.
.
.
EXHIBIT 13
FINANCIAL SUMMARY
($ in millions except per share amounts)
4-Year
Compound Year Ended
Annual --------------------------------------------------
Growth Rate 2004 2003 2002 2001(1) 2000
----------- ---------- ------- ------- ------- -------
SUMMARY OF OPERATIONS:
Net sales 11.0% $ 1,868.2 1,754.9 1,548.6 1,411.5 1,231.1
Gross profit 11.1% $ 781.6 753.4 649.8 594.5 512.5
Selling, general and administrative expenses 11.7% $ 544.5 502.3 448.1 399.8 349.4
Depreciation and amortization 6.2% $ 50.9 46.4 42.8 43.2 40.0
Operating income 10.9% $ 186.2 204.7 158.8 151.5 123.2
Nonoperating (income) and expenses, net (2) $ (1.2) (0.7) (0.2) 1.3 4.6
Income before income taxes 12.1% $ 187.3 205.4 159.0 150.2 118.6
Net income 12.1% $ 118.0 129.4 100.2 94.7 74.7
PER SHARE AMOUNTS:
Basic earnings 14.1% $ 1.32 1.39 1.06 .98 .78
Diluted earnings 14.5% $ 1.29 1.36 1.04 .97 .75
Cash dividends declared 25.7% $ .30 .21 .16 .15 .12
Shareholders' equity 13.6% $ 7.66 6.93 6.20 5.52 4.60
OTHER FINANCIAL DATA:
Working capital (2) 15.0% $ 418.3 420.0 396.8 333.0 239.3
Current ratio (2) 1.0% 2.5 2.7 2.9 3.3 2.4
Total assets 11.8% $ 1,052.2 972.7 867.3 739.7 674.0
Long-term debt (6.6)% $ 19.0 25.0 25.4 25.0 25.0
Shareholders' equity 11.6% $ 683.6 643.9 585.7 531.9 440.7
Weighted average diluted shares
outstanding (millions) 91.6 95.3 96.2 98.0 103.3
Return on average shareholders' equity 17.8% 21.0 17.9 19.5 17.7
Return on average total assets 11.7% 14.1 12.5 13.4 11.2
Pre-tax return on sales 10.0% 11.7 10.3 10.6 9.6
(1) Fiscal 2001 consisted of a 53-week year. All other fiscal years presented
reflect 52-week years.
(2) Nonoperating (income) and expenses, net, were comprised of interest
expense and interest and investment income in each year presented. Fiscal
year 2000 included interest expense on 5 3/4% convertible subordinated
notes which were primarily converted into shares of the Company's common
stock in March 2000. The Company's working capital and current ratio were
both lower at fiscal 2000 year-end as a result of the reclassification of
these 5 3/4% notes to current liabilities.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
MANAGEMENT OVERVIEW
INTRODUCTION
Pier 1 Imports, Inc. (together with its consolidated subsidiaries, the
"Company") is one of North America's largest specialty retailers of unique
decorative home furnishings, gifts and related items. The Company directly
imports proprietary merchandise from over 40 countries, and sells a wide variety
of furniture collections, decorative accessories, bed and bath products,
housewares and other seasonal assortments in its stores. With over 80% of
products sourced from overseas through long-term vendor relationships, the
Company's merchandise margins are strong based on industry comparisons. During
fiscal year 2004, the Company opened 149 new stores and closed 44 stores, and
increased retail square footage by 10.4%. The Company operates stores in the
United States and Canada under the names "Pier 1 Imports" ("Pier 1") and
"Cargokids". Cargokids operates stores that sell children's home furnishings and
decorative accessories. In the United Kingdom, retail locations operate under
the name "The Pier." As of February 28, 2004, the Company operated 1,179 stores
in the United States, Canada, Puerto Rico, the United Kingdom and Mexico.
The following discussion and analysis of financial condition, results of
operations, liquidity and capital resources should be read in conjunction with
the accompanying audited Consolidated Financial Statements and notes thereto.
OVERVIEW OF BUSINESS
Fiscal 2004 was a challenging year for the Company. Net sales increased 6.5% to
$1.87 billion compared to $1.75 billion in fiscal 2003, but comparable store
sales declined by 2.2%. For fiscal 2004, the Company's earnings per share on a
diluted basis amounted to $1.29 compared with $1.36 for fiscal 2003. Although
management was not satisfied with sales and earnings for the year, the Company
generated strong operational cash flow, continued to have a solid balance sheet
and financial position, and ended the year with a cash position of $225 million.
In addition, the Company continued to repurchase its common stock throughout the
year and pay increased cash dividends.
The Company made the strategic decision to accelerate store openings beginning
in fiscal 2002, and continues to believe that there is potential for over 1,500
Pier 1 and 250 to 300 Cargokids stores in the United States and Canada.
Management expects to be able to successfully identify retail locations in areas
with target customer demographics. Pier 1 stores have the longer-term advantage
over most retail competitors in home furnishings of having a differentiated
merchandise strategy, a proprietary product offering, and relatively smaller
square footage stores in retail strip centers, which are not dependent on new
mall developments. Cargokids is a new retail concept with store growth
opportunities throughout North America. During fiscal 2005, the Company plans to
open 115 to 120 Pier 1 stores, with 40 stores planned for relocation or closing.
Of the new stores planned, 90% of the sites have been approved and are in the
development process. In addition to new Pier 1 stores the Company plans to open
15 to 20 Cargokids stores, and close a few under-performing stores from the
original Cargo acquisition of February 2001. Based on forward-looking real
estate data, population and demographic trends, the Company expects continued
retail square footage expansion in a range of 8% to 10% over the next few years.
The Company's key financial and operational metrics used by management to
evaluate the performance of the business include the following: (The trends for
these metrics are explained in the comparative sections of Management's
Discussion and Analysis.)
Fiscal Year Ended 2004 2003 2002
- ------------------------------------------------------------ ------ ------ -------
KEY PERFORMANCE METRICS
Total sales growth 6.5% 13.3% 9.7%
Comparable stores sales growth (1) (2.2%) 4.7% 4.5%
Sales per average retail square foot $ 226 $ 235 $ 229
Merchandise margins as a % of sales 55.2% 55.3% 54.2%
Gross profit as a % of sales 41.8% 42.9% 42.0%
Selling, general and administrative expenses as a % of sales 29.1% 28.6% 28.9%
Operating income as a % of sales 10.0% 11.7% 10.3%
Net income as a % of sales 6.3% 7.4% 6.5%
Diluted earnings per share $ 1.29 $ 1.36 $ 1.04
Inventory per retail square foot $43.03 $42.36 $ 38.83
Total retail square footage growth 10.4% 11.0% 10.2%
(1) Stores included in the comparable store sales calculation are those stores
that were opened prior to the beginning of the preceding fiscal year and are
still open. Also included are stores that were relocated during the year within
a specified distance serving the same market, where there is not a significant
change in store size and where there is not a significant overlap or gap in
timing between the opening of the new store and the closing of the existing
store. Stores that are expanded or renovated are excluded from the comparable
store sales calculation during the period they are closed for such remodeling.
When these stores re-open for business, they are included in the comparable
store sales calculation in the first full month after the re-opening if there is
no significant change in store size. If there is a significant change in store
size, the store continues to be excluded from the calculation until it meets the
Company's established definition of a comparable store. Sales over the Internet
are included and clearance stores are omitted from the comparable store sales
calculation.
Fiscal 2004 began in an overall weak economic environment, with geopolitical
tensions and a cautious consumer that affected many retailers, including the
Company. Mid-way through fiscal 2004, management reassessed objectives and
focused on critical operational and merchandise performance throughout the
organization. Although fundamentally sound, processes, procedures and systems
were reviewed and several key initiatives were adopted to improve store-level
execution and support future growth. Initiatives in marketing, merchandising and
stores are aimed at achieving more consistent sales growth, while improving the
Company's long-term growth and profitability potential.
Marketing - The Company's integrated marketing program has planned enhancements
in fiscal 2005 to improve its effectiveness and increase brand awareness and
customer traffic. Marketing expenditures are planned to increase to
approximately 5.0% of sales during fiscal 2005. Because Pier 1 stores are in
destination retail locations and not in malls, the Company's total marketing
expenses have always been 4.5% to 5.0% of sales to generate customer traffic. In
March 2004, the Company launched television commercials featuring new
spokesperson and interior design expert, Thom Filicia. In addition to new
television advertising, the Company's promotional events will improve beginning
in fiscal 2005 with more frequent newspaper inserts, featuring new merchandise
and a stronger overall product focus. The Company has also planned proprietary
credit card initiatives during fiscal 2005.
Merchandising - The Company's new merchandising initiatives are planned to
ensure that stores have a more frequent flow of new merchandise arrivals
throughout the year. The Company's initiatives beginning in fiscal 2005 include
providing merchandise assortments in stores that are 65% to 75% new and
different compared to a year ago. In prior years, the Company's buyers focused
on four traditional seasons: spring, summer, fall, and holiday. Going forward,
the merchandising strategy will support six distinct merchandise introductions
throughout the year. The most important new season will be "Back-to-College"
beginning in early summer that will contrast with past clearance events. The
Company believes that customers visit Pier 1 stores with the expectation of
always finding new, unique merchandise, and that is planned to be enhanced for
fiscal 2005.
Stores - The Company's store programs are designed to capitalize on increased
traffic from stronger marketing initiatives. Store management will focus on
increasing customer conversions and average ticket through improved associate
training and communications. The Company's goal is to increase sales per retail
square foot each year.
The Company continued to focus on maintaining a strong financial condition, and
in fiscal 2004, operating income as a percentage of sales was 10.0%.
Historically, the Company has had one of the highest operating income
percentages in the industry. Cash generated from operations was $178 million.
During the fiscal year, quarterly cash dividends were increased from 6(cent) per
share to 8(cent) per share and in March 2004, the quarterly cash dividend was
again increased to 10(cent) per share. This is a 67% increase in annual cash
dividends per share since March 2003. The Company repurchased 3.8 million shares
of its common stock, which amounts to more than 25 million shares repurchased
over the last seven years. The Company believes that the consistent share
repurchases and increased dividends demonstrates commitment and confidence in
its financial strength and future cash flow potential, and reflects a positive
outlook for future business prospects.
FISCAL YEARS ENDED FEBRUARY 28, 2004 AND MARCH 1, 2003
NET SALES
Net sales during fiscal 2004 were $1,868.2 million, an increase of $113.4
million, or 6.5%, over net sales of $1,754.9 million for the prior fiscal year.
Comparable store sales for fiscal 2004 decreased 2.2%. Although average ticket
increased over the prior year, customer traffic and conversion rates were below
last year's levels. Concerns during the first half of the year regarding
uncertain domestic economic conditions and continuing global unrest led the
Company to plan inventory and merchandise selections conservatively. Soon
thereafter, the Company recognized that this approach may have had a negative
impact on sales, and as a result, began increasing its merchandise orders in the
latter part of the second quarter. The Company also believes its television
advertising had grown somewhat stale, and at the beginning of fiscal 2005
launched a new campaign with a new celebrity spokesperson. The Company's net
sales from Canada and the United Kingdom are subject to fluctuations in currency
conversion rates. These fluctuations have had a favorable impact on both total
net sales and comparable store sales calculations during fiscal 2004.
Net sales consisted almost entirely of sales to retail customers net of
discounts and returns, but also included delivery service revenues and wholesale
sales and royalties received from franchise stores and Sears de Mexico, S.A.
Sales by retail concept during fiscal years 2004, 2003 and 2002 were as follows
(in thousands):
2004 2003 2002
----------- ------------ ------------
Pier 1 Imports stores $ 1,771,644 $ 1,677,050 $ 1,478,438
The Pier stores 62,151 51,470 43,445
Cargokids stores 19,320 12,199 10,672
Internet 8,635 6,380 3,370
Other (1) 6,493 7,768 12,631
----------- ------------ ------------
Net sales $ 1,868,243 $ 1,754,867 $ 1,548,556
=========== ============ ============
(1) Other sales consisted of wholesale sales and royalties received from
franchise stores and from Sears de Mexico S.A., and Cargokids' contract
sales. Also included in amounts from fiscal 2002 were sales to the
Company's franchise stores in Japan, which were discontinued in fiscal
2002, and Cargokids' dealer sales, which were discontinued in fiscal 2003.
As of August 2003, Cargokids no longer sells merchandise under wholesale
contracts.
The Company's continued efforts to expand by opening new stores contributed to
the total net sales growth during fiscal 2004. The Company opened 120 and closed
37 North American Pier 1 stores during fiscal 2004, bringing the Pier 1 store
count to 1,083 at year-end compared to 1,000 last year. The Company also opened
22 and closed seven Cargokids stores, opened three stores and one "store within
a store" at The Pier, and opened three locations with a "store within a store"
format in Sears de Mexico S.A. Including all worldwide locations, the Company's
store count totaled 1,179 at the end of fiscal 2004,
which represents an increase of approximately 10.4% in total retail square
footage compared to the end of last fiscal year. The Company will continue its
store growth strategy during fiscal 2005 and expects to open 115 to 120 new Pier
1 stores and close approximately 40 stores, and to open 15 to 20 new Cargokids
stores and close a few under-performing stores from the original acquisition.
Additionally, the Company plans to open three new stores at The Pier and open
five new stores in Mexico. A summary reconciliation of the Company's stores open
at the beginning of fiscal 2004, 2003 and 2002 to the number open at the end of
each period follows (openings and closings include relocated stores):
PIER 1 NORTH
AMERICAN INTERNATIONAL (1) CARGOKIDS TOTAL
------------ ----------------- --------- -----
Open at March 3, 2001 826 52 21 899
Openings 104 3 3 110
Closings (20) (9) (6) (35)
------------ ----------------- --------- -----
Open at March 2, 2002 910 46 18 974
Openings 114 3 8 125
Closings (24) - (1) (25)
------------ ----------------- --------- -----
Open at March 1, 2003 1,000 49 25 1,074
Openings 120 7 22 149
Closings (37) - (7) (44)
------------ ----------------- --------- -----
Open at February 28, 2004 1,083 56 40 1,179
============ ================= ========= =====
(1) International stores were located in Puerto Rico, the United Kingdom,
Mexico and Japan for fiscal 2001. All Japan locations were closed by
fiscal 2002 year-end.
Net sales on the Company's proprietary credit card totaled $436.8 million, an
increase of $14.3 million or 3.4% over last year's proprietary credit card sales
of $422.5 million. Sales on the proprietary credit card were 25.9% of U.S. store
sales compared to 26.2% last year. Although average ticket on the Company's
proprietary credit card increased to $158 during fiscal 2004 from $153 last
year, the Company continued to experience a decline in the number of new
customer accounts opened during the year. In an effort to increase sales on the
card and the number of new cardholders, the Company began offering a higher
discount on initial purchases in early fiscal 2005. In addition, the Company
continues to try to increase total sales on its proprietary credit card by
developing customer loyalty through marketing promotions targeted to
cardholders, including deferred payment options on larger purchases. Although
the proprietary credit card generates modest income, it primarily serves as a
tool for marketing and communication to the Company's most loyal customers.
GROSS PROFIT
Gross profit, after related buying and store occupancy costs, expressed as a
percentage of sales, was 41.8% in fiscal 2004 compared to 42.9% a year ago.
Merchandise margins as a percentage of sales declined from 55.3% in fiscal 2003
to 55.2% in fiscal 2004, a decrease of just over 10 basis points. The decline in
merchandise margin rates was expected and resulted primarily from a slight
increase in promotional activity during fiscal 2004 and a shift in the
percentage of total sales from shelf goods to furniture, where margin rates are
typically somewhat lower. Merchandise margin rates during fiscal 2005 may
decline slightly as the Company expects to increase promotional activity in
efforts to increase traffic and conversion rates. Store occupancy costs during
fiscal 2004 were $249.2 million or 13.3% of sales, an increase of $31.5 million
and 90 basis points over store occupancy costs of $217.6 million or 12.4% of
sales during fiscal 2003. This increase was the result of negative comparable
store sales and the impact of opening a larger number of new stores during
fiscal 2004 and 2003 than in past years. Until new stores reach maturity, rental
costs tend to be higher as a percentage of sales than in older stores, and
comparable store sales have been insufficient to leverage relatively fixed
rental costs in older stores.
OPERATING EXPENSES AND DEPRECIATION
Selling, general and administrative expenses, including marketing, comprised
29.1% of sales in fiscal 2004, an increase of 50 basis points over last year's
28.6% of sales. In total dollars, selling, general and administrative expenses
increased $42.2 million in fiscal 2004 over fiscal 2003, with $24.8 million of
the increase attributable to expenses that normally grow proportionately with
sales and number of stores, such as marketing, store payroll, supplies and
equipment rental. These variable expenses increased 10 basis points as a
percentage of sales for fiscal 2004 compared to fiscal 2003. Store payroll
continues to be well controlled, increasing $11.0 million yet decreasing as a
percentage of sales by approximately 20 basis points, largely as a result of
decreased store bonuses, which are awarded primarily based upon sales gains from
the comparative period a year ago. In attempts to increase store traffic and
conversion rates, marketing expenditures during fiscal 2004 increased $11.9
million to 4.8% of sales, an increase over fiscal 2003 of more than 30 basis
points expressed as a percentage of sales. Marketing expenditures remained on
plan yet comparable store sales were not sufficient to provide leverage. During
fiscal 2005, the Company expects to launch 18 promotional events supported by
newspaper inserts, compared to 16 promotional events during fiscal 2004. As a
result of these additional inserts, and to a lesser extent, the production costs
related to the new television advertising campaign, marketing expenditures
during fiscal 2005 are expected to increase to approximately 5.0% of sales.
Store supplies and equipment rental remained relatively flat as a percentage of
sales at 2.5%, increasing $1.9 million over fiscal 2003.
Non-variable selling, general and administrative expenses increased $17.4
million in fiscal 2004 to 9.0% of sales, an increase of 40 basis points over
last year's 8.6% of sales. General insurance costs increased $6.7 million and 30
basis points to 1.0% of sales as the Company continued to experience higher
costs associated with workers' compensation and general liability insurance.
Additionally, approximately 25 basis points of the increase as a percentage of
sales in non-variable expenses related to an increase of $2.9 million in lease
termination expenses for lease obligations that extend beyond the closing of a
particular store or the exit from a leased facility, and $2.6 million in a
settlement of and legal fees related to a class action lawsuit in California.
The Company experienced an increase of $12.9 million and 50 basis points in
other various non-variable expenses such as technology related costs. These
increases were partially offset by a decrease of $7.7 million, or approximately
65 basis points as a percentage of sales, related to home office payroll
including bonus. This decrease was principally the result of lower corporate
bonuses in fiscal 2004 because of less favorable performance results when
compared to fiscal 2003.
Depreciation and amortization for fiscal 2004 was $50.9 million, representing an
increase of $4.5 million or 10 basis points over last year's depreciation and
amortization expense of $46.4 million. This increase was primarily the result of
an increase in net new store openings and depreciation on software applications
that were launched subsequent to the end of fiscal 2003. These increases were
partially offset by a reduction in depreciation expense for certain assets that
were fully depreciated during the year. Depreciation expense for the new
corporate headquarters will begin mid fiscal 2005 and as a result of this and
new capital expenditures, total depreciation expense during fiscal 2005 is
projected to increase approximately $10.0 million. This increase will be offset
by a slight decrease in selling, general and administrative expenses as a result
of the expiration of the current corporate headquarters lease.
In fiscal 2004, operating income declined to $186.2 million, or 10.0% of sales,
from $204.7 million, or 11.7% of sales, in fiscal 2003, a decrease of 9.0% or
$18.5 million.
The Company's effective tax rate was 37% of income before income taxes for both
fiscal 2004 and 2003.
NET INCOME
Net income in fiscal 2004 was $118.0 million, or $1.29 per share on a diluted
basis, a decrease of $11.4 million or 8.8% as compared to fiscal 2003's net
income of $129.4 million, or $1.36 per share on a diluted basis. Net income, as
a percentage of sales, decreased to 6.3% in fiscal 2004 from 7.4% in fiscal
2003.
FISCAL YEARS ENDED MARCH 1, 2003 AND MARCH 2, 2002
NET SALES
During fiscal 2003, the Company recorded net sales of $1,754.9 million, an
increase of $206.3 million, or 13.3%, over net sales of $1,548.6 million for
fiscal year 2002. Comparable store sales for fiscal 2003 improved 4.7% over
fiscal 2002. Net sales consisted almost entirely of sales to retail customers,
net of discounts and returns, but also included delivery service revenues and
wholesale sales and royalties received from franchise stores and Sears de Mexico
S.A. Sales by retail concept during fiscal years 2003, 2002 and 2001 were as
follows (in thousands):
2003 2002 2001
------------ ------------ ------------
Pier 1 Imports stores $ 1,677,050 $ 1,478,438 $ 1,363,197
The Pier stores 51,470 43,445 39,190
Cargokids stores 12,199 10,672 -
Internet 6,380 3,370 1,853
Other (1) 7,768 12,631 7,258
------------ ------------ ------------
Net sales $ 1,754,867 $ 1,548,556 $ 1,411,498
============ ============ ============
(1) Other sales consisted of wholesale sales and royalties received from
franchise stores and from Sears de Mexico S.A., and Cargokids' contract
sales. Also included in amounts for fiscal 2002 and 2001 were sales to the
Company's franchise stores in Japan, all of which were closed by fiscal
2002 year-end. Fiscal 2002 results include Cargokids dealer sales, which
were discontinued in fiscal 2003.
The Company believed the increase in sales was a result of a number of factors,
including a value-oriented merchandise assortment at attractive price points,
the continued focus on customer service, a successful integrated marketing
campaign that focused on the customer and continued the trend toward "cocooning"
which began after the events of September 11, 2001, when consumers began to
focus spending efforts on their homes. These factors resulted in increased
traffic and transaction counts for fiscal 2003. The increase in retail sales
during fiscal 2003 was slightly offset by a reduction in sales as a result of
the Company's cessation of sales to its venture partner in Japan and lower
contract sales at Cargokids as management shifted its focus to concentrate on
retail sales.
The Company's store expansion efforts also contributed to total sales growth
during fiscal 2003. The Company opened 114 and closed 24 North American Pier 1
stores during fiscal 2003, bringing the Pier 1 store count to 1,000 at year-end
compared to 910 at fiscal 2002 year-end. The Company also opened eight and
closed one Cargokids stores and opened three locations with a "store within a
store" format at The Pier and in Mexico. Including all worldwide locations, the
Company's store count totaled 1,074 at the end of fiscal 2003, which represents
an increase of approximately 11.0% in total retail square footage compared to
the end of fiscal year 2002. Sales trends were somewhat less favorable toward
the end of fiscal 2003 because of negative trends in general economic conditions
and consumer confidence. A summary reconciliation of the Company's stores open
at the beginning of fiscal 2003, 2002 and 2001 to the number open at the end of
each period follows (openings and closings include relocated stores):
PIER 1 NORTH
AMERICAN INTERNATIONAL (1) CARGOKIDS (2) TOTAL
------------ ----------------- ------------- -----
Open at February 26, 2000 785 49 - 834
Openings 65 3 - 68
Closings (24) - - (24)
Acquisition (February 2001) - - 21 21
------------ ----------------- ------------- -----
Open at March 3, 2001 826 52 21 899
Openings 104 3 3 110
Closings (20) (9) (6) (35)
------------ ----------------- ------------- -----
Open at March 2, 2002 910 46 18 974
Openings 114 3 8 125
Closings (24) - (1) (25)
------------ ----------------- ------------- -----
Open at March 1, 2003 1,000 49 25 1,074
============ ================= ============= =====
(1) International stores were located in Puerto Rico, the United Kingdom,
Mexico and Japan for fiscal 2001. All Japan locations were closed by
fiscal 2002 year-end.
(2) The Company's results of operations for fiscal 2001 were not affected by
the acquisition of Cargokids.
Net sales on the Company's proprietary credit card totaled $422.5 million and
accounted for 26.2% of U.S. store sales during fiscal 2003, an increase of $10.0
million over proprietary credit card sales in fiscal year 2002 of $412.5
million, which represented 28.9% of U.S. store sales during fiscal 2002. The
decline in proprietary credit card sales as a percentage of U.S. store sales
resulted from fewer new customer accounts on the proprietary card and a shift to
the usage of third-party credit cards, such as Visa and MasterCard. Proprietary
credit card customers spent an average of $153 per transaction, which was
comparable to fiscal 2002.
GROSS PROFIT
Gross profit after related buying and store occupancy costs, expressed as a
percentage of sales, increased 90 basis points in fiscal 2003 to 42.9% from
42.0% in fiscal 2002. Merchandise margins, as a percentage of sales, increased
over 100 basis points to 55.3% in fiscal 2003 compared to 54.2% in fiscal 2002.
Improved merchandise margins were primarily the result of decreased freight
costs and increased purchasing power with vendors. Store occupancy costs during
fiscal 2003 increased 10 basis points as a percentage of sales to 12.4% from
12.3% during fiscal 2002. Occupancy costs in older, more established stores were
leveraged over a higher sales base and thus declined by 40 basis points, from
12.1% in fiscal 2002 to 11.7% in fiscal 2003. However, this leveraging was
offset by somewhat higher rental costs as a percentage of sales in newer stores
because these stores' sales volumes had not hit sales maturity levels.
OPERATING EXPENSES AND DEPRECIATION
As a percentage of sales, selling, general and administrative expenses,
including marketing, improved 30 basis points to 28.6% in fiscal 2003 from 28.9%
in fiscal 2002. In total dollars, selling, general and administrative expenses
increased $54.2 million in fiscal 2003 over fiscal 2002. Expenses that normally
increase proportionately with sales and number of stores, such as marketing,
store payroll, supplies and equipment rental, increased $39.7 million during the
fiscal 2003 year, yet were comparable as a percentage of sales. Store payroll
and bonus increased $29.9 million and 25 basis points as a percentage of sales
from fiscal 2002. This increase was attributable largely to an increase in
medical insurance costs and to slightly less leveraging of store payroll,
primarily in the fourth quarter of fiscal 2003 when comparable store sales gains
were up 0.9% for the quarter compared to 10.2% for fiscal 2002. Store payroll
hours were well managed throughout fiscal 2003 and the increase in productivity
was offset by a slight increase in hourly rates. Marketing expenses during
fiscal 2003 increased $8.4 million over fiscal 2002, but remained flat at 4.5%
of sales for both periods. Store supplies and equipment rental for fiscal 2003
increased $1.5 million, a
decrease of approximately 25 basis points as a percentage of sales from fiscal
2002, primarily as a result of a redesigned program for bags, boxes and tissue
that was implemented in the first quarter of 2003. Non-variable selling, general
and administrative expenses increased $14.5 million in fiscal 2003, yet
decreased 30 basis points as a percentage of sales. Home office payroll,
including bonus, increased $9.6 million, representing a 10 basis point increase
as a percentage of sales. This increase was principally the result of higher
corporate bonus accruals for fiscal 2003 compared to fiscal 2002 because of
increased profits compared to bonus plan amounts. All other selling, general and
administrative expenses for the fiscal 2003 year-to-date period increased $4.9
million and declined 40 basis points as a percentage of sales.
Depreciation and amortization for fiscal 2003 was $46.4 million, representing an
increase of $3.6 million over fiscal 2002's $42.8 million. This increase was
primarily the result of the increase in capital expenditures during fiscal 2003
related to new store openings and information systems technology. These
increases were partially offset by a reduction in depreciation expense for
certain assets that became fully depreciated during fiscal 2003 and for
Company-owned stores that were sold and leased back.
In fiscal 2003, operating income improved to $204.7 million, or 11.7% of sales,
from $158.8 million, or 10.3% of sales, in fiscal 2002, an increase of 28.9% or
$45.8 million.
The Company's effective tax rate was 37% of income before income taxes for both
fiscal 2003 and 2002.
NET INCOME
Net income in fiscal 2003 was $129.4 million, or $1.36 per share on a diluted
basis, an increase of $29.2 million or 29.1% as compared to fiscal 2002's net
income of $100.2 million, or $1.04 per share on a diluted basis. Net income, as
a percentage of sales, improved from 6.5% in fiscal 2002 to 7.4% in fiscal 2003.
LIQUIDITY AND CAPITAL RESOURCES
As of the end of fiscal 2004, the Company's cash and temporary investments
totaled $225.1 million, down $17.0 million from the fiscal 2003 year-end balance
of $242.1 million. Operating activities generated $177.7 million of cash versus
$176.7 million last year and served as the Company's primary source of operating
cash for the fiscal year. Increases in inventory used $40.5 million in cash
during fiscal 2004 and $57.9 million last year. North American Pier 1 inventory
per retail square foot at fiscal 2004 year-end increased 2% to $42 compared to
$41 per retail square foot at fiscal 2003 year-end. Inventory on hand in
distribution centers and in transit from vendors increased $21.1 million over
the prior year. Increases in accounts payable and accrued expenses provided cash
of $32.7 million and resulted primarily from increased payables related to
inventory, construction costs for new stores and the new corporate headquarters,
and from growth in the liabilities for unredeemed gift cards and accrued
insurance costs.
The Company spent a net of $100.6 million in investing activities during fiscal
2004. Capital expenditures were $121.2 million and consisted primarily of $43.8
million for fixtures and leasehold improvements related to new and existing
stores for Pier 1, Cargokids and The Pier, $53.1 million for new corporate
headquarters construction costs, $19.8 million for information systems
enhancements and $4.5 million primarily for equipment and leasehold improvements
for the new distribution facility located in Savannah, Georgia and existing
distribution facilities. Proceeds from the disposition of properties were $34.5
million and consisted primarily of cash received from the sale-leaseback of the
new Savannah distribution center in the first quarter and the sale of the old
Savannah distribution center during the third quarter of fiscal 2004. See Note
11 of the Notes to Consolidated Financial Statements for additional information
regarding the sale-leaseback transaction. Fiscal 2005 capital expenditures are
projected to be approximately $100 to $110 million.
During fiscal 2004, the Company's net change in restricted cash was $8.8
million, primarily as a result of the purchase of certain whole life insurance
contracts from a consolidated trust that was established for the purpose of
setting aside funds to be used to settle pension obligations upon the retirement
or death of certain of the Company's executive officers. The remaining policies
owned by the trust may be purchased
at a later date, and the assets of the trust may be invested in financial
instruments other than the short-term money market funds currently held. See
Note 8 of the Notes to Consolidated Financial Statements for additional
information regarding the restricted assets and pension obligations.
The Company's beneficial interest in securitized receivables was $44.3 million
at fiscal 2004 year-end, a $3.8 million increase from the fiscal 2003 year-end
balance of $40.5 million. This increase resulted primarily from an increase in
the total proprietary credit card receivables portfolio from $136.3 million at
fiscal 2003 year-end to $142.2 million at February 28, 2004. Higher total sales
on the proprietary card during the fourth quarter of fiscal 2004 versus the same
quarter last year accounted for the majority of the increase in receivables at
fiscal 2004 year-end. The Company has continued to have $100 million of these
beneficial interests held by outside parties, and all proprietary credit card
receivables were securitized throughout fiscal 2004 and fiscal 2003. See Note 2
of the Notes to Consolidated Financial Statements for additional information
regarding the beneficial interest in securitized receivables.
Financing activities during fiscal 2004 used a net $94.1 million of the
Company's cash. The Company paid $76.0 million to repurchase 3,758,000 common
shares under the Board of Directors-approved stock buyback program at a weighted
average price of $20.23, including fees. As of April 20, 2004, approximately
$72.5 million remains available for share repurchases, which are expected to be
made in open market or private transactions over the next two to three years
depending on prevailing market conditions, the Company's available cash, debt
covenant restrictions and consideration of its corporate credit ratings. During
the fiscal year, the Company paid dividends totaling $26.8 million, an increase
of $7.3 million over dividends paid during fiscal 2003. Subsequent to the end of
fiscal 2004, the Company increased its quarterly cash dividend 25% and declared
a quarterly cash dividend of $.10 per share payable on May 19, 2004 to
shareholders of record on May 5, 2004. The Company expects to continue to pay
cash dividends and repurchase its common stock in fiscal 2005, but to retain
most of its future earnings for expansion of the Company's business.
During the fourth quarter of fiscal 2004, the Company used a portion of the
proceeds from the sale of the old distribution center in Savannah, Georgia to
repay $6.0 million of the outstanding balance in industrial revenue bonds. These
bonds were originally issued for the construction of the Savannah distribution
center in 1986 and were scheduled to mature in 2026. The extinguishment of these
bonds did not have a material impact on the Company's consolidated statement of
operations. See Note 7 of the Notes to Consolidated Financial Statements for
additional information regarding the Company's long-term debt obligations. Other
financing activities, primarily the exercise of stock options by employees,
provided cash of $15.1 million during fiscal 2004.
For fiscal 2004, the Company's sources of working capital were cash flow from
operations, sales of proprietary credit card receivables and bank lines of
credit. In August 2003, the Company replaced its five-year $125 million
revolving credit facility with a comparable three-year $125 million revolving
credit facility. The new agreement contains substantially similar terms as the
previous agreement and has certain restrictive covenants requiring, among other
things, the maintenance of certain financial ratios, including debt to net cash
flow, fixed charge coverage and minimum tangible net worth. The new credit
facility bears a floating interest rate (currently LIBOR plus 1.0%) based on the
Company's corporate debt rating. The Company had no borrowings under the
previous agreement from the fourth quarter of fiscal 2001 through expiration,
and through fiscal 2004 year-end had no borrowings under the new facility.
Additionally, the Company has a $120 million short-term line of credit, which is
used primarily to issue merchandise letters of credit. At fiscal 2004 year-end,
approximately $76.2 million had been utilized, leaving $43.8 million available.
The Company also has $36.1 million in credit lines used to issue other
special-purpose letters of credit, all of which were fully utilized at fiscal
2004 year-end. Of the $36.1 million in special-purpose letters of credit, $19.4
million related to the Company's industrial revenue bonds. See Note 7 of the
Notes to Consolidated Financial Statements. Most of the Company's loan
agreements require the Company to maintain certain financial ratios and some
limit certain investments and distributions to shareholders, including cash
dividends and repurchases of common stock. The Company's current ratio was 2.5
to 1 at fiscal 2004 year-end compared to 2.7 to 1 at fiscal 2003 year-end.
A summary of the Company's contractual obligations and other commercial
commitments as of February 28, 2004 is listed below (in thousands):
Amount of Commitment Expiration Per Period
-----------------------------------------------
Less Than 1 to 3 3 to 5 More Than
Total 1 Year Years Years 5 Years
----------- ---------- ---------- --------- ---------
Operating leases $ 1,449,913 $ 212,699 $ 387,314 $ 324,468 $ 525,432
Merchandise letters of credit (1) 76,178 76,178 - - -
Standby letters of credit 36,073 36,073 - - -
Long-term debt 19,000 - - - 19,000
Foreign exchange contracts 489 489 - - -
Other long-term obligations (2) 84,106 120 855 27,833 55,298
----------- ---------- ---------- --------- ---------
Total $ 1,665,759 $ 325,559 $ 388,169 $ 352,301 $ 599,730
=========== ========== ========== ========= =========
Liabilities recorded on the balance sheet $ 57,914
Commitments not recorded on the balance sheet 1,607,845
----------
Total $1,665,759
==========
(1) The Company does not consider merchandise purchase orders to be
contractual obligations due to designated cancellation dates on the face
of the purchase orders.
(2) Other long-term obligations represent the Company's liability under
various unfunded retirement plans.
The present value of total existing minimum operating lease commitments
discounted at 10% was $962.3 million at fiscal 2004 year-end. The Company plans
to continue to fund these commitments from cash generated from the operations of
the Company.
The Company plans to open approximately 115 to 120 new Pier 1 stores during
fiscal year 2005 and plans to close approximately 40 stores as their leases
expire or otherwise end. Many of the store closings are planned relocations
within the same markets. In addition, the Company will continue with expansion
plans for Cargokids and expects to open approximately 15 to 20 locations and
close a few under-performing stores from the original acquisition. During fiscal
2005, the Company expects to incur charges of approximately $2 to $3 million
related to planned store closings. New store buildings and land will be financed
primarily through operating leases. Total capital expenditures for fiscal 2005
are expected to be approximately $100 to $110 million. Of this amount, the
Company expects to spend approximately $50 to $55 million on store development
for Pier 1 and Cargokids, $35 million on final costs related to construction of
the Company's new headquarters and $15 to $20 million on information systems
enhancements. The Company plans to continue to pay for the new headquarters with
operating funds but may mortgage all or part of it, or enter into a
sale-leaseback arrangement depending on interest rates and the Company's cash
position.
In summary, the Company's primary uses of cash in fiscal 2004 were to fund
operating expenses and inventory requirements; provide for new and existing
store development; fund capital additions related to the new distribution center
in Savannah, Georgia, new corporate headquarters construction and information
systems development; and pay dividends and repurchase common stock of the
Company. Historically, the Company has financed its operations primarily from
internally generated funds and borrowings under the Company's credit facilities.
The Company believes that the funds provided from operations, available lines of
credit and sales of its proprietary credit card receivables will be sufficient
to finance working capital and capital expenditure requirements throughout
fiscal year 2005.
OFF-BALANCE SHEET ARRANGEMENTS
Other than the operating leases and letters of credit discussed above, the
Company's only other off-balance sheet arrangement relates to the securitization
of the Company's proprietary credit card receivables. On a daily basis, the
Company sells its proprietary credit card receivables that meet certain
eligibility criteria to a special-purpose, wholly owned subsidiary, Pier 1
Funding, LLC ("Funding"), which transfers the receivables to Pier 1 Imports
Credit Card Master Trust (the "Master Trust"). The Master Trust has issued $100
million face amount of debt securities (the Class A Certificates) to a third
party. This provides the Company with a portion of its funding. However, neither
Funding nor the Master Trust is consolidated in the Company's financial
statements, and the Company has no obligation to reimburse Funding, the Master
Trust or purchasers of Class A Certificates for credit losses from the
receivables. Should the balance of the underlying credit card receivables held
by the Master Trust decline to a level that the Class A Certificates become
insufficiently collateralized, the Master Trust would be contractually required
to repay a portion of the Class A Certificates from daily collections. At the
end of fiscal 2004, the underlying credit card receivables held by the Master
Trust were $142.2 million and would have had to fall below $117.5 million before
a repayment would have been required. This repayment would only be to the extent
necessary to maintain the required ratio of receivables to the Class A
Certificates as set forth in the securitization agreement. In addition, failure
of the Master Trust to comply with its required performance measures, such as
payment rate, returns and fraud, portfolio yield and minimum transferor's
interest, would trigger an early amortization event. Such an event would
eliminate the securitization as a source of funding for the Company. These
performance measures would have to deteriorate significantly from their current
levels to result in such an early amortization event. If either an early
amortization event had occurred, or the Company had been required to consolidate
the Master Trust due to a change in accounting rules, the Company's statement of
operations for fiscal 2004 would not have been materially different from its
reported results. An early amortization event would require the repayment of the
$100 million in the Company's funding, whereas the consolidation of the Master
Trust would result in an increase of approximately $100 million in both the
Company's assets and liabilities as of February 28, 2004. See Note 2 of the
Notes to Consolidated Financial Statements for additional information regarding
the beneficial interest in securitized receivables.
CRITICAL ACCOUNTING POLICIES
The preparation of the Company's consolidated financial statements in accordance
with accounting principles generally accepted in the United States requires the
use of estimates that affect the reported value of assets, liabilities, revenues
and expenses. These estimates are based on historical experience and various
other factors that are believed to be reasonable under the circumstances, the
results of which form the basis for the Company's conclusions. The Company
continually evaluates the information used to make these estimates as the
business and the economic environment changes. Historically, actual results have
not varied materially from the Company's estimates and the Company does not
currently anticipate a significant change in its assumptions related to these
estimates. Actual results may differ from these estimates under different
assumptions or conditions. The use of estimates is pervasive throughout the
consolidated financial statements, but the accounting policies and estimates
considered most critical are as follows:
REVENUE RECOGNITION - The Company recognizes revenue from retail sales upon
customer receipt or delivery of merchandise, including sales under deferred
payment promotions on its proprietary credit card. Credit card receivable
deferrals are for approximately 90 days and have historically resulted in no
significant increases in bad debt losses arising from such receivables. Revenue
from gift cards and gift certificates is deferred until redemption. The Company
records an allowance for estimated merchandise returns based on historical
experience and other known factors. Should actual returns differ from the
Company's estimates and current provision for merchandise returns, revisions to
the estimated merchandise returns may be required.
BENEFICIAL INTEREST IN SECURITIZED RECEIVABLES - The Company securitizes its
entire portfolio of proprietary credit card receivables. During fiscal 2004,
2003 and 2002, the Company sold all of its proprietary credit card receivables,
except those that failed certain eligibility requirements, to a special-purpose
wholly owned
subsidiary, Pier 1 Funding, LLC ("Funding"), which transferred the receivables
to the Pier 1 Imports Credit Card Master Trust (the "Master Trust"). Neither
Funding nor the Master Trust is consolidated by the Company and the Master Trust
meets the requirements of a qualifying special-purpose entity under Statement of
Financial Accounting Standards No. 140. The Master Trust issues beneficial
interests that represent undivided interests in the assets of the Master Trust
consisting of the transferred receivables and all cash flows from collections of
such receivables. The beneficial interests include certain interests retained by
Funding, which are represented by Class B Certificates, and the residual
interest in the Master Trust (the excess of the principal amount of receivables
held in the Master Trust over the portion represented by the certificates sold
to third-party investors and the Class B Certificates).
Gain or loss on the sale of receivables depends in part on the previous carrying
amount of the financial assets involved in the transfer, allocated between the
assets sold and the retained interests based on their relative fair value at the
date of transfer. A servicing asset or liability was not recognized in the
Company's credit card securitizations (and thus was not considered in the gain
or loss computation) since the Company received adequate compensation relative
to current market pricing to service the receivables sold.
The beneficial interest in the Master Trust is accounted for as an
available-for-sale security. The Company estimates fair value of its beneficial
interest in the Master Trust, both upon initial securitization and thereafter,
based on the present value of future expected cash flows using management's best
estimates of key assumptions including credit losses and payment rates. As of
February 28, 2004 and March 1, 2003, the Company's assumptions used to calculate
the present value of the future cash flows included estimated credit losses of
5.75% and 5%, respectively, of the outstanding balance, expected payment within
a six-month period and a discount rate representing the average market rate the
Company would expect to pay if it sold securities representing ownership in the
excess receivables not required to collateralize the Class A Certificates. A
sensitivity analysis performed assuming a hypothetical 20% adverse change in
both interest rates and credit losses resulted in an immaterial impact on the
fair value of the Company's beneficial interest. Although not anticipated by the
Company, a significant deterioration in the financial condition of the Company's
credit card holders, interest rates or other economic conditions could result in
other than temporary losses on the beneficial interest in future periods.
INVENTORIES - The Company's inventory is comprised of finished merchandise and
is stated at the lower of average cost or market, cost being determined on a
weighted average inventory method. Cost is calculated based upon the actual
landed cost of an item at the time it is received in the Company's warehouse
using actual vendor invoices and also includes the cost of warehousing and
transporting product to the stores. Calculations of the carrying value of
inventory are made on an item-by-item basis and to the extent that the cost of
an item exceeds the current selling price less costs to sell, provisions are
made to reduce the carrying amount of the item. The Company reviews its
inventory levels in order to identify slow-moving merchandise and uses
merchandise markdowns to sell such merchandise. Markdowns are recorded to reduce
the value of such slow-moving merchandise as needed. Since the determination of
carrying value of inventory involves both estimation and judgment with regard to
market values, differences in these estimates could result in ultimate
valuations that differ from the recorded asset.
The Company recognizes known inventory losses, shortages and damages when
incurred and makes a provision for estimated shrinkage. The amount of the
provision is estimated based on historical experience using the results of its
physical inventories. Inventory is physically counted at all locations at least
once in each 12-month period, at which time actual results are reflected in the
financial statements. Physical counts were taken at substantially all stores and
distribution centers during fiscal 2004. Although inventory shrink rates have
not fluctuated significantly in recent years, should actual rates differ from
the Company's estimates, revisions to the inventory shrink expense may be
required. Most inventory purchases and commitments are made in U.S. dollars.
INSURANCE PROVISION - The Company is self-insured with respect to medical
coverage offered to eligible employees except that claims in excess of $150,000
per occurrence per year are covered by a purchased insurance policy. The Company
records a provision for estimated claims that have been incurred but not
reported. Such claim amounts are estimated based on historical average claims
per covered life per month
and on the average historical lag time between the covered event and the time it
is paid by the Company. The liability for estimated medical claims incurred but
not reported at February 28, 2004 was $3.6 million.
During fiscal 2004, the Company maintained insurance for workers' compensation
and general liability claims with a deductible of $500,000 per claim. The
liability recorded for such claims is determined by estimating the total future
claims cost for events that occurred prior to the balance sheet date. The
estimates consider historical claims development factors as well as information
obtained from and projections made by the Company's insurance carrier and
underwriters. In fiscal 2005, the Company raised its deductible to $1,000,000
per claim and $750,000 per claim for workers' compensation and general liability
insurance, respectively. The recorded liability for workers' compensation and
general liability claims at February 28, 2004 was $11.1 million and $3.6
million, respectively.
The assumptions made in determining the above estimates are reviewed continually
and the liability adjusted accordingly as new facts are revealed. Changes in
circumstances and conditions affecting the assumptions used in determining the
liabilities could cause actual results to differ from the Company's recorded
amounts.
INCOME TAXES - The Company records income tax expense using the liability method
for taxes. The Company is subject to income tax in many jurisdictions, including
the United States, various states and localities, and foreign countries. The
process of determining tax expense by jurisdiction involves the calculation of
actual current tax expense, together with the assessment of deferred tax expense
resulting from differing treatment of items for tax and financial accounting
purposes. Deferred tax assets and liabilities are recorded in the Company's
consolidated balance sheets. A valuation allowance is recorded to reduce the
carrying amounts of deferred tax assets unless it is more likely than not that
such assets will be realized. If different assumptions had been used, the
Company's tax expense, assets and liabilities could have varied from recorded
amounts. If actual results differ from estimated results or if the Company
adjusts these assumptions in the future, the Company may need to adjust its
deferred tax assets or liabilities, which could impact its effective tax rate.
MARKET RISK DISCLOSURES
Market risks relating to the Company's operations result primarily from changes
in foreign exchange rates and interest rates. The Company has only limited
involvement with derivative financial instruments, does not use them for trading
purposes and is not a party to any leveraged derivatives.
The Company periodically enters into forward foreign currency exchange
contracts. The Company uses such contracts to hedge exposures to changes in
foreign currency exchange rates associated with purchases denominated in foreign
currencies, primarily euros and British pounds. The Company also uses contracts
to hedge its exposure associated with repatriation of funds from its Canadian
operations. Changes in the fair value of the derivatives are included in the
Company's consolidated statements of operations as such contracts are not
designated as hedges under Statement of Financial Accounting Standards No. 133.
Forward contracts that hedge merchandise purchases generally have maturities not
exceeding six months. Changes in the fair value and settlement of these forwards
are included in cost of sale. Contracts which hedge the repatriation of Canadian
funds have maturities not exceeding 18 months and changes in the fair value and
settlement of these contracts are included in selling, general and
administrative expenses. At February 28, 2004, the notional amount of the
Company's forward foreign currency exchange contracts and contracts to hedge its
exposure associated with the repatriation of Canadian funds totaled
approximately 3.1 million euros and 10.0 million Canadian dollars, respectively.
The Company manages its exposure to changes in interest rates by optimizing the
use of variable and fixed rate debt. The Company had $19.0 million of variable
rate borrowings at February 28, 2004. A hypothetical 10% adverse change in
interest rates would have a negligible impact on the Company's earnings and cash
flows.
Collectively, the Company's exposure to these market risk factors is not
significant and has not materially changed from March 1, 2003.
IMPACT OF INFLATION AND CHANGING PRICES
Inflation has not had a significant impact on the operations of the Company
during the preceding three years.
IMPACT OF NEW ACCOUNTING STANDARDS
In January 2003, the Financial Accounting Standards Board ("FASB") issued FASB
Interpretation No. 46, "Consolidation of Variable Interest Entities," ("FIN
46"). This interpretation requires certain variable interest entities ("VIE") to
be consolidated by the primary beneficiary of the entity if the equity investors
in the entity do not have the characteristics of a controlling financial
interest or do not have sufficient equity at risk for the entity to finance its
activities without additional subordinated financial support from other parties.
FIN 46 was effective for all new VIEs created or acquired after January 31,
2003. During December 2003, the FASB issued a revision to FIN 46 ("FIN 46R").
Under the new provisions, public entities are required to apply the guidance if
the entity has interests in VIEs, commonly referred to as special-purpose
entities, for the periods ending after December 15, 2003. Application of this
guidance by public companies is required for all other types of entities for
periods ending after March 15, 2004. The Company does not expect the adoption of
FIN 46R to have a material effect on its consolidated balance sheets or its
statement of operations, shareholders' equity and cash flows.
In April 2003, the FASB issued Statement of Financial Accounting Standards
("SFAS") No. 149, "Amendment of Statement 133 on Derivative Instruments and
Hedging Activities," which is generally effective for contracts entered into or
modified after June 30, 2003 and for hedging relationships designated after June
30, 2003. SFAS No. 149 clarifies under what circumstances a contract with an
initial net investment meets the characteristic of a derivative as discussed in
SFAS No. 133, clarifies when a derivative contains a financing component, amends
the definition of an "underlying" to conform it to the language used in FASB
Interpretation No. 45, "Guarantor Accounting and Disclosure Requirements for
Guarantees, Including Indirect Guarantees of Indebtedness of Others" and amends
certain other existing pronouncements. The Company has only limited involvement
with derivative financial instruments, does not use them for trading purposes
and is not a party to any leveraged derivatives. However, the Company
periodically enters into forward exchange contracts to hedge some of its foreign
currency exposure. The Company also uses contracts to hedge its exposure
associated with the repatriation of funds from its Canadian operations. For
financial accounting purposes, the Company does not designate such contracts as
hedges. The adoption of SFAS No. 149 did not have an impact on the Company's
consolidated balance sheets or its statements of operations, shareholders'
equity and cash flows.
In December 2003, the FASB issued SFAS No. 132 (revised 2003), "Employers'
Disclosures about Pensions and Other Postretirement Benefits" ("SFAS No. 132R"),
which replaced existing disclosure requirements for pensions and other
postretirement benefit plans. SFAS No. 132R requires companies to provide more
complete details about their plan assets, benefit obligations, cash flows,
benefit costs and other relevant information. In addition to expanded annual
disclosures, the standard requires interim disclosure of the components of net
periodic benefit cost and if significantly different from previously disclosed
amounts, the amounts of contributions and projected contributions to pension
plans and other postretirement benefit obligations. This statement addresses
disclosure only and does not affect the measurement or recognition of pension
related liabilities. SFAS No. 132R is effective for fiscal years ending after
December 15, 2003, and for quarters beginning after December 15, 2003. The
Company has adopted the disclosure provisions of SFAS No. 132R and enhanced its
disclosures related to its pension plans. See Note 8 of the Notes to
Consolidated Financial Statements.
FORWARD-LOOKING STATEMENTS
Certain matters discussed in this annual report, other than historical
information, may constitute "forward-looking statements" that are subject to
certain risks and uncertainties that could cause actual results to differ
materially from those described in the forward-looking statements. The Company
may also make forward-looking statements in other reports filed with the
Securities and Exchange Commission and in material
delivered to the Company's shareholders. Forward-looking statements provide
current expectations of future events based on certain assumptions. These
statements encompass information that does not directly relate to any historical
or current fact and often may be identified with words such as "anticipates,"
"believes," "expects," "estimates," "intends," "plans," "projects" and other
similar expressions. Management's expectations and assumptions regarding planned
store openings, financing of Company obligations from operations and other
future results are subject to risks, uncertainties and other factors that could
cause actual results to differ materially from the anticipated results or other
expectations expressed in the forward-looking statements. Risks and
uncertainties that may affect Company operations and performance include, among
others, the effects of terrorist attacks or other acts of war, conflicts or war
involving the United States or its allies or trading partners, labor strikes,
weather conditions that may affect sales, volatility of fuel and utility costs,
the general strength of the economy and levels of consumer spending, consumer
confidence, the availability of new sites for expansion along with sufficient
labor to facilitate growth, the strength of new home construction and sales of
existing homes, the availability and proper functioning of technology and
communications systems supporting the Company's key business processes, the
ability of the Company to import merchandise from foreign countries without
significantly restrictive tariffs, duties or quotas and the ability of the
Company to source, ship and deliver items from foreign countries to its U.S.
distribution centers at reasonable prices and rates and in a timely fashion. The
foregoing risks and uncertainties are in addition to others discussed elsewhere
in this annual report. The Company assumes no obligation to update or otherwise
revise its forward-looking statements even if experience or future changes make
it clear that any projected results expressed or implied will not be realized.
REPORT OF INDEPENDENT AUDITORS
To the Board of Directors of Pier 1 Imports, Inc.
We have audited the accompanying consolidated balance sheets of Pier 1 Imports,
Inc. as of February 28, 2004 and March 1, 2003, and the related consolidated
statements of operations, shareholders' equity and cash flows for each of the
three years in the period ended February 28, 2004. 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 in accordance with auditing standards generally accepted
in the 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 includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Pier 1 Imports,
Inc. at February 28, 2004 and March 1, 2003, and the consolidated results of its
operations and its cash flows for each of the three years in the period ended
February 28, 2004, in conformity with accounting principles generally accepted
in the United States.
/s/ Ernst & Young LLP
Fort Worth, Texas
March 24, 2004
REPORT OF MANAGEMENT
To our shareholders:
Management is responsible for the preparation and the integrity of the
accompanying consolidated financial statements and related notes, which have
been prepared in accordance with accounting principles generally accepted in the
United States and include amounts based upon our estimates and judgments, as
required. The consolidated financial statements have been audited by Ernst &
Young LLP, independent certified public accountants. The accompanying
independent auditors' report expresses an independent professional opinion on
the fairness of presentation of management's financial statements.
The Company maintains a system of internal controls over financial reporting. We
believe this system provides reasonable assurance that transactions are executed
in accordance with management authorization and that such transactions are
properly recorded and reported in the financial statements, that assets are
properly safeguarded and accounted for, and that records are maintained so as to
permit preparation of financial statements in accordance with accounting
principles generally accepted in the United States. The Company also has
instituted policies and guidelines, which require employees to maintain a high
level of ethical standards.
In addition, the Board of Directors exercises its oversight role with respect to
the Company's internal control systems primarily through its Audit Committee.
The Audit Committee consists solely of outside directors and meets periodically
with management, the Company's internal auditors and the Company's independent
auditors to review internal accounting controls, audit results, financial
reporting, and accounting principles and practices. The Company's independent
and internal auditors have full and free access to the Audit Committee with and
without management's presence. Although no cost-effective internal control
system will preclude all errors and irregularities, we believe our controls as
of and for the year ended February 28, 2004 provide reasonable assurance that
the consolidated financial statements are reliable.
/s/ Marvin J. Girouard
- ---------------------------------
Marvin J. Girouard
Chairman of the Board
and Chief Executive Officer
/s/ Charles H. Turner
- --------------------------------
Charles H. Turner
Executive Vice President,
Chief Financial Officer and Treasurer
PIER 1 IMPORTS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands except per share amounts)
Year Ended
---------------------------------------------------------
2004 2003 2002
--------------- -------------- --------------
Net sales $ 1,868,243 $ 1,754,867 $ 1,548,556
Operating costs and expenses:
Cost of sales (including buying and
store occupancy costs) 1,086,623 1,001,462 898,795
Selling, general and administrative
expenses 544,536 502,319 448,127
Depreciation and amortization 50,927 46,432 42,821
--------------- -------------- --------------
1,682,086 1,550,213 1,389,743
--------------- -------------- --------------
Operating income 186,157 204,654 158,813
Nonoperating (income) and expenses:
Interest and investment income (2,851) (3,047) (2,484)
Interest expense 1,692 2,327 2,300
--------------- -------------- --------------
(1,159) (720) (184)
--------------- -------------- --------------
Income before income taxes 187,316 205,374 158,997
Provision for income taxes 69,315 75,988 58,788
--------------- -------------- --------------
Net income $ 118,001 $ 129,386 $ 100,209
=============== ============== ==============
Earnings per share:
Basic $ 1.32 $ 1.39 $ 1.06
=============== ============== ==============
Diluted $ 1.29 $ 1.36 $ 1.04
=============== ============== ==============
Dividends declared per share: $ .30 $ .21 $ .16
=============== ============== ==============
Average shares outstanding during period:
Basic 89,294 92,871 94,414
=============== ============== ==============
Diluted 91,624 95,305 96,185
=============== ============== ==============
The accompanying notes are an integral part of these financial statements.
PIER 1 IMPORTS, INC.
CONSOLIDATED BALANCE SHEETS
(in thousands except share amounts)
2004 2003
---------------- -------------
ASSETS
Current assets:
Cash, including temporary investments of $208,984
and $225,882, respectively $ 225,101 $ 242,114
Beneficial interest in securitized receivables 44,331 40,538
Other accounts receivable, net of allowance for
doubtful accounts of $111 and $236, respectively 14,226 11,420
Inventories 373,870 333,350
Prepaid expenses and other current assets 40,623 36,179
---------------- -------------
Total current assets 698,151 663,601
Properties, net 290,420 254,503
Other noncurrent assets 63,602 54,632
---------------- -------------
$ 1,052,173 $ 972,736
================ =============
LIABILITES AND SHAREHOLDERS' EQUITY
Current liabilities:
Notes payable $ - $ 393
Accounts payable 100,640 76,742
Gift cards, gift certificates and merchandise credits
outstanding 46,118 37,924
Accrued income taxes payable 25,982 25,798
Other accrued liabilities 107,148 102,732
---------------- -------------
Total current liabilities 279,888 243,589
Long-term debt 19,000 25,000
Other noncurrent liabilities 69,654 60,211
Shareholders' equity:
Common stock, $1.00 par, 500,000,000 shares
authorized, 100,779,000 issued 100,779 100,779
Paid-in capital 145,384 144,247
Retained earnings 630,997 539,776
Cumulative other comprehensive income (loss) 1,667 (2,210)
Less - 12,473,000 and 10,045,000 common shares
in treasury, at cost, respectively (195,196) (138,656)
---------------- -------------
683,631 643,936
Commitments and contingencies - -
---------------- -------------
$ 1,052,173 $ 972,736
================ =============
The accompanying notes are an integral part of these financial statements.
PIER 1 IMPORTS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
Year Ended
-------------------------------------------
2004 2003 2002
----------- ----------- -----------
Cash flow from operating activities:
Net income $ 118,001 $ 129,386 $ 100,209
Adjustments to reconcile to net cash
provided by operating activities:
Depreciation and amortization 64,606 57,934 51,504
Loss on disposal of fixed assets 143 980 247
Deferred compensation 8,264 5,043 5,059
Lease termination expense 3,258 395 -
Deferred income taxes 184 18,748 (2,238)
Tax benefit from options exercised by employees 4,897 6,867 628
Other 4,935 949 (2,564)
Change in cash from:
Inventories (40,520) (57,917) 34,804
Other accounts receivable and other current assets (16,927) (14,362) (8,213)
Accounts payable and accrued expenses 32,678 33,364 43,468
Accrued income taxes payable 184 (3,940) 21,952
Other noncurrent assets (2,027) (759) (32)
----------- ----------- -----------
Net cash provided by operating activities 177,676 176,688 244,824
----------- ----------- -----------
Cash flow from investing activities:
Capital expenditures (121,190) (99,042) (57,925)
Proceeds from disposition of properties 34,450 6,330 16,682
Net change in restricted cash (8,752) (500) (500)
Beneficial interest in securitized receivables (5,143) 4,082 30,783
----------- ----------- -----------
Net cash used in investing activities (100,635) (89,130) (10,960)
----------- ----------- -----------
Cash flow from financing activities:
Cash dividends (26,780) (19,520) (15,134)
Purchases of treasury stock (76,009) (78,474) (44,137)
Proceeds from stock options exercised, stock purchase
plan and other, net 15,125 17,305 13,463
Borrowings under long-term debt - - 712
Repayments of long-term debt and notes payable (6,390) (364) -
----------- ----------- -----------
Net cash used in financing activities (94,054) (81,053) (45,096)
----------- ----------- -----------
Change in cash and cash equivalents (17,013) 6,505 188,768
Cash and cash equivalents at beginning of year 242,114 235,609 46,841
----------- ----------- -----------
Cash and cash equivalents at end of year $ 225,101 $ 242,114 $ 235,609
=========== =========== ===========
Supplemental cash flow information:
Interest paid $ 1,791 $ 2,065 $ 2,493
=========== =========== ===========
Income taxes paid $ 63,788 $ 54,711 $ 35,951
=========== =========== ===========
The accompanying notes are an integral part of these financial statements.
PIER 1 IMPORTS, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
(in thousands except per share amounts)
Common Stock
Outstanding Paid-in Retained
Shares Amount Capital Earnings
----------- --------- --------- ---------
Balance March 3, 2001 96,141 $ 100,779 $ 139,424 $ 344,809
Comprehensive income:
Net income - - - 100,209
Other comprehensive income:
Currency translation adjustments - - - -
Comprehensive income
Purchases of treasury stock (4,021) - - -
Restricted stock amortization - - - -
Exercise of stock options, stock
purchase plan and other 1,269 - 766 26
Cash dividends ($.16 per share) - - - (15,134)
------ --------- --------- ---------
Balance March 2, 2002 93,389 100,779 140,190 429,910
------ --------- --------- ---------
Comprehensive income:
Net income - - - 129,386
Other comprehensive income:
Minimum pension liability
adjustments, net of tax - - - -
Currency translation adjustments - - - -
Comprehensive income
Purchases of treasury stock (4,397) - - -
Exercise of stock options, stock
purchase plan and other 1,693 - 4,057 -
Cash dividends ($.21 per share) - - - (19,520)
------ --------- --------- ---------
Balance March 1, 2003 90,685 100,779 144,247 539,776
------ --------- --------- ---------
Comprehensive income:
Net income - - - 118,001
Other comprehensive income:
Minimum pension liability
adjustments, net of tax - - - -
Currency translation adjustments - - - -
Comprehensive income
Purchases of treasury stock (3,758) - - -
Exercise of stock options, stock
purchase plan and other 1,300 - 1,137 -
Cash dividends ($.30 per share) - - - (26,780)
------ --------- --------- ---------
Balance February 28, 2004 88,227 $ 100,779 $ 145,384 $ 630,997
====== ========= ========= =========
Cumulative
Other Total
Comprehensive Treasury Unearned Shareholders'
Income (Loss) Stock Compensation Equity
------------- --------- ------------ ------------
Balance March 3, 2001 $ (3,115) $ (49,933) $ (85) $ 531,879
Comprehensive income:
Net income - - - 100,209
Other comprehensive income:
Currency translation adjustments (1,587) - - (1,587)
------------
Comprehensive income 98,622
------------
Purchases of treasury stock - (44,137) - (44,137)
Restricted stock amortization - - 85 85
Exercise of stock options, stock
purchase plan and other - 13,549 - 14,341
Cash dividends ($.16 per share) - - - (15,134)
----------- --------- ------------ ------------
Balance March 2, 2002 (4,702) (80,521) - 585,656
----------- --------- ------------ ------------
Comprehensive income:
Net income - - - 129,386
Other comprehensive income:
Minimum pension liability
adjustments, net of tax (909) - - (909)
Currency translation adjustments 3,401 - - 3,401
------------
Comprehensive income 131,878
------------
Purchases of treasury stock - (78,474) - (78,474)
Exercise of stock options, stock
purchase plan and other - 20,339 - 24,396
Cash dividends ($.21 per share) - - - (19,520)
----------- --------- ------------ ------------
Balance March 1, 2003 (2,210) (138,656) - 643,936
----------- --------- ------------ ------------
Comprehensive income:
Net income - - - 118,001
Other comprehensive income:
Minimum pension liability
adjustments, net of tax (1,033) - - (1,033)
Currency translation adjustments 4,910 - - 4,910
------------
Comprehensive income 121,878
------------
Purchases of treasury stock - (76,009) - (76,009)
Exercise of stock options, stock
purchase plan and other - 19,469 - 20,606
Cash dividends ($.30 per share) - - - (26,780)
----------- --------- ------------ ------------
Balance February 28, 2004 $ 1,667 $(195,196) $ - $ 683,631
=========== ========= ============ ============
The accompanying notes are an integral part of these financial statements.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
ORGANIZATION - Pier 1 Imports, Inc. is one of North America's largest specialty
retailers of imported decorative home furnishings, gifts and related items, with
retail stores located in the United States, Canada, Puerto Rico, the United
Kingdom and Mexico. Concentrations of risk with respect to sourcing the
Company's inventory purchases are limited due to the large number of vendors or
suppliers and their geographic dispersion around the world. The Company sells
merchandise imported from over 40 different countries, with 37% of its sales
derived from merchandise produced in China, 11% derived from merchandise
produced in Indonesia and 29% derived from merchandise produced in India,
Thailand, Brazil, the Philippines, Italy and Mexico. The remaining 23% of sales
was from merchandise produced in various Asian, European, Central American,
South American and African countries or was obtained from U.S. manufacturers.
The Company's domestic operations provided 91.0%, 92.5% and 93.1% of its net
sales, with 5.5%, 4.3% and 3.9% provided by stores in Canada, 3.3%, 2.9% and
2.8% provided by stores in the United Kingdom and the remainder from royalties
received from Sears de Mexico S.A. during fiscal 2004, 2003 and 2002,
respectively. As of February 28, 2004 and March 1, 2003, $22,529,000 and
$19,110,000, respectively, of the Company's long-lived assets were located
outside the United States. Of this amount, $7,666,000 and $6,674,000 were
located in Canada and $14,864,000 and $12,436,000 were located in the United
Kingdom at February 28, 2004 and March 1, 2003, respectively. Long-lived assets
in Mexico were not significant during either period.
BASIS OF CONSOLIDATION - The consolidated financial statements of Pier 1
Imports, Inc. and its consolidated subsidiaries (the "Company") include the
accounts of all subsidiary companies except Pier 1 Funding, LLC, which is a
non-consolidated, bankruptcy remote, securitization subsidiary. See Note 2 of
the Notes to Consolidated Financial Statements. Material intercompany
transactions and balances have been eliminated.
USE OF ESTIMATES - Preparation of the financial statements in conformity with
accounting principles generally accepted in the United States requires
management to make estimates and assumptions that affect the amounts reported in
the financial statements and accompanying notes. Actual results could differ
from those estimates.
RECLASSIFICATIONS - Certain reclassifications have been made in the prior years'
consolidated financial statements to conform to the fiscal 2004 presentation.
These reclassifications had no effect on net income and shareholders' equity
with minimal effects on total assets and total liabilities.
FISCAL PERIODS - The Company utilizes 5-4-4 (week) quarterly accounting periods
with the fiscal year ending on the Saturday nearest the last day of February.
Fiscal 2004 ended February 28, 2004, fiscal 2003 ended March 1, 2003 and fiscal
2002 ended March 2, 2002, all of which contained 52 weeks.
CASH AND CASH EQUIVALENTS - The Company considers all highly liquid investments
with an original maturity date of three months or less to be cash equivalents.
The effect of foreign currency exchange rate fluctuations on cash is not
material.
TRANSLATION OF FOREIGN CURRENCIES - Assets and liabilities of foreign operations
are translated into U.S. dollars at fiscal year-end exchange rates. Income and
expense items are translated at average exchange rates prevailing during the
year. Translation adjustments arising from differences in exchange rates from
period to period are included as a separate component of shareholders' equity
and are included in other comprehensive income. As of February 28, 2004, March
1, 2003 and March 2, 2002, the Company had balances of ($3,609,000), $1,301,000
and $4,702,000, respectively, in cumulative translation adjustments. The
adjustments for currency translation during fiscal 2004 and fiscal 2003 resulted
in other comprehensive income of $4,910,000 and $3,401,000, respectively, and
the adjustment for fiscal 2002 resulted in other comprehensive loss of
$1,587,000.
FINANCIAL INSTRUMENTS - The fair value of financial instruments is determined by
reference to various market data and other valuation techniques as appropriate.
There were no assets or liabilities with a fair value significantly different
from the recorded value as of February 28, 2004 and March 1, 2003.
Risk management instruments: The Company may utilize various financial
instruments to manage interest rate and market risk associated with its on- and
off-balance sheet commitments.
The Company hedges certain commitments denominated in foreign currencies through
the purchase of forward contracts. The forward contracts are purchased only to
cover specific commitments to buy merchandise for resale. The Company also uses
contracts to hedge its exposure associated with the repatriation of funds from
its Canadian operations. At February 28, 2004, the notional amount of the
Company's forward foreign currency exchange contracts and contracts to hedge its
exposure associated with repatriation of Canadian funds totaled approximately
3.1 million euros and 10.0 million Canadian dollars, respectively. For financial
accounting purposes, the Company has not designated such contracts as hedges.
Thus, changes in the fair value of both types of forward contracts are included
in the Company's consolidated statements of operations. Both the changes in fair
value and settlement of these contracts are included in cost of sales for
forwards related to merchandise purchases and in selling, general and
administrative expense for the contracts associated with the repatriation of
Canadian funds.
The Company enters into forward foreign currency exchange contracts with major
financial institutions and continually monitors its positions with, and the
credit quality of, these counterparties to such financial instruments. The
Company does not expect non-performance by any of the counterparties, and any
losses incurred in the event of non-performance would not be material.
BENEFICIAL INTEREST IN SECURITIZED RECEIVABLES - The Company securitizes its
entire portfolio of proprietary credit card receivables. During fiscal 2004,
2003 and 2002, the Company sold all of its proprietary credit card receivables,
except those that failed certain eligibility requirements, to a special-purpose
wholly owned subsidiary, Pier 1 Funding, LLC ("Funding"), which transferred the
receivables to the Pier 1 Imports Credit Card Master Trust (the "Master Trust").
Neither Funding nor the Master Trust is consolidated by the Company and the
Master Trust meets the requirements of a qualifying special-purpose entity under
Statement of Financial Accounting Standards ("SFAS") No. 140. The Master Trust
issues beneficial interests that represent undivided interests in the assets of
the Master Trust consisting of the transferred receivables and all cash flows
from collections of such receivables. The beneficial interests include certain
interests retained by Funding, which are represented by Class B Certificates,
and the residual interest in the Master Trust (the excess of the principal
amount of receivables held in the Master Trust over the portion represented by
the certificates sold to a third-party investor and the Class B Certificates).
Gain or loss on the sale of receivables depends in part on the previous carrying
amount of the financial assets involved in the transfer, allocated between the
assets sold and the retained interests based on their relative fair value at the
date of transfer. A servicing asset or liability was not recognized in the
Company's credit card securitizations (and thus was not considered in the gain
or loss computation) since the Company received adequate compensation relative
to current market pricing to service the receivables sold.
The beneficial interest in the Master Trust is accounted for as an
available-for-sale security. The Company estimates fair value of its beneficial
interest in the Master Trust, both upon initial securitization and thereafter,
based on the present value of future expected cash flows using management's best
estimates of key assumptions including credit losses and payment rates. As of
February 28, 2004 and March 1, 2003, the Company's assumptions used to calculate
the present value of the future cash flows included estimated credit losses of
5.75% and 5%, respectively, of the outstanding balance, expected payment within
a six-month period and a discount rate representing the average market rate the
Company would expect to pay if it sold securities representing ownership in the
excess receivables not required to collateralize the Class A Certificates. A
sensitivity analysis performed assuming a hypothetical 20% adverse change in
both interest rates and credit losses resulted in an immaterial impact on the
fair value of the Company's beneficial interest. Although not anticipated by the
Company, a significant deterioration in the financial condition of the
Company's credit card holders, interest rates, or other economic conditions
could result in other than temporary losses on the beneficial interest in future
periods.
INVENTORIES - Inventories are comprised of finished merchandise and are stated
at the lower of average cost or market, cost being determined on a weighted
average inventory method. Cost is calculated based upon the actual landed cost
of an item at the time it is received in the Company's warehouse using actual
vendor invoices and also includes the cost of warehousing and transporting
product to the stores.
PROPERTIES, MAINTENANCE AND REPAIRS - Buildings, equipment, furniture and
fixtures, and leasehold improvements are carried at cost less accumulated
depreciation. Depreciation is computed using the straight-line method over
estimated remaining useful lives of the assets, generally thirty years for
buildings and three to ten years for equipment, furniture and fixtures.
Depreciation of improvements to leased properties is based upon the shorter of
the remaining primary lease term or the estimated useful lives of such assets.
Depreciation costs were $49,572,000, $45,011,000 and $41,047,000 in fiscal 2004,
2003 and 2002, respectively.
Expenditures for maintenance, repairs and renewals that do not materially
prolong the original useful lives of the assets are charged to expense as
incurred. In the case of disposals, assets and the related depreciation are
removed from the accounts and the net amount, less proceeds from disposal, is
credited or charged to income.
GOODWILL AND INTANGIBLE ASSETS - In June 2001, the Financial Accounting
Standards Board ("FASB") issued SFAS No. 142, "Goodwill and Other Intangible
Assets," which was effective for the Company at the beginning of fiscal 2003.
Under SFAS No. 142, goodwill and intangible assets with indefinite useful lives
are no longer amortized, but instead are to be tested for impairment at least
annually. In connection with and subsequent to the adoption of this statement,
the Company's reporting units were identified as components, in accordance with
SFAS No. 142 and the goodwill assigned to each represents the excess of the
original purchase price over the fair value of the net assets acquired for that
component. The Company completed the transitional and annual impairment tests
during fiscal 2003 and the annual impairment test during fiscal 2004 by
performing discounted cash flow analyses for the applicable reporting units. The
resulting fair value of each reporting unit was greater than the respective
carrying values, and as such, no impairment loss was recognized. The impact of
the non-amortization provisions of SFAS No. 142, if applied at the beginning of
fiscal year 2002, would have resulted in net income of $100,499,000 versus
reported net income of $100,209,000. Basic earnings per share would have
remained at $1.06 and diluted earnings per share would have remained at $1.04
for fiscal 2002. See Note 4 of the Notes to Consolidated Financial Statements
for additional discussion of goodwill and intangible assets.
REVENUE RECOGNITION - Revenue is recognized upon customer receipt or delivery
for retail sales, including sales under deferred payment promotions on the
Company's proprietary credit card. An allowance has been established to provide
for estimated merchandise returns. Revenue from gift cards and gift certificates
is deferred until redemption. Amounts billed to customers for shipping and
handling are included in net sales and the costs incurred by the Company for
these items are recorded in cost of sales.
ADVERTISING COSTS - Advertising costs are expensed the first time the
advertising takes place. Advertising costs were $82,809,000, $72,256,000 and
$64,414,000 in fiscal 2004, 2003 and 2002, respectively. Prepaid advertising at
the end of fiscal years 2004 and 2003 was $3,921,000 and $3,682,000,
respectively, consisting primarily of production costs for television
commercials and related talent fees for advertisements planned to air in late
spring and early fall.
INCOME TAXES - The Company records income tax expense using the liability method
for taxes. Under this method, deferred tax assets and liabilities are recognized
based on differences between financial statement and tax bases of assets and
liabilities using presently enacted tax rates. A valuation allowance is recorded
to reduce the carrying amounts of deferred tax assets unless it is more likely
than not that such assets will be realized. Deferred federal income taxes, net
of applicable foreign tax credits, are not provided on the
undistributed earnings of foreign subsidiaries to the extent the Company intends
to permanently reinvest such earnings abroad.
STOCK-BASED COMPENSATION - The Company grants stock options and restricted stock
for a fixed number of shares to employees with stock option exercise prices
equal to the fair market value of the shares on the date of grant. The Company
accounts for stock option grants and restricted stock grants under the intrinsic
value method in accordance with Accounting Principles Board ("APB") Opinion No.
25, "Accounting for Stock Issued to Employees," and, accordingly, recognizes no
compensation expense for the stock option grants.
The following table illustrates the effect on net income and earnings per share
if the fair value-based method had been applied to all outstanding awards in
each period (in thousands except per share amounts):
2004 2003 2002
--------- --------- ---------
Net income, as reported $ 118,001 $ 129,386 $ 100,209
Plus stock-based employee compensation expense included
in reported net income, net of related tax effects - - 54
Less total stock-based employee compensation expense
determined under fair value-based method,
net of related tax effects (8,907) (6,275) (4,400)
--------- --------- ---------
Pro forma net income $ 109,094 $ 123,111 $ 95,863
========= ========= =========
Pro forma earnings per share:
Basic $ 1.22 $ 1.33 $ 1.02
========= ========= =========
Diluted $ 1.19 $ 1.30 $ 1.00
========= ========= =========
See Note 9 of the Notes to Consolidated Financial Statements for additional
discussion related to the accounting for stock-based employee compensation.
EARNINGS PER SHARE - Basic earnings per share amounts were determined by
dividing net income by the weighted average number of common shares outstanding
for the period. Diluted earnings per share amounts were similarly computed, but
included the effect, when dilutive, of the Company's weighted average number of
stock options outstanding.
Earnings per share amounts are calculated as follows (in thousands except per
share amounts):
2004 2003 2002
-------- -------- --------
Net income (basic and diluted) $118,001 $129,386 $100,209
======== ======== ========
Average shares outstanding:
Basic 89,294 92,871 94,414
Plus assumed exercise of stock options 2,330 2,434 1,771
-------- -------- --------
Diluted 91,624 95,305 96,185
======== ======== ========
Earnings per share:
Basic $ 1.32 $ 1.39 $ 1.06
======== ======== ========
Diluted $ 1.29 $ 1.36 $ 1.04
======== ======== ========
Stock options for which the exercise price was greater than the average market
price of common shares were not included in the computation of diluted earnings
per share as the effect would be antidilutive. At the end of fiscal year 2004,
all outstanding stock options had exercise prices below the average market
price. At the end of fiscal years 2003 and 2002, there were 3,036,300 and
433,800, respectively, stock options outstanding with exercise prices greater
than the average market price of the Company's common shares.
ADOPTION OF NEW ACCOUNTING STANDARDS - In January 2003, the FASB issued FASB
Interpretation No. 46, "Consolidation of Variable Interest Entities," ("FIN
46"). This interpretation requires certain variable
interest entities ("VIE") to be consolidated by the primary beneficiary of the
entity if the equity investors in the entity do not have the characteristics of
a controlling financial interest or do not have sufficient equity at risk for
the entity to finance its activities without additional subordinated financial
support from other parties. FIN 46 was effective for all new VIEs created or
acquired after January 31, 2003. During December 2003, the FASB issued a
revision to FIN 46 ("FIN 46R"). Under the new provisions, public entities are
required to apply the guidance if the entity has interests in VIEs, commonly
referred to as special-purpose entities, for the periods ending after December
15, 2003. Application of this guidance by public companies is required for all
other types of entities for periods ending after March 15, 2004. The Company
does not expect the adoption of FIN 46R to have a material effect on its
consolidated balance sheets or its statements of operations, shareholders'
equity and cash flows.
In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities," which is generally effective for
contracts entered into or modified after June 30, 2003 and for hedging
relationships designated after June 30, 2003. SFAS No. 149 clarifies under what
circumstances a contract with an initial net investment meets the characteristic
of a derivative as discussed in SFAS No. 133, clarifies when a derivative
contains a financing component, amends the definition of an "underlying" to
conform it to the language used in FASB Interpretation No. 45, "Guarantor
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others" and amends certain other existing
pronouncements. The Company has only limited involvement with derivative
financial instruments, does not use them for trading purposes and is not a party
to any leveraged derivatives. However, the Company periodically enters into
forward exchange contracts to hedge some of its foreign currency exposure. The
Company also uses contracts to hedge its exposure associated with the
repatriation of funds from its Canadian operations. For financial accounting
purposes, the Company does not designate such contracts as hedges. The adoption
of SFAS No. 149 did not have an impact on the Company's consolidated balance
sheets or its statements of operations, shareholders' equity and cash flows.
In December 2003, the FASB issued SFAS No. 132 (revised 2003), "Employers'
Disclosures about Pensions and Other Postretirement Benefits" ("SFAS No. 132R"),
which replaced existing disclosure requirements for pensions and other
postretirement benefit plans. SFAS No. 132R requires companies to provide more
complete details about their plan assets, benefit obligations, cash flows,
benefit costs and other relevant information. In addition to expanded annual
disclosures, the standard requires interim disclosure of the components of net
periodic benefit cost and if significantly different from previously disclosed
amounts, the amounts of contributions and projected contributions to pension
plans and other postretirement benefit obligations. This statement addresses
disclosure only and does not affect the measurement or recognition of pension
related liabilities. SFAS No. 132R is effective for fiscal years ending after
December 15, 2003, and for quarters beginning after December 15, 2003. The
Company has adopted the disclosure provisions of SFAS No. 132R and enhanced its
disclosures related to its pension plans. See Note 8 of the Notes to
Consolidated Financial Statements.
NOTE 2 - PROPRIETARY CREDIT CARD INFORMATION
The Company's proprietary credit card receivables were generated under
open-ended revolving credit accounts issued by its subsidiary, Pier 1 National
Bank, to finance purchases of merchandise and services offered by the Company.
These accounts have various billing and payment structures, including varying
minimum payment levels. The Company has an agreement with a third party to
provide certain credit card processing and related credit services, while the
Company maintains control over credit policy decisions and customer service
standards.
As of fiscal 2004 year-end, the Company had approximately 6,543,000 proprietary
cardholders and approximately 1,186,000 customer credit accounts considered
active (accounts with a purchase within the previous 12 months). The Company's
proprietary credit card sales accounted for 25.9% of total U.S. store sales in
fiscal 2004. Net proprietary credit card income was included in selling, general
and administrative expenses on the Company's statements of operations. The
following information presents a summary of the Company's proprietary credit
card results for each of the last three fiscal years on a managed basis (in
thousands):
2004 2003 2002
-------- -------- --------
Income:
Finance charge income, net of debt service costs $ 25,396 $ 25,344 $ 24,124
Insurance and other income 105 230 231
-------- -------- --------
25,501 25,574 24,355
-------- -------- --------
Costs:
Processing fees 14,540 14,324 14,197
Bad debts 8,200 8,570 6,977
-------- -------- --------
22,740 22,894 21,174
-------- -------- --------
Net proprietary credit card income $ 2,761 $ 2,680 $ 3,181
======== ======== ========
Proprietary credit card sales $436,809 $422,489 $412,469
======== ======== ========
Costs as a percent of proprietary credit card sales 5.21% 5.42% 5.13%
======== ======== ========
Gross proprietary credit card receivables at year-end $142,228 $136,331 $140,713
======== ======== ========
Proprietary credit card sales as a percent of total
U.S. store sales 25.9% 26.2% 28.9%
======== ======== ========
The Company began securitizing its entire portfolio of proprietary credit card
receivables (the "Receivables") in fiscal 1997. On a daily basis during all
periods presented above, the Company sold all of its proprietary credit card
receivables, except those that failed certain eligibility criteria, to a
special-purpose wholly owned subsidiary, Pier 1 Funding, LLC ("Funding"). The
Receivables were then transferred from Funding to the Pier 1 Imports Credit Card
Master Trust (the "Master Trust"). In exchange for the Receivables, the Company
received cash and retained a residual interest in the Master Trust. These cash
payments were funded from undistributed principal collections on the Receivables
that were previously sold to the Master Trust.
Funding was capitalized by the Company as a special-purpose wholly owned
subsidiary and is subject to certain covenants and restrictions, including a
restriction from engaging in any business or activity unrelated to acquiring and
selling interests in receivables. The Master Trust issues beneficial interests
that represent undivided interests in the assets of the Master Trust. Neither
Funding nor the Master Trust is consolidated in the Company's financial
statements. Under generally accepted accounting principles, if the structure of
a securitization meets certain requirements, such transactions are accounted for
as sales of receivables. As the Company's securitizations met such requirements,
they were accounted for as sales. Gains or losses resulting from the sales of
Receivables were not material during fiscal 2004, 2003 or 2002. The Company's
exposure to deterioration in the performance of the Receivables is limited to
its retained beneficial interest in the Master Trust. As such, the Company has
no corporate obligation to reimburse Funding, the Master Trust or purchasers of
any certificates issued by the Master Trust for credit losses from the
Receivables.
In the initial securitization, the Company sold all of its Receivables to
Funding, which transferred the Receivables to the Master Trust. The Master Trust
then sold $50.0 million of Series 1997-1 Class A Certificates to third parties,
which bore interest at 6.74% and were scheduled to mature in May 2002. Funding
retained $14.1 million of Series 1997-1 Class B Certificates issued by the
Master Trust, which were subordinated to the Class A Certificates. Funding also
retained the residual interest in the Master Trust. In exchange for its
Receivables, the Company received cash and a beneficial interest in the Master
Trust, which were passed through Funding.
In September 2001, the Master Trust negotiated the purchase of the $50.0 million
in Series 1997-1 Class A Certificates from their holders. Subsequently, the
Master Trust retired both the Series 1997-1 Class A and Class B Certificates in
connection with the issuance of $100.0 million in 2001-1 Class A Certificates to
a third party. The 2001-1 Class A Certificates bear interest at a floating rate
equal to the rate on commercial paper issued by the third party plus a credit
spread. As of February 28, 2004 and March 1, 2003, these rates were 1.5% and
1.3%, respectively. Funding continued to retain the residual interest in the
Master Trust and $9.3 million in 2001-1 Class B Certificates, which are
subordinated to the 2001-1 Class A Certificates and do not bear interest.
The 2001-1 Class A Certificates have a revolving period of 364 days, which can
be extended by mutual consent of Funding and the third-party holder, and expire
in September 2004. The Company does not provide recourse to the third-party
investor that purchased these debt securities issued by the Master Trust.
However, should the balance of the underlying credit card receivables held by
the Master Trust decline to a level that the Class A Certificates were
insufficiently collateralized, the Master Trust would be contractually required
to repay a portion of the Class A Certificates from daily collections. At the
end of fiscal 2004, the underlying credit card receivables held by the Master
Trust were $142.2 million and would have had to fall below $117.5 million before
a repayment would have been required. This repayment would only be to the extent
necessary to maintain the required ratio of receivables to the Class A
Certificates as set forth in the securitization agreement. In addition, should
the Master Trust be out of compliance with its required performance measures,
such as payment rate, returns and fraud, excess portfolio yield, and minimum
transferor's interest, this would trigger an early amortization event. Such an
event would require the Master Trust to repay the Class A Certificates. These
performance measures would have to deteriorate significantly to result in such
an early amortization event.
As a result of this securitization transaction in fiscal 2002, the Company
effectively sold a portion of its beneficial interest for net proceeds of $49.2
million. Cash flows received by the Company from the Master Trust for each of
the last three fiscal years are as follows (in thousands):
2004 2003 2002
-------- -------- --------
Proceeds from collections reinvested
in revolving securitizations $454,444 $448,151 $419,796
======== ======== ========
Proceeds from new securitizations $ - $ - $ 49,226
======== ======== ========
Servicing fees received $ 2,186 $ 2,186 $ 2,381
======== ======== ========
Cash flows received on retained interests $145,325 $139,084 $197,186
======== ======== ========
As of February 28, 2004 and March 1, 2003, the Company had $44.3 million and
$40.5 million, respectively, in beneficial interests (comprised primarily of
principal and interest related to the underlying Receivables) in the Master
Trust. In addition, if the Company was required to consolidate the Master Trust
due to a change in accounting rules, the Company's operations for fiscal 2004
and 2003 would not have been materially different than its reported results and
both its assets and liabilities would have increased by approximately $100
million as of February 28, 2004 and March 1, 2003. The Company expects no
material impact on net income in future years as a result of the sales of
Receivables, although the precise amounts will be dependent on a number of
factors such as interest rates and levels of securitization.
NOTE 3 - PROPERTIES
Properties are summarized as follows at February 28, 2004 and March 1, 2003 (in
thousands):
2004 2003
-------- --------
Land $ 21,986 $ 27,284
Buildings 36,067 61,713
Equipment, furniture and fixtures 269,040 242,501
Leasehold improvements 212,447 201,099
Computer software 50,165 34,395
Projects in progress 63,650 12,268
-------- --------
653,355 579,260
Less accumulated depreciation and
amortization 362,935 324,757
-------- --------
Properties, net $290,420 $254,503
======== ========
NOTE 4 - GOODWILL AND OTHER INTANGIBLE ASSETS
The Company's intangible assets at March 1, 2003 included the right to do
business within certain geographical markets where franchise stores were
previously granted exclusive rights to operate, which are set to completely
amortize by 2007, and goodwill related primarily to the acquisition of
Cargokids. During fiscal 2004, the Company paid $1,975,000 to acquire favorable
operating leases from a third party. The weighted average amortization period
for the acquired operating leases was approximately ten years. Amortization
expense for the years ended February 28, 2004 and March 1, 2003 was $1,493,000
and $1,496,000, respectively. The following is a summary of the Company's
intangible assets at February 28, 2004 and March 1, 2003 (in thousands):
2004 2003
-------- --------
Geographic market rights, gross $ 15,020 $ 15,094
Accumulated amortization (10,192) (8,747)
-------- --------
Geographic market rights, net $ 4,828 $ 6,347
======== ========
Acquired operating leases, gross $ 1,975 $ -
Accumulated amortization (48) -
-------- --------
Acquired operating leases, net $ 1,927 $ -
======== ========
Goodwill, not amortized $ 5,006 $ 5,006
======== ========
Estimated future amortization expense related to intangible assets at February
28, 2004 is as follows (in thousands):
Amortization
Fiscal Year Expense
- ----------- ------------
2005 $ 1,654
2006 1,654
2007 1,654
2008 704
2009 209
Thereafter 880
-------
Total future amortization expense $ 6,755
=======
NOTE 5 - OTHER ACCRUED LIABILITIES AND NONCURRENT LIABILITIES
The following is a summary of other accrued liabilities and noncurrent
liabilities at February 28, 2004 and March 1, 2003 (in thousands):
2004 2003
-------- --------
Accrued payroll and other employee-related liabilities $ 37,597 $ 46,907
Accrued taxes, other than income 21,675 18,158
Other 47,876 37,667
-------- --------
Other accrued liabilities $107,148 $102,732
======== ========
Accrued average rent $ 22,014 $ 20,985
Retirement benefits 35,727 25,919
Other 11,913 13,307
-------- --------
Other noncurrent liabilities $ 69,654 $ 60,211
======== ========
NOTE 6 - STORE CLOSING PROVISION
Although the Company's stores typically are not closed before the end of their
primary lease terms, periodically certain stores are closed or relocated to more
favorable locations within the same market with relatively short terms remaining
on the leases. These decisions are based on lease renewal obligations,
relocation space availability, general economic conditions and prospects for
future profitability. In connection with these store closings, the Company
recorded estimated liabilities in accordance with SFAS No. 146, "Accounting for
Costs Associated with Exit or Disposal Activities." The estimated liabilities
were recorded based upon the Company's remaining lease obligations less
estimated subtenant rental income for the closed stores. Expenses related to
store closings are included in selling, general and administrative expenses in
the Company's consolidated statements of operations. The write-off of fixed
assets has not been material and there has been no write-down of inventory or
employee severance costs associated with these closed stores. The following
table represents a reconciliation of the liability balances from March 2, 2002
to February 28, 2004 (in thousands):
Lease
Termination
Obligation
-----------
Balance at March 2, 2002 $ 623
Original charges -
Revisions 395
Cash payments (236)
--------
Balance at March 1, 2003 782
Original charges 2,971
Revisions 287
Cash payments (2,292)
--------
Balance at February 28, 2004 $ 1,748
========
NOTE 7 - LONG-TERM DEBT AND AVAILABLE CREDIT
Long-term debt is summarized as follows at February 28, 2004 and March 1, 2003
(in thousands):
2004 2003
-------- --------
Industrial revenue bonds $ 19,000 $ 25,000
Other - 393
-------- --------
19,000 25,393
Less - portion due within one year - 393
-------- --------
Long-term debt $ 19,000 $ 25,000
======== ========
In fiscal 1987, the Company entered into industrial revenue bond loan agreements
aggregating $25 million. Proceeds were used to construct three
warehouse/distribution facilities. The loan agreements and related tax-exempt
bonds mature in the year 2026. Subsequent to the sale of the old distribution
center located in Savannah, Georgia, the Company exercised its right to repay
the related $6.0 million outstanding balance in industrial revenue bonds on
December 1, 2003. The extinguishment of these bonds did not have a material
impact on the Company's consolidated statement of operations. The Company's
interest rates on the loans are based on the bond interest rates, which are
market driven, reset weekly and are similar to other tax-exempt municipal debt
issues. The Company's weighted average effective interest rates were 2.6% and
2.9% for fiscal 2004 and 2003, respectively.
In November 2001, the Company executed a note payable in the original principal
amount of (pound)500,000. The note bore interest at 4.0% per annum and had a
maturity date of April 2003. Interest was payable in semiannual installments and
principal was payable in two installments; the first payment was made June 2002
and the final payment was made April 2003.
Long-term debt matures as follows (in thousands):
Long-term
Fiscal Year Debt
- ----------- ----------
2005 $ -
2006 -
2007 -
2008 -
2009 -
Thereafter 19,000
--------
Total long-term debt $ 19,000
========
In August 2003, the Company replaced its five-year $125 million revolving credit
facility with a comparable three-year $125 million revolving credit facility,
all of which was available at fiscal 2004 year-end. The new agreement contains
substantially similar terms as the previous agreement and has certain
restrictive covenants requiring, among other things, the maintenance of certain
financial ratios including debt to net cash flow, fixed charge coverage and
minimum tangible net worth. The new credit facility bears a floating interest
rate (currently LIBOR plus 1.0%) based on the Company's corporate debt rating,
and through the end of fiscal 2004, there were no borrowings under the credit
agreement. The Company had no borrowings under the five-year facility during
fiscal 2004 or fiscal 2003.
The Company has a $120 million short-term line of credit, which is primarily
used to issue merchandise letters of credit. At fiscal 2004 year-end,
approximately $76.2 million had been utilized for letters of credit, leaving
$43.8 million available. The Company also has $36.1 million in special-purpose
letters of credit, all of which were fully utilized at fiscal 2004 year-end. Of
the $36.1 million in special-purpose letters of credit, $19.4 million related to
the Company's industrial revenue bonds.
Most of the Company's loan agreements require that the Company maintain certain
financial ratios and some limit specific payments and equity distributions
including cash dividends, loans to shareholders and repurchases of common stock.
The Company is in compliance with all debt covenants.
NOTE 8 - EMPLOYEE BENEFIT PLANS
The Company offers a qualified, defined contribution employee retirement plan to
all its full- and part-time personnel who are at least 18 years old and have
been employed for a minimum of six months. Employees contributing 1% to 5% of
their compensation receive a matching Company contribution of up to 3%. Company
contributions to the plan were $2,349,000, $1,760,000 and $1,734,000 in fiscal
2004, 2003 and 2002, respectively.
In addition, a non-qualified retirement savings plan is available for the
purpose of providing deferred compensation for certain employees whose benefits
under the qualified plan may be limited under Section 401(k) of the Internal
Revenue Code. The Company's expense for this non-qualified plan was $1,356,000,
$1,061,000 and $887,000 for fiscal 2004, 2003 and 2002, respectively.
The Company maintains supplemental retirement plans (the "Plans") for certain of
its executive officers. The Plans provide that upon death, disability or
reaching retirement age, a participant will receive benefits based on highest
compensation and years of service. The Company recorded expenses related to the
Plans of $3,306,000, $2,689,000 and $2,488,000 in fiscal 2004, 2003 and 2002,
respectively.
The Plans are not funded and thus have no plan assets. However, a trust has been
established for the purpose of setting aside funds to be used to settle the
pension obligations upon retirement or death of certain participants. The trust
assets are consolidated in the Company's financial statements and consisted
partly of investments in short-term money market funds in the amounts of
$10,417,000 and $5,249,000 at February 28, 2004 and March 1, 2003, respectively,
and earned average rates of return of 0.9%, 1.7% and 3.4% in fiscal 2004, 2003
and 2002, respectively. These investments are restricted and may be used only to
satisfy retirement obligations to certain participants and are classified in the
financial statements as noncurrent assets. In addition to these investments, the
trust owns and is the beneficiary of various increasing whole life insurance
contracts on some of the participants in the Plans. Near the end of fiscal 2004,
some of these policies were sold for cash to another subsidiary of the Company
at their respective cash surrender values, with the proceeds invested in money
market funds. The life insurance contracts owned by the trust had cash surrender
values of $8,034,000 at February 28, 2004, and $12,131,000 at March 1, 2003, and
net death benefits of $16,665,000 at the respective policy year-ends.
Measurement of obligations for the Plans is calculated as of each fiscal
year-end. The following provides a reconciliation of benefit obligations and
funded status of the Plans as of February 28, 2004 and March 1, 2003 (in
thousands):
2004 2003
-------- --------
Change in projected benefit obligation:
Projected benefit obligation, beginning of year $ 20,242 $ 15,864
Service cost 701 631
Interest cost 1,414 1,196
Actuarial loss 716 2,551
-------- --------
Projected benefit obligation, end of year $ 23,073 $ 20,242
======== ========
Reconciliation of funded status:
Funded status $(23,073) $(20,242)
Unrecognized net loss 4,276 3,889
Unrecognized prior service cost 5,362 6,224
-------- --------
Accrued pension cost (13,435) (10,129)
Additional minimum liability (8,450) (5,689)
-------- --------
Accrued benefit liability/accumulated
benefit obligation $(21,885) $(15,818)
======== ========
Amounts recognized in the balance sheets:
Accrued benefit liability $(21,885) $(15,818)
Intangible asset 5,362 4,244
Accumulated other comprehensive loss 3,088 1,445
-------- --------
Net amount recognized $(13,435) $(10,129)
======== ========
Increase in minimum liability included in
comprehensive income, net of tax $ 1,033 $ 909
======== ========
Minimum liability included in cumulative
comprehensive income, net of taxes
of $1,146 and $536, respectively $ 1,942 $ 909
======== ========
Weighted average assumptions used to determine:
2004 2003
---- ----
Benefit obligation, end of year:
Discount rate 6.25% 6.75%
Lump-sum conversion discount rate 3.25% 4.00%
Rate of compensation increase 5.00% 5.00%
Net periodic benefit cost for years ended:
Discount rate 6.75% 7.25%
Lump-sum conversion discount rate 4.00% 4.75%
Rate of compensation increase 5.00% 5.00%
Net periodic benefit cost included the following actuarially determined
components during fiscal 2004, 2003 and 2002 (in thousands):
2004 2003 2002
------ ------ ------
Service cost $ 701 $ 631 $ 569
Interest cost 1,414 1,196 1,055
Amortization of unrecognized prior service cost 862 862 862
Amortization of net obligation at transition - - 2
Amortization of net actuarial loss 329 - -
------ ------ ------
Net periodic benefit cost $3,306 $2,689 $2,488
====== ====== ======
NOTE 9 - MATTERS CONCERNING SHAREHOLDERS' EQUITY
STOCK PURCHASE PLAN - Substantially all employees are eligible to participate in
the Pier 1 Imports, Inc. Stock Purchase Plan under which the Company's common
stock is purchased on behalf of employees at market prices through regular
payroll deductions. Each participant may contribute up to 10% of the eligible
portions of compensation. The Company contributes from 10% to 100% of the
participants' contributions, depending upon length of participation and date of
entry into the plan. Company contributions to the plan were $1,174,000,
$1,078,000 and $985,000 in fiscal years 2004, 2003 and 2002, respectively.
RESTRICTED STOCK GRANT PLAN - In fiscal 1998, the Company issued 238,500 shares
of its common stock to key officers pursuant to a Management Restricted Stock
Plan, which provides for the issuance of up to 415,600 shares. The fiscal 1998
restricted stock grant vested over a four-year period of continued employment.
The fair value at the date of grant of these restricted stock shares was
expensed over the aforementioned vesting period. The fair value at the date of
grant of the restricted shares granted in fiscal 1998 was $3,000,000. Shares not
vested were returned to the plan if employment was terminated for any reason. To
date, 107,184 shares have been returned to the plan. Total compensation expense
for this restricted stock grant plan was $85,000 for fiscal 2002. There was no
compensation expense for the restricted stock grant plan in fiscal 2004 or 2003.
STOCK OPTION PLANS - In June 1999, the Company adopted the Pier 1 Imports, Inc.
1999 Stock Plan (the "Plan"). The Plan will ultimately replace the Company's two
previous stock option plans, which were the 1989 Employee Stock Option Plan (the
"Employee Plan") and the 1989 Non-Employee Director Stock Option Plan (the
"Director Plan").
The Plan provides for the granting of options to directors and employees with an
exercise price not less than the fair market value of the common stock on the
date of the grant. Options may be either Incentive Stock Options authorized
under Section 422 of the Internal Revenue Code or nonqualified options, which do
not qualify as Incentive Stock Options. Current director compensation provides
for nonqualified options covering 6,000 shares to be granted once each year to
each non-employee director. Additionally, the Plan authorizes a Director
Deferred Stock Program. As the program is currently implemented by the Board of
Directors, each director must defer a minimum of 50% and may defer up to 100% of
the director's cash fees into a deferred stock account. The amount deferred
receives a 50% matching contribution from the Company. The Plan provides that a
maximum of 11,000,000 shares of common stock may be issued under the Plan, of
which not more than 250,000 shares may be issued under the Directors Deferred
Stock Program. Options issued to non-director employees vest equally over a
period of four years while directors' options are fully vested at the date of
issuance. Employee options will fully vest upon retirement or, under certain
conditions, such as a change in control of the Company. As of February 28, 2004
and March 1, 2003, respectively, there were 346,290 and 448,083 shares available
for grant under the Plan, of which 128,860 and 150,403 may be used for deferred
stock issuance. Additionally, outstanding options covering 3,038,150 and
1,785,275 shares were exercisable and 114,964 and 93,421 shares were issuable
under the Directors Deferred Stock Program at fiscal years ended 2004 and 2003,
respectively. The Plan will expire in June 2009, and the Board of Directors may
at any time suspend or terminate the Plan or amend the Plan, subject to certain
limitations.
Under the Employee Plan, options may be granted to qualify as Incentive Stock
Options under Section 422 of the Internal Revenue Code or as nonqualified
options. Most options issued under the Employee Plan vest over a period of four
to five years. As of February 28, 2004 and March 1, 2003, outstanding options
covering 1,495,879 and 1,645,936 shares were exercisable and 283,359 and 951,559
shares were available for grant, respectively. The Employee Plan expires in June
2004. The Director Plan expired in fiscal 2000. As of February 28, 2004 and
March 1, 2003, outstanding options covering 34,088 and 41,176 shares,
respectively, were exercisable under the Director Plan. As a result of the
expiration of the Director Plan during fiscal 2000, no shares are available for
future grants. Both plans were subject to adjustments for stock dividends and
certain other changes to the Company's capitalization.
A summary of stock option transactions related to the stock option plans during
the three fiscal years ended February 28, 2004 is as follows:
Weighted Exercisable Shares
Weighted Average --------------------------
Average Fair Value Weighted
Exercise at Date Number of Average
Shares Price of Grant Shares Exercise Price
----------- -------- ---------- --------- --------------
Outstanding at March 3, 2001 6,716,981 $ 8.73 2,809,406 $ 8.07
Options granted 2,711,500 8.32 $ 4.59
Options exercised (937,619) 7.06
Options cancelled or expired (314,125) 9.90
----------
Outstanding at March 2, 2002 8,176,737 8.74 3,245,662 8.81
Options granted 2,814,000 20.39 9.70
Options exercised (1,469,450) 8.66
Options cancelled or expired (275,250) 9.56
----------
Outstanding at March 1, 2003 9,246,037 12.27 3,472,387 8.96
Options granted 2,984,000 19.41 8.67
Options exercised (1,033,370) 9.73
Options cancelled or expired (235,550) 16.32
----------
Outstanding at February 28, 2004 10,961,117 14.37 4,568,117 10.46
==========
For shares outstanding at February 28, 2004:
Weighted Weighted
Weighted Average Average
Average Remaining Shares Exercise Price -
Total Exercise Contractual Currently Exercisable
Ranges of Exercise Prices Shares Price Life Exercisable Shares
- ------------------------- --------- --------- ----------- ----------- ----------------
$3.22 - $8.50 3,751,192 $ 7.43 6.00 2,565,692 $ 7.05
$9.08 - $19.40 4,594,300 16.61 8.13 1,364,550 12.21
$20.35 - $21.00 2,615,625 20.39 8.58 637,875 20.41
The Company accounts for its stock options using the intrinsic value-based
method of accounting prescribed by APB Opinion No. 25, but is required to
disclose the pro forma effect on net income and earnings per share as if the
options were accounted for using a fair value-based method of accounting. For
purposes of computing pro forma net income and earnings per share, the fair
value of the stock options is amortized on a straight-line basis as compensation
expense over the vesting periods of the options. The fair values for options
issued in fiscal 2004, 2003 and 2002 have been estimated as of the date of grant
using the Black-Scholes or a similar option-pricing model with the following
weighted average assumptions:
2004 2003 2002
------ ------ ------
Weighted average fair value of options granted $ 8.67 $ 9.70 $ 4.59
Risk-free interest rates 3.00% 2.82% 3.75%
Expected stock price volatility 55.03% 56.98% 60.25%
Expected dividend yields 1.5% 1.5% 0.8%
Weighted average expected lives 5 years 5 years 6 years
Option valuation models are used in estimating the fair value of traded options
that have no vesting restrictions and are fully transferable. In addition,
option valuation models require the input of highly subjective assumptions,
including the expected stock price volatility and the average life of options.
Because the Company's stock options have characteristics significantly different
from those of traded options, and because changes in the subjective input
assumptions can materially affect the fair value estimate, in management's
opinion, the existing models do not necessarily provide a reliable single
measure of the fair value of its stock options.
SHARE PURCHASE RIGHTS PLAN - On December 9, 1994, the Board of Directors adopted
a Share Purchase Rights Plan and declared a dividend of one common stock
purchase right (a "Right") payable on each outstanding share of the Company's
common stock on December 21, 1994, and authorized the issuance of Rights for
subsequently issued shares of common stock. The Rights, which will expire on
December 21, 2004, are initially not exercisable, and until becoming exercisable
will trade only with the associated common stock. After the Rights become
exercisable, each Right entitles the holder to purchase at a specified exercise
price one share of common stock. The Rights will become exercisable after the
earlier to occur of (i) ten days following a public announcement that a person
or group of affiliated or associated persons have acquired beneficial ownership
of 15% or more of the outstanding common stock or (ii) ten business days (or
such later date as determined by the Board of Directors) following the
commencement of, or announcement of an intention to make, a tender or exchange
offer the consummation of which would result in beneficial ownership by a person
or group of 15% or more of the outstanding common stock. If the Company were
acquired in a merger or other business combination transaction or 50% or more of
its consolidated assets or earning power were sold, proper provision would be
made so that each Right would entitle its holder to purchase, upon the exercise
of the Right at the then current exercise price (currently the exercise price is
$14.81), that number of shares of common stock of the acquiring company having a
market value of twice the exercise price of the Right. If any person or group
were to acquire beneficial ownership of 15% or more of the Company's outstanding
common stock, each Right would entitle its holder (other than such acquiring
person whose Rights would become void) to purchase, upon the exercise of the
Right at the then current exercise price, that number of shares of the Company's
common stock having a market value on the date of such 15% acquisition of twice
the exercise price of the Right. The Board of Directors may at its option, at
any time after such 15% acquisition but prior to the acquisition of more than
50% of the Company's outstanding common stock, exchange all or part of the then
outstanding and exercisable Rights (other than those held by such acquiring
person whose Rights would become void) for common stock at an exchange rate per
Right of one-half the number of shares of common stock receivable upon exercise
of a Right. The Board of Directors may, at any time prior to such 15%
acquisition, redeem all the Rights at a redemption price of $.01 per Right.
SHARES RESERVED FOR FUTURE ISSUANCES - As of February 28, 2004, the Company had
approximately 112,255,000 shares reserved for future issuances under the stock
plans and the share purchase rights plan.
NOTE 10 - INCOME TAXES
The provision for income taxes for each of the last three fiscal years consists
of (in thousands):
2004 2003 2002
------- ------- -------
Federal:
Current $63,090 $52,175 $56,207
Deferred 152 17,555 (2,110)
State:
Current 4,776 3,961 3,909
Deferred 9 1,068 (128)
Foreign:
Current 1,265 1,104 910
Deferred 23 125 -
------- ------- -------
Provision for income taxes $69,315 $75,988 $58,788
======= ======= =======
Deferred tax assets and liabilities at February 28, 2004 and March 1, 2003 are
comprised of the following (in thousands):
2004 2003
-------- -------
Deferred tax assets:
Deferred compensation $ 15,271 $12,840
Accrued average rent 9,971 9,195
Losses of a foreign subsidiary 4,445 4,228
Self insurance reserves 5,236 3,485
Minimum pension liability adjustment 1,147 537
Foreign tax credit carryforward - 325
Other 3,962 1,357
-------- -------
40,032 31,967
Valuation allowance (4,593) (4,678)
-------- -------
Total deferred tax assets 35,439 27,289
-------- -------
Deferred tax liabilities:
Fixed assets, net (9,087) (4,380)
Inventory (21,064) (18,047)
-------- -------
Total deferred tax liabilities (30,151) (22,427)
-------- -------
Net deferred tax assets $ 5,288 $ 4,862
======== =======
The Company has settled and closed all Internal Revenue Service ("IRS")
examinations of the Company's tax returns for all years through fiscal 1999. The
IRS is currently auditing fiscal years 2000 and 2001. For financial reporting
purposes, a valuation allowance exists at February 28, 2004 to offset the net
deferred tax asset relating to the losses of a foreign subsidiary.
The difference between income taxes at the statutory federal income tax rate of
35% in fiscal 2004, 2003 and 2002, and income tax reported in the consolidated
statements of operations is as follows (in thousands):
2004 2003 2002
-------- -------- --------
Tax at statutory federal
income tax rate $ 65,561 $ 71,881 $ 55,649
State income taxes, net of
federal benefit 3,878 4,277 3,387
Work opportunity tax credit,
foreign tax credit and
R&E credit (67) (67) (202)
Net foreign income taxed
at lower rates (429) (365) (101)
Other, net 372 262 55
-------- -------- --------
Provision for income taxes $ 69,315 $ 75,988 $ 58,788
======== ======== ========
NOTE 11 - COMMITMENTS AND CONTINGENCIES
LEASES - The Company leases certain property consisting principally of retail
stores, warehouses and material handling and office equipment under leases
expiring through the year 2021. Most retail store locations are leased for
primary terms of 10 to 15 years with varying renewal options and rent escalation
clauses. Certain leases provide for additional rental payments based on a
percentage of sales in excess of a specified base. The Company's lease
obligations are considered operating leases, and all payments are reflected in
the accompanying consolidated statements of operations.
During fiscal 2004, the Company completed a sale-leaseback transaction related
to its new distribution facility located in Savannah, Georgia. The resulting
15-year lease qualified for operating lease treatment. The Company received
$23.5 million in proceeds approximating the net book value of the facility at
the time of the sale. During fiscal 2003, the Company sold certain store
properties for $5.7 million. These stores were leased back from unaffiliated
third parties for periods of approximately five years. The resulting leases are
being accounted for as operating leases. The Company deferred gains of $0.4
million and recognized losses of $0.2 million in fiscal 2003 on these
sale-leaseback transactions; the gains are being amortized over the initial
primary terms of the leases. Future minimum lease commitments on these operating
leases are included in the summary below of the Company's operating leases.
At February 28, 2004, the Company had the following minimum lease commitments
and future subtenant receipts in the years indicated (in thousands):
Operating Subtenant
Fiscal Year Leases Income
- ----------- ---------- -------
2005 $ 212,699 $ 495
2006 202,099 494
2007 185,215 213
2008 171,153 84
2009 153,315 18
Thereafter 525,432 24
---------- -------
Total lease commitments $1,449,913 $ 1,328
========== =======
Present value of total operating lease
commitments discounted at 10% $ 962,275
==========
Rental expense incurred was $212,227,000, $183,745,000 and $159,461,000,
including contingent rentals of $801,000, $816,000 and $921,000, based upon a
percentage of sales, and net of sublease incomes totaling $348,000, $507,000 and
$1,191,000 in fiscal 2004, 2003 and 2002, respectively.
LEGAL MATTERS - During fiscal 2004, the Company recorded a pre-tax charge of
$2.6 million in a settlement of and legal fees related to a class action lawsuit
in California regarding compensation matters. In addition to this matter, there
are various other claims, lawsuits, investigations and pending actions against
the Company and its subsidiaries incident to the operations of its business.
Liability, if any, associated with these other matters is not determinable at
February 28, 2004; however, the Company considers them to be ordinary and
routine in nature. The Company maintains liability insurance against most of
these claims. While certain of the lawsuits involve substantial amounts, it is
the opinion of management, after consultation with counsel, that the ultimate
resolution of such litigation will not have a material adverse effect on the
Company's financial position, results of operations or liquidity.
NOTE 12 - SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED)
Summarized quarterly financial data for the years ended February 28, 2004 and
March 1, 2003 are set forth below (in thousands except per share amounts):
Three Months Ended
------------------------------------------------------
Fiscal 2004 5/31/2003 8/30/2003 11/29/2003 2/28/2004
- ----------- ---------- --------- ---------- ---------
Net sales $ 402,712 427,831 482,444 555,256
Gross profit $ 168,197 169,112 208,098 236,213
Net income $ 19,062 18,436 32,194 48,309
Basic earnings per share $ .21 .21 .36 .55
Diluted earnings per share $ .21 .20 .35 .53
Three Months Ended
-----------------------------------------------------
Fiscal 2003 6/1/2002 8/31/2002 11/30/2002 3/1/2003
- ----------- ---------- --------- ---------- --------
Net sales $ 384,429 410,902 438,501 521,035
Gross profit $ 163,993 164,929 191,760 232,723
Net income $ 22,181 22,073 31,100 54,032
Basic earnings per share $ .24 .24 .34 .59
Diluted earnings per share $ .23 .23 .33 .57
MARKET PRICE AND DIVIDEND INFORMATION
The Company's common stock is traded on the New York Stock Exchange. The
following tables show the high and low closing sale prices on the Exchange, as
reported in the consolidated transaction reporting system, and the dividends
paid per share, for each quarter of fiscal 2004 and 2003.
Market Price
----------------- Cash Dividends
Fiscal 2004 High Low per Share(1)
- ----------- ------- ------- --------------
First quarter $ 20.76 $ 14.85 $ .06
Second quarter 21.80 17.52 .08
Third quarter 26.15 18.56 .08
Fourth quarter 26.19 20.15 .08
Market Price
----------------- Cash Dividends
Fiscal 2003 High Low per Share(1)
- ----------- ------- ------- --------------
First quarter $ 23.95 $ 19.76 $ .05
Second quarter 22.54 15.20 .05
Third quarter 20.43 16.27 .05
Fourth quarter 21.20 15.35 .06
(1) For restrictions on the payments of dividends, see Management's
Discussion and Analysis of Financial Condition and Results of
Operations - Liquidity and Capital Resources.