
Balance at
February 24, 2007 $ 9,710 $ (22) $ -- $ 13,200 $ 22,888
======== ======= ===== ======== ========
See Notes to Consolidated Financial Statements.
40
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
CONSOLIDATED BALANCE SHEETS
(Dollars in thousands, except share amounts)
February February
24, 2007 25, 2006
----------- -----------
ASSETS
Current assets:
Cash and cash equivalents $ 86,194 $ 229,589
Restricted cash 51,176 146,309
Restricted marketable securities 20,335 --
Marketable securities -- 167,405
Accounts receivable, net of allowance for doubtful
accounts of $4,514 and $7,042 at February 24, 2007
and February 25, 2006, respectively 117,082 175,939
Inventories 411,370 405,310
Prepaid expenses and other current assets 62,751 85,462
----------- -----------
Total current assets 748,908 1,210,014
----------- -----------
Property:
Land 44,878 51,899
Buildings 200,404 213,639
Equipment 1,299,468 1,304,053
Leasehold improvements 916,115 1,114,989
----------- -----------
Total - at cost 2,460,865 2,684,580
Less accumulated depreciation and amortization (1,541,543) (1,809,440)
----------- -----------
Property owned, net 919,322 875,140
Property under capital leases, net 20,676 23,094
----------- -----------
Property - net 939,998 898,234
Equity investment in Metro, Inc. 368,871 338,756
Other assets 53,846 51,861
----------- -----------
Total assets $ 2,111,623 $ 2,498,865
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Current portion of long-term debt $ 32,069 $ 569
Current portion of obligations under capital leases 1,554 2,274
Accounts payable 197,500 209,774
Book overdrafts 31,833 35,447
Accrued salaries, wages and benefits 115,719 121,734
Accrued taxes 34,452 34,215
Other accruals 145,264 206,260
----------- -----------
Total current liabilities 558,391 610,273
----------- -----------
Long-term debt 284,214 246,282
Long-term obligations under capital leases 29,938 32,270
Long-term real estate liabilities 300,832 297,453
Other non-current liabilities 507,578 640,860
----------- -----------
Total liabilities 1,680,953 1,827,138
----------- -----------
Commitments and contingencies
Stockholders' equity:
Preferred stock - no par value; authorized - 3,000,000
shares; issued - none -- --
Common stock - $1 par value; authorized - 80,000,000
shares; issued and outstanding - 41,589,195 and
41,148,987 shares at February 24, 2007 and
February 25, 2006, respectively 41,589 41,149
Additional paid-in capital 212,868 497,193
Accumulated other comprehensive income 22,888 6,953
Retained earnings 153,325 126,432
----------- -----------
Total stockholders' equity 430,670 671,727
----------- -----------
Total liabilities and stockholders' equity $ 2,111,623 $ 2,498,865
=========== ===========
See Notes to Consolidated Financial Statements.
41
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in thousands)
Fiscal 2006 Fiscal 2005 Fiscal 2004
----------- ----------- -----------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $ 26,893 $ 392,630 $(188,098)
Adjustments to reconcile net income (loss) to net cash
provided by (used in) operating activities:
Asset disposition initiatives 2,296 185,122 (1,448)
Depreciation and amortization 177,754 207,329 268,105
Income tax (benefit) provision (66,435) 98,079 (1,370)
Gains on disposal of owned property and write-down of
property, net (28,135) (24,787) (28,704)
Impairment loss relating to Hurricane Katrina -- 6,090 --
Midwest long-lived asset / goodwill impairment charge -- -- 34,688
Other property impairments 4,668 28,085 8,629
(Gain) loss on disposal of discontinued operations -- (1,002) 2,702
Loss (gain) on sale of Canadian operations 1,299 (912,129) --
Loss on derivatives -- 15,446 --
Loss on early extinguishment of debt -- 28,623 --
Non-cash impact of early extinguishment of debt -- 809 --
Other share based awards 8,134 8,978 --
Equity in earnings of Metro, Inc. (40,003) (7,801) --
Proceeds from dividends from Metro, Inc. 6,858 4,708 --
Other changes in assets and liabilities:
Decrease (increase) in receivables 62,741 (56,130) 29,223
(Increase) decrease in inventories (1,264) 109,521 (12,614)
Decrease (increase) in prepaid expenses and other
current assets 3,062 585 (6,024)
Decrease (increase) in other assets 3,044 (7,344) (19,041)
(Decrease) increase in accounts payable (19,199) (101,342) 46,295
Decrease in accrued salaries, wages and benefits, and
taxes (9,202) (31,414) (24,170)
(Decrease) increase in other accruals (61,395) 48,931 (34,121)
Increase (decrease) in minority interest -- 1,806 (3,542)
(Decrease) increase in other non-current liabilities (37,641) (76,309) 42,591
Other, net 3,247 5,509 1,357
----------- --------- ---------
Net cash provided by (used in) operating activities 36,722 (76,007) 114,458
----------- --------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Expenditures for property (208,159) (191,050) (216,142)
Proceeds from disposal of property 41,880 72,293 53,641
Purchase of business (24,619) -- --
Proceeds from sale of Canadian operations, net of cash
disposed -- 960,689 --
Disposal related expenditures for sale of Canadian
operations (1,299) (53,882) --
Payments for derivatives -- (15,446) --
Increase (decrease) in restricted cash 95,133 (146,309) --
Purchases of marketable securities (148,700) (667,808) --
Proceeds from maturities of marketable securities 294,519 500,810 --
----------- --------- ---------
Net cash provided by (used in) investing activities 48,755 459,297 (162,501)
----------- --------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds under revolving lines of credit 1,757,100 -- --
Principal payments on revolving lines of credit (1,687,100) -- --
Proceeds from short-term borrowings -- -- 3,000
Principal payments on short-term borrowings -- -- (3,000)
Principal payments on long-term borrowings (80) (413,961) (6,068)
Long-term real estate liabilities 3,379 22,122 37,086
Principal payments on capital leases (5,278) (11,033) (13,454)
Proceeds from capital leases -- 10,000 --
Decrease in book overdrafts (3,614) (42,957) (13,665)
Deferred financing fees (249) (1,793) (1,334)
Dividends paid (299,089) -- --
Proceeds from exercises of stock options 5,994 26,056 1,599
----------- --------- ---------
Net cash (used in) provided by financing activities (228,937) (411,566) 4,164
----------- --------- ---------
Effect of exchange rate changes on cash and
cash equivalents 65 117 4,619
----------- --------- ---------
Net decrease in cash and cash equivalents (143,395) (28,159) (39,260)
Cash and cash equivalents at beginning of year 229,589 257,748 297,008
----------- --------- ---------
Cash and cash equivalents at end of year $ 86,194 $ 229,589 $ 257,748
=========== ========= =========
See Notes to Consolidated Financial Statements.
42
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in thousands, except share amounts, and where noted)
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation and Consolidation
The consolidated financial statements include the accounts of The Great
Atlantic & Pacific Tea Company, Inc. ("We," "Our," "Us" or "our Company") and
all subsidiaries. Significant intercompany accounts and transactions have been
eliminated. Our Company uses the equity method of accounting for our investment
in Metro, Inc. as we exert significant influence over substantive operating
decisions made by Metro, Inc. through our membership on Metro, Inc.'s Board of
Directors and its committees and through an information technology services
agreement with Metro, Inc.
At February 24, 2007, we operated retail supermarkets in the United States.
The operations are mainly in the Eastern part of the U.S. and certain parts of
the Midwest. Our principal stockholder, Tengelmann Warenhandelsgesellschaft KG
("Tengelmann"), owned 52.9% of our common stock as of February 24, 2007.
As further discussed in Note 3 - Equity Investment in Metro, Inc., we sold
our Canadian business at the close of business on August 13, 2005 to Metro,
Inc., a supermarket and pharmacy operator in the Provinces of Quebec and
Ontario, Canada. Although the Canadian operations have been sold, our Company
retained significant continuing involvement in the operations of this business
due to our ongoing equity interests and through an information technology
services agreement.
Fiscal Year
Our fiscal year ends on the last Saturday in February. Fiscal 2006 ended
February 24, 2007, fiscal 2005 ended February 25, 2006, and fiscal 2004 ended
February 26, 2005. Fiscal 2006, 2005 and fiscal 2004 were each comprised of 52
weeks.
Use of Estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires us to
make estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosures of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results can differ from those estimates.
Revenue Recognition
Retail revenue is recognized at point-of-sale. Discounts and allowances
that we provide to our customers are accounted for as a reduction to sales and
are recorded at point-of-sale.
Cost of Merchandise Sold
Cost of merchandise sold includes cost of inventory sold during the period,
including purchasing and distribution costs. These costs include inbound freight
charges, purchasing and receiving costs, warehouse inspection costs, warehousing
costs, internal transfer costs and other distribution costs through C&S
Wholesale Grocers, Inc.
Vendor Allowances
Vendor allowances that relate to our Company's buying and merchandising
activities consist primarily of advertising, promotional and slotting
allowances. With the exception of allowances described below, all allowances are
recognized as a reduction of cost of goods sold when the related performance is
completed and the related inventory is sold. Lump-sum payments received for
multi-year contracts are generally amortized on a straight line basis over the
life of the contracts. Vendor rebates or refunds that are contingent upon our
Company completing a specified level of purchases or remaining a reseller for a
specified time period are recognized as a reduction of cost of goods sold based
on a systematic and rational allocation of the rebate or refund to each of the
underlying transactions that results in progress toward earning that rebate or
refund, assuming that we can reasonably estimate the rebate or refund and it is
probable that the specified target will be obtained. If we believe attaining the
milestone is not probable, the rebate or refund is recognized as the milestone
is achieved. Vendor reimbursement for coupons that can only be redeemed at a
Company retail store are recorded as a reduction of cost of sales.
Advertising Costs
Advertising costs incurred to communicate media advertising are expensed in
the period the advertisement is first shown. Other advertising costs, primarily
costs to produce circulars and pay advertising agency fees, are expensed when
incurred. We recorded advertising expense of $76.2 million for fiscal 2006,
$93.0 million for fiscal 2005 and $120.2 million for fiscal 2004.
43
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Pre-opening Costs
Non-capital expenditures incurred in opening new stores or remodeling
existing stores are expensed as incurred. Rent incurred during the construction
period is expensed in accordance with FASB Staff Position FAS 13-1, which
requires companies to expense rental costs associated with ground or building
operating leases that are incurred during a construction period.
Software Costs
We capitalize externally purchased software and amortize it over five
years. Amortization expense related to software costs for fiscal 2006, 2005 and
2004 was $7.6 million, $8.4 million, and $6.4 million; respectively.
In accordance with Statement of Position 98-1, "Accounting for the Costs of
Computer Software Developed or Obtained for Internal Use", we capitalize certain
internally generated software costs after feasibility is reached which is
concurrent (i.) with the completion of the preliminary project stage, (ii.) when
management authorizes and commits to funding a software project, and (iii.) when
it is probable that the project will be completed and the software will be used
to perform the function intended. In fiscal 2006, 2005 and 2004, we capitalized
$1.4 million, $2.7 million and $8.6 million, respectively, of such software
costs. These costs are amortized over 5 years. For fiscal 2006, 2005 and 2004,
we recorded related amortization expense of $14.6 million, $16.7 million and
$14.6 million, respectively.
Externally purchased and internally developed software are classified in
"Property - Equipment" on our Consolidated Balance Sheets.
Earnings Per Share
We calculate earnings per share in accordance with Statement of Financial
Accounting Standards ("SFAS") 128, "Earnings Per Share" ("SFAS 128"). SFAS 128
requires dual presentation of basic and diluted earnings per share ("EPS") on
the face of the Consolidated Statements of Operations and requires a
reconciliation of the numerators and denominators of the basic and diluted EPS
calculations. Basic EPS is computed by dividing net income (loss) by the
weighted average shares outstanding for the period. Diluted EPS reflects the
potential dilution that could occur if options to issue common stock were
exercised and converted to common stock.
The weighted average shares outstanding utilized in the basic EPS
calculation were 41,430,600 for fiscal 2006, 40,301,132 for fiscal 2005 and
38,558,598 for fiscal 2004. The additional common stock equivalents for fiscal
2006, fiscal 2005 and fiscal 2004 were 471,758, 424,810 and 294,884,
respectively. However, such shares for fiscal 2004 were antidilutive and thus
excluded from the diluted EPS calculation.
Common shares of 186,218, 651,650 and 2,953,022 for fiscal 2006, fiscal
2005 and fiscal 2004, respectively, related to options outstanding under our
Company's stock option plans which were excluded from the computation of
diluted earnings per share as the effect would be antidilutive.
Translation of Canadian Currency
Assets and liabilities denominated in Canadian currency are translated at
year-end rates of exchange, and revenues and expenses are translated at average
rates of exchange during the year. Gains and losses resulting from translation
adjustments are accumulated as a separate component of accumulated other
comprehensive loss within Stockholders' Equity.
Cash and Cash Equivalents
Short-term investments that are highly liquid with maturities of ninety
days or less when purchased are deemed to be cash equivalents. These balances as
well as credit card receivables of $29.5 million and $32.6 million at February
24, 2007 and February 25, 2006, respectively, are included in "Cash and cash
equivalents" on our Consolidated Balance Sheets.
Restricted Cash
In fiscal 2006, our restricted cash was primarily held in a money market
fund and could only be used as collateral for our new Letter of Credit Agreement
that we entered into during fiscal 2005. The remaining monies are held in escrow
for services which our Company is required to perform in connection with the
sale of our real estate properties. In fiscal 2005, restricted cash represented
monies held in a money market fund and could only be used as collateral for our
new Letter of Credit Agreement that we entered into during fiscal 2005. Refer to
Note 9 - Indebtedness for further discussion of our new Letter of Credit
Agreement and Revolving Credit Agreement.
44
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Restricted Marketable Securities and Marketable Securities
Investments with maturities greater than ninety days when purchased are
considered marketable securities. Our marketable securities are principally
comprised of commercial paper, corporate bonds, securities of the U.S.
government and its agencies, and auction rate securities. Our Company's
investments are considered to be available-for-sale and are reported at fair
value, with unrealized gains and losses, net of tax, reported as a separate
component of stockholder's equity. Our Company records other than temporary
declines in fair value to earnings as realized losses. In fiscal 2006, our
restricted marketable securities were held by Bank of America and could
only be used as collateral for our new Letter of Credit Agreement that we
entered into during fiscal 2005. Refer to Note 9 - Indebtedness for further
discussion of our new Letter of Credit Agreement and Revolving Credit Agreement.
Inventories
Store inventories are stated principally at the lower of cost or market
with cost determined under the retail method on a first-in, first-out basis.
Under the retail method, the valuation of inventories at cost and resulting
gross margins are determined by applying a cost-to-retail ratio for various
groupings of similar items to the retail value of inventories. Inherent in the
retail inventory method calculations are certain management judgments and
estimates, including shrinkage, which could impact the ending inventory
valuation at cost as well as the resulting gross margins. Perishables and
pharmacy inventories are stated at the lower of cost or market with cost
determined under the gross profit method. Distribution center and other
inventories are stated primarily at the lower of cost or market with cost
determined on a first-in, first-out basis.
We estimate inventory shrinkage throughout the year based on the results of
our periodic physical counts in our stores and distribution centers and record
reserves based on the results of these counts to provide for estimated shrinkage
as of the balance sheet date.
Properties Held for Sale
Properties held for sale include those properties, which have been
identified for sale by our Company and are recorded at the lower of their
carrying value or fair value less cost to sell. Once properties are identified
as held for sale, they are no longer depreciated and are reclassified to
"Prepaid expenses and other current assets" on our Consolidated Balance Sheets.
At February 24, 2007 and February 25, 2006, our properties held for sale were
nil and $1.3 million, respectively.
Long-Lived Assets
We review the carrying values of our long-lived assets for possible
impairment whenever events or changes in circumstances indicate that the
carrying amount of assets may not be recoverable. Such review is primarily based
upon groups of assets and the undiscounted estimated future cash flows from such
assets to determine if the carrying value of such assets is recoverable from
their respective cash flows. If such review indicates an impairment exists, we
measure such impairment on a discounted basis using a probability weighted
approach and a 7 year U.S. Treasury risk free rate.
45
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
During fiscal 2006, fiscal 2005, and fiscal 2004, we recorded property
impairment losses as follows:
Fiscal 2006 Fiscal 2005 Fiscal 2004
------------------------ -------------------------- --------------------------
U.S. Canada Total U.S. Canada Total U.S. Canada Total
------ ------ ------ ------- ------ ------- ------- ------ -------
Impairments due to
closure or conversion
in the normal course
of business (1) $4,836 $-- $4,836 $ 9,851 $506 $10,357 $ 6,000 $709 $ 6,709
Impairments due to
unrecoverable assets (1) -- -- -- 17,728 -- 17,728 34,688 -- 34,688
Impairments due to
Closure of stores
Impacted by Hurricane
Katrina (1) (2) -- -- -- 6,090 -- 6,090 -- -- --
Impairments related to
our Asset Disposition
Initiatives (1) (3) 1,049 -- 1,049 15,463 -- 15,463 2,749 -- 2,749
Impairments related to
our exit of the northern
New England and
Kohl's markets (1) (4) -- -- -- -- -- -- 602 -- 602
------ --- ------ ------- ---- ------- ------- ---- -------
Total impairments $5,885 $-- $5,885 $49,132 $506 $49,638 $44,039 $709 $44,748
====== === ====== ======= ==== ======= ======= ==== =======
(1) Refer to Note 6 - Valuation of Long-Lived Assets.
(2) Refer to Note 16 - Hurricane Katrina and Impact on U.S. Business.
(3) Refer to Note 8 - Asset Disposition Initiatives.
(4) Refer to Note 7 - Discontinued Operations.
All of these amounts with the exception of the impairments related to our
exit of the northern New England and Kohl's markets are included in "Store
operating, general and administrative expense" in our Consolidated Statements of
Operations. The impairments related to our exit of the northern New England and
Kohl's markets are included in "Gain (loss) on disposal of discontinued
operations, net of tax" on our Consolidated Statements of Operations.
The effects of changes in estimates of useful lives were not material to
ongoing depreciation expense.
Property
Depreciation and amortization are calculated on the straight-line basis
over the estimated useful lives of the assets. Buildings are depreciated based
on lives varying from twenty to forty years and equipment is depreciated based
on lives varying from three to twelve years. Leasehold improvements are
amortized over the lesser of their estimated useful lives or the remaining
available lease terms. Property leased under capital leases is amortized over
the lives of the respective leases or over their economic useful lives,
whichever is less. During fiscal 2006, 2005 and 2004, in addition to the
impairment losses discussed above, we disposed of and/or wrote down certain
assets, which resulted in pretax net gains of $28.1 million, $24.8 million, and
$28.7 million, respectively.
Goodwill and Other Intangible Assets
In accordance with SFAS 142 "Goodwill and Other Intangible Assets,"
goodwill is no longer required to be amortized, but tested for impairment at
least annually by reassessing the appropriateness of the goodwill balance based
on a comparison of the fair value of a reporting unit (determined through
forecasts of cash flows from operating results on a discounted basis in
comparison) to the carrying value of such operations. If the results of such
comparison indicate that an impairment may exist, that is the carrying value
exceeds fair market value, we determine the implied fair market value of the
goodwill using a purchase price allocation approach and compare this value to
the carrying value. If such comparison indicates that an impairment exists, we
will recognize a charge to operations at that time based upon the difference
between the implied fair market value of the goodwill and the balance sheet
amount.
During fiscal 2006, we completed the purchase of 6 Clemens Markets stores
from C&S Wholesale Grocers, Inc. In connection with the purchase, we recorded
goodwill in the amount of $5.8 million and is included in "Other assets" on our
Consolidated Balance Sheets at February 24, 2007.
46
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
The book value of goodwill and other intangible assets acquired at February
26, 2005 relating to our Canadian operations was $6.1 million, net of
accumulated amortization of $1.4 million. As further discussed in Note 4 -
Equity Investment in Metro, Inc., we sold our Canadian business at the close of
business on August 13, 2005 to Metro, Inc.; thus, we no longer consolidate this
balance at February 25, 2006.
Through the date of sale of the Canadian operations in fiscal 2005 and
during fiscal 2004, we determined that a portion of the remaining goodwill and
other intangible assets relating to our Canadian goodwill and other intangible
assets had a definite life and recorded amortization expense of $0.1 million and
$0.3 million, respectively.
Current Liabilities
Certain accounts payable checks issued but not presented to banks
frequently result in negative book balances for accounting purposes. Such
amounts are classified as "Book overdrafts" on our Consolidated Balance Sheets.
Liabilities for compensated absences of $44.0 million and $50.7 million at
February 24, 2007 and February 25, 2006, respectively, are included in "Accrued
salaries, wages and benefits" on our Consolidated Balance Sheets.
We accrue for vested vacation pay earned by our employees.
Long-Term Real Estate Liabilities
Long-term real estate liabilities include the sales price of several
sale-leaseback transactions that did not qualify for sale-leaseback accounting
in accordance with SFAS 98, "Accounting for Leases" ("SFAS 98"). The proceeds
received are recorded as long-term real estate liabilities under the provisions
of SFAS 66, "Accounting for Sales of Real Estate" on our Consolidated Balance
Sheets with a maturity of 20 years, and will not be recognized until the end of
the respective leases when our continuing involvement ceases.
Long-term real estate liabilities also include various leases in which our
Company received landlord allowances to offset the costs of structural
improvements we made to the leased space. As we had paid directly for a
substantial portion of the structural improvement costs, we were considered the
owner of the building during the construction period. In all situations upon
completion of the construction, we were unable to meet the requirements under
SFAS 98 to qualify for sale-leaseback treatment; thus, the landlord allowances
have been recorded as long-term real estate liabilities on our Consolidated
Balance Sheets and have been amortized over the lease term based on rent
payments designated in the lease agreements. These leases have terms ranging
between 12 and 25 years and effective annual percentage rates between 4.74% and
44.78%. The effective annual percentage rates were implicitly calculated based
upon technical accounting guidance.
Self Insurance Reserves
Our Consolidated Balance Sheets include liabilities with respect to
self-insured workers' compensation and general liability claims. The total
current and non-current liability for self-insurance reserves recorded at
February 24, 2007 was $133.0 million. The current portion of these liabilities
is included in "Other accruals" and the non-current portion is included in
"Other non-current liabilities" on our Consolidated Balance Sheets. We estimate
the required liability of such claims on a discounted basis, utilizing an
actuarial method, which is based upon various assumptions, which include, but
are not limited to, our historical loss experience, projected loss development
factors, actual payroll and other data. The required liability is also subject
to adjustment in the future based upon the changes in claims experience,
including changes in the number of incidents (frequency) and changes in the
ultimate cost per incident (severity).
During fiscal 2005, we changed our method of accruing estimated workers
compensation state assessment charges for future years from an accrual basis to
an actuarial basis as required by Statement of Position 97-3, "Accounting by
Insurance and Other Enterprises for Insurance-Related Assessments" ("SOP 97-3").
The difference between actual workers compensation state assessment expense
recognized in our Consolidated Statement of Operations and workers compensation
state assessment expense that should have been recorded per SOP 97-3 was not
significant. An adjustment of $8.5 million was recorded for expected future
workers compensation state assessment charges relating to prior year claims that
will be paid related to the incurred workers compensation claims on our
Consolidated Balance Sheet at February 25, 2006. This amount was recorded in
"Store operating, general and administrative expense" in our Consolidated
Statement of Operations for the year ended February 25, 2006.
47
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
During fiscal 2006, the increase in our workers' compensation and general
liability reserves was not significant. However, during fiscal 2005, we
recorded a $8.6 million increase in our workers' compensation and general
liability reserves, primarily relating to the $8.5 million adjustment for
workers compensation state assessment charges we recorded as discussed above.
During fiscal 2004, we recorded a $20.9 million increase in our workers'
compensation and general liability reserves in response to both adverse
development of prior years' costs and other developments including a continuing
trend of rising costs. These amounts were recorded within "Store operating,
general and administrative expense" in our Consolidated Statements of
Operations.
Closed Store and Warehouse Reserves
For stores and warehouses closed that are under long-term leases, we record
a discounted liability using a risk free rate for future minimum lease payments
and related costs, such as utilities and taxes, from the date of closure to the
end of the remaining lease term, net of estimated probable recoveries from
projected sublease rentals. If estimated cost recoveries exceed our liability
for future minimum lease payments, the excess is recognized as income over the
term of the sublease. We estimate net future cash flows based on our experience
in and knowledge of the market in which the closed store is located. However,
these estimates project net cash flow several years into the future and are
affected by variable factors such as inflation, real estate markets and economic
conditions. While these factors have been relatively stable in recent years,
variation in these factors could cause changes to our estimates.
Income Taxes
We provide deferred income taxes on temporary differences between amounts
of assets and liabilities for financial reporting purposes and such amounts as
measured by tax regulations. A valuation allowance is recorded to reduce a
deferred tax asset to the amount expected to be realized.
In accordance with Emerging Issues Task Force ("EITF") EITF 06-3, "How
Taxes Collected from Customers and remitted to Governmental Authorities Should
Be Presented in the Income Statement (That Is, Gross versus Net Presentation)"
("EITF 06-3"), our Company records sales and use tax on a net basis (excluded
from "Sales" and included in "Store operating, general and administrative
expense" in our Statement of Consolidated Operations).
Comprehensive (Loss) Income
Our Company's other comprehensive (loss) income relates to changes in
foreign currency translation, pension and other postretirement benefits and
unrealized gains or losses on derivatives and marketable securities available
for sale.
Changes in other comprehensive (loss) income for the years ended February
24, 2007, February 25, 2006 and February 26, 2005 related to:
Deferred Tax
Gross Benefit Net
------- ------------ -------
Foreign currency translation adjustment $(3,164) $-- $(3,164)
Minimum pension liability adjustment,
prior to the adoption of SFAS 158 (1,090) -- (1,090)
Unrealized gain on marketable securities 993 -- 993
------- --- -------
For the year ended 2/24/07 $(3,261) $-- $(3,261)
======= === =======
Foreign currency translation adjustment $ 9,839 $-- $ 9,839
Minimum pension liability adjustment 1,494 -- 1,494
Unrealized loss on marketable securities (1,015) -- (1,015)
Unrealized loss on derivatives (133) 76 (57)
------- --- -------
For the year ended 2/25/06 $10,185 $76 $10,261
======= === =======
Foreign currency translation adjustment $26,927 $-- $26,927
Minimum pension liability adjustment (3,211) -- (3,211)
Unrealized gain on derivatives 189 26 215
------- --- -------
For the year ended 2/26/05 $23,905 $26 $23,931
======= === =======
48
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Stock-Based Compensation
Beginning in fiscal 2005, we adopted and applied the fair value based
method of accounting prescribed by SFAS 123R, "Share-Based Payment" ("SFAS
123R") for all share-based payment transactions with employees. Refer to Note 14
- - Stock Based Compensation for further discussion regarding our Company's
adoption of SFAS 123R.
During fiscal 2004, we applied the intrinsic value-based method of
accounting prescribed by Accounting Principles Board Opinion No. 25 "Accounting
for Stock Issued to Employees" with pro forma disclosure of compensation
expense, net income or loss and earnings or loss per share as if the fair value
based method prescribed by SFAS 123R had been applied. Had compensation cost for
our stock options been determined based on the fair value at the grant dates for
awards under those plans consistent with the fair value methods prescribed by
SFAS 123R, our net loss and net loss per share would have been increased to the
pro forma amounts indicated below:
Fiscal 2004
-----------
Net loss, as reported: $(188,098)
Deduct/(Add): Stock-based employee compensation
income (expense) included in reported net loss,
net of related tax effects (1,617)
Deduct: Total stock-based employee compensation
expense determined under fair value based method
for all awards, net of related tax effects (4,180)
---------
Pro forma net loss $(190,661)
=========
Net loss per share - basic and diluted:
As reported $ (4.88)
Pro forma $ (4.94)
There were no stock options granted during fiscal 2005. The fair value of
the fiscal 2006 and fiscal 2004 option grants was estimated on the date of grant
using the Black-Scholes option-pricing model with the following assumptions:
Fiscal 2006 Fiscal 2004
----------- -----------
Expected life 7 years 7 years
Volatility 56% 54%
Dividend yield range 0% 0%
Risk-free interest rate range 4.96% 3.17%-4.51%
New Accounting Pronouncements
In October 2005, the Financial Accounting Standards Board ("FASB") issued
FASB Staff Position FAS 13-1 ("FSP FAS 13-1"), which requires companies to
expense rental costs associated with ground or building operating leases that
are incurred during a construction period. As a result, companies that are
currently capitalizing these rental costs are required to expense them beginning
in its first reporting period beginning after December 15, 2005. FSP FAS 13-1
was effective for our Company as of the first quarter of fiscal 2006. We
evaluated the provisions of FSP FAS 13-1 and have adopted the guidance. This
adoption did not have a material impact on our Company's financial position or
results of operations.
In July 2006, the FASB issued FASB Interpretation No. 48, Accounting for
Uncertainty in Income Taxes--an Interpretation of FASB Statement 109 ("FIN 48"),
which clarifies the accounting for uncertainty in tax positions. This
Interpretation provides that the tax effects from an uncertain tax position can
be recognized in our financial statements, only if the position is more likely
than not of being sustained on audit, based on the technical merits of the
position. The provisions of FIN 48 are effective as of the beginning of fiscal
2007, with the cumulative effect of the change in accounting principle recorded
as an adjustment to opening retained earnings. We are currently evaluating the
impact of adopting FIN 48 on our financial statements.
In September 2006, the FASB issued Statement of Financial Accounting
Standards No. 157, "Fair Value Measurements" ("SFAS 157"). SFAS 157 defines fair
value, establishes a framework for measuring fair value in accordance with
generally accepted accounting principles, and expands disclosures about fair
value measurements. The provisions of SFAS 157 are effective for fiscal years
beginning after November 15, 2007 (our year ended February 28, 2009). Our
Company is currently evaluating the impact, if any, of the provisions of SFAS
157.
49
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
In September 2006, the FASB issued SFAS 158, "Employers' Accounting for
Defined Benefit Pension and Other Postretirement Plans, an amendment of FASB
Statements No. 87, 88, 106 and 132(R)" ("SFAS 158") and is effective for our
fiscal year ended February 24, 2007. SFAS 158 was issued to improve the overall
financial statement presentation of pension and other postretirement plans and
does not impact the determination of net periodic benefit cost or the
measurement of plan assets or obligations. This standard requires companies to
recognize the funded status of their defined benefit pension and other
postretirement benefit plans as a net liability or asset on their balance sheets
and requires any unrecognized prior service costs and actuarial gains or losses
to be recognized as a component of accumulated other comprehensive income or
loss. We adopted these requirements of SFAS 158 as of February 24, 2007.
Additionally, SFAS 158 no longer allows companies to measure their plans as of
any date other than the end of their fiscal year; however, this provision is not
effective for companies until fiscal years ending after December 15, 2008 (our
year ended February 28, 2009). We currently measure our plan assets and
obligations using a December 31 measurement date. We are currently evaluating
which of the two transition methods to use and when we will adopt the change in
measurement date. Refer to Note 13 - Retirement Plans and Benefits for the
disclosures required by SFAS 158 and the impact of its adoption.
In September 2006, the Securities and Exchange Commission ("SEC") issued
Staff Accounting Bulletin No. 108, "Considering the Effects of Prior Year
Misstatements When Quantifying Misstatements in Current Year Financial
Statements" ("SAB 108"). This bulletin provides guidance on the consideration of
the effects of prior year misstatements in quantifying current year
misstatements for the purpose of materiality assessment. SAB 108 is effective
for our fiscal year ending February 24, 2007. The cumulative effect, if any, of
applying the provisions of SAB 108 will be reported as an adjustment to
beginning-of-year retained earnings. We have evaluated the provisions of SAB 108
and the guidance did not have an impact on our Company's financial condition or
results of operations.
In February 2007, the FASB issued SFAS No. 159, "The Fair Value Option for
Financial Assets and Financial Liabilities--including an amendment of FASB
Statement No. 115." SFAS No. 159 permits entities to choose to measure many
financial instruments and certain other items at fair value. Unrealized gains
and losses on items for which the fair value option has been elected will be
recognized in earnings at each subsequent reporting date. The provisions of SFAS
159 are effective for fiscal years beginning after November 15, 2007 (our year
ended February 28, 2009). Our Company is currently evaluating the impact, if
any, of the provisions of SFAS 159.
Reclassifications
Certain reclassifications have been made to prior year amounts to conform
to current year presentation.
NOTE 2 - REVISION OF PREVIOUSLY ISSUED FINANCIAL STATEMENTS
During fiscal 2006, our Company's management discovered that property at
cost and accumulated depreciation and amortization were each understated in the
fiscal 2005 financial statements. There was no impact to the Consolidated
Statements of Operations, Consolidated Statements of Stockholders' Equity and
Comprehensive Income (Loss), or Consolidated Statements of Cash Flows as a
result of this revision. The effects to the Consolidated Balance Sheet as of
February 25, 2006 are as follows:
Consolidated
A&P at
February 25, 2006 Consolidated
prior to A&P at
revision February 25, 2006
----------------- -----------------
Property:
Land $ 51,899 $ 51,899
Buildings 183,572 213,639
Equipment 245,161 1,304,053
Leasehold improvements 662,410 1,114,989
---------- -----------
Total - at cost 1,143,042 2,684,580
Less accumulated depreciation
and amortization (267,902) (1,809,440)
---------- -----------
Property owned, net $ 875,140 $ 875,140
========== ===========
50
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
NOTE 3 - SPECIAL ONE-TIME DIVIDEND
On April 25, 2006, our Company paid a special one-time dividend to our
shareholders of record on April 17, 2006 equal to $7.25 per share. This dividend
payout totaling $299.1 million was recorded as a reduction of "Additional paid
in capital" in our Consolidated Balance Sheets at February 24, 2007. The
transaction was funded primarily by cash available on the balance sheet
resulting from the strategic restructuring of the Company during fiscal 2005.
Refer to Note 4 - Equity Investment in Metro, Inc. for further discussion and
disclosure.
Although we paid this one-time special dividend, our Company's practice is
to not pay dividends. As such, we have not made dividend payments in the
previous three years and do not intend to pay dividends in the normal course of
business in fiscal 2006. However, our Company is permitted, under the terms of
our Revolver, to pay cash dividends on common shares.
In connection with the payment of the special one-time dividend discussed
above, our Company also adjusted the number and/or price of all unexercised
stock options and nonvested performance restricted stock units as of April 12,
2006, to ensure that an individual's right to purchase stock at an aggregate
value remained the same both before and after the special one-time dividend
payment. These adjustments did not have an impact on stock compensation expense
for fiscal 2006. Refer to Note 14 - Stock Based Compensation for adjustments
made to stock options outstanding and nonvested performance restricted stock
units as a result of the dividend.
NOTE 4 - EQUITY INVESTMENT IN METRO, INC.
At the close of business on August 13, 2005, our Company completed the sale
of our Canadian business to Metro, Inc., a supermarket and pharmacy operator in
the Provinces of Quebec and Ontario, Canada, for $1.5 billion in cash, stock and
certain debt that was assumed by Metro, Inc. The stock received consisted of
18,076,645 Class A subordinate shares of Metro, Inc., representing approximately
15.83% of the outstanding shares of that class after issuance.
We use the equity method of accounting to account for our investment in
Metro, Inc. on the basis that we have significant influence over substantive
operating decisions made by Metro, Inc. through our membership on Metro, Inc.'s
Board of Directors and its committees and through an information technology
services agreement. The value of our equity investment in Metro, Inc. based upon
Metro, Inc.'s quoted market price is $623.0 million at February 24, 2007.
The following table summarizes the status and results of our Company's
equity investment in Metro, Inc. from the date of ownership through February 24,
2007:
Beginning investment at August 13, 2005 $ 494,578
Deferred portion of gain on sale of
A&P Canada (171,650)
Dividends and distributions received (4,708)
Equity earnings in Metro, Inc. 7,801
Foreign currency translation 12,735
---------
Equity investment at February 25, 2006 338,756
Dividends and distributions received (6,858)
Equity earnings in Metro, Inc. 40,003
Foreign currency translation (3,030)
---------
Equity investment at February 24, 2007 $ 368,871
=========
In accordance with Emerging Issues Task Force ("EITF") 01-2,
"Interpretations of APB Opinion No. 29," we have deferred $171.7 million of the
gain resulting from the sale of our Canadian operations that directly related to
the economic interest we retained in Metro, Inc. We will record our equity
earnings or losses relating to our equity investment in Metro, Inc. on about a
three-month lag period as permitted by APB 18, "The Equity Method of Accounting
for Investments in Common Stock." Thus, during fiscal 2006 and fiscal 2005, we
recorded $40.0 million and $7.8 million, respectively, in equity earnings
relating to our equity investment in Metro, Inc. and included this amount in
"Equity in earnings of Metro, Inc." on our Consolidated Statements of
Operations.
The difference between the carrying value of our investment of $368.9
million and the amount of our underlying equity in Metro, Inc.'s net assets of
$239.8 million is $129.1 million.
51
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Metro, Inc.'s summarized financial information, derived from its 12 month
period ended December 23, 2006, first quarter ended December 17, 2005, and year
ended September 24, 2005 financial statements, is as follows (in millions):
12 Month Period First Quarter Year
Ended Ended Ended
Dec. 23, 2006 Dec. 17, 2005 Sept. 24, 2005
------------- ------------- --------------
Balance sheet:
Current assets $ 955.3 $ 912.9 $ 833.9
Noncurrent assets 2,800.1 2,584.1 2,637.6
-------- -------- --------
Total assets $3,755.4 $3,497.0 $3,471.5
======== ======== ========
Current liabilities $ 971.0 $ 906.3 $ 905.8
Noncurrent liabilities * 1,260.8 1,259.4 1,262.7
-------- -------- --------
Total liabilities $2,231.8 $2,165.7 $2,168.5
======== ======== ========
Income statement:
Net sales $9,624.9 $2,180.2 $5,545.8
======== ======== ========
Cost of sales and operating expenses $9,019.5 $2,071.3 $5,236.0
======== ======== ========
Net income $ 251.8 $ 27.7 $ 159.4
======== ======== ========
* Includes minority interests of $11.1 for the year ended December 23, 2006
and $5.5 million for both the first quarter ended December 17, 2005 and the
year ended September 24, 2005.
During fiscal 2005, we recorded a pretax gain of $912.1 million (gain of
$805.3 million after tax), which is included in "Gain on sale of Canadian
operations" in our Consolidated Statements of Operations. Although the Canadian
operations have been sold at February 25, 2006, the criteria necessary to
classify the Canadian operations as discontinued have not been satisfied as our
Company retained significant continuing involvement in the operations of this
business upon its sale through our equity investment in Metro, Inc.
In fiscal 2006, we recorded a charge of $1.3 million as a result of a
post-closing working capital adjustment as provided in the Stock Purchase
Agreement, which is included in "(Loss) gain on sale of Canadian operations" in
our Consolidated Statements of Operations.
Subsequent to fiscal 2006 and in connection with our Company's agreement to
acquire Pathmark Stores, Inc., we sold 6,350,000 shares of Metro, Inc. on March
13, 2007. Refer to Note 20 - Subsequent Events for further discussion.
NOTE 5 - CASH, CASH EQUIVALENTS, RESTRICTED CASH AND MARKETABLE SECURITIES
At February 24, 2007, we had $51.2 million in restricted cash of which
$47.6 million was held in a money market fund, and can only be used as
collateral for our new Letter of Credit Agreement that we entered into during
fiscal 2005. The remaining $3.6 million represented monies held in escrow for
services which our Company is required to perform in connection with the sale of
our real estate properties.
During the third quarter of fiscal 2006, our Company transferred 6,000,000
of our Class A subordinate shares of Metro, Inc. from our foreign subsidiary to
the United States. These transferred shares are being used as collateral for our
new Letter of Credit Agreement that we entered into during fiscal 2005 and have
allowed us to reduce the amount of restricted cash and/or marketable securities
we were required to maintain as collateral previously.
At February 25, 2006, we had $146.3 million in restricted cash, which was
held in a money market fund, and can only be used as collateral for our new
Letter of Credit Agreement that we entered into during fiscal 2005. In addition,
our restricted marketable securities of $20.3 million at February 24, 2007, held
by Bank of America, could only be used as collateral for our new Letter of
Credit Agreement that we entered into during fiscal 2005. Refer to Note 9 -
Indebtedness for further discussion of our new Letter of Credit Agreement and
Credit Agreement.
52
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
The following is a summary of cash, cash equivalents, restricted cash, and
marketable securities as of February 24, 2007 and February 25, 2006:
At February 24, 2007
-----------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Costs Gains Losses Value
--------- ---------- ---------- ---------
CLASSIFIED AS:
Cash $ 81,137 $-- $ -- $ 81,137
Cash equivalents:
Money market funds 5,057 -- -- 5,057
-------- --- ---- --------
Total cash and cash equivalents 86,194 -- -- 86,194
-------- --- ---- --------
Restricted cash 51,176 -- -- 51,176
Marketable securities:
Corporate bonds 20,357 -- (22) 20,335
-------- --- ---- --------
Total cash, cash equivalents,
restricted cash and
marketable securities $157,727 $-- $(22) $157,705
======== === ==== ========
SECURITIES AVAILABLE-FOR-SALE:
Maturing within one year $ 20,357 $ 20,335
======== ========
Maturing greater than one
year $ -- $ --
======== ========
At February 25, 2006
-----------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Costs Gains Losses Value
--------- ---------- ---------- ---------
CLASSIFIED AS:
Cash $ 78,414 $-- $ -- $ 78,414
Cash equivalents:
Money market funds 151,175 -- -- 151,175
-------- --- ------- --------
Total cash and cash equivalents 229,589 -- -- 229,589
-------- --- ------- --------
Restricted cash 146,309 -- -- 146,309
Marketable securities:
Corporate bonds 51,456 -- (457) 50,999
Securities of the U.S.
government and its agencies 45,943 -- (558) 45,385
Auction rate securities 71,021 -- -- 71,021
-------- --- ------- --------
Total marketable securities 168,420 -- (1,015) 167,405
-------- --- ------- --------
Total cash, cash equivalents,
restricted cash and marketable
securities $544,318 $-- $(1,015) $543,303
======== === ======= ========
SECURITIES AVAILABLE-FOR-SALE:
Maturing within one year $233,921 $233,879
======== ========
Maturing greater than one year $ 85,674 $ 84,701
======== ========
53
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
The following table provides the breakdown of the investments with
unrealized losses at February 24, 2007 and February 25, 2006.
February 24, 2007
-----------------------------------------------------------------
Less than 12 Months 12 Months or Longer Total
-------------------- ------------------- --------------------
Gross Gross Gross
Fair Unrealized Fair Unrealized Fair Unrealized
Value Losses Value Losses Value Losses
------- ---------- ----- ---------- ------- ----------
Corporate bonds $20,335 $(22) $-- $-- $20,335 $(22)
February 25, 2006
------------------------------------------------------------------
Less than 12 Months 12 Months or Longer Total
-------------------- -------------------- --------------------
Gross Gross Gross
Fair Unrealized Fair Unrealized Fair Unrealized
Value Losses Value Losses Value Losses
------- ---------- ------- ---------- ------- ----------
Corporate bonds $11,683 $(41) $39,316 $(416) $50,999 $ (457)
Securities of the U.S.
government and its
agencies -- -- 45,385 (558) 45,385 (558)
------- ---- ------- ----- ------- -------
Total $11,683 $(41) $84,701 $(974) $96,384 $(1,015)
======= ==== ======= ===== ======= =======
Corporate bonds: Our unrealized losses on investments in corporate bonds
were caused by interest rate increases by the Federal Reserve. The contractual
terms of those investments do not permit the issuer to settle the security at a
price less than the amortized cost of the investment. We do not believe it is
probable that we will be unable to collect all amounts due according to the
contractual terms of these investments. Therefore, it is expected that the
debentures would not be settled at a price less than the amortized cost of the
investment. Because we have the ability and intent to hold those investments
until a recovery of fair value, which may be maturity, we do not consider those
investments to be other-than-temporarily impaired at February 24, 2007 and
February 25, 2006, respectively.
54
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Securities of the U.S. government and its agencies: Our unrealized losses
on our investments in securities of the U.S. government and its agencies were
caused by interest rate increases by the Federal Reserve. The contractual terms
of those investments do not permit the issuer to settle the securities at a
price less than the amortized cost of the investment. Because we have the
ability and intent to hold those investments until a recovery of fair value,
which may be maturity, we do not consider those investments to be
other-than-temporarily impaired at February 24, 2007 and February 25, 2006,
respectively.
Gross realized losses on sales of investments were $0.4 million during
fiscal 2006. There were no gross realized gains or losses on sales of
investments during fiscal 2005.
NOTE 6 - VALUATION OF LONG-LIVED ASSETS
LONG-LIVED ASSETS
In accordance with SFAS 144, we review the carrying values of our
long-lived assets for possible impairment whenever events or changes in
circumstances indicate that the carrying amount of assets may not be
recoverable. Such review is primarily based upon groups of assets and the
undiscounted estimated future cash flows from such assets to determine if the
carrying value of such assets is recoverable from their respective cash flows.
If such review indicates an impairment exists, we measure such impairment on a
discounted basis using a probability weighted approach and a 7 year U.S.
Treasury risk free rate.
During fiscal 2006, fiscal 2005 and fiscal 2004, we recorded property
impairment losses as follows:
Fiscal 2006 Fiscal 2005 Fiscal 2004
------------------------ -------------------------- --------------------------
U.S. Canada Total U.S. Canada Total U.S. Canada Total
------ ------ ------ ------- ------ ------- ------- ------ -------
Impairments due to
closure or conversion
in the normal course
of business $4,836 $-- $4,836 $ 9,851 $506 $10,357 $ 6,000 $709 $ 6,709
Impairments due to
unrecoverable
assets -- -- -- 17,728 -- 17,728 34,688 -- 34,688
Impairments due to
Closure of stores
Impacted by Hurricane
Katrina (1) -- -- -- 6,090 -- 6,090 -- -- --
Impairments related to
our Asset Disposition
Initiatives (2) 1,049 -- 1,049 15,463 -- 15,463 2,749 -- 2,749
Impairments related to
our exit of the northern
New England and
Kohl's markets (3) -- -- -- -- -- -- 602 -- 602
------ --- ------ ------- ---- ------- ------- ---- -------
Total impairments $5,885 $-- $5,885 $49,132 $506 $49,638 $44,039 $709 $44,748
====== === ====== ======= ==== ======= ======= ==== =======
(1) Refer to Note 16 - Hurricane Katrina and Impact on U.S. Business.
(2) Refer to Note 8 - Asset Disposition Initiatives.
(3) Refer to Note 7 - Discontinued Operations.
Impairments due to closure or conversion in the normal course of business
We review assets in stores planned for closure or conversion for impairment
upon determination that such assets will not be used for their intended useful
life. During fiscal 2006, fiscal 2005, and fiscal 2004, we recorded impairment
losses on property and equipment of $4.8 million, $10.4 million, and $5.8
million, respectively, related to stores that were or will be closed in the
normal course of business.
Our impairment reviews may also be triggered by appraisals of or offers for
our long-lived assets we receive in the normal course of business. During fiscal
2004, we recorded an impairment loss of $0.9 million in the U.S. related to
certain idle property that, based upon new information received about such
assets, including an appraisal and an offer, was impaired and written down to
its net realizable value. There were no such amounts recorded during fiscal 2006
and fiscal 2005.
55
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
All of these amounts were included in "Store operating, general and
administrative expense" in our Consolidated Statements of Operations.
Impairments due to unrecoverable assets
During the third quarter of fiscal 2004, we updated our review of the
carrying value of several of the Midwest's long-lived assets for potential
impairment under SFAS 144 as we experienced operating losses for the past two
years for several of our Midwest asset groups. We estimated the Midwest's future
cash flows from their long-lived assets, primarily equipment and leasehold
improvements, based on internal analysis and valuations performed by an
independent third party appraiser. For those asset groups for which the carrying
value was not recoverable from their future cash flows, we determined the fair
value of the related assets based on the same analysis, primarily using the
discounted cash flow approach. As a result of this review, we recorded
impairment charges for the Midwest's long-lived assets of $34.7 million, which
was recorded as a component of operating loss in "Store operating, general and
administrative expense" in our Consolidated Statements of Operations for the
year ended February 26, 2005.
During fiscal 2005, we experienced operating losses for two of the past
three years for two of our United States' asset groups, located in the
Northeast, which we believe was a triggering event under SFAS 144 for potential
impairment of the asset group's long-lived assets. Thus, we reviewed the
carrying value of these asset groups for potential impairment, and based upon
internal analysis, we estimated the asset groups' future cash flows from their
long-lived assets, which primarily consisted of equipment and leasehold
improvements. As these asset groups' carrying value was not recoverable from
their future cash flows, we determined the fair value of the related assets
based on the same analysis, primarily using the discounted cash flow approach.
As a result of this review, we recorded an impairment charge for these asset
groups' long-lived assets of $17.7 million, as a component of operating loss in
"Store operating, general and administrative expense" in our Consolidated
Statements of Operations for the year ended February 25, 2006.
There were no such amounts recorded during fiscal 2006.
Impairments related to closure of stores impacted by Hurricane Katrina
During fiscal 2005, we recorded impairment losses on property and equipment
that was not covered by insurance of $6.1 million as discussed in Note 16 -
Hurricane Katrina and Impact on U.S. Business. This amount was included in
"Store operating, general and administrative expense" in our Consolidated
Statements of Operations for the year ended February 25, 2006. There were no
such amounts recorded during fiscal 2006 and fiscal 2004.
Impairments related to our Asset Disposition Initiatives
During fiscal 2006, 2005, and 2004, we recorded impairment losses on
property of $1.1 million, $15.5 million and $2.8 million, respectively, related
to property write-downs as a result of our asset disposition initiatives as
discussed in Note 8 - Asset Disposition Initiatives. These amounts were included
in "Store operating, general and administrative expense" in our Consolidated
Statements of Operations.
Impairments related to our exit of the northern New England and Kohl's markets
During fiscal 2004, we recorded impairment losses of $0.6 million related
to stores closed as a result of our exit of the northern New England and Kohl's
markets. This amount was included in our Consolidated Statements of Operations
under the caption "Loss on disposal of discontinued operations, net of tax" as
discussed in Note 7 - Discontinued Operations. There were no such amounts
recorded during fiscal 2006 or fiscal 2005.
The effects of changes in estimates of useful lives were not material to
ongoing depreciation expense.
NOTE 7 -- DISCONTINUED OPERATIONS
In February 2003, we announced the sale of a portion of our non-core
assets, including nine of our stores in northern New England and seven stores in
Madison, Wisconsin. In March 2003, we entered into an agreement to sell an
additional eight stores in northern New England.
During fiscal 2003, we adopted a formal plan to exit the New England and
Milwaukee, Wisconsin market, as well as our Eight O'Clock Coffee business,
through the sale and/or disposal of these assets.
Summarized below are the operating results for these discontinued
businesses, which are included in our Consolidated Statements of Operations,
under the caption "Income (loss) from operations of discontinued businesses, net
of tax" for fiscal 2006, fiscal 2005, and fiscal 2004, and
56
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
the results of disposing these businesses which are included in "Gain (loss) on
disposal of discontinued operations, net of tax" on our Consolidated Statements
of Operations for fiscal 2006, fiscal 2005 and fiscal 2004.
Fiscal 2006
--------------------------------------
Eight
Northern O'Clock
New England Kohl's Coffee Total
----------- ------ ------- -----
INCOME (LOSS) FROM OPERATIONS OF
DISCONTINUED BUSINESSES
Sales $-- $ -- $ -- $ --
Operating expenses -- 722 (71) 651
--- ----- ---- -----
Income (loss) from operations of
discontinued businesses, before
tax -- 722 (71) 651
Tax (provision) benefit -- (304) 30 (274)
--- ----- ---- -----
Income (loss) from operations of
discontinued businesses, net of
tax $-- $ 418 $(41) $ 377
=== ===== ==== =====
Disposal related costs included in operating expenses above:
Non-accruable closing costs $-- $ 155 $(71) $ 84
Severance and benefits -- 146 -- 146
Vacancy -- 416 -- 416
Proceeds from lease assignment -- 394 -- 394
Interest accretion on present value
of future occupancy costs -- (389) -- (389)
--- ----- ---- -----
Total disposal related costs $-- $ 722 $(71) $ 651
--- ----- ---- -----
57
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Fiscal 2005
-----------------------------------------
Eight
Northern O'Clock
New England Kohl's Coffee Total
----------- ------- ------- -------
(LOSS) INCOME FROM OPERATIONS OF
DISCONTINUED BUSINESSES
Sales $ -- $ -- $ -- $ --
Operating expenses (58) 3,049 (187) 2,804
---- ------- ----- -------
(Loss) income from operations of
discontinued businesses, before
tax (58) 3,049 (187) 2,804
Tax benefit (provision) 24 (1,281) 79 (1,178)
---- ------- ----- -------
(Loss) income from operations of
discontinued businesses, net
of tax $(34) $ 1,768 $(108) $ 1,626
==== ======= ===== =======
Disposal related costs included in operating expenses above:
Non-accruable closing costs $(58) $ (62) $(187) $ (307)
Vacancy -- 3,717 -- 3,717
Interest accretion on present value
of future occupancy and
severance costs -- (606) -- (606)
---- ------- ----- -------
Total disposal related costs $(58) $ 3,049 $(187) $ 2,804
---- ------- ----- -------
GAIN ON DISPOSAL OF DISCONTINUED
BUSINESSES
Gain on sale of property $ -- $ 1,002 $ -- $ 1,002
---- ------- ----- -------
Gain on disposal of discontinued
businesses, before tax -- 1,002 -- 1,002
Tax provision -- (421) -- (421)
---- ------- ----- -------
Gain on disposal of discontinued
businesses, net of tax $ -- $ 581 $ -- $ 581
==== ======= ===== =======
58
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Disposal related costs included in operating expenses above:
Fiscal 2004
----------------------------------------
Eight
Northern O'Clock
New England Kohl's Coffee Total
----------- ------ ------- -------
INCOME (LOSS) FROM OPERATIONS OF
DISCONTINUED BUSINESSES
Sales $ -- $ -- $ -- $ --
Operating expenses 292 (981) (698) (1,387)
----- ----- ------- -------
Income (loss) from operations of
discontinued businesses, before tax 292 (981) (698) (1,387)
Tax provision -- -- -- --
----- ----- ------- -------
Income (loss) from operations of
discontinued businesses, net of tax $ 292 $(981) $ (698) $(1,387)
===== ===== ======= =======
Severance and benefits $(326) $ -- $ -- $ (326)
Vacancy -- 354 -- 354
Non-accruable closing costs 626 (595) (698) (667)
Interest accretion on present value
of future occupancy costs (8) (740) -- (748)
----- ----- ------- -------
Total disposal related costs $ 292 $(981) $ (698) $(1,387)
----- ----- ------- -------
LOSS ON DISPOSAL OF DISCONTINUED
BUSINESSES
Property impairments $ -- $(602) $ -- $ (602)
Loss on sale of business -- -- (2,100) (2,100)
----- ----- ------- -------
Loss on disposal of discontinued
businesses, before tax -- (602) (2,100) (2,702)
Tax provision -- -- -- --
----- ----- ------- -------
Loss on disposal of discontinued
businesses, net of tax $ -- $(602) $(2,100) $(2,702)
===== ===== ======= =======
Northern New England
As part of our strategic plan we decided, in February 2003, to exit the
northern New England market by closing and/or selling 21 stores in that region
in order to focus on our core geographic markets. At February 24, 2007, we have
closed all locations in the northern New England market.
During fiscal 2004, we recorded gains of $0.3 million primarily due to
favorable results of winding down this business. This amount is included in
"Income (loss) from operations of discontinued businesses, net of tax" in our
Consolidated Statements of Operations for fiscal 2004. During fiscal 2005, we
incurred additional pretax costs to wind down our operations in this region
subsequent to the sale of these stores of $0.06 million ($0.03 million after
tax), primarily related to non-accruable closing costs. These amounts were
included in "Income (loss) from operations of discontinued businesses, net of
tax" on our Consolidated Statements of Operations for fiscal 2005. There were no
such charges for fiscal 2006.
The following table summarizes the reserve activity related to the exit of
the northern New England market over the last three fiscal years:
Severance
and
Occupancy Benefits Total
--------- --------- -----
Balance at February 28, 2004 $ 452 $ 58 $ 510
Additions (1) 8 326 334
Utilization (2) (460) (384) (844)
----- ----- -----
Balance at February 26, 2005 $ -- $ -- $ --
Additions (1) -- -- --
Utilization (2) -- -- --
----- ----- -----
Balance at February 25, 2006 $ -- $ -- $ --
Additions (1) -- -- --
Utilization (2) -- -- --
----- ----- -----
Balance at February 24, 2007 $ -- $ -- $ --
===== ===== =====
59
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(1) The additions to occupancy presented represent the interest accretion on
future occupancy costs which were recorded at present value at the time of
the original charge. The fiscal 2004 charge to severance and benefits of
$0.3 million related to additional severance required to be paid to
employees terminated in accordance with a union contract as a result of our
exit from the northern New England market.
(2) Occupancy utilization represents vacancy related payments for closed
locations. Severance and benefits utilization represents payments made to
terminated employees during the period.
As of February 24, 2007, we had paid approximately $3.0 million in
severance and benefits costs, which resulted from the termination of
approximately 300 employees.
Kohl's Market
As part of our strategic plan we decided to exit the Madison and Milwaukee,
Wisconsin markets, which comprised our Kohl's banner.
During fiscal 2004, we recorded impairment losses of $0.6 million as a
result of not achieving originally estimated proceeds on the disposal of
property and equipment at the Kohl's locations. This loss is included in "Gain
(loss) on disposal of discontinued operations, net of tax" on our Consolidated
Statements of Operations.
During fiscal 2005, we recorded a pretax gain on the sale of property of
$1.0 million, which is included in "Gain (loss) on disposal of discontinued
operations, net of tax" on our Consolidated Statements of Operations.
There were no such amounts recorded during fiscal 2006.
During fiscal 2004, we recorded charges of $1.0 million primarily due to
the costs of winding down this business. During fiscal 2005, we recorded a
pretax gain of $3.0 million primarily due to the reversal of previously accrued
occupancy related costs offset by the costs of winding down this business.
During fiscal 2006, we recorded a pretax gain of $0.7 million primarily due to
the proceeds received from the favorable termination of a lease agreement and
the reversal of previously accrued occupancy and severance and benefits related
costs offset by the costs of winding down this business. These amounts are
detailed in the tables above and included in "Income (loss) from operations of
discontinued businesses, net of tax" in our Consolidated Statements of
Operations for fiscal 2004, fiscal 2005 and fiscal 2006.
The following table summarizes the reserve activity over the last three
fiscal years:
Severance
and Fixed
Occupancy Benefits Assets Total
--------- --------- ------ --------
Balance at February 28, 2004 $19,039 $ 4,834 $ -- $23,873
Additions (1) 688 52 602 1,342
Utilization (2) (1,918) (2,201) (602) (4,721)
Adjustments (3) (354) -- -- (354)
------- ------- ----- -------
Balance at February 26, 2005 $17,455 $ 2,685 $ -- $20,140
Additions (1) 562 44 -- 606
Utilization (2) (3,235) (2,128) -- (5,363)
Adjustments (3) (4,299) 582 -- (3,717)
------- ------- ----- -------
Balance at February 25, 2006 $10,483 $ 1,183 $ -- $11,666
Additions (1) 385 4 -- 389
Utilization (2) (2,504) (1,041) -- (3,545)
Adjustments (3) (416) (146) -- (562)
------- ------- ----- -------
Balance at February 24, 2007 $ 7,948 $ -- $ -- $ 7,948
======= ======= ===== =======
60
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(1) The fiscal 2004, fiscal 2005 and fiscal 2006 additions to occupancy and
severance and benefits represent the interest accretion on future occupancy
costs and future obligations for early withdrawal from multi-employer union
pension plans which were recorded at present value at the time of the
original charge. The addition to fixed assets represents additional
impairment losses recorded as a result of originally estimated proceeds on
the disposal of these assets not being achieved.
(2) Occupancy utilization represents vacancy related payments for closed
locations such as rent, common area maintenance, real estate taxes and
lease termination payments. Severance and benefits utilization represents
payments made to terminated employees during the period and payments for
pension withdrawal.
(3) At each balance sheet date, we assess the adequacy of the balance to
determine if any adjustments are required as a result of changes in
circumstances and/or estimates. During fiscal 2004, we recorded a reversal
of previously accrued occupancy related costs due to favorable results of
terminating leases. During fiscal 2005, we recorded adjustments relating to
(i.) a reversal of previously accrued occupancy related costs of $3.7
million due to favorable results of terminating the Kohl's warehouse lease
and (ii.) the reclassification of $0.6 million between the liabilities for
occupancy and severance and benefits to properly state their respective
ending balances at February 25, 2006. During fiscal 2006, we recorded
adjustments for (i.) a reduction in vacancy related costs for our
properties due to favorable results of terminating leases at certain
locations of $0.7 million partially offset by changes in our estimation of
such future costs of $0.3 million and (ii.) a reversal of previously
accrued pension withdrawal payments of $0.1 million that were no longer
required to be paid.
As of February 24, 2007, we paid $13.0 million of the total occupancy
charges from the time of the original charge which was primarily for occupancy
related costs such as rent, common area maintenance, real estate taxes and lease
termination costs. The remaining occupancy liability of $7.9 million relates to
expected future payments under long term leases and is expected to be paid out
in full by 2020.
As of February 24, 2007, we had paid approximately $13.6 million of the
total severance and benefits charge from the time of the original charge which
resulted from the termination of approximately 2,000 employees. At February 24,
2007, there are no future obligations for severance and benefits.
At February 24, 2007, and February 25, 2006, $2.3 million and $3.7 million,
respectively, of the Kohl's exit reserves were included in "Other accruals" and
$5.6 million and $8.0 million, respectively, were included in "Other non-current
liabilities" on our Consolidated Balance Sheets. We have evaluated the liability
balance of $7.9 million as of February 24, 2007 based upon current available
information and have concluded that it is adequate. We will continue to monitor
the status of the vacant properties and adjustments to the reserve balance may
be recorded in the future, if necessary.
Eight O'Clock Coffee
During fiscal 2003, we completed the sale of our Eight O'Clock Coffee
business, generating gross proceeds of $107.5 million and a net gain after
transaction related costs of $85.0 million ($49.3 million after tax). The sale
of the coffee business also included a contingent note for up to $20.0 million,
the value and payment of which is based upon certain elements of the future
performance of the Eight O'Clock Coffee business and therefore is not included
in the gain.
61
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
During fiscal 2004, we incurred costs of $2.1 million which consisted of a
post-sale working capital settlement between the buyer and our Company for which
the amount was not determinable at the time of the sale. This amount is included
in "Gain (loss) on disposal of discontinued operations, net of tax" in our
Consolidated Statements of Operations.
Further, during fiscal 2004 and fiscal 2005, we incurred costs of $0.7
million and $0.2 million, respectively, related to winding down our operations
in this business subsequent to its sale. During fiscal 2006, we incurred costs
of $0.1 million related to legal fees incurred. These amounts are included in
"Gain (loss) from operations of discontinued operations, net of tax" in our
Consolidated Statements of Operations for fiscal 2004, fiscal 2005 and fiscal
2006.
NOTE 8 - ASSET DISPOSITION INITIATIVES
OVERVIEW
In fiscal 1998 and fiscal 1999, we announced a plan to close two warehouse
facilities and a coffee plant in the U.S., a bakery plant in Canada and 166
stores including the exit of the Richmond, Virginia and Atlanta, Georgia markets
(Project Great Renewal). In addition, during fiscal 2001, we announced that
certain underperforming operations, including 39 stores (30 in the United States
and 9 in Canada) and 3 warehouses (2 in the United States and 1 in Canada) would
be closed and/or sold, and certain administrative streamlining would take place
(2001 Asset Disposition). During fiscal 2003, we announced an initiative to
close 6 stores and convert 13 stores to our Food Basics banner in the Detroit,
Michigan and Toledo, Ohio markets (Farmer Jack Restructuring). In fiscal 2005,
we closed 35 stores in the Midwest (Closure of Stores in the Midwest). Also in
fiscal 2005, we sold our U.S. distribution operations and some warehouse
facilities to C&S Wholesale Grocers, Inc and subsequently closed those
warehouses that were not included in the sale (U.S. Distribution Operations and
Warehouses).
62
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Presented below is a reconciliation of the activities recorded on our
Consolidated Balance Sheets, Consolidated Statements of Operations and
Consolidated Statements of Cash Flows for fiscal 2006, fiscal 2005, and fiscal
2004. Present value ("PV") interest represents interest accretion on future
occupancy costs which were recorded at present value at the time of the original
charge. Non-accruable items represent charges related to the restructuring that
are required to be expensed as incurred in accordance with SFAS 146 "Accounting
for Costs Associated with Exit or Disposal Activities".
Fiscal 2006
------------------------------------------------------------------------------
U.S.
Project 2001 Farmer Closure of Distribution
Great Asset Jack Stores in Operations and
Renewal Disposition Restructuring the Midwest Warehouses Total
------- ----------- ------------- ----------- -------------- -------
BALANCE SHEET ACCRUALS
Vacancy $(5,429) $ 4,299 $(3,021) $ 3,969 $ 2,198 $ 2,016
PV interest 894 1,444 741 3,567 244 6,890
Severance (95) -- -- (16) 33 (78)
Total accrued to
------- ------- ------- ------- ------- -------
balance sheet (4,630) 5,743 (2,280) 7,520 2,475 8,828
------- ------- ------- ------- ------- -------
NON-ACCRUABLE ITEMS
RECORDED ON STATEMENTS
OF OPERATIONS
Gain on capital lease
termination -- -- -- (55) -- (55)
Property writeoffs -- -- -- -- 1,049 1,049
Inventory related costs -- -- -- -- (571) (571)
(Gain) loss on sale of
property -- -- -- (85) 20 (65)
Closing costs (5) -- -- 93 2,170 2,258
------- ------- ------- ------- ------- -------
Total non-accruable items (5) -- -- (47) 2,668 2,616
------- ------- ------- ------- ------- -------
Less PV interest (894) (1,444) (741) (3,567) (244) (6,890)
------- ------- ------- ------- ------- -------
TOTAL AMOUNT RECORDED
ON STATEMENTS OF
OPERATIONS EXCLUDING
PV INTEREST (5,529) 4,299 (3,021) 3,906 4,899 4,554
------- ------- ------- ------- ------- -------
Less closing costs 5 -- -- (93) (2,170) (2,258)
------- ------- ------- ------- ------- -------
TOTAL AMOUNT RECORDED
ON STATEMENTS OF
CASH FLOWS $(5,524) $ 4,299 $(3,021) $ 3,813 $ 2,729 $ 2,296
======= ======= ======= ======= ======= =======
63
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Fiscal 2005
-------------------------------------------------------------------------------
U.S.
Project 2001 Farmer Closure of Distribution
Great Asset Jack Stores in Operations and
Renewal Disposition Restructuring the Midwest Warehouses Total
------- ----------- ------------- ----------- -------------- --------
BALANCE SHEET ACCRUALS
Vacancy $(3,648) $(2,089) $4,376 $ 97,596 $ 15,420 $111,655
PV interest 1,548 2,170 710 1,582 -- 6,010
Severance and benefits -- -- -- 2,666 47,220 49,886
------- ------- ------ -------- -------- --------
Total accrued to balance sheet (2,100) 81 5,086 101,844 62,640 167,551
------- ------- ------ -------- -------- --------
NON-ACCRUABLE ITEMS RECORDED ON STATEMENTS
OF OPERATIONS
Capital lease termination -- -- -- (588) -- (588)
Property writeoffs -- -- -- 6,873 9,947 16,820
Inventory related costs -- -- -- 1,242 4,467 5,709
Loss on sale of property -- -- -- 1,640 -- 1,640
Gain on sale of pharmacy scripts -- -- -- (870) -- (870)
Closing costs -- -- -- 5,131 10,656 15,787
------- ------- ------ -------- -------- --------
Total non-accruable items -- -- -- 13,428 25,070 38,498
------- ------- ------ -------- -------- --------
Less PV interest (1,548) (2,170) (710) (1,582) -- (6,010)
------- ------- ------ -------- -------- --------
TOTAL AMOUNT RECORDED ON STATEMENTS OF
OPERATIONS EXCLUDING PV INTEREST (3,648) (2,089) 4,376 113,690 87,710 200,039
------- ------- ------ -------- -------- --------
Less gain on sale of pharmacy scripts -- -- -- 870 -- 870
Less closing costs -- -- -- (5,131) (10,656) (15,787)
------- ------- ------ -------- -------- --------
TOTAL AMOUNT RECORDED ON STATEMENTS OF
CASH FLOWS $(3,648) $(2,089) $4,376 $109,429 $ 77,054 $185,122
======= ======= ====== ======== ======== ========
Fiscal 2004
-----------------------------------------------
Project 2001 Farmer
Great Asset Jack
Renewal Disposition Restructuring Total
------- ----------- ------------- -------
BALANCE SHEET ACCRUALS
PV interest $ 1,922 $ 2,456 $ 687 $ 5,065
------- ------- ------ -------
Total accrued to balance sheets 1,922 2,456 687 5,065
------- ------- ------ -------
Occupancy reversals -- (4,488) -- (4,488)
------- ------- ------ -------
Adjustments to balance sheets -- (4,488) -- (4,488)
------- ------- ------ -------
NON-ACCRUABLE ITEMS RECORDED ON STATEMENTS
OF OPERATIONS
Property writeoffs -- 2,659 90 2,749
Inventory related costs -- -- 291 291
Closing costs -- -- 689 689
------- ------- ------ -------
Total non-accruable items -- 2,659 1,070 3,729
------- ------- ------ -------
Less PV interest (1,922) (2,456) (687) (5,065)
------- ------- ------ -------
TOTAL AMOUNT RECORDED ON STATEMENTS OF
OPERATIONS EXCLUDING PV INTEREST -- (1,829) 1,070 (759)
------- ------- ------ -------
Less closing costs -- -- (689) (689)
------- ------- ------ -------
TOTAL AMOUNT RECORDED ON STATEMENTS OF
CASH FLOWS $ -- $(1,829) $ 381 $(1,448)
======= ======= ====== =======
64
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
PROJECT GREAT RENEWAL
In May 1998, we initiated an assessment of our business operations in order
to identify the factors that were impacting our performance. As a result of this
assessment, in fiscal 1998 and 1999, we announced a plan to close two warehouse
facilities and a coffee plant in the U.S., a bakery plant in Canada and 166
stores (156 in the United States and 10 in Canada) including the exit of the
Richmond, Virginia and Atlanta, Georgia markets.
The following table summarizes the activity related to this phase of the
initiative over the last three fiscal years:
Occupancy Severance and Benefits Total
-------------------------- ------------------------ --------------------------
U.S. Canada Total U.S. Canada Total U.S. Canada Total
------- ------ ------- ------ ------ ------ ------- ------ -------
Balance at February 28, 2004 $31,472 $ 452 $31,924 $2,157 $-- $2,157 $33,629 $ 452 $34,081
Addition (1) 1,902 20 1,922 -- -- -- 1,902 20 1,922
Utilization (2) (5,410) (222) (5,632) (497) -- (497) (5,907) (222) (6,129)
------- ----- ------- ------ --- ------ ------- ----- -------
Balance at February 26, 2005 $27,964 $ 250 $28,214 $1,660 $-- $1,660 $29,624 $ 250 $29,874
Addition (1) 1,541 7 1,548 -- -- -- 1,541 7 1,548
Utilization (2) (5,858) (167) (6,025) (223) -- (223) (6,081) (167) (6,248)
Adjustments (3) (3,648) (90) (3,738) -- -- -- (3,648) (90) (3,738)
------- ----- ------- ------ --- ------ ------- ----- -------
Balance at February 25, 2006 $19,999 $ -- $19,999 $1,437 $-- $1,437 $21,436 $ -- $21,436
Addition (1) 894 -- 894 -- -- -- 894 -- 894
Utilization (2) (4,428) -- (4,428) (132) -- (132) (4,560) -- (4,560)
Adjustments (3) (5,429) -- (5,429) (95) -- (95) (5,524) -- (5,524)
------- ----- ------- ------ --- ------ ------- ----- -------
Balance at February 24, 2007 $11,036 $ -- $11,036 $1,210 $-- $1,210 $12,246 $ -- $12,246
======= ===== ======= ====== === ====== ======= ===== =======
(1) The additions to store occupancy of $1.9 million, $1.5 million, and $0.9
million during fiscal 2004, 2005 and 2006, respectively, represent the
interest accretion on future occupancy costs which were recorded at present
value at the time of the original charge.
(2) Occupancy utilization of $5.6 million, $6.0 million, and $4.4 million for
fiscal 2004, 2005 and 2006, respectively, represents payments made during
those periods for costs such as rent, common area maintenance, real estate
taxes and lease termination costs. Severance utilization of $0.5 million,
$0.2 million, and $0.1 million for fiscal 2004, 2005 and 2006,
respectively, represents payments to individuals for severance and
benefits, as well as payments to pension funds for early withdrawal from
multi-employer union pension plans.
(3) At each balance sheet date, we assess the adequacy of the balance to
determine if any adjustments are required as a result of changes in
circumstances and/or estimates. We have continued to make favorable
progress in marketing and subleasing the closed stores. As a result, during
fiscal 2005, we recorded an additional reduction of $3.6 million in
occupancy accruals due to subleasing additional closed stores and
converting a previously closed store to a store that was opened in fiscal
2006. As discussed in Note 4, Equity Investment in Metro Inc., we sold our
Canadian business and as a result, the Canadian occupancy accruals of $0.1
million are no longer consolidated in our Consolidated Balance Sheet at
February 25, 2006. During fiscal 2006, we recorded adjustments for a
reduction in vacancy related costs for our properties of $5.4 million due
to lease terminations for two properties, assignment of one property and
changes in our estimation of such future costs. We also recorded a decrease
of $0.1 million for the reversal of previously accrued severance and
benefits due to changes in individual severings and associated benefit
costs.
We paid $108.8 million of the total occupancy charges from the time of the
original charges through February 24, 2007 which was primarily for occupancy
related costs such as rent, common area maintenance, real estate taxes and lease
termination costs. We paid $30.3 million of the total net severance charges from
the time of the original charges through February 24, 2007, which resulted from
the termination of approximately 3,400 employees. The remaining occupancy
liability of $11.0 million relates to expected future payments under long term
leases and is
65
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
expected to be paid in full by 2013. The remaining severance liability of $1.2
million primarily relates to expected future payments for early withdrawals from
multi-employer union pension plans and will be fully paid out in 2020.
None of these stores were open during fiscal 2004, fiscal 2005 or fiscal
2006. As such, there was no impact from store operations on the Statements of
Consolidated Operations from the 166 stores included in this phase of the
initiative.
At February 24, 2007 and February 25, 2006, approximately $3.0 million and
$5.1 million, respectively, of the reserve was included in "Other accruals" and
the remaining amount was included in "Other non-current liabilities" on the
Company's Consolidated Balance Sheets.
We have evaluated the reserve balances as of February 24, 2007 of $12.2
million based on current information and have concluded that they are adequate
to cover expected future costs. We will continue to monitor the status of the
vacant properties and adjustments to the reserve balances may be recorded in the
future, if necessary.
2001 ASSET DISPOSITION
During the third quarter of fiscal 2001, our Company determined that
certain underperforming operations, including 39 stores (30 in the United States
and 9 in Canada) and 3 warehouses (2 in the United States and 1 in Canada)
should be closed and/or sold, and certain administrative streamlining should
take place.
The following table summarizes the activity related to this phase of the
initiative recorded on the Consolidated Balance Sheets over the last three
fiscal years:
Occupancy Severance and Benefits Total
---------------------------- -------------------------- ---------------------------
U.S. Canada Total U.S. Canada Total U.S. Canada Total
-------- ------ -------- ------- ------ ------- -------- ------ --------
Balance at February 28, 2004 $ 39,584 $ 375 $ 39,959 $ 2,311 $ 58 $ 2,369 $ 41,895 $ 433 $ 42,328
Addition (1) 2,449 -- 2,449 -- -- -- 2,449 -- 2,449
Utilization (2) (5,646) (375) (6,021) (2,197) (58) (2,255) (7,843) (433) (8,276)
Adjustments (3) (4,488) -- (4,488) -- -- -- (4,488) -- (4,488)
-------- ----- -------- ------- ---- ------- -------- ----- --------
Balance at February 26, 2005 $ 31,899 $ -- $ 31,899 $ 114 $ -- $ 114 $ 32,013 $ -- $ 32,013
Addition (1) 2,170 -- 2,170 -- -- -- 2,170 -- 2,170
Utilization (2) (5,262) -- (5,262) (97) -- (97) (5,359) -- (5,359)
Adjustments (3) (2,089) -- (2,089) -- -- -- (2,089) -- (2,089)
-------- ----- -------- ------- ---- ------- -------- ----- --------
Balance at February 25, 2006 $ 26,718 $ -- $ 26,718 $ 17 $ -- $ 17 $ 26,735 $ -- $ 26,735
Addition (1) 1,444 -- 1,444 -- -- -- 1,444 -- 1,444
Utilization (2) (11,875) -- (11,875) (17) -- (17) (11,892) -- (11,892)
Adjustments (3) 4,299 -- 4,299 -- -- -- 4,299 -- 4,299
-------- ----- -------- ------- ---- ------- -------- ----- --------
Balance at February 24, 2007 $ 20,586 $ -- $ 20,586 $ -- $ -- $ -- $ 20,586 $ -- $ 20,586
======== ===== ======== ======= ==== ======= ======== ===== ========
(1) The additions to store occupancy of $2.4 million, $2.1 million, and $1.4
million during fiscal 2004, 2005 and 2006, respectively, represent the
interest accretion on future occupancy costs which were recorded at present
value at the time of the original charge.
(2) Occupancy utilization of $6.0 million, $5.3 million, and $11.9 million
during fiscal 2004, 2005 and 2006, respectively, represent payments made
during those periods for costs such as rent, common area maintenance, real
estate taxes and lease termination costs. Severance utilization of $2.3
million, $0.1 million, and $0.02 million during fiscal 2004, 2005 and 2006,
respectively, represent payments made to terminated employees during the
period.
66
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(3) At each balance sheet date, we assess the adequacy of the reserve balance
to determine if any adjustments are required as a result of changes in
circumstances and/or estimates. During fiscal 2004, we recorded adjustments
of $4.5 million related to the reversals of previously accrued occupancy
costs due to the disposals and subleases of locations at more favorable
terms than originally anticipated at the time of the original charge.
During fiscal 2005, we recorded adjustments of $2.1 million related to the
reversals of previously accrued occupancy costs due to the favorable result
of subleasing one of the closed properties and changes in our original
estimate of our future vacancy obligations for closed stores. Finally,
during fiscal 2006, we recorded adjustments for additional vacancy related
costs of $4.3 million due to changes in our estimate to terminate certain
leases and changes in our estimation of future costs.
We paid $56.3 million ($53.3 million in the U.S. and $3.0 million in
Canada) of the total occupancy charges from the time of the original charges
through February 24, 2007 which was primarily for occupancy related costs such
as rent, common area maintenance, real estate taxes and lease termination costs.
We paid $28.2 million ($19.2 million in the U.S. and $9.0 million in Canada) of
the total net severance charges from the time of the original charges through
February 24, 2007, which resulted from the termination of approximately 1,100
employees. The remaining occupancy liability of $20.6 million primarily relates
to expected future payments under long term leases through 2022. The severance
liability has been fully utilized as of February 24, 2007 and no additional
future payments for severance and benefits to individual employees will be paid
out.
At February 24, 2007 and February 25, 2006, approximately $3.0 million and
$6.6 million of the reserve, respectively, was included in "Other accruals" and
the remaining amount was included in "Other non-current liabilities" on the
Company's Consolidated Balance Sheets.
None of these stores were open during fiscal 2004, fiscal 2005 or fiscal
2006. As such, there was no impact from store operations on the Statements of
Consolidated Operations from the 39 stores included in this phase of the
initiative.
We have evaluated the reserve balance as of February 24, 2007 of $20.6
million based on current information and have concluded that it is adequate to
cover expected future costs. We will continue to monitor the status of the
vacant properties and adjustments to the reserve balance may be recorded in the
future, if necessary.
67
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
FARMER JACK RESTRUCTURING
In the fourth quarter of fiscal 2003, we announced an initiative to close 6
stores and convert 13 stores to our Food Basics banner in the Detroit, Michigan
and Toledo, Ohio markets.
The following table summarizes the activity related to this phase of the
initiative recorded on the Consolidated Balance Sheets over the last three
fiscal years:
Severance
and
Occupancy Benefits Total
--------- --------- -------
Balance at February 28, 2004 $19,962 $ 4,819 $24,781
Addition (1) 687 -- 687
Utilization (2) (4,747) (4,813) (9,560)
------- ------- -------
Balance at February 26, 2005 $15,902 $ 6 $15,908
Addition (1) 710 -- 710
Utilization (2) (2,738) (6) (2,744)
Adjustment (3) 4,376 -- 4,376
------- ------- -------
Balance at February 25, 2006 $18,250 $ -- $18,250
Addition (1) 741 -- 741
Utilization (2) (1,656) -- (1,656)
Adjustment (3) (3,021) -- (3,021)
------- ------- -------
Balance at February 24, 2007 $14,314 $ -- $14,314
======= ======= =======
(1) The additions to occupancy during fiscal 2004, fiscal 2005 and fiscal 2006
represent interest accretion on future occupancy costs which were recorded
at present value at the time of the original charge.
(2) Occupancy utilization of $4.7 million, $2.7 million and $1.7 million during
fiscal 2004, fiscal 2005 and fiscal 2006, respectively, represents payments
made for costs such as rent, common area maintenance, real estate taxes and
lease termination costs. Severance utilization of $4.8 million and $0.01
million during fiscal 2003 and fiscal 2004, respectively, represent
payments made to terminated employees during the period.
(3) At each balance sheet date, we assess the adequacy of the balance to
determine if any adjustments are required as a result of changes in
circumstances and/or estimates. During fiscal 2005, we recorded an increase
of $4.4 million in occupancy accruals due to changes in our original
estimate of when we would terminate certain leases, obtain sublease rental
income related to such leases and changes in our original estimate of our
future vacancy obligations for closed stores. During fiscal 2006, we
recorded adjustments for a reduction in vacancy related costs for our
properties of $3.0 million due to changes in our estimation of such future
costs.
We paid $10.2 million of the total occupancy charges from the time of the
original charge through February 24, 2007 which was primarily for occupancy
related costs such as rent, common area maintenance, real estate taxes and lease
termination costs. The remaining occupancy liability of $14.3 million relates to
expected future payments under long term leases and is expected to be paid out
in full by 2022. We paid $8.9 million of the total net severance charges from
the time of the original charges through February 24, 2007, which resulted from
the termination of approximately 300 employees. The severance liability has been
fully utilized as of
68
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
February 24, 2007 and no additional future payments for severance and benefits
to individual employees will be paid out.
Included in the Statements of Consolidated Operations for fiscal 2004 are
the sales and operating results of the 6 stores that were identified for closure
as part of this phase of the initiative. The results of these operations are as
follows:
Fiscal 2006 Fiscal 2005 Fiscal 2004
----------- ----------- -----------
Sales $-- $-- $2,433
=== === ======
Operating loss $-- $-- $ (46)
=== === ======
At February 24, 2007 and February 25, 2006, approximately $1.3 million and
$1.6 million, respectively, of the liability was included in "Other accruals"
and the remaining amount was included in "Other non-current liabilities" on our
Consolidated Balance Sheets.
We have evaluated the liability balance of $14.3 million as of February 24,
2007 based upon current available information and have concluded that it is
adequate. We will continue to monitor the status of the vacant properties and
adjustments to the reserve balance may be recorded in the future, if necessary.
CLOSURE OF STORES IN THE MIDWEST
During the first quarter of fiscal 2005, we announced plans for a major
strategic restructuring that would focus future effort and investment on our
core operations in the Northeastern United States. Thus, we initiated efforts to
close stores in the Midwest. This planned store closure included the closing of
a total of 35 stores, all of which have been closed as of February 24, 2007. The
remaining business located in the Midwestern United States will continue to
operate as part of our core business going forward.
The following table summarizes the activity to date related to the charges
recorded for these store closures:
Severance
and
Occupancy Benefits Total
--------- --------- --------
Original charge (1) $ 14,766 $ 1,337 $ 16,103
Additions (2) 75,259 1,373 76,632
Utilization (3) (9,538) (2,439) (11,977)
Adjustment (4) 9,153 (44) 9,109
-------- ------- --------
Balance at February 25, 2006 $ 89,640 $ 227 $ 89,867
Additions (2) 3,567 -- 3,567
Utilization (3) (14,065) (211) (14,276)
Adjustment (4) 3,969 (16) 3,953
-------- ------- --------
Balance at February 24, 2007 $ 83,111 $ -- $ 83,111
======== ======= ========
(1) The original charge to occupancy during fiscal 2005 represents charges
related to closures of the first 8 stores in conjunction with our decision
to close stores in the Midwest of $14.8 million. The original charge to
severance during fiscal 2005 of $1.3 million related to individual
severings as a result of these store closures.
(2) The additions to occupancy during fiscal 2005 represent charges related to
the closures of an additional 27 stores in the amount of $73.7 million and
interest accretion on future occupancy costs which were recorded
69
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
at present value at the time of the original charge in the amount of $1.6
million. The additions to occupancy during fiscal 2006 represent interest
accretion on future occupancy costs which were recorded at present value at
the time of the original charge in the amount of $3.6 million. The
additional charge to severance during fiscal 2005 of $1.3 million related
to individual severings as a result of these store closures.
(3) Occupancy utilization of $9.5 million and $14.1 million for fiscal 2005 and
fiscal 2006, respectively, represents payments made for costs such as rent,
common area maintenance, real estate taxes and lease termination costs.
Severance utilization of $2.4 million and $0.2 million for fiscal 2005 and
2006, respectively, represents payments made to terminated employees during
the period.
(4) At each balance sheet date, we assess the adequacy of the balance to
determine if any adjustments are required as a result of changes in
circumstances and/or estimates. During fiscal 2005, we recorded an increase
of $9.2 million in occupancy accruals due to changes in our original
estimate of our future vacancy obligations for closed stores. We also
recorded a decrease of $0.05 million for the reversal of previously accrued
severance and benefits due to changes in individual severings and
associated benefit costs. During fiscal 2006, we recorded adjustments for
additional vacancy related costs for our properties of $4.0 million due to
changes in our estimation of such future costs and changes to our estimate
to terminate certain leases, partially offset by the favorable result of
terminating a lease on one property. We also recorded a decrease of $0.02
million for the reversal of previously accrued severance and benefits due
to changes in individual severings and associated benefit costs.
We paid $23.6 million of the total occupancy charges from the time of the
original charge through February 24, 2007 which was primarily for occupancy
related costs such as rent, common area maintenance, real estate taxes and lease
termination costs. The remaining occupancy liability of $83.1 million relates to
expected future payments under long term leases and is expected to be paid out
in full by 2025. We paid $2.6 million of the total net severance charges from
the time of the original charges through February 24, 2007, which resulted from
the termination of approximately 125 employees. The severance liability has been
fully utilized as of February 24, 2007 and no additional future payments for
severance and benefits to individual employees will be paid out.
Included in the Statements of Consolidated Operations for fiscal 2005 and
fiscal 2004 are the sales and operating results of the 35 stores that were
closed in the Midwest. The results of these operations are as follows:
Fiscal 2006 Fiscal 2005 Fiscal 2004
----------- ----------- -----------
Sales $-- $110,882 $339,879
=== ======== ========
Operating loss $-- $(31,506) $(39,884)
=== ======== ========
At February 24, 2007 and February 25, 2006, approximately $22.4 million and
$22.5 million, respectively, of the liability was included in "Other accruals"
and the remaining amount was included in "Other non-current liabilities" on our
Consolidated Balance Sheets.
We have evaluated the liability balance of $83.1 million as of February 24,
2007 based upon current available information and have concluded that it is
adequate. We will continue to monitor the status of the vacant properties and
adjustments to the reserve balance may be recorded in the future, if necessary.
U.S. DISTRIBUTION OPERATIONS AND WAREHOUSES
During fiscal 2005, our Company sold our U.S. distribution operations and
some warehouse facilities and related assets to C&S Wholesale Grocers, Inc. On
June 27, 2005, the definitive agreements, including an Asset Purchase Agreement
and a 15 year Supply Agreement,
70
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
were finalized and signed. The Asset Purchase Agreement included the assignment
of our leases in Central Islip, New York and Baltimore, Maryland, and a warranty
deed for our owned facilities in Dunmore, Pennsylvania. In the Supply Agreement,
C&S Wholesale Grocers, Inc. will supply our Company with all of our requirements
for groceries, perishables, frozen food and other merchandise in the product
categories carried by C&S Wholesale Grocers, Inc. The transition of our owned
warehouses and operations began in the second quarter of fiscal 2005 and was
completed during the fourth quarter of fiscal 2005.
The following table summarizes the activity to date related to the charges
recorded for the closing of these facilities.
Severance
and
Occupancy Benefits Total
--------- --------- --------
Original charge (1) $ -- $ 40,417 $ 40,417
Additions (2) 15,420 7,296 22,716
Utilization (3) (337) (43,597) (43,934)
Adjustments (4) -- (493) (493)
-------- -------- --------
Balance at February 25, 2006 $ 15,083 $ 3,623 $ 18,706
Additions (2) 244 32 276
Utilization (3) (12,075) (2,780) (14,855)
Adjustments (4) 2,198 1 2,199
-------- -------- --------
Balance at February 24, 2007 $ 5,450 $ 876 $ 6,326
======== ======== ========
(1) The original charge to severance and benefits during the first quarter of
fiscal 2005 of $40.4 million related to (i.) individual severings as well
as retention and productivity incentives that were accrued as earned of
$7.6 million and (ii.) costs for future obligations for early withdrawal
from multi-employer union pension plans of $32.8 million.
(2) The additions to occupancy during fiscal 2005 related to future occupancy
costs such as rent, common area maintenance and real estate taxes, and
future obligations for the warehouses sold to C&S Wholesale Grocers, Inc.
The additions to occupancy during fiscal 2006 represent interest accretion
on future occupancy costs which were recorded at present value at the time
of the original charge in the amount of $0.2 million. The additions to
severance and benefits during fiscal 2005 represented charges related to
additional individual severings as well as retention and productivity
incentives that were accrued as earned.
(3) Occupancy utilization of $0.3 million and $12.1 million for fiscal 2005 and
fiscal 2006, respectively, represents payments associated with the closure
of certain warehouses. Severance and benefits utilization of $43.6 million
and $2.8 million for fiscal 2005 and fiscal 2006, respectively, represents
payments made to terminated employees during the period as well as payments
made to pension funds for early withdrawal from multi-employer union
pension plans.
(4) At each balance sheet date, we assess the adequacy of the balance to
determine if any adjustments are required as a result of changes in
circumstances and/or estimates. During the fiscal 2005, we recorded
adjustments of $0.5 million primarily related to reversals of previously
accrued severance and benefits due to changes in individual severings and
associated benefit costs. During fiscal 2006, we recorded adjustments for
additional vacancy related costs for our properties of $2.2 million due to
changes in our estimation of such future costs.
We paid $12.4 million of the total occupancy charges from the time of the
original charge through February 24, 2007 which was primarily for occupancy
related costs such as rent, common area maintenance, real estate taxes and lease
termination costs. The remaining occupancy liability of $5.4 million relates to
expected future payments under long term leases and is expected to be paid out
in full by 2021. We paid $46.4 million of the total net severance charges from
the
71
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
time of the original charges through February 24, 2007. The remaining severance
liability of $0.9 million relates to expected future payments for early
withdrawals from multi-employer union pension plans and expected future payments
for severance and benefits payments to individual employees and will be fully
paid out by 2009.
As of February 24, 2007 and February 25, 2006, approximately nil and $1.4
million, respectively, of the liability was included in "Accrued salaries, wages
and benefits," $1.7 million and $11.3 million, respectively, of the liability
was included in "Other Accruals" and the remaining amount was included in "Other
non-current liabilities" on our Consolidated Balance Sheets.
We have evaluated the liability balance of $6.3 million as of February 24,
2007 based upon current available information and have concluded that it is
adequate. We will continue to monitor the status of the warehouses and
adjustments to the reserve balance may be recorded in the future, if necessary.
Our Company currently acquires a significant amount of our saleable
inventory from one supplier, C&S Wholesale Grocers, Inc. Although there are a
limited number of distributors that can supply our stores, we believe that other
suppliers could provide similar product on comparable terms. However, a change
in suppliers could cause a delay in distribution and a possible loss of sales,
which would affect operating results adversely.
NOTE 9 - INDEBTEDNESS
Debt consists of the following:
February 24, February 25,
2007 2006
------------ ------------
Revolver borrowings, due November 2010 $ 70,000 $ --
9.375% Notes, due August 1, 2039 200,000 200,000
9.125% Senior Notes, due December 15, 2011 12,840 12,840
7.75% Notes, due April 15, 2007 31,905 31,905
Deferred gain from termination of interest rate swaps 80 599
Mortgages and Other Notes, due 2006 through 2018
(average interest rates at each year end of 8.00%) 1,460 1,540
Less unamortized discount on 7.75% Notes (2) (33)
-------- --------
316,283 246,851
Less current portion of long-term debt (32,069) (569)
-------- --------
Long-term debt $284,214 $246,282
======== ========
LETTER OF CREDIT AGREEMENT
During fiscal 2005, we entered into a cash collateralized, Letter of Credit
Agreement that enabled us to issue letters of credit up to $200 million. During
the third quarter of fiscal 2006, our Company transferred 6,000,000 of our Class
A subordinate shares of Metro, Inc. from our foreign subsidiary to the United
States. These transferred shares were being used as collateral for the Letter of
Credit Agreement and have allowed us to reduce the amount of restricted cash
and/or marketable securities we were previously required to maintain as
collateral. As a result of this
72
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
transfer, the Letter of Credit Agreement was amended to enable us to issue
letters of credit up to $150 million. At February 24, 2007 and February 25,
2006, there were $138.3 million and $144.7 million, respectively, in letters of
credit outstanding under this agreement.
Refer to Note 20 - Subsequent Events for further discussion regarding the
sale of these Metro, Inc. shares subsequent to February 24, 2007.
REVOLVING CREDIT AGREEMENT
During fiscal 2005, we also secured a $150 million Revolver with four
lenders enabling us to borrow funds on a revolving basis for working capital
loans and letters of credit. The Revolver includes a $100 million accordion
feature which gives us the ability to increase commitments from $150 million to
$250 million. Effective April 4, 2006, we exercised the accordion option and
increased our commitments to $250 million. Under the terms of this agreement,
should availability fall below $25.0 million and should cash on hand fall below
$50.0 million, a borrowing block will be implemented which provides that no
additional loans be made unless we are able to maintain a minimum consolidated
EBITDA covenant on a trailing twelve month basis. In the event that availability
falls below $25.0 million, cash on hand falls below $50.0 million, and we do not
maintain the required minimum EBITDA covenant, unless otherwise waived or
amended, the lenders may, at their discretion, declare, in whole or in part, all
outstanding obligations immediately due and payable.
The Revolver is collateralized by inventory, certain accounts receivable
and pharmacy scripts. Borrowings under the Revolver bear interest based on LIBOR
or Prime interest rate pricing. This agreement expires in November 2010. At
February 24, 2007, there were no letters of credit outstanding under this
agreement and there were $70.0 million in outstanding borrowings under the
Revolver. As of February 24, 2007, after reducing availability for borrowing
base requirements, we had $180.0 million available under the Revolver. Combined
with cash we held in short-term investments and restricted marketable securities
of $25.4 million, we had total cash availability of $205.4 million at February
24, 2007.
Under the Revolver, we are permitted to pay cumulative cash dividends on
common shares as well as make bond repurchases.
PUBLIC DEBT OBLIGATIONS
Outstanding notes totaling $244.7 million at February 24, 2007 consisted of
$31.9 million of 7.75% Notes due April 15, 2007, $12.8 million of 9.125% Senior
Notes due December 15, 2011 and $200 million of 9.375% Notes due August 1, 2039.
Interest is payable quarterly on the 9.375% Notes and semi-annually on the
9.125% and 7.75% Notes. The 7.75% Notes are not redeemable prior to their
maturity. The 9.375% Notes are now callable at par ($25 per bond) and the 9.125%
Notes are now callable at a premium to par (104.563%). The 9.375% Notes are
unsecured obligations and were issued under the terms of our senior debt
securities indenture, which contains among other provisions, covenants
restricting the incurrence of secured debt. The 9.375% Notes are effectively
subordinate to the Revolver and do not contain cross default provisions. All
covenants and restrictions for the 7.75% Notes and the 9.125% Senior Notes have
been eliminated in connection with the cash tender offer as discussed below. Our
notes are not
73
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
guaranteed by any of our subsidiaries. During fiscal 2006, there were no
repurchases of our public debt obligations.
During fiscal 2005, we repurchased in the open market $14.9 million of our
7.75% Notes due April 15, 2007. The cost of this open market repurchase resulted
in a pretax loss due to the early extinguishment of debt of $0.6 million. In
accordance with SFAS No. 145, "Rescission of FASB Statements 4, 44 and 64,
Amendment of FASB 13, and Technical Corrections" ("SFAS 145"), this loss has
been classified within loss from operations.
Also in August 2005, our Company commenced a cash tender offer for all of
the outstanding principal amount of our 7.75% Notes due April 15, 2007 and
9.125% Senior Notes due December 15, 2011. The tender offer expired on September
7, 2005. On September 8, 2005, our Company purchased pursuant to the tender
offer $166.7 million of our $199 million 7.75% Notes due April 15, 2007 and
$203.7 million of our $216.5 million 9.125% Senior Notes due December 15, 2011
using $370.4 million of the gross proceeds from the sale of our Canadian
operations. Our Company also paid $28.6 million in tender premiums and other
fees and expenses and wrote off approximately $3.9 million of unamortized debt
discount and issuance costs related to this tender offer.
In addition, due to the early extinguishment of a significant portion of
the 7.75% Notes due April 15, 2007, we recognized $3.1 million of the deferred
gain that resulted from the termination of three interest rate swaps we entered
into during fiscal 2002 to effectively convert a portion of our 7.75% Notes due
April 15, 2007 from fixed rate debt to floating rate debt. The portion of the
deferred gain that was recognized related to the underlying debt instrument that
was early extinguished. The remaining portion of the deferred gain will continue
to be amortized as an offset to interest expense over the life of the remaining
underlying debt instrument and is classified as "Long term debt" in our
Consolidated Balance Sheets.
In accordance with SFAS No. 145, both the tender premiums and other fees
and expenses are classified within loss from operations and are included in
"Store operating, general and administrative expense" in our Consolidated
Statements of Operations for fiscal 2005. The recognition of the deferred gain
is classified within "Interest expense" in our Consolidated Statements of
Operations for fiscal 2005.
During fiscal 2004, we repurchased in the open market $6.0 million of our
7.75% Notes due April 15, 2007. The cost of this open market repurchase resulted
in a pretax gain due to the early extinguishment of debt of $0.8 million. In
accordance with SFAS No. 145, this gain has been classified within loss from
operations.
Although our Company declared and paid a special one-time dividend to our
shareholders of record on April 17, 2006 equal to $7.25 per share in April 2006,
our Company's policy is to not pay dividends. As such, we have not made dividend
payments in the previous three years and do not intend to pay dividends in the
normal course of business in fiscal 2007. However, our Company is permitted,
under the terms of our Revolver, to pay cash dividends on common shares.
Maturities for the next five fiscal years and thereafter are: 2007 - $32.1
million; 2008 - $0.1
74
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
million; 2009 - $0.1 million; 2010 - $70.1 million; 2011 - $13.0 million; 2012
and thereafter - $200.9 million. Interest payments on indebtedness were
approximately $28 million for fiscal 2006, $48 million for fiscal 2005 and $56
million for fiscal 2004.
NOTE 10 - FAIR VALUE OF FINANCIAL INSTRUMENTS
The estimated fair values of our financial instruments are as follows:
February 24, 2007 February 25, 2006
------------------- -------------------
Carrying Fair Carrying Fair
Amount Value Amount Value
-------- -------- -------- --------
Revolver borrowings, due November 2010 $ 70,000 $ 70,000 $ -- $ --
9.375% Notes, due August 1, 2039 200,000 204,800 200,000 200,000
9.125% Senior Notes, due December 15, 2011 12,840 13,033 12,840 13,723
7.75% Notes, due April 15, 2007 31,982 31,506 32,471 32,065
Mortgages and Other Notes, due 2006 through 2018 1,460 1,460 1,540 1,540
The fair value of our Revolver borrowings approximates the carrying value
at February 24, 2007. The fair value for the public debt securities is based on
quoted market prices for such notes. As of February 24, 2007 and February 25,
2006, the carrying values of cash and cash equivalents, accounts receivable and
accounts payable approximated fair values due to the short-term maturities of
these instruments. Marketable securities are recorded at fair value at February
24, 2007 and February 25, 2006. Refer to Note 1 - Summary of Significant
Accounting Policies for discussion of SFAS 157 and SFAS 159 and the impact of
its adoption.
NOTE 11 - LEASE OBLIGATIONS
We operate primarily in leased facilities. Lease terms generally range up
to twenty-five years for store leases and thirty years for other leased
facilities, with options to renew for additional periods. In addition, we also
lease some store equipment and trucks. The majority of the leases contain
escalation clauses relating to real estate tax increases and certain store
leases provide for increases in rentals when sales exceed specified levels.
Depending on the specific terms of the leases, our obligations are in three
forms: capital leases, operating leases and long-term real estate liabilities.
75
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
The Consolidated Balance Sheets include the following capital leases:
February 24, February 25,
2007 2006
------------ ------------
Property under capital leases $ 41,135 $ 52,454
Accumulated amortization (20,459) (29,360)
-------- --------
Net property under capital leases $ 20,676 $ 23,094
======== ========
During fiscal 2005, we entered into a new capital lease totaling $10
million. This capital lease amount is a non-cash transaction and, accordingly,
has been excluded from the Consolidated Statements of Cash Flows. During fiscal
2006 and fiscal 2004, we did not enter into any new capital leases. Interest
paid as part of our capital lease obligations was approximately $3.5 million in
fiscal 2006, $6.3 million in fiscal 2005 and $7.5 million in fiscal 2004.
Rent expense for operating leases during the last three fiscal years
consisted of the following:
Fiscal 2006 Fiscal 2005 Fiscal 2004
----------- ----------- -----------
Minimum rentals $174,151 $211,779 $245,503
Contingent rentals 2,486 3,732 5,324
-------- -------- --------
Total rent expense $176,637 $215,511 $250,827
======== ======== ========
Future minimum annual lease payments for capital leases and noncancelable
operating leases in effect at February 24, 2007 are shown in the table below.
Operating Leases
----------------------------------------------------------
Future Minimum Rental Payments Future Net Future
---------------------------------- Minimum Minimum
Capital Open Closed Sublease Rental
Fiscal Leases Stores Sites Total Rentals Payments
- ------ -------- ---------- -------- ---------- -------- ----------
2007 $ 4,592 $ 182,707 $ 42,701 $ 225,408 $ 25,671 $ 199,737
2008 4,543 179,294 38,848 218,142 22,370 195,772
2009 4,331 175,216 37,465 212,681 20,770 191,911
2010 4,041 166,733 34,249 200,982 18,294 182,688
2011 4,064 156,876 31,709 188,585 15,045 173,540
2012 and thereafter 46,525 1,202,195 205,577 1,407,772 92,778 1,314,994
-------- ---------- -------- ---------- -------- ----------
Net minimum rentals 68,096 $2,063,021 $390,549 $2,453,570 $194,928 $2,258,642
========== ======== ========== ======== ==========
Less interest portion (36,886)
--------
Present value of future minimum rentals $ 31,210
========
In the future minimum rental payments of closed sites of $390.5 million are
amounts that are included in current and non-current liabilities on our
Consolidated Balance Sheets. The amounts included in our Consolidated Balance
Sheets are estimated net cash flows based on our experience and knowledge of the
market in which the closed store is located. Refer to our discussion of Closed
Store Reserves in Note 1 - Summary of Significant Accounting Policies.
During fiscal 2006 and fiscal 2005, we sold 1 and 5 properties,
respectively, and simultaneously leased them back from the purchaser. However,
due to our Company's continuing
76
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
involvement with 1 of these properties in fiscal 2005, as (i.) we receive
sublease income that is more than 10% of the fair market value of this property,
(ii.) lease contains renewal options that extend beyond the economic useful life
of the property, and (iii.) we are obligated to repurchase the property if
certain circumstances occur, the sale did not qualify for sale-leaseback
accounting in accordance with SFAS 98, "Accounting for Leases" but rather as a
long-term real estate liability under the provisions of SFAS 66, "Accounting for
Sales of Real Estate" ("SFAS 66"). In accordance with SFAS 66, the carrying
value of this property of approximately $9.0 million remained on our
Consolidated Balance Sheets at February 26, 2005, and no sale was recognized.
Instead the sales price of this property of $20.8 million was recorded as a
long-term real estate liability with a maturity of 20 years within "Long-term
real estate liabilities" on our Consolidated Balance Sheets at February 25,
2006. In addition, the lease payments are being charged to "Interest expense" in
our Consolidated Statements of Operations. This property was sold for a profit
resulting in a gain, after deducting expenses, which has been deferred and will
not be recognized until the end of the lease when our continuing involvement
ceases.
"Long-term real estate liabilities" on our Consolidated Balance Sheets also
include various leases in which our Company received landlord allowances to
offset the costs of structural improvements we made to the leased space. As we
had directly paid for a substantial portion of the structural improvement costs,
we were considered the owner of the building during the construction period. In
all situations upon completion of the construction, we were unable to meet the
requirements under SFAS 98, "Accounting for Leases" to qualify for
sale-leaseback treatment; thus, the landlord allowances have been recorded as
long-term real estate liabilities on our Consolidated Balance Sheets and have
been amortized over the lease term based on rent payments designated in the
lease agreements. These leases have terms ranging between 12 and 25 years and
effective annual percentage rates between 4.74% and 44.78%. The effective annual
percentage rates were implicitly calculated based upon technical accounting
guidance.
The future minimum annual lease payments relating to these leases as well
as those leases for properties that we previously owned but did not qualify for
sale-leaseback treatment have been included in the table below.
Long-term Real Estate Liabilities
---------------------------------
Net
Future Future Future
Minimum Minimum Minimum
Rental Sublease Rental
Fiscal Payments Rentals Payments
- ------ --------- -------- ---------
2007 $ 36,356 $ 4,565 $ 31,791
2008 36,498 4,354 32,144
2009 36,714 3,980 32,734
2010 36,830 3,077 33,753
2011 37,023 2,162 34,861
2012 and thereafter 455,903 6,711 449,192
--------- ------- ---------
639,324 24,849 614,475
Less interest portion (338,492) -- (338,492)
--------- ------- ---------
Present value of future minimum
rental payments $ 300,832 $24,849 $ 275,983
========= ======= =========
77
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
The remaining 1 and 4 properties sold and simultaneously leased back from
the purchaser during fiscal 2006 and fiscal 2005, respectively, had a carrying
value of approximately $2.5 million and $16.1 million, respectively. Net
proceeds received related to these transactions amounted to approximately $9.2
million and $32.6 million, respectively. These properties were sold for a profit
resulting in (i.) a gain that was immediately recognized of $1.3 million and
$5.1 million, respectively, as we are leasing back more than a minor part but
less than substantially all of the property sold in accordance with SFAS 28,
"Accounting for Sales with Leasebacks," and (ii.) a deferred gain after
deducting expenses of $5.4 million and $11.1 million, respectively, which will
be recognized as an offset to rent expense over the remaining life of the
leases.
During fiscal 2006, fiscal 2005, and fiscal 2004, we recognized gains
related to all of our sale-leaseback transactions of $5.3 million, of which $1.3
million related to recognition of a portion of the gain on sale in the current
year as we are leasing back more than a minor part but less than substantially
all of the property as discussed above, $8.8 million, of which $5.1 million
related to recognition of a portion of the gain on sale in the current year as
we are leasing back more than a minor part but less than substantially all of
the property sold as discussed above, and $2.6 million, respectively. The
remaining deferred gain at February 24, 2007 and February 25, 2006 amounted to
$64.7 million and $63.5 million, respectively.
NOTE 12 - INCOME TAXES
The components of (loss) income from continuing operations before income
taxes were as follows:
Fiscal 2006 Fiscal 2005 Fiscal 2004
----------- ----------- -----------
United States $(35,572) $471,149 $(224,498)
Canada -- 48,201 41,017
-------- -------- ---------
Total $(35,572) $519,350 $(183,481)
======== ======== =========
The benefit from (provision for) income taxes from continuing operations
consisted of the following:
Fiscal 2006 Fiscal 2005 Fiscal 2004
----------- ----------- -----------
Current:
Federal $65,430 $ (90,448) $ --
Canadian -- (18,539) 2,603
State and local (3,494) (19,238) (4,500)
Canadian tax on dividends 152 (702) --
------- --------- -------
62,088 (128,927) (1,897)
------- --------- -------
Deferred:
Federal -- -- --
Canadian -- -- 1,369
State and local -- -- --
------- --------- -------
-- -- 1,369
------- --------- -------
Benefit from (provision for) income taxes $62,088 $(128,927) $ (528)
======= ========= =======
The deferred income tax benefit (provision) resulted primarily from the
annual change in temporary differences between amounts of assets and liabilities
for financial reporting purposes and such amounts as measured by tax
regulations, net operating loss ("NOL") carryforwards and, in fiscal 2006,
fiscal 2005 and fiscal 2004, the U.S. valuation allowance. In accordance with
SFAS
78
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
109 "Accounting for Income Taxes", a valuation allowance is created and offset
against the net deferred tax asset if, based on existing facts and
circumstances, it is more likely than not that some portion or all of the
deferred tax asset will not be realized. In future periods, we will continue to
record a valuation allowance against net deferred tax assets that are created by
U.S. losses. The valuation allowance will be adjusted when and if, in our
opinion, significant positive evidence exists which indicates that it is more
likely than not that we will be able to realize the U.S. deferred tax asset.
During fiscal 2006, the U.S. valuation allowance was decreased by $2.7
million resulting from an increase of $19.1 million that was recorded through
the current year tax benefit in our Consolidated Statement of Operations offset
by a decrease of $21.8 million relating to several reclassifications to various
balance sheet items in our Consolidated Balance Sheet at February 24, 2007.
During fiscal 2005 the U.S. valuation allowance was decreased by $241.8
million.
In October 2004, the U.S. government passed the "Homeland Investment Act"
which allows companies to repatriate cash balances from their controlled foreign
subsidiaries at a reduced tax rate. This is achieved by permitting a one time
85% dividends received deduction. As discussed in Note 3 - Equity Investment in
Metro, Inc., our Company completed the sale of our Canadian subsidiary to Metro,
Inc. during fiscal 2005. As a result of this transaction, our Company
repatriated $949.0 million from our foreign subsidiaries, of which $500.0
million is intended to qualify for the 85% dividends received deduction. Until
such time as the taxing authorities have affirmed the adequacy of our Company's
Domestic Reinvestment Plan, we recorded a tax provision of $98.1 million, in
fiscal 2005, for the potential disallowance of the 85% dividend received
deduction. This amount was recorded in "(Provision for) benefit from income
taxes" in our Consolidated Statements of Operations for fiscal 2005 and in
"Other non-current liabilities" in our Consolidated Balance Sheet at February
25, 2006. During fiscal 2006, this tax provision was reduced by $66.2 million,
principally due to the recognition of foreign tax credits of $39.8 million and a
tax benefit of $34.8 million from current year operating losses, offset by
interest of $1.8 million and an increase to our valuation allowance of $6.0
million. This reduction was recorded in "Benefit from (provision for) income
taxes" in our Statements of Consolidated Operations for fiscal 2006. In
addition, as a result of the completion of our tax return during the third
quarter, the provision was reduced by $4.9 million along with a corresponding
increase in current taxes payable of $4.9 million. Finally, the provision was
also reduced for adjustments impacting state taxes currently payable and
additional paid in capital of $2.6 million for fiscal 2006. The balance in the
provision of $24.4 million is included in "Other non-current liabilities" in our
Consolidated Balance Sheet at February 24, 2007.
The deferred tax benefit recorded in fiscal 2004 for our Canadian
operations of approximately $1.4 million reflects temporary differences. During
fiscal 2004, the U.S. valuation allowance was increased by $89.6 million.
At February 26, 2005, the undistributed earnings of our foreign
subsidiaries amounted to approximately $178.1 million. We had not recorded
deferred income taxes on the undistributed earnings of our foreign subsidiaries
since at such time our intent was to indefinitely reinvest such earnings. Upon
distribution of these earnings in the form of dividends or otherwise, we may be
subject to U.S. income taxes and foreign withholding
79
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
taxes. As a result of the sale of our Canadian operations, our undistributed
earnings of our foreign subsidiaries were reduced to $36.2 million and $3.1
million at February 24, 2007 and February 25, 2006, respectively.
The components of net deferred tax assets (liabilities) are as follows:
February 24, February 25,
2007 2006
------------ ------------
CURRENT ASSETS:
Insurance reserves $ 17,583 $ 23,096
Other reserves and accrued benefits 33,845 53,196
Accrued postretirement and postemployment benefits 603 756
Lease obligations 526 522
Pension obligations 15,374 17,868
Miscellaneous 2,993 3,397
--------- ---------
70,924 98,835
--------- ---------
CURRENT LIABILITIES:
Inventories (7,839) (9,422)
Health and welfare (1,596) (405)
Miscellaneous (1,917) (1,657)
--------- ---------
(11,352) (11,484)
--------- ---------
Valuation allowance (19,360) (27,318)
--------- ---------
Deferred income taxes included in prepaid expenses
and other current assets $ 40,212 $ 60,033
========= =========
February 24, February 25,
2007 2006
------------ ------------
NON-CURRENT ASSETS:
Alternative minimum tax credits $ 38,048 $ 32,035
Other reserves including asset disposition charges 55,751 63,123
Lease obligations 4,318 4,287
Equity investment in Metro, Inc. 21,627 --
Insurance reserves 39,122 34,319
Accrued postretirement and postemployment benefits 10,843 17,445
Pension obligations 756 1,307
Step rents 24,702 24,877
State tax 5,582 2,082
Miscellaneous 723 349
--------- ---------
201,472 179,824
--------- ---------
NON-CURRENT LIABILITIES:
Depreciation (177,888) (178,920)
Pension obligations (7,892) (9,933)
Miscellaneous (908) (1,302)
--------- ---------
(186,688) (190,155)
--------- ---------
Valuation allowance (54,996) (49,702)
--------- ---------
Net non-current deferred income tax liability
included in Other non-current liabilities $ (40,212) $ (60,033)
========= =========
As of February 24, 2007 and February 25, 2006, we had no NOL carryforwards
or carrybacks from our U.S. operations available for financial reporting under
U.S. generally accepted accounting principles.
Income tax payments, net of income tax refunds for fiscal 2006, 2005 and
2004 were
80
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
approximately $4.4 million, $23.8 million and $12.3 million, respectively.
A reconciliation of income taxes from continuing operations at the 35%
federal statutory income tax rate for fiscal 2006, 2005 and 2004 to income taxes
as reported is as follows:
Fiscal 2006 Fiscal 2005 Fiscal 2004
----------- ----------- -----------
Income tax benefit from (provision) continuing
operations computed at federal
statutory income tax rate $ 12,450 $(181,773) $ 64,218
State and local income taxes, net of
federal tax benefit (2,271) (12,505) (2,925)
Tax rate differential relating to Canadian
operations -- (2,271) 2,358
Permanent difference relating to the sale of
Canadian assets 66,357 (129,096) --
Permanent difference relating to purchase
of Canadian franchisees -- -- (8,590)
Other permanent differences (418) (399) (527)
Change in estimate of balance sheet items -- -- 16,265
U.S. valuation allowance (14,030) 197,117 (71,327)
-------- --------- --------
Income tax benefit (provision), as reported $ 62,088 $(128,927) $ (528)
======== ========= ========
For fiscal 2006, our effective income tax rate of 174.5% changed from the
effective income tax rate of 24.8% for fiscal 2005. For fiscal 2005, our
effective income tax rate of 24.8% changed from the effective income tax rate of
0.3% for fiscal 2004. Refer to table below:
Fiscal 2006 Fiscal 2005 Fiscal 2004
----------------------- ------------------------- ---------------------------
Effective Effective Tax (Provision) Effective
Tax Benefit Tax Rate Tax Provision Tax Rate Benefit Tax Rate
----------- --------- ------------- --------- --------------- ---------
United States $62,088 (174.5%) $(110,388) 21.3% $(4,500) 2.5%
Canada -- -- (18,539) 3.5% 3,972 (2.2%)
------- ------ --------- ---- ------- ----
$62,088 (174.5%) $(128,927) 24.8% $ (528) 0.3%
======= ====== ========= ==== ======= ====
Fiscal 2006 as compared to Fiscal 2005
The change in our effective tax rate was primarily due to (i.) the
recognition of tax benefits as we continue to experience operating losses and
these operating losses decrease the overall tax provision previously recorded
during fiscal 2005 in connection with our Company's Domestic Reinvestment Plan
as discussed above and events surrounding the sale of our Canadian operations in
fiscal 2005, (ii) the recognition of foreign tax credits, (iii) the increase in
our valuation allowance that was recorded through the current year tax benefit
as discussed above, (iv) the tax benefit from not providing deferred taxes on
the undistributed earnings of our investment in Metro, Inc., and (v.) the
absence of a tax provision that was recorded for our Canadian operations during
fiscal 2005 that was not recorded during fiscal 2006 due to the sale of our
Canadian operations during the second quarter of fiscal 2005.
81
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Fiscal 2005 as compared to Fiscal 2004
The change in our effective tax rate was primarily due to the tax
provisions we recorded in the U.S. in connection with (i.) our Company's
Domestic Reinvestment Plan as discussed above and (ii.) the sale of our Canadian
operations that occurred during fiscal 2005.
NOTE 13 - RETIREMENT PLANS AND BENEFITS
On February 24, 2007, we adopted SFAS 158 which requires that we recognize
the funded status of our defined benefit pension and other postretirement
benefit plans as a net liability or asset on our balance sheets and requires any
unrecognized prior service costs and actuarial gains or losses to be recognized
as a component of accumulated other comprehensive income or loss. Minimum
pension liabilities and related intangible assets are derecognized upon
adoption. SFAS 158 also requires that beginning in our fiscal 2008, our
assumptions used to measure our annual expenses be determined as of the balance
sheet date (February 28, 2009), and all plan assets and liabilities to be
reported as of that date. Retroactive application of this accounting rule is
prohibited; therefore, fiscal 2006 is presented as required under SFAS 158 and
fiscal 2005 is presented as required under the accounting rules prior to SFAS
158. The adoption in fiscal 2006 had no effect on the computation of net
periodic benefit expense for pensions and postretirement benefits.
The incremental effects of applying SFAS 158 on individual lines in the
Consolidated Balance Sheet are as follows:
Balances Balances
Before After
Adoption of Adoption of
SFAS 158 Adjustments SFAS 158
----------- ----------- -----------
Prepaid expenses and other current assets $ 60,853 $ 1,898 $ 62,751
Other assets $ 47,200 $ 6,646 $ 53,846
Accrued salaries, wages and benefits $ 117,580 $ (1,861) $ 115,719
Other non-current liabilities $ 516,369 $ (8,791) $ 507,578
Accumulated other comprehensive income $ 3,692 $ 19,196 $ 22,888
Total assets $2,103,079 $ 8,544 $2,111,623
Total liabilities $1,691,605 $(10,652) $1,680,953
Total stockholders' equity $ 411,474 $ 19,196 $ 430,670
DEFINED BENEFIT PLANS
We provide retirement benefits to certain non-union and union employees
under various defined benefit plans. Our defined benefit pension plans are
non-contributory and benefits under these plans are generally determined based
upon years of service and, for salaried employees, compensation. We fund these
plans in amounts consistent with the statutory funding requirements. We use
December 31 as their measurement date.
The following tables set forth the change in benefit obligations, the
change in plan assets, the funded status, and the accumulated benefit obligation
for fiscal 2006 and 2005 for our defined benefit plans:
82
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
2006 2005
-------- --------
CHANGE IN BENEFIT OBLIGATION
Benefit obligation - beginning of year $212,231 $213,051
Service cost 5,609 5,998
Interest cost 11,368 11,887
Actuarial loss (gain) 3,656 (3,746)
Benefits paid (15,984) (17,055)
Amendments 1,141 1,160
Special termination benefits -- 936
-------- --------
Benefit obligation - end of year $218,021 $212,231
======== ========
CHANGE IN PLAN ASSETS
Plan assets at fair value - beginning of year $197,107 $205,644
Actual return on plan assets 16,758 4,160
Company contributions 4,304 4,358
Benefits paid (15,984) (17,055)
-------- --------
Plan assets at fair value - end of year $202,185 $197,107
======== ========
RECONCILIATION OF FUNDED STATUS
Funded status $(15,836) $(15,124)
Unrecognized actuarial gain -- (1,635)
Unrecognized prior service cost -- 1,689
-------- --------
Net liability recognized (15,836) (15,070)
-------- --------
Prepaid benefit cost 18,790 23,668
Current accrued benefit liability (2,503) (4,000)
Accrued benefit liability (32,123) (40,518)
Intangible asset -- 874
Minimum pension liability -- 4,906
-------- --------
Net liability recognized $(15,836) $(15,070)
======== ========
ACCUMULATED BENEFIT OBLIGATION $214,866 $209,793
======== ========
Our Company expects approximately $0.1 million of the net actuarial loss
and $0.3 million of the prior service cost to be recognized as a component of
net periodic benefit cost in fiscal 2007.
The prepaid pension asset is included in "Other assets" on the Consolidated
Balance Sheets while the pension liability is included in "Accrued salaries,
wages and benefits" and "Other non-current liabilities".
83
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Amounts recognized in accumulated other comprehensive income (loss) at
February 24, 2007 are as follows:
Net actuarial gain $ 2,548
Prior service (cost) credit (2,959)
Net transition obligation --
-------
Total $ (411)
=======
Plans with accumulated benefit obligation in excess of plan assets
consisted of the following and only relate to U.S. plans:
2006 2005
------- -------
Accumulated benefit obligation $97,719 $93,401
Projected benefit obligation $98,780 $93,529
Plan assets at fair value $64,154 $61,507
At February 25, 2006, our additional minimum pension liability for our
defined benefit plans exceeded the aggregate of the unrecognized prior service
costs and the net transition obligation. Accordingly, stockholders' equity was
increased by $1.5 million.
The components of net pension cost (income) were as follows:
2005 2004
2006 ------------------ -------------------
U.S. U.S. Canada U.S. Canada
-------- -------- ------- -------- --------
Service cost $ 5,609 $ 5,998 $ 4,576 $ 5,671 $ 8,861
Interest cost 11,368 11,887 6,519 12,016 13,192
Expected return on plan assets (12,350) (13,423) (8,369) (13,861) (16,996)
Amortization of unrecognized net asset -- -- -- (12) --
Amortization of unrecognized net prior
service (credit) cost (128) (294) 286 95 560
Amortization of unrecognized net
actuarial loss (gain) 162 58 900 (131) 1,928
Curtailments and settlements -- -- -- 70 --
Special termination benefits -- 936 -- -- --
Administrative expenses and other -- -- 138 2,373 278
-------- -------- ------- -------- --------
Net pension cost (income) $ 4,661 $ 5,162 $ 4,050 6,221 $ 7,823
======== ======== ======= ======== ========
The weighted average assumptions in the following table represent the rates
used to develop the actuarial present value of projected benefit obligation for
the year listed and also the net periodic benefit cost for the following year:
84
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
2004 2003
2006 2005 ------------- -------------
U.S. U.S. U.S. Canada U.S. Canada
---- ---- ---- ------ ---- ------
Weighted average discount rate 5.75% 5.50% 5.75% 5.75% 6.00% 6.00%
Weighted average rate of
compensation increase 2.75% 2.50% 2.75% 3.50% 3.00% 3.50%
Expected long-term rate of
return on plan assets 6.75% 6.50% 6.50% 7.50% 7.00% 7.50%
The expected long-term rate of return on plan assets for fiscal 2007 is
6.75% for the U.S. and represents the weighted average of expected returns for
each asset category. We determine our expected long-term rate of return based on
historical performance, adjusted for current trends.
Our defined benefit pension plan weighted average asset allocations by
asset category were as follows:
Actual Allocation
at December 31,
-----------------
Target 2006 2005
Allocation U.S. U.S.
---------- ---- ----
Equities 50 - 60% 65% 61%
Bonds 30 - 40% 33% 28%
Cash 5 - 10% 2% 11%
--- ---
Total 100% 100%
=== ===
85
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Our defined benefit pension plan has target asset allocation ranges of 30%
- - 60% for equity and fixed income securities. The Plan's assets are held in
trust funds and are actively managed by external fund managers. Equity security
investments consist of a broad range of publicly traded securities, ranging from
small to large capitalization stocks and are diversified in both growth and
value orientated strategies as well as diverse industry sectors. Fixed income
securities consist of a broad range of investments including U.S. government
securities, corporate debt securities, mortgages and other asset backed
obligations. The Plan does not allow for direct investments in the publicly
traded securities of our Company and investments in derivatives for speculative
purposes.
Estimated future defined benefit payments expected to be paid from the U.S.
plan is as follows:
2007 $13,984
2008 14,398
2009 13,836
2010 14,251
2011 14,262
Years 2012 - 2016 75,046
We also expect to contribute $5.6 million in cash to our defined benefit
pension plans in fiscal 2007.
DEFINED CONTRIBUTION PLANS
We maintain a defined contribution retirement plan to which we contribute
an amount equal to 4% of eligible participants' salaries and a savings plan to
which eligible participants may contribute a percentage of eligible salary. We
contribute to the savings plan based on specified percentages of the
participants' eligible contributions. Participants become fully vested in our
contributions after 5 years of service. Our contributions charged to operations
for both plans were
86
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
approximately $9.0 million, $9.3 million and $10.5 million in fiscal years 2006,
2005 and 2004, respectively.
MULTI-EMPLOYER UNION PENSION PLANS
We participate in various multi-employer union pension plans which are
administered jointly by management and union representatives and which sponsor
most full-time and certain part-time union employees who are not covered by our
other pension plans. The pension expense for these plans approximated $32.1
million, $37.8 million and $44.4 million in fiscal 2006, 2005 and 2004,
respectively. We could, under certain circumstances, be liable for unfunded
vested benefits or other expenses of jointly administered union/management
plans, which benefits could be significant and material for our Company. As of
the balance sheet date, we have not established any liabilities for future
withdrawals because such withdrawals from these plans are not probable and the
amount cannot be estimated.
87
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
POSTRETIREMENT BENEFITS
We provide postretirement health care and life insurance benefits to
certain union and non-union employees. We recognize the cost of providing
postretirement benefits during employees' active service periods. We use a
December 31 measurement date for both our U.S. and Canadian postretirement
benefits.
The following tables set forth the change in benefit obligations, the
change in plan assets, and the reconciliation of funded status for fiscal 2006
and 2005 for our postretirement benefit plans:
2006 2005
-------- --------
CHANGE IN BENEFIT OBLIGATION
Benefit obligation - beginning of year $22,052 $21,668
Service cost 375 338
Interest cost 1,172 1,198
Benefits paid (1,499) (1,655)
Actuarial (gain) loss (3,286) 503
------- -------
Benefit obligation - end of year $18,814 $22,052
======= =======
CHANGE IN PLAN ASSETS
Plan assets at fair value - beginning of year $ -- $ --
Actual return on plan assets -- --
Company contributions 1,499 1,655
Benefits paid (1,499) (1,655)
-------- --------
Plan assets at fair value - end of year $ -- $ --
======== ========
RECONCILIATION OF FUNDED STATUS
Funded status $(18,814) $(22,052)
Unrecognized actuarial gain -- (5,424)
Unrecognized prior service benefit -- (6,470)
Contributions 173 --
-------- --------
Net liability recognized (18,641) (33,946)
-------- --------
Current liability (1,036) (1,400)
Noncurrent liability (17,605) (32,546)
-------- --------
Net liability recognized $(18,641) $(33,946)
======== ========
Assumed discount rate 5.75% 5.50%
======== ========
88
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Our Company expects approximately $0.4 million of the net actuarial gain
and $1.3 million of the prior service cost credit to be recognized as a
component of net periodic benefit cost in fiscal 2007.
The pension liability is included in "Accrued salaries, wages and benefits"
and "Other non-current liabilities".
Amounts recognized in accumulated other comprehensive income (loss) at
February 24, 2007 are as follows:
Net actuarial gain $ 8,488
Prior service (cost) credit 5,123
Net transition obligation --
-------
Total $13,611
=======
The components of net postretirement benefits cost (income) are as follows:
52 Weeks Ended
------------------------------------------
December 31, December 31, December 31,
2006 2005 2004
------------ ------------ ------------
U.S. PLANS
Service cost $ 375 $ 338 $ 286
Interest cost 1,172 1,198 1,194
Prior service cost (1,347) (1,347) (1,347)
Amortization of gain (222) (278) (413)
------- ------- -------
Net postretirement benefits income $ (22) $ (89) $ (280)
======= ======= =======
Discount rate 5.50% 5.75% 6.00%
======= ======= =======
52 Weeks Ended
------------------------------------------
December 31, December 31, December 31,
2006 2005 2004
------------ ------------ ------------
CANADIAN PLANS
Service cost $-- $ 75 $ 152
Interest cost -- 270 529
Prior service cost -- (148) (3,714)
Amortization of loss -- 118 216
--- ----- -------
Net postretirement benefits cost
(income) $-- $ 315 $(2,817)
=== ===== =======
Discount rate -- 5.75% 6.00%
=== ===== =======
The assumed rate of future increase in health care benefit cost for fiscal
2007 was 9.70% - 10.50% and is expected to decline to 5.0% by the year 2018 and
remain at that level thereafter. For the U.S. plan, the effect of a 1% change in
the assumed health care cost trend rate for each future year on the sum of
service and interest cost would either be an increase or decrease of $0.1
89
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
million, while the accumulated postretirement benefit obligation would either
increase by $1.1 million or decrease by $1.0 million.
Estimated future postretirement benefit payments expected to be paid in the
U.S. are as follows:
2007 $1,036
2008 1,061
2009 1,151
2010 1,174
2011 1,225
Years 2012 - 2016 6,511
POSTEMPLOYMENT BENEFITS
We accrue costs for pre-retirement, postemployment benefits provided to
former or inactive employees and recognize an obligation for these benefits. The
costs of these benefits have been included in operations for each of the three
fiscal years ending February 24, 2007. As of February 24, 2007 and February 25,
2006, we had a liability reflected on the Consolidated Balance Sheets of $15.2
million and $22.4 million, respectively, related to such benefits.
90
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
NOTE 14 - STOCK BASED COMPENSATION
In December 2004, the FASB issued FAS 123R (revised 2004), "Share-Based
Payment" ("FAS 123R"). FAS 123R is a revision of FAS No. 123, as amended,
"Accounting for Stock-Based Compensation" ("FAS 123") and supersedes Accounting
Principles Board Opinion ("APB") No. 25, "Accounting for Stock Issued to
Employees." FAS 123R eliminates the alternative to use the intrinsic value
method of accounting that was provided in FAS 123, which generally resulted in
no compensation expense recorded in the financial statements related to the
issuance of equity awards to employees. FAS 123R requires that the cost
resulting from all share-based payment transactions be recognized in the
financial statements. FAS 123R establishes fair value as the measurement
objective in accounting for share-based payment arrangements and requires all
companies to apply a fair-value-based measurement method in accounting for
generally all share-based payment transactions with employees.
On February 27, 2005 (the first day of our 2005 fiscal year), our Company
adopted FAS 123R. FAS 123R is a revision of FAS No. 123, as amended, "Accounting
for Stock-Based Compensation" ("FAS 123") and supersedes Accounting Principles
Board Opinion ("APB") No. 25, "Accounting for Stock Issued to Employees." Our
Company adopted FAS 123R using a modified prospective application, as permitted
under FAS 123R. Accordingly, prior period amounts have not been restated. Under
this application, we are required to record compensation expense for all awards
granted after the date of adoption and for the unvested portion of previously
granted awards that remain outstanding at the date of adoption.
Prior to the adoption of FAS 123R, we applied APB 25 to account for our
stock-based awards. Under APB 25, we generally only recorded stock-based
compensation expense for our performance stock options issued under our 1998
Long Term Incentive and Share Award Plan and common stock issued under our 2004
Non-Employee Director Compensation Plan. Under
91
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
the provisions of APB 25, we were not required to recognize compensation expense
for the cost of stock options. Beginning with our fiscal 2005 year, with the
adoption of FAS 123R, we recorded stock-based compensation expense for the cost
of stock options.
During fiscal 2006 and fiscal 2005, compensation expense related to
share-based incentive plans was $8.2 million and $9.0 million, after tax,
respectively. Included in share-based compensation expense recorded during
fiscal 2006 and fiscal 2005, was $1.1 million and $2.5 million, respectively,
related to expensing of stock options, $6.0 million and $4.8 million,
respectively, relating to expensing of restricted stock, nil and $1.1 million
relating to the immediate vesting of certain stock options, and $1.1 million and
$0.6 million, respectively, relating to expensing of common stock to be granted
to our Board of Directors at the Annual Meeting of Stockholders.
At February 24, 2007, we had two stock-based compensation plans. The
general terms of each plan, the method of estimating fair value for each plan
and fiscal 2005 and 2006 activity is reported below.
I. The 1998 Long Term Incentive and Share Award Plan: This plan provides for
the grant of awards in the form of options, SAR's, restricted shares,
restricted share units, performance shares, performance units, dividend
equivalent, or other share based awards to our Company's officers and key
employees. The total number of shares available for issuance under this
plan is 8,000,000 subject to anti-dilution provisions. Options and SAR's
issued under this plan vest 25% on each anniversary date of issuance over a
four year period.
Performance restricted stock units issued under this plan during fiscal
2005 are earned based on our Company achieving in Fiscal 2007 a profit
after taxes, after adjusting for specific matters which our Company
considers to be of a non-operating nature, with an outlook for continued,
sustainable profitability on the same basis. The units will vest 50% based
on achievement of a net profit in fiscal 2007 and 50% based on achievement
of a net profit in fiscal 2008.
Performance restricted stock units issued under this plan during fiscal
2006 are earned based on our Company achieving certain operating targets in
Fiscal 2008 and are 100% vested in Fiscal 2008 upon achievement of those
targets.
92
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
The stock option awards under The 1998 Long Term Incentive and Share Award
Plan are granted at the fair market value of the Company's common stock at
the date of grant. Fair value calculated under SFAS 123, as amended,
"Accounting for Stock-Based Compensation" is used to recognize expense upon
adoption of SFAS 123R. Fair values for each grant were estimated using a
Black-Scholes valuation model which utilized assumptions as detailed in the
following table for expected life based upon historical option exercise
patterns, historical volatility for a period equal to the stock option's
expected life, and risk-free rate based on the U.S. Treasury constant
maturities in effect at the time of grant. During fiscal 2005, our Company
did not grant any stock options under this plan. The following assumptions
were in place during fiscal 2006 and fiscal 2004:
Fiscal 2006 Fiscal 2004
----------- -------------
Expected life 7 years 7 years
Volatility 56% 54%
Risk-free interest rate range 4.96% 3.17% - 4.51%
The SAR awards under The 1998 Long Term Incentive and Share Award Plan were
granted at the fair market value of the Company's common stock at the date of
the grant.
Performance restricted stock units issued under The 1998 Long Term Incentive and
Share Award Plan are granted at the fair market value of the Company's common
stock at the date of grant, adjusted by an estimated forfeiture rate.
93
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Stock options
The following is a summary of the stock option activity during fiscal 2004,
fiscal 2005, and fiscal 2006:
Weighted
Weighted Average
Average Remaining Aggregate
Exercise Contractual Intrinsic
Shares Price Term (years) Value
---------- -------- ------------ ---------
Outstanding at February 28, 2004 5,358,824 14.24
Granted 74,000 7.67
Canceled or expired (750,372) 13.83
Exercised (218,318) 7.32
---------- ------
Outstanding at February 26, 2005 4,464,134 14.53
Granted -- --
Canceled or expired (551,064) 17.04
Exercised (2,378,685) 10.92
---------- ------
Outstanding at February 25, 2006 1,534,385 $19.24
Adjustment for dividend* 371,995 --
Granted 86,430 27.71
Canceled or expired (253,726) 21.44
Exercised (414,104) 14.35
---------- ------
Outstanding at February 24, 2007 1,324,980 $15.50 3.9 $20,633
========== ====== === =======
Exercisable at:
February 24, 2007 1,186,586 $15.22 3.4 $18,810
=== =======
Nonvested at:
February 24, 2007 138,394 $17.90 8.0 $ 1,823
=== =======
The total intrinsic value of options exercised during fiscal 2006 and
fiscal 2005 was $5.9 million and $51.0 million, respectively.
As of February 24, 2007, approximately $0.7 million, after tax, of total
unrecognized compensation expense related to unvested stock option awards will
be recognized over a weighted average period of 0.8 year.
The amount of cash received from the exercise of stock options in fiscal
2006 was approximately $6.0 million.
94
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
SAR's
The following is a summary of the SAR's activity during fiscal 2004, fiscal
2005, and fiscal 2006:
Weighted
Average
Exercise
Shares Price
------- --------
Outstanding at February 28, 2004 12,500 31.63
Granted -- --
Canceled or expired -- --
Exercised -- --
------- ------
Outstanding at February 26, 2005 12,500 $31.63
Granted -- --
Canceled or expired (12,500) 31.63
Exercised -- --
------- ------
Outstanding at February 25, 2006 -- $ --
Granted -- --
Canceled or expired -- --
Exercised -- --
------- ------
Outstanding at February 24, 2007 -- $ --
======= ======
Performance Restricted Stock Units
During fiscal 2006 and fiscal 2005, our Company granted 393,162 shares and
1,905,000 shares of performance restricted stock units to selected employees,
respectively, for a total grant date fair value of $10.8 million and $25.4
million, respectively. Approximately $12.6 million of unrecognized fair value
compensation expense relating to these performance restricted stock units and
those issued in the previous year are expected to be recognized through fiscal
2009 based on estimates of attaining vesting criteria.
95
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
The following is a summary of the performance restricted stock units activity
during fiscal 2005 and fiscal 2006:
Weighted
Average
Grant Date
Shares Fair Value
---------- ----------
Nonvested at February 26, 2005 -- $ --
Granted 1,905,000 13.34
Canceled or expired (620,000) 11.12
Exercised -- --
---------- ------
Nonvested at February 25, 2006 1,285,000 $14.42
Adjustment for dividend* 339,369 --
Granted 393,162 27.59
Canceled or expired (250,080) 13.38
Exercised -- --
---------- ------
Nonvested at February 24, 2007 1,767,451 $14.73
========== ======
* As discussed in Note 3 - Special One-Time Dividend, our Company adjusted
the number and/or price of all unexercised stock options and nonvested
performance restricted stock units as of April 12, 2006, to ensure that an
individual's right to purchase stock at an aggregate value remained the
same both before and after the special one-time dividend payment. These
adjustments had no impact on stock compensation expense for fiscal 2006.
II. 2004 Non-Employee Director Compensation Plan: This plan provides for the
annual grant of Company common stock equivalent of $90 to members of our
Board of Directors. The $90 grant of common stock shall be made on the
first business day following the Annual Meeting of Stockholders. The number
of shares of our Company's $1.00 common stock granted annually to each
non-employee Director will be based on the closing price of the common
stock on the New York Stock Exchange, as reported in the Wall Street
Journal on the date of grant. Only whole shares will be granted; any
remaining amounts will be paid in cash as promptly as practicable following
the date of grant.
96
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
NOTE 15 - OPERATING SEGMENTS
Operating segments are defined as components of an enterprise about which
separate financial information is available that is evaluated regularly by the
chief operating decision maker in deciding how to allocate resources and in
assessing performance. Our chief operating decision maker is our President and
Chief Executive Officer.
During fiscal 2006, we operated in two reportable segments: United States
and our investment in Metro, Inc. During fiscal 2005, we operated in three
reportable segments: United States, Canada, and our investment in Metro, Inc.
During fiscal 2004, we operated in two reportable segments: United States and
Canada. Our United States and Canadian segments are comprised of retail
supermarkets. Our equity investment represents our economic interest in Metro,
Inc. and is required to be reported as an operating segment in accordance with
SFAS 131, "Disclosure about Segments of an Enterprise and Related Information"
as our investment is greater than 10% of our Company's combined assets of all
operating segments and we have significant influence over substantive operating
decisions through our membership on Metro, Inc.'s Board of Directors and its
committees and information technology services agreement. The accounting
policies for these segments are the same as those described in the summary of
significant accounting policies included in our Fiscal 2006 Annual Report. We
measure segment performance based upon (loss) income from operations.
97
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Information on segments is as follows:
OPERATING DATA Fiscal 2006 Fiscal 2005 Fiscal 2004
- -------------- ----------- ----------- -----------
Sales
United States $6,850,268 $7,016,468 $ 7,317,591
Canada * -- 1,723,879 3,537,320
---------- ---------- -----------
Total Company $6,850,268 $8,740,347 $10,854,911
========== ========== ===========
Sales by category
Grocery (1) $4,643,735 $5,803,118 $ 7,154,136
Meat (2) 1,347,293 1,771,511 2,266,776
Produce (3) 841,568 1,156,537 1,433,999
Other (4) 17,672 9,181 --
---------- ---------- -----------
Total Company $6,850,268 $8,740,347 $10,854,911
========== ========== ===========
(1) The grocery category includes grocery, frozen foods, dairy, general
merchandise/health and beauty aids, liquor, pharmacy and fuel.
(2) The meat category includes meat, deli, bakery and seafood.
(3) The produce category includes produce and floral.
(4) Other includes sales from an information technology services agreement with
Metro, Inc. Refer to Note 17 - Related Party Transactions for further
discussion.
Depreciation and amortization
United States $ 177,754 $ 196,387 $ 201,987
Canada * -- 10,942 66,118
--------- --------- -----------
Total Company 177,754 207,329 268,105
========= ========= ===========
Loss (income) from operations **
United States $ (10,075) $(377,882) $ (129,243)
Canada * -- 57,224 56,321
--------- --------- -----------
Total Company $ (10,075) $(320,658) $ (72,922)
========= ========= ===========
98
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
OPERATING DATA Fiscal 2006 Fiscal 2005 Fiscal 2004
- -------------- ----------- ----------- -----------
Interest expense
United States $(73,814) $(83,886) $ (96,986)
Canada * -- (8,362) (17,121)
-------- -------- ---------
Total Company $(73,814) $(92,248) $(114,107)
======== ======== =========
Interest income
United States $ 9,613 $ 12,987 $ 1,731
Canada * -- 470 1,045
-------- -------- ---------
Total Company $ 9,613 $ 13,457 $ 2,776
======== ======== =========
(Loss) income from continuing operations
before income taxes **
United States $(75,575) $463,348 $(224,498)
Canada * -- 48,201 41,017
Equity investment in Metro, Inc. 40,003 7,801 --
-------- -------- ---------
Total Company $(35,572) $519,350 $(183,481)
======== ======== =========
* We sold our Canadian operations during fiscal 2005; thus, we have included
the operating results of our Canadian subsidiary through the date of the
sale.
** (Loss) income from operations and (loss) income from continuing operations
before income taxes for fiscal 2004 exclude U.S. charges to Canada of $70.7
million, which are not considered for management reporting.
99
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
February 24, February 25, February 26,
FINANCIAL POSITION DATA 2007 2006 2005
- ----------------------- ------------ ------------ ------------
Capital expenditures
United States $ 208,159 $ 143,849 $ 125,755
Canada -- 47,201 90,387
---------- ---------- ----------
Total Company $ 208,159 $ 191,050 $ 216,142
========== ========== ==========
Total assets
United States $1,742,752 $2,160,109 $1,958,566
Canada -- -- 843,402
Equity investment in Metro, Inc. 368,871 338,756 --
---------- ---------- ----------
Total Company $2,111,623 $2,498,865 $2,801,968
========== ========== ==========
Long-lived assets
United States $ 925,132 $ 875,140 $1,016,434
Canada -- -- 466,273
---------- ---------- ----------
Total Segments $ 925,132 $ 875,140 $1,482,707
Less: Goodwill and other
intangible assets included
in "Other assets" (5,810) -- (6,133)
---------- ---------- ----------
Property owned - net $ 919,322 $ 875,140 $1,476,574
========== ========== ==========
100
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
NOTE 16 - HURRICANE KATRINA AND IMPACT ON U.S. BUSINESS
During the second quarter of fiscal 2005, Hurricane Katrina had a major
effect on certain portions of the Gulf Coast region and resulted in the closure
of our 28 stores and warehouse facilities. As of February 24, 2007, 23 of these
stores were open and operating and the remaining 5 stores were closed in fiscal
2005.
During fiscal 2005, we recorded a charge for future occupancy costs of $7.1
million for our 5 closed stores, which has been included in "Store operating,
general and administrative expense" in our Statement of Consolidated Operations
for fiscal 2005.
As of the balance sheet date, February 25, 2006, we were able to determine
that we incurred impairment losses of $6.1 million for property, plant &
equipment that were not covered by insurance. This amount has been included in
"Store operating, general and administrative expense" in our Statements of
Consolidated Operations and in "Impairment loss relating to Hurricane Katrina"
in our Consolidated Statement of Cash Flows for fiscal 2005.
We maintain property insurance coverage which provides for reimbursement
from losses resulting from property damage, loss of product as well as business
interruption coverage. We have recovered and expect to recover the remaining
losses caused by Hurricane Katrina in excess of our estimated insurance
deductible of approximately $5.0 million, which was recorded in "Store
operating, general and administrative expense" in our Consolidated Statements of
Operations for fiscal 2005. During fiscal 2006, we recorded a gain of $9.2
million representing an insurance settlement for a portion of our losses caused
by Hurricane Katrina, which has been included as a reduction to "Store
operating, general and administrative expense" in our Statement of Consolidated
Operations for fiscal 2006.
NOTE 17 - RELATED PARTY TRANSACTIONS
At the close of business on August 13, 2005, our Company completed the sale
of our Canadian business to Metro, Inc., a supermarket and pharmacy operator in
the Provinces of Quebec and Ontario, Canada, for $1.5 billion in cash, stock and
certain debt that was assumed by Metro, Inc. We use the equity method of
accounting to account for our investment in Metro, Inc. on the basis that we
have significant influence over substantive operating decisions made by Metro,
Inc. through our membership on Metro, Inc.'s Board of Directors and its
committees and information technology services agreement. Refer to Note 4 -
Equity Investment in Metro, Inc. for further discussion.
Simultaneously with the sale, we entered into an Information Technology
Transition Services Agreement with Metro, Inc., where our Company will provide
certain information technology and other services, to Metro, Inc. for a period
of 2 years from the date of sale with the potential to extend the agreement for
two additional six month renewal periods. This agreement provides for Metro,
Inc. to pay our Company a fee of C$20 million (U.S. $17.6 million) per year.
Accordingly, we have recorded $17.7 million and $9.2 million in "Sales" in our
Consolidated Statements of Operations for fiscal 2006 and fiscal 2005,
respectively.
101
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Metro, Inc. also leased a shopping center in Toronto, Ontario, Canada from
our Company. The lease commenced at the time of the sale and expires on October
4, 2015. It included four 5 year renewal options. The base annual rent was C$0.8
million (U.S. $0.7 million). During the third quarter of fiscal 2006, our
Company sold this shopping center to Metro, Inc. generating proceeds of C$10.3
million (U.S. $9.1 million) and a net gain, after transaction related costs, of
$4.5 million which was recorded in "Store operating, general and administrative
expense" in our Consolidated Statements of Operations in fiscal 2006.
A&P Properties Limited, a former subsidiary of our Company, leased a store
in Windsor, Ontario, Canada from Tenga Capital Corporation, which is owned by
Erivan and Helga Haub. Erivan Haub is the father of Christian W. E. Haub, our
Executive Chairman, and is a general partner, together with Tengelmann
Verwaltungs- und Beteiligungs GmbH, Karl-Erivan W. Haub and Christian W. E. Haub
of Tengelmann, which owns a controlling interest of our common stock. Helga Haub
is the mother of Christian W. E. Haub. The lease, which commenced in 1983 and
expires on October 31, 2013, includes four 5-year renewal options. The base
annual rental was C$0.5 million (U.S. $0.4 million) until October 31, 2003, when
it decreased to C$0.4 million (U.S. $0.3 million). As a result of the sale of
our Canadian operations as discussed above, we no longer lease this store from
Tenga Capital Corporation. Through the date of its sale, we paid $0.2 million to
Tenga Capital Corporation for this lease during fiscal 2005.
During fiscal 2003, we entered into a three year agreement with OBI
International Development and Service GMBH ("OBI International"), a subsidiary
of Tengelmann, to purchase seasonal merchandise to be sold in our stores. Our
purchases from OBI International totaled $0.7 million, $2.1 million and $4.7
million in fiscal 2006, fiscal 2005 and fiscal 2004, respectively.
102
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
We own a jet aircraft, which Tengelmann leases under a full cost
reimbursement lease. During fiscal 2006, fiscal 2005 and fiscal 2004, Tengelmann
was obligated to and has reimbursed us $4.1 million, $3.1 million and $3.5
million, respectively, for their use of the aircraft.
NOTE 18 - HEDGE OF NET INVESTMENT IN FOREIGN OPERATIONS
From time to time, we may enter hedging agreements in order to manage risks
incurred in the normal course of business including forward exchange contracts
to manage our exposure to fluctuations in foreign exchange rates.
During the first quarter of fiscal 2005, we entered into a six month
currency exchange forward contract totaling $900 million Canadian dollar
notional value to hedge our net investment in our Canadian foreign operation
against adverse movements in exchange rates. Our Company measures
ineffectiveness based upon the change in forward exchange rates. In the second
quarter of fiscal 2005 and upon completion of the sale of our Canadian
operations, this forward contract was terminated prior to its expiration.
Upon settlement, the effective portion of this net investment hedge
contract resulted in a loss, after tax, of approximately $21.1 million during
fiscal 2005 and was recognized as an offset to the gain recorded in connection
with the sale of our Canadian subsidiary. The gain was
103
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
recorded in "Gain on sale of Canadian operations" in our Consolidated Statements
of Operations for fiscal 2005.
In addition, the amount excluded from the measure of effectiveness on this
net investment hedge amounted to $15.4 million, before income taxes, and was
recorded as "Store operating, general and administrative expense" in our
Consolidated Statements of Operations for fiscal 2005.
NOTE 19 - COMMITMENTS AND CONTINGENCIES
Antitrust Class Action Litigation
In connection with a settlement reached in the VISA/Mastercard antitrust
class action litigation, our Company is entitled to a portion of the settlement
fund that will be distributed to class members. Pursuant to our initial review
of our historical records as well as estimates provided by the Claims
Administrator, we recorded an estimated pretax recovery of $1.5 million as a
credit to "Selling, general and administrative expense" in our Consolidated
Statements of Operations during fiscal 2005.
During fiscal 2006, our Company received a cash payment of $1.6 million for
our portion of the settlement funds for this class action litigation. During
fiscal 2007, we will continue to work with the Claims Administrator to ensure
that any additional monies owed to our Company in connection with this
litigation are received. This process may result in additional recoveries being
recorded in future periods.
Other
We are subject to various legal proceedings and claims, either asserted or
unasserted, which arise in the ordinary course of business. We are also subject
to certain environmental claims. While the outcome of these claims cannot be
predicted with certainty, Management does not believe that the outcome of any of
these legal matters will have a material adverse effect on our consolidated
results of operations, financial position or cash flows.
We adopted the accounting and disclosure requirements of FASB
Interpretation 45 ("FIN 45" or the "Interpretation"), "Guarantor's Accounting
and Disclosure Requirements for Guarantees, Including Indirect Guarantees of
Indebtedness of Others, an Interpretation of FASB Statements No. 5, 57, and 107
and Rescission of FASB Interpretation No. 34" during fiscal 2002. As required to
be disclosed by this Interpretation, we are the guarantor of a loan of $1.5
million related to a shopping center, which will expire in 2013.
In the normal course of business, we have assigned to third parties various
leases related to former operating stores (the "Assigned Leases"). When the
Assigned Leases were assigned, we generally remained secondarily liable with
respect to these lease obligations. As such, if any of the assignees were to
become unable to continue making payments under the Assigned Leases, we could be
required to assume the lease obligation. As of February 24, 2007, 110 Assigned
Leases remain in place. Assuming that each respective assignee became unable to
continue to make payments under an Assigned Lease, an event we believe to be
remote, we estimate our maximum potential obligation with respect to the
Assigned Leases to be approximately $323.2 million, which could be partially or
totally offset by reassigning or subletting such leases.
104
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
NOTE 20 - SUBSEQUENT EVENTS
On March 5, 2007, our Company announced that we have reached a definitive
merger agreement with Pathmark Stores, Inc. in which we will acquire Pathmark
Stores, Inc., ("Pathmark") for $1.5 billion in cash, stock, and debt assumption
or retirement. This transaction is expected to be completed during the second
half of our fiscal year 2007 and is subject to the completion of shareholder and
regulatory approvals, as well as other customary closing conditions. For further
details surrounding the Pathmark transaction, refer to our Company's Form 8-K
and the accompanying exhibits filed with the U.S. Securities and Exchange
Commission on March 6, 2007.
Under the terms of the transaction, The Tengelmann Group, currently A&P's
majority shareholder, will remain the largest single shareholder of the combined
entity. Christian Haub, Executive Chairman of A&P, will continue as Executive
Chairman of the combined company; Eric Claus, President and CEO of A&P, will
also maintain the same position in the combined company.
Pathmark shareholders will receive $9.00 in cash and 0.12963 shares of A&P
stock for each Pathmark share. As a result, Pathmark shareholders, including its
largest investor, The Yucaipa Companies LLC ("Yucaipa Companies"), will receive
a stake in the combined companies.
The boards of both A&P and Pathmark have unanimously approved the
transaction. Both Yucaipa Companies and Tengelmann have entered into voting
agreements to support the transaction.
On March 13, 2007, in connection with our agreement to acquire Pathmark
Stores, Inc., our Company sold 6,350,000 shares of its holdings in Metro, Inc.
for proceeds of approximately $203.5 million resulting in a net gain of $71.6
million. Of the total proceeds received, $190.0 million are being held as
restricted cash to collateralize our outstanding letters of credit. After the
sale, our Company continues to hold 11,726,645 Class A subordinate shares of
Metro, Inc, representing approximately 10.21% of the outstanding shares of
Metro, Inc. as of its first quarter ended December 23, 2006.
In March 2007, our Letter of Credit Agreement and Revolving Credit
Agreement were amended to allow for the sale of such shares provided that the
net proceeds from such sales are deposited in a restricted cash account.
Beginning March 13, 2007, as a result of the sale of 6,350,000 shares of
Metro, Inc. our Company uses the cost method of accounting to account for our
investment in Metro, Inc. on the basis that we no longer have significant
influence over substantive operating decisions made by Metro, Inc. through our
membership on Metro, Inc.'s Board of Directors and its committees.
105
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
NOTE 21 - SUMMARY OF QUARTERLY RESULTS (UNAUDITED)
The following table summarizes our results of operations by quarter for
fiscal 2006 and fiscal 2005. The first quarter of each fiscal year contains
sixteen weeks, while the second, third and fourth quarters each contain twelve
weeks.
First Second Third Fourth Total
2006 (unaudited) Quarter Quarter Quarter Quarter Year
- ---------------- ---------- ---------- ---------- ---------- ----------
(Dollars in thousands, except per share amounts)
Sales $2,126,895 $1,572,250 $1,543,004 $1,608,119 $6,850,268
Gross margin 638,151 481,391 464,565 480,340 2,064,447
Depreciation and amortization 54,947 40,272 40,556 41,979 177,754
(Loss) income from operations (5,053) (3,154) 1,152 (3,020) (10,075)
(Loss) gain on sale of Canadian
operations (326) 35 (599) (409) (1,299)
Interest expense (22,156) (16,894) (17,171) (17,593) (73,814)
Equity in earnings of Metro, Inc. 7,947 11,870 11,023 9,163 40,003
(Loss) income from
continuing operations (5,713) (509) 39,952 (7,214) 26,516
(Loss) income from discontinued
operations (396) (2) 755 20 377
Net (loss) income (6,109) (511) 40,707 (7,194) 26,893
Per share data:
(Loss) income from continuing
operations - basic (0.14) (0.01) 0.96 (0.17) 0.64
(Loss) income from discontinued
operations - basic (0.01) (0.00) 0.02 -- 0.01
Net (loss) income - basic (0.15) (0.01) 0.98 (0.17) 0.65
(Loss) income from continuing
operations - diluted (0.14) (0.01) 0.95 (0.17) 0.63
(Loss) income from discontinued
operations - diluted (0.01) (0.00) 0.02 -- 0.01
Net (loss) income - diluted (0.15) (0.01) 0.97 (0.17) 0.64
Market price: (b)
High 28.30 24.10 28.04 31.44
Low 21.25 20.97 22.60 25.51
Number of stores at end of period 405 403 410 406
106
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
First Second Third Fourth Total
2005 (unaudited) Quarter Quarter Quarter Quarter Year
- ---------------- ---------- ---------- ---------- ---------- ----------
(Dollars in thousands, except per share amounts)
Sales $3,383,633 $2,168,249 $1,580,942 $1,607,523 $8,740,347
Gross margin 937,958 616,664 464,543 485,907 2,505,072
Depreciation and amortization 71,875 45,893 46,274 43,287 207,329
Loss from operations (38,140) (145,066) (81,557) (55,895) (320,658)
(Loss) gain on sale of Canadian
operations (589) 919,140 (6,083) (339) 912,129
Interest expense (36,123) (25,262) (15,398) (15,465) (92,248)
(Loss) income from continuing
operations (89,138) 592,146 (73,559) (39,026) 390,423
(Loss) income from discontinued
operations (97) (171) 2,549 (74) 2,207
Net (loss) income (89,235) 591,975 (71,010) (39,100) 392,630
Per share data:
(Loss) income from continuing
operations - basic (a) (2.27) 14.65 (1.80) (0.95) 9.69
(Loss) income from discontinued
operations - basic (a) (0.01) (0.01) 0.06 -- 0.05
Net (loss) income - basic (a) (2.28) 14.64 (1.74) (0.95) 9.74
(Loss) income from continuing
operations - diluted (a) (2.27) 14.41 (1.80) (0.95) 9.59
(Loss) income from discontinued
operations - diluted (a) (0.01) (0.01) 0.06 -- 0.05
Net (loss) income - diluted (a) (2.28) 14.40 (1.74) (0.95) 9.64
Market price: (b)
High 27.52 32.58 31.17 32.39
Low 11.12 23.96 25.29 28.41
Number of stores at end of period 637 417 407 405
Number of franchised stores served
at end of period 42 -- -- --
- ----------
(a) The sum of quarterly basic and diluted (loss) income per share differs from
full year amounts because the number of weighted average common shares
outstanding has increased each quarter.
(b) Our Company stock is listed on the New York Stock Exchange; refer to the
Five Year Summary of Selected Financial data for the number of registered
shareholders at the end of the fiscal year.
107
MANAGEMENT'S ANNUAL REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING
Management of our Company, including the President and Chief Executive
Officer and the Senior Vice President, Chief Financial Officer, is responsible
for establishing and maintaining adequate internal control over financial
reporting, as defined in Rules 13a - 15(f) and 15d - 15(f) of the Securities
Exchange Act of 1934, as amended. Our Company's internal control over financial
reporting was designed to provide reasonable assurance regarding the reliability
of financial reporting and the preparation of the consolidated financial
statements for external purposes in accordance with generally accepted
accounting principles and includes those policies and procedures that: (i.)
pertain to the maintenance of records that in reasonable detail accurately and
fairly reflect the transactions and dispositions of the assets of our Company;
(ii.) provide reasonable assurance that transactions are recorded as necessary
to permit preparation of financial statements in accordance with generally
accepted accounting principles, and that receipts and expenditures of our
Company are being made only in accordance with authorizations of management and
directors of our Company; and (iii.) provide reasonable assurance regarding
prevention or timely detection of unauthorized acquisition, use or disposition
of our Company's assets that could have a material effect on the financial
statements.
Our management conducted an evaluation of the effectiveness of the
Company's internal control over financial reporting based on the framework in
Internal Control - Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission. This evaluation included review of the
documentation of controls, evaluation of the design effectiveness of controls,
testing of the operating effectiveness of controls and a conclusion on this
evaluation. Based on the evaluation, management has concluded our Company's
internal control over financial reporting was effective as of February 24, 2007.
Our management's assessment of the effectiveness of the Company's internal
control over financial reporting as of February 24, 2007 has been audited by
PricewaterhouseCoopers LLP, an independent registered public accounting firm, as
stated in their report which appears herein.
Eric Claus Brenda M. Galgano
President and Senior Vice President,
Chief Executive Officer Chief Financial Officer
108
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Stockholders and the Board of Directors of
The Great Atlantic & Pacific Tea Company, Inc.:
We have completed integrated audits of The Great Atlantic & Pacific Tea Company,
Inc.'s consolidated financial statements and of its internal control over
financial reporting as of February 24, 2007, in accordance with the standards of
the Public Company Accounting Oversight Board (United States). Our opinions,
based on our audits, are presented below.
Consolidated financial statements
In our opinion, the accompanying consolidated balance sheets and the related
consolidated statements of operations, stockholders' equity and comprehensive
(loss) income and cash flows present fairly, in all material respects, the
financial position of The Great Atlantic & Pacific Tea Company, Inc. and its
subsidiaries at February 24, 2007 and February 25, 2006, and the results of
their operations and their cash flows for each of the three years in the period
ended February 24, 2007 in conformity with accounting principles generally
accepted in the United States of America. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits. We conducted our
audits of these statements in accordance with the standards of the Public
Company Accounting Oversight Board (United States). Those standards require that
we plan and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit of financial
statements includes examining, on a test basis, evidence supporting the amounts
and disclosures in the financial statements, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
As discussed in Note 1 to the consolidated financial statements, the Company
changed the manner in which it accounts for defined pension and other
postretirement plans.
Internal control over financial reporting
Also, in our opinion, management's assessment, included in the accompanying
"Management's Annual Report on Internal Control over Financial Reporting", that
the Company maintained effective internal control over financial reporting as of
February 24, 2007 based on criteria established in Internal Control - Integrated
Framework issued by the Committee of Sponsoring Organizations of the Treadway
Commission (COSO), is fairly stated, in all material respects, based on those
criteria. Furthermore, in our opinion, the Company maintained, in all material
respects, effective internal control over financial reporting as of February 24,
2007, based on criteria established in Internal Control - Integrated Framework
issued by the COSO. The Company's management is responsible for maintaining
effective internal control over financial reporting and for its assessment of
the effectiveness of internal control over financial reporting. Our
responsibility is to express opinions on management's assessment and on the
effectiveness of the Company's internal control over financial reporting based
on our audit. We conducted our audit of internal control over financial
reporting in accordance with the standards of the Public Company Accounting
Oversight Board (United States). Those standards require that we plan and
109
perform the audit to obtain reasonable assurance about whether effective
internal control over financial reporting was maintained in all material
respects. An audit of internal control over financial reporting includes
obtaining an understanding of internal control over financial reporting,
evaluating management's assessment, testing and evaluating the design and
operating effectiveness of internal control, and performing such other
procedures as we consider necessary in the circumstances. We believe that our
audit provides a reasonable basis for our opinions.
A company's internal control over financial reporting is a process designed to
provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance
with generally accepted accounting principles. A company's internal control over
financial reporting includes those policies and procedures that (i) pertain to
the maintenance of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of the company; (ii)
provide reasonable assurance that transactions are recorded as necessary to
permit preparation of financial statements in accordance with generally accepted
accounting principles, and that receipts and expenditures of the company are
being made only in accordance with authorizations of management and directors of
the company; and (iii) provide reasonable assurance regarding prevention or
timely detection of unauthorized acquisition, use, or disposition of the
company's assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting
may not prevent or detect misstatements. Also, projections of any evaluation of
effectiveness to future periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree of compliance
with the policies or procedures may deteriorate.
PricewaterhouseCoopers LLP
Florham Park, New Jersey
April 24, 2007
110
FIVE YEAR SUMMARY OF SELECTED FINANCIAL DATA
Fiscal 2006(a)(b) Fiscal 2005(a)(b) Fiscal 2004 Fiscal 2003 Fiscal 2002
(52 Weeks) (52 Weeks) (52 Weeks) (53 Weeks) (52 Weeks)
----------------- ----------------- ----------- ----------- -----------
(Dollars in thousands, except per share amounts)
OPERATING RESULTS
Sales $6,850,268 $8,740,347 $10,854,911 $10,899,308 $10,096,781
(Loss) income from operations (10,075) (320,658) (72,922) (142,841) 20,307
Depreciation and amortization (177,754) (207,329) (268,105) (274,935) (251,069)
(Loss) gain on sale of Canadian
operations (1,299) 912,129 -- -- --
Interest expense(c) (73,814) (92,248) (114,107) (103,098) (99,863)
Income (loss) from continuing
operations 26,516 390,423 (184,009) (213,225) (202,289)
Income (loss) from discontinued
operations 377 2,207 (4,089) 64,323 7,645
Income (loss) before cumulative effect
of change in accounting principle 26,893 392,630 (188,098) (148,902) (194,644)
Cumulative effect of a change in
accounting principle - FIN 46-R(d) -- -- -- (8,047) --
Net income (loss) 26,893 392,630 (188,098) (156,949) (194,644)
PER SHARE DATA
Income (loss) from continuing
operations - basic 0.64 9.69 (4.77) (5.54) (5.25)
Income (loss) from discontinued
operations - basic 0.01 0.05 (0.11) 1.67 0.20
Cumulative effect of a change in
accounting principle - FIN 46-R(d) -- -- -- (0.21) --
Net income (loss) - basic 0.65 9.74 (4.88) (4.08) (5.05)
Income (loss) from continuing
operations - diluted 0.63 9.59 (4.77) (5.54) (5.25)
Income (loss) from discontinued
operations - diluted 0.01 0.05 (0.11) 1.67 0.20
Cumulative effect of a change in
accounting principle - FIN 46-R(d) -- -- -- (0.21) --
Net income (loss) - diluted 0.64 9.64 (4.88) (4.08) (5.05)
Cash dividends (e) 7.25 -- -- -- --
Book value per share (e) 10.36 16.32 6.03 10.20 13.39
111
FIVE YEAR SUMMARY OF SELECTED FINANCIAL DATA - CONTINUED
Fiscal 2006(a)(b) Fiscal 2005(a)(b) Fiscal 2004 Fiscal 2003 Fiscal 2002
(52 Weeks) (52 Weeks) (52 Weeks) (53 Weeks) (52 Weeks)
----------------- ----------------- ----------- ----------- -----------
(Dollars in thousands, except per share amounts)
FINANCIAL POSITION
Current assets $ 748,908 $ 1,210,014 $ 1,164,681 $ 1,198,950 $ 1,121,388
Current liabilities 558,391 610,273 1,078,202 1,083,235 1,090,612
Working capital (e) 190,517 599,741 86,479 115,715 30,776
Current ratio (e) 1.34 1.98 1.08 1.11 1.03
Expenditures for property 208,159 191,050 216,142 160,951 242,409
Total assets 2,111,623 2,498,865 2,801,968 2,902,846 2,996,228
Current portion of
long-term debt (f) 32,069 569 2,278 2,271 25,820
Current portion of
capital lease obligations 1,554 2,274 8,331 15,901 13,787
Long-term debt (c) 284,214 246,282 634,028 642,296 803,277
Long-term portion of
capital lease obligations 29,938 32,270 52,184 55,243 66,071
Total debt 347,775 281,395 696,821 715,711 908,955
Debt to total capitalization (e) 45% 30% 75% 65% 64%
EQUITY
Stockholders' equity (g) 430,670 671,727 233,802 392,759 515,653
Weighted average shares
outstanding - basic 41,430,600 40,301,132 38,558,598 38,516,750 38,494,812
Weighted average shares
outstanding - diluted 41,902,358 40,725,942 38,558,598 38,516,750 38,494,812
Number of registered
stockholders (e) 4,649 4,916 5,289 5,469 5,751
OTHER (e)
Number of employees 38,000 38,000 73,000 74,185 78,710
New store openings 10 3 24 19 31
Number of stores at year end 406 405 647 633 695
Total store area
(square feet) 16,538,410 16,508,969 25,583,138 24,724,168 26,817,650
Number of franchised
stores served at year end -- -- 42 63 65
Total franchised store
area (square feet) -- -- 1,375,611 2,048,016 2,066,401
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(a) At the close of business on August 13, 2005, our Company completed the sale
of our Canadian business to Metro, Inc.
(b) On February 27, 2005 (the first day of our 2005 fiscal year), our Company
adopted FAS 123R and recorded share-based compensation expense of $8.2
million and $9.0 million in fiscal 2006 and fiscal 2005, respectively.
(c) In fiscal 2005, we repurchased the majority of our 7.75% Notes due April
15, 2007 and our 9.125% Senior Notes due December 15, 2011.
(d) In fiscal 2003, the Financial Accounting Standards Board issued revised
Interpretation No. 46, "Consolidation of Variable Interest Entities - an
interpretation of 'Accounting Research Bulletin No. 51' ". As of February
23, 2003 we adopted its guidance as we were deemed the primary beneficiary
and included the franchisee operations in our consolidated financial
statements for fiscal 2003, fiscal 2004 and fiscal 2005.
(e) Not derived from audited financial information.
(f) In April 2007, our 7.75% Notes become due and payable in full.
(g) On April 25, 2006, our Company paid a special one-time dividend to our
shareholders of record on April 17, 2006 equal to $7.25 per share. This
dividend payout totaling $299.1 million was recorded as a reduction of
"Additional paid in capital" in our Consolidated Balance Sheets at February
24, 2007.
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EXECUTIVE OFFICERS
CHRISTIAN W. E. HAUB
Executive Chairman
ERIC CLAUS
President and
Chief Executive Officer
BRENDA M. GALGANO
Senior Vice President,
Chief Financial Officer
JENNIFER MAC LEOD
Senior Vice President,
Marketing and Communications
ALLAN RICHARDS
Senior Vice President,
Human Resources, Labor Relations,
Legal Services & Secretary
REBECCA PHILBERT
Senior Vice President,
Merchandising & Supply and Logistics
PAUL WISEMAN
Senior Vice President,
Store Operations
WILLIAM MOSS
Vice President and Treasurer
MELISSA E. SUNGELA
Vice President and Corporate Controller
BOARD OF DIRECTORS
CHRISTIAN W. E. HAUB (C)
Executive Chairman
JOHN D. BARLINE, ESQ. (B)(C)
Williams, Kastner & Gibbs LLP,
Tacoma, Washington
JENS-JURGEN BOCKEL (C)
Chief Financial Officer and
Member of the Managing Board
Tengelmann Warenhandelsgesellschaft KG
Mulheim, Germany
BOBBIE A. GAUNT (A)(B)(C)(D)
Former President and CEO,
Ford Motor Company of Canada
DAN P. KOURKOUMELIS (A)(C)(D)
Former President and CEO,
Quality Food Centers, Inc.
EDWARD LEWIS (A)(B)(D)
Chairman and Founder,
Essence Communications Inc.
MAUREEN B. TART-BEZER (A)(B)(D)
Former Chief Financial Officer
Virgin Mobile USA, LLC
(a) Member of Audit/Finance Committee (Maureen B. Tart-Bezer, Chair)
(b) Member of Compensation Committee (Bobbie A. Gaunt, Chair)
(c) Member of Executive Committee (Christian W. E. Haub, Chair)
(d) Member of Governance Committee (Dan P. Kourkoumelis, Chair)
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STOCKHOLDER INFORMATION
EXECUTIVE OFFICES
Box 418
2 Paragon Drive
Montvale, NJ 07645
Telephone 201-573-9700
INDEPENDENT REGISTERED PUBLIC ACCOUNTANTS
PricewaterhouseCoopers LLP
400 Campus Drive
PO Box 988
Florham Park, NJ 07932
STOCKHOLDER INQUIRIES AND PUBLICATIONS
Stockholders, security analysts, members of the media and others interested in
further information about our Company are invited to contact the Investor
Relations Help Line at 201-571-4537.
Internet users can access information on A&P at: www.aptea.com
CORRESPONDENCE CONCERNING STOCKHOLDER ADDRESS CHANGES OR OTHER STOCK ACCOUNT
MATTERS SHOULD BE DIRECTED TO OUR COMPANY'S TRANSFER AGENT & REGISTRAR
American Stock Transfer and Trust Company
59 Maiden Lane
New York, NY 10038
Telephone 800-937-5449
www.amstock.com
COMMUNICATIONS WITH THE BOARD OF DIRECTORS
Stockholders who would like to contact our Company's Board of Directors,
including a committee thereof or a specific Director, can send an e-mail to
bdofdirectors@aptea.com or write to the following address:
c/o The Great Atlantic & Pacific Tea Company, Inc., Senior Vice President, Human
Resources, Labor Relations, Legal Services & Secretary, 2 Paragon Drive,
Montvale, NJ 07645
FORM 10-K
Copies of Form 10-K filed with the Securities and Exchange Commission will be
provided to stockholders upon written request to the Secretary at the Executive
Offices in Montvale, New Jersey. Exhibits to the Form 10-K include the most
recent certifications by A&P's Chief Executive Officer and Chief Financial
Officer.
ANNUAL MEETING
The Annual Meeting of Stockholders will be held at 9:00 a.m. (EDT) on Thursday,
July 19, 2007 at The Woodcliff Lake Hilton 200 Tice Boulevard Woodcliff Lake,
New Jersey, USA
COMMON STOCK
Common stock of our Company is listed and traded on the New York Stock Exchange
under the ticker symbol "GAP" and has unlisted trading privileges on the Boston,
Midwest, Philadelphia, Cincinnati, and Pacific Stock Exchanges. The stock is
generally reported in newspapers and periodical tables as "GtAtPc".
(C) 2007 The Great Atlantic & Pacific Tea Co., Inc. All rights reserved.
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