Item 1.
Business
General
Belk, Inc., together with its subsidiaries (collectively, the “Company” or “Belk”), is the largest privately owned mainline department store business in the United States, with 305 stores in 16 states, primarily in the southern United States. The Company generated revenues of $3.3 billion for the fiscal year ended January 30, 2010, and together with its predecessors, has been successfully operating department stores since 1888 by seeking to provide superior service and merchandise that meets customers’ needs for fashion, value and quality.
The Company’s fiscal year ends on the Saturday closest to each January 31. All references to fiscal years are as follows:
Belk stores seek to provide customers the convenience of one-stop shopping, with an appealing merchandise mix and extensive offerings of brands, styles, assortments and sizes. Belk stores sell top national brands of fashion apparel, shoes and accessories for women, men and children, as well as cosmetics, home furnishings, housewares, fine jewelry, gifts and other types of quality merchandise. The Company also sells exclusive private label brands, which offer customers differentiated merchandise selections. Larger Belk stores may include hair salons, spas, restaurants, optical centers and other amenities.
Although the Company operates 96 stores that exceed 100,000 square feet in size, the majority of Belk stores range in size from 60,000 to 100,000 square feet. Most of the Belk stores are anchor tenants in major regional malls or in open-air shopping centers in medium and smaller markets. In the aggregate, the Belk stores occupy approximately 23.4 million square feet of selling space.
Management of Belk’s store operations is organized into three regional operating divisions, with each unit headed by a division chairman and a director of stores. Each division supervises a number of stores and maintains an administrative office in the markets served by the division. Division offices execute centralized initiatives at the individual stores, and their primary activities relate to providing management and support for the personnel, operations and maintenance of the Belk stores in their regions. These divisions are not considered segments for financial reporting purposes.
Belk Stores Services, Inc., a subsidiary of Belk, Inc., and its subsidiary Belk Administration Company, along with Belk International, Inc., a subsidiary of Belk, Inc., and its subsidiary, Belk Merchandising Company, LLC (collectively “BSS”), coordinate the operations of Belk stores on a company-wide basis. BSS provides a wide range of services to the Belk division offices and stores, such as merchandising, merchandise planning and allocation, advertising and sales promotion, information systems, human resources, public relations, accounting, real estate and store planning, credit, legal, tax, distribution and purchasing.
The Company was incorporated in Delaware in 1997. The Company’s principal executive offices are located at 2801 West Tyvola Road, Charlotte, North Carolina 28217-4500, and its telephone number is (704) 357-1000.
Business Strategy
Belk seeks to maximize its sales opportunities by providing quality merchandise assortments of fashion goods that differentiate its stores from competitors. The Company’s merchants and buyers monitor fashion merchandising trends, shop domestic and international markets and leverage relationships with key vendors in order to provide the latest seasonal assortments of most-wanted styles and brands of merchandise. Through merchandise planning and
allocation, the Company tailors its assortments to meet the particular needs of customers in each market. The Company conducts customer research and participates in market studies on an ongoing basis in order to obtain information and feedback from customers that will enable it to better understand their merchandise needs and service preferences.
The Company’s marketing and sales promotion strategy seeks to attract customers to shop at Belk by keeping them informed of the latest fashion trends, merchandise offerings, and sales promotions through a combination of advertising media, including direct mail, circulars, broadcast, Internet and in-store special events. Belk uses its proprietary database to communicate directly to key customer constituencies with special offers designed to appeal to these specific audiences. The sales promotions are designed to promote attractive merchandise brands and styles at compelling price values with adequate inventories planned and allocated to ensure that stores will be in stock on featured merchandise.
Belk strives to attract and retain talented, well-qualified associates who provide a high level of friendly, personal service to enhance the customer’s shopping experience. Belk associates are trained to be knowledgeable about the merchandise they sell, approach customers promptly, help when needed, and provide quick checkout. The Company desires to be an inclusive Company that embraces diversity among its associates, customers, and vendors. Its ongoing diversity program includes a number of company-wide initiatives aimed at increasing the diversity of its management and associate teams, increasing its spend with diverse vendors, creating awareness of diversity issues, and demonstrating the Company’s respect for, and responsiveness to, the rapidly changing cultural and ethnic diversity in Belk markets.
Belk also makes investments each year in information technology and process improvement in order to build and strengthen its business infrastructure. Its various information systems and Six Sigma process improvement initiatives are designed to improve the overall efficiency and effectiveness of the organization in order to improve operating performance and financial results.
Growth Strategy
In recent years, the Company has taken advantage of prudent opportunities to expand its store base by opening and expanding stores in new and existing markets in order to increase sales, market share and customer loyalty. In response to recent economic conditions and the significant decline in the number of new retail centers being developed, the Company has scaled back its store growth plans but will continue to explore strategic opportunities to open and expand stores where the Belk name and reputation are well known and in contiguous markets where Belk can distinguish its stores from the competition. The Company will also consider closing stores in markets where more attractive locations become available or where the Company does not believe there is potential for long term growth and success. In addition, the Company periodically reviews and adjusts its space requirements to create greater operating efficiencies and convenience for the customer.
The Company opened three new stores during fiscal year 2010 with a combined selling space of approximately 243,000 square feet and completed expansions of three existing stores. New stores and store expansions completed in fiscal year 2010 include:
New Stores
Store Expansions
In fiscal year 2011, the Company plans to open one new store that will have selling space of approximately 68,000 square feet. It also expects to complete major remodels of three existing stores. The Company has increased the amount of its anticipated capital expenditures for fiscal year 2011 primarily due to expansions and remodels, and other capital needs.
Merchandising
Belk stores feature quality name brand and private label merchandise in moderate to better price ranges, providing fashion, selection and value to customers. The merchandise mix is targeted to middle and upper income customers shopping for their families and homes, and includes a wide selection of fashion apparel, accessories and shoes for women, men and children, as well as cosmetics, home furnishings, housewares, gift and guild, jewelry, and other types of department store merchandise. The goal is to position Belk stores as the leaders in their markets in providing updated, fashionable assortments with depth in style, selection and value.
Belk stores offer complete assortments of many national brands. The Company has enjoyed excellent long-term relationships with many top apparel and cosmetics suppliers and is often the sole distributor of desirable apparel, accessories and cosmetic lines in its markets. Belk stores also offer exclusive private brands in selected merchandise categories that are designed and manufactured to provide compelling fashion assortments that meet customers’ needs and set Belk apart from competitors through their styling, quality and price. The Company’s private brands include Kim Rogers, Choices, ND - New Directions, Madison, Be Inspired, Sophie Max, Belk Silverworks, Saddlebred, Pro Tour, Red Camel, J. Khaki, Nursery Rhyme, Biltmore For Your Home, Mary Jane’s Farm, Home Accents, Lorena Garcia and Cook’s Tools.
In the fourth quarter of fiscal year 2010, Belk began a strategic initiative to strengthen its merchandising and planning organization. The Company plans to invest in additional staffing and enhanced merchandise information systems in order to improve buying and planning processes. The initiative seeks to enable Belk to better meet customers’ shopping needs by effectively tailoring merchandise assortments by market area. The Company will begin piloting the initiative in fiscal year 2011, with completion anticipated in fiscal year 2012.
In fiscal year 2007, the Company established its own fine jewelry business, with buying and administrative offices at the corporate office in Charlotte and a state of the art repair and distribution center located in Ridgeland, Mississippi. The shops replaced the Company’s former leased fine jewelry operations and offered expanded assortments of high quality diamond jewelry, rubies, emeralds and other fine gemstones, and top brands of fine watches and jewelry. As of the end of fiscal year 2010, the Company was operating 154 fine jewelry shops in its stores under the new “Belk and Co. Fine Jewelers” name.
Marketing and eCommerce
The Company employs strategic marketing initiatives to develop and enhance the equity of the Belk brand and to create and strengthen “one-to-one” relationships with customers. The Company’s marketing strategy involves a combination of mass media print and broadcast advertising, direct marketing, Internet marketing, comprehensive store visual merchandising and signing and in-store special events, such as trunk shows, celebrity and designer appearances, Charity Sale, Educator Appreciation Day, Healthcare Appreciation Day and Senior Day.
During the third quarter of fiscal year 2009, the Company launched a redesigned and expanded belk.com website and began operating a 142,000 square foot eCommerce fulfillment center in Pineville, NC to process handling and shipping of online orders. The website features a wide assortment of fashion apparel, accessories and shoes, plus a large selection of cosmetics, home and gift merchandise. Many leading national brands are offered at belk.com along with the Company’s exclusive private brands. The website also includes expanded information
about the Company, including history, career opportunities, community involvement, diversity initiatives, a Company newsroom, its Securities and Exchange Commission (“SEC”) filings, and more.
Gift Cards
The Company’s gift card program provides a convenient option for customer gift-giving and enables stores to issue electronic credits to customers in lieu of cash refunds for merchandise returned without sales receipts. Several types of gift cards are available, each featuring a distinctive design and appeal. During fiscal year 2010, the Company continued to expand its efforts to offer Belk gift cards for sale outside of Belk stores mainly in select grocery store outlets through partnerships with regional and national grocery store chains.
Salons and Spas
As of the end of fiscal year 2010, the Company owned and operated 23 hair styling salons in various store locations, 17 of which also offer spa services. The hair salons offer the latest hair styling services as well as wide assortments of top brand name beauty products, including Aveda, Bumble and Bumble and Redken. The spas offer massage therapy, full skincare, nail and pedicure services and other specialized body treatments. Eight of the salons and spas operate under the name “Carmen! Carmen! Prestige Salon and Spa at Belk,” two under the name “Richard Joseph Studio Salon/Spa at Belk,” and the balance under the name “Belk Salon and Spa.”
Belk Gift Registry
The Company’s gift registry offers a wide assortment of bridal merchandise that can be registered for and purchased online at belk.com or in local Belk stores and shipped directly to the customer or gift recipient. The gift registry is a fully integrated system that combines the best of Internet technology and in-store shopping. Brides and engaged couples can conveniently create their gift registry and make selections through the belk.com website, or they can go to a Belk store where a certified professional bridal consultant can provide assistance using the store’s online gift registry kiosk. In the Belk stores that have kiosks, brides and engaged couples can use a portable scanning device, which enables them to quickly and easily enter information on their gift selections directly into the registry system.
Belk Proprietary Charge Programs
In fiscal year 2010, Belk and GE Money Bank (“GE”), an affiliate of GE Consumer Finance, continued to plan and execute enhanced marketing programs designed to recognize and reward Belk card customers, attract profitable new customers and increase sales from existing card customers. The Company’s customer loyalty program (“Belk Rewards”) issues certificates for discounts on future purchases to Belk card customers based on their spending levels. The rewards program is cumulative, issuing a $10 certificate for every 400 points earned in a calendar year. Belk card customers whose purchases total $600 or more in a calendar year qualify for a Belk Premier card that entitles them to unlimited free gift wrapping and basic alterations, an interest-free 0% Premier Plan account and notifications of special savings and sales events. Customers who spend more than $2,500 annually at Belk qualify for a Belk Elite Card that offers additional benefits, including a specially designed black Elite credit card, triple points events, a 20% off birthday shopping pass, points that never expire, quarterly Pick Your Own Sale Days and free shipping coupons.
Systems and Technology
The Company continued to invest in technology and information systems during fiscal year 2010 to support sales and merchandising initiatives, reduce costs, improve core business processes and support its overall business strategy. Key systems initiatives included enhancements to the belk.com website and its customer fulfillment center, implementation of price optimization and product life cycle management software, supply chain enhancements and the outsourcing of application maintenance, support and development functions. Belk continues to invest in its information systems and new technology in order to expand its Internet business and provide improved decision making tools that enable management to react quickly to changing sales trends, improve merchandise mix, distribute merchandise based on individual market needs and manage inventory levels based on customer demand.
Inventory Management and Logistics
The Company operates four distribution facilities that receive and process merchandise for delivery to Belk stores and belk.com customers. A 371,000 square foot distribution center in Blythewood, SC services the stores located in the northern and eastern areas of the Company’s footprint, a 174,000 square foot distribution center at the Greater Jackson Industrial Park in Byram, MS services the central and western areas and an 8,300 square foot distribution center in Ridgeland, MS services the Company’s fine jewelry operations. During fiscal year 2009, the Company opened a 142,000 square foot direct-to-consumer eCommerce fulfillment center in Pineville, NC to process orders from its belk.com website. The Company’s “store ready” merchandise receiving processes enable stores to receive and process merchandise shipments and move goods to the sales floor quickly and efficiently. Additionally, the Company continued the implementation of “eco-friendly” initiatives aimed at fulfilling the Company’s commitment to be a good steward of the environment by eliminating waste, conserving energy, using resources more responsibly and embracing and promoting sustainable practices.
Non-Retail Businesses
Several of the Company’s subsidiaries engage in businesses that indirectly or directly support the operations of the retail department stores. The non-retail businesses include United Electronic Services (“UES”), a division of the Company, which provides equipment maintenance services to Belk stores and third parties.
Industry and Competition
The Company operates department stores in the highly competitive retail industry. Management believes that the principal competitive factors for retail department store operations include merchandise selection, quality, value, customer service and convenience. The Company believes its stores are strong competitors in all of these areas. The Company’s primary competitors are traditional department stores, mass merchandisers, national apparel chains, individual specialty apparel stores and direct merchant firms, including J.C. Penney Company, Inc., Dillard’s, Inc., Kohl’s Corporation, Macy’s, Inc., Sears Holding Corporation, Target Corporation and Wal-Mart Stores, Inc.
Trademarks and Service Marks
Belk Stores Services, Inc. owns all of the principal trademarks and service marks now used by the Company, including “Belk.” These marks are registered with the United States Patent and Trademark Office. The term of each of these registrations is generally ten years, and they are generally renewable indefinitely for additional ten-year periods, so long as they are in use at the time of renewal. Most of the trademarks, trade names and service marks employed by the Company are used in its private brands program. The Company intends to vigorously protect its trademarks and service marks and initiate appropriate legal action whenever necessary.
Seasonality and Quarterly Fluctuations
Due to the seasonal nature of the retail business, the Company has historically experienced and expects to continue to experience seasonal fluctuations in its revenues, operating income and net income. A disproportionate amount of the Company’s revenues and a substantial amount of operating and net income are realized during the fourth quarter, which includes the holiday selling season. Working capital requirements also fluctuate during the year, increasing somewhat in mid-summer in anticipation of the fall merchandising season and increasing substantially prior to the holiday selling season when the Company carries higher inventory levels. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Seasonality and Quarterly Fluctuations.”
Associates
As of the end of fiscal year 2010, the Company had approximately 23,880 full-time and part-time associates. Because of the seasonal nature of the retail business, the number of associates fluctuates from time to time and is highest during the holiday shopping period in November and December. The Company as a whole considers its
relations with associates to be good. None of the associates of the Company are represented by unions or subject to collective bargaining agreements.
Where You Can Find More Information
The Company makes available free of charge through its website, www.belk.com, its annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, proxy statements and amendments to those reports filed pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended, as soon as reasonably practicable after the Company files such material with, or furnishes it to, the SEC.
Item 1A.
Item 1A.
Risk Factors
Certain statements made in this report, and other written or oral statements made by or on our behalf, may constitute “forward-looking statements” within the meaning of the federal securities laws. Statements regarding future events and developments and our future performance, as well as our expectations, beliefs, plans, estimates or projections relating to the future, are forward-looking statements within the meaning of these laws. You can identify these forward-looking statements through our use of words such as “may,” “will,” “intend,” “project,” “expect,” “anticipate,” “believe,” “estimate,” “continue” or other similar words.
Forward-looking statements include information concerning possible or assumed future results from merchandising, marketing and advertising in our stores and through the Internet, general economic conditions, our ability to be competitive in the retail industry, our ability to execute profitability and efficiency strategies, our ability to execute growth strategies, anticipated benefits from our strategic initiative to strengthen our merchandising and planning organizations, anticipated benefits from the redesign of our belk.com website and our eCommerce fulfillment center, the expected benefit of new systems and technology, anticipated benefits from our acquisitions and the anticipated benefit under our Program Agreement with GE. These forward-looking statements are subject to certain risks and uncertainties that may cause our actual results to differ significantly from the results we discuss in such forward-looking statements.
We believe that these forward-looking statements are reasonable. However, you should not place undue reliance on such statements. Any such forward-looking statements are qualified by the following important risk factors and other risks which may be disclosed from time to time in our filings that could cause actual results to differ materially from those predicted by the forward-looking statements. Forward-looking statements relate to the date initially made, and we undertake no obligation to update them.
General Economic, Political and Business Conditions
General economic, political and business conditions, nationally and in our market areas, are beyond our control. These factors influence our forecasts and impact actual performance. Factors include rates of economic growth, interest rates, inflation or deflation, consumer credit availability, levels of consumer debt and bankruptcies, tax rates and policy, unemployment trends, potential acts of terrorism and threats of such acts and other matters that influence consumer confidence and spending. Consumer purchases of discretionary items, including our merchandise, generally decline during recessionary periods and other periods where disposable income is adversely affected. The downturn in the economy during fiscal years 2009 and 2010 has affected, and will continue to affect for an undetermined period of time, consumer purchases of our merchandise. The precise future impact and duration of the downturn is uncertain, but it could continue to adversely impact our results of operations and continued growth.
Debt Covenants
Our failure to comply with debt covenants could adversely affect capital resources, financial condition and liquidity. Our debt agreements contain certain restrictive financial covenants, which include a leverage ratio, consolidated debt to consolidated capitalization ratio and a fixed charge coverage ratio. As of January 30, 2010, we were in compliance with our debt covenants. Continued worsening of the economy could further reduce consumer purchases of our merchandise and adversely impact our results of operations and continued growth. If we fail to comply with our debt covenants as a result of one or more of the factors listed above, we could be forced to settle
outstanding debt obligations, negatively impacting cash flows. Our ability to obtain future financing could also be negatively impacted.
Anticipating Customer Demands
Our business depends upon the ability to anticipate the demands of our customers for a wide variety of merchandise and services. We routinely make predictions about the merchandise mix, quality, style, service, convenience and credit availability of our customers. If we do not accurately anticipate changes in buying, charging and payment behavior among our customers, or consumer tastes, preferences, spending patterns and other lifestyle decisions, it could result in an inventory imbalance and adversely affect our performance and our relationships with our customers.
Effects of Weather
Unseasonable and extreme weather conditions in our market areas affect our business. Apparel comprises a majority of our sales. If the weather in our market areas is unseasonably warm or cold for an extended period of time, it can affect the timing of apparel purchases by our customers and result in an inventory imbalance. In addition, frequent or unusually heavy snow or ice storms, hurricanes or tropical rain storms in our market areas may decrease customer traffic in our stores and adversely affect our performance.
Seasonal Fluctuations
We experience seasonal fluctuations in quarterly net income due to a number of factors. A significant portion of our revenues are generated during the holiday season in the fourth fiscal quarter. Because we order merchandise in advance of our peak season, we carry a significant amount of inventory during that time. A decrease in the availability of working capital needed in the months before the peak period could impact our ability to build up an appropriate level of merchandise in our stores. If we do not order the merchandise mix demanded by our customers or if there is a decrease in customer spending during the peak season, we may be forced to rely on markdowns or promotional sales to dispose of the inventory.
Highly Competitive Industry
We face competition from other department and specialty stores and other retailers, including luxury goods retailers, general merchandise stores, Internet retailers, mail order retailers and off-price and discount stores in the highly competitive retail industry. Competition is characterized by many factors, including price, merchandise mix, quality, style, service, convenience, credit availability and advertising. We have expanded and continue to expand into new markets served by our competitors and face the entry of new competitors into or expansion of existing competitors in our existing markets, all of which further increase the competitive environment and cause downward pressure on prices and reduced margins. Although we offer on-line gift registry and Internet purchasing options for certain merchandise categories, we rely on in-store sales for a substantial majority of our revenues. A significant shift in customer buying patterns from in-store purchases to purchases via the Internet could impact our business.
Advertising, Marketing and Promotional Campaigns
We spend significant amounts on advertising, marketing and promotional campaigns. Our business depends on effective marketing to generate high customer traffic in our stores and, to a lesser degree, through on-line sales. If our advertising, marketing and promotional efforts are not effective, this could impact our results.
Merchandise Sourcing
Our merchandise is sourced from a wide variety of domestic and international vendors. Our ability to find qualified vendors, including the vendor’s ability to secure adequate financing and obtain access to products in a timely and efficient manner, could be a significant challenge, especially with respect to goods sourced outside the United States. Political or financial instability, trade restrictions, tariffs, transport capacity, costs and other factors relating to foreign trade are beyond our control, and we may experience supply problems or untimely delivery of
merchandise as a result. If we are not able to source merchandise at an acceptable price and in a timely manner, it could impact our results.
Credit Card Operations
In fiscal year 2006, we sold our proprietary credit card business to, and entered into a 10-year strategic alliance with GE to operate our private label credit card business. Sales of merchandise and services are facilitated by these credit card operations. We receive income from GE relating to the credit card operations based on a variety of variables, but primarily from the amount of purchases made through the proprietary credit cards. The income we receive from this alliance and the timing of receipt of payments will vary based on changes in customers’ credit card use, and GE’s ability to extend credit to our customers, all of which can vary based on changes in federal and state banking and consumer protection laws and from a variety of economic, legal, social, and other factors that we cannot control.
Inventory Levels
We purchase inventory at levels that match anticipated sales. If we do not correctly anticipate the levels and our inventories become too large, we may have to take markdowns and decrease the sales price of significant amounts of inventory, which could reduce our revenues and profitability.
Expense Management
Our performance depends on appropriate management of our expense structure, including our selling, general and administrative costs. If we fail to meet our anticipated cost structure based on our anticipated sales level or to appropriately reduce expenses during a weak sales environment, our results of operations could be adversely affected.
Store Growth
Our ability to identify strategic opportunities to open new stores, or to remodel or expand existing stores, will depend in part upon general economic conditions and the availability of existing retail stores or store sites on acceptable terms. It will also depend on our ability to successfully execute our retailing concept in new markets and geographic regions. Increases in real estate, construction and development costs, consolidation or viability of prospective developers and the availability of financing to potential developers could limit our growth opportunities. If consumers are not receptive to us in new markets or regions, our financial performance could be adversely affected. In addition, we will need to identify, hire and retain a sufficient number of qualified personnel to work in our new stores.
Logistics, Distribution and Information Technology
We currently operate distribution centers in South Carolina and Mississippi that service all of our stores and an eCommerce fulfillment center in North Carolina that processes belk.com customer orders. The efficient operation of our business is dependent on receiving and distributing merchandise in a cost-effective and timely manner. We also rely on information systems to effectively manage sales, distribution, merchandise planning and allocation functions. We are continuing to implement software technology to assist with these functions. If we do not effectively operate the distribution network or if information systems fail to perform as expected, our business could be disrupted.
eCommerce
In fiscal year 2009, we launched a substantially updated and redesigned website that enhanced customers’ online shopping capabilities, offered expanded merchandise assortments and enabled customers to access a broader range of our information online, including current sales promotions, special events and corporate information. We also began operating a new fulfillment facility to process and ship merchandise purchased through our website. If we do not successfully meet the systems challenges of operating the website consistently and of efficiently
operating the fulfillment center, our financial performance could be adversely affected. In addition, if customers are not receptive to our eCommerce offerings, revenues and profitability could be adversely impacted.
Integrating and Operating Acquired Stores
In fiscal year 2006, we acquired Proffitt’s and McRae’s stores from Saks Incorporated and in fiscal year 2007, we acquired Parisian stores from Saks Incorporated. In fiscal year 2007, we also acquired assets of Migerobe, Inc. and in fiscal year 2008, took over the operation of formerly leased fine jewelry operations in a number of our stores. We may make further acquisitions in the future. In order to realize the planned efficiencies from our acquisitions, we must effectively integrate and operate these stores and departments. Our operating challenges and management responsibilities increase as we grow. To successfully integrate and operate acquired businesses, we face a number of challenges, including entering markets in which we have no direct prior experience; maintaining uniform standards, controls, procedures and policies in the newly-acquired stores and departments; extending technologies and personnel; and effectively supplying the newly-acquired stores and departments.
Outsourcing Certain Business Support Relationships
Some business support processes are outsourced to third parties. We make a diligent effort to ensure that all providers of outsourced services are observing proper internal control practices, including secure data transfers between us and the third-party vendor; however, there are no guarantees that failures will not occur. Failure of third parties to provide adequate services could have an adverse effect on our results of operations, financial condition or ability to accomplish our financial and management reporting.
Other Factors
Other factors that could cause actual results to differ materially from those predicted include: our ability to obtain capital to fund any growth or expansion plans; our ability to hire and retain key personnel; changes in laws and regulations, including changes in accounting standards, tax statutes or regulations, environmental and land use regulations; uncertainties of litigation; and labor strikes or other work interruptions.
Item 1B.
Item 1B.
Unresolved Staff Comments
None.
Item 2.
Item 2.
Properties
Store Locations
As of the end of fiscal year 2010, the Company operated a total of 305 retail stores, with approximately 23.4 million selling square feet, in the following 16 states:
Belk stores are located in regional malls (158), strip shopping centers (93), “power” centers (27) and “lifestyle” centers (23). Additionally, there are four freestanding stores. Approximately 80% of the gross square footage of the typical Belk store is devoted to selling space to ensure maximum operating efficiencies. New and renovated stores feature the latest in retail design, including updated exteriors and interiors. The interiors are designed to create an exciting, comfortable and convenient shopping environment for customers. They include the latest lighting and merchandise fixtures, as well as quality decorative floor and wall coverings and other special decor. The store layout is designed for ease of shopping, and store signage is used to help customers identify and locate merchandise.
As of the end of fiscal year 2010, the Company owned 77 store buildings, leased 169 store buildings under operating leases and owned 75 store buildings under ground leases. The typical operating lease has an initial term of between 15 and 20 years, with four renewal periods of five years each, exercisable at the Company’s option. The typical ground lease has an initial term of 20 years, with a minimum of four renewal periods of five years each, exercisable at the Company’s option.
Non-Store Facilities
The Company also owns or leases the following distribution centers, division offices and headquarters facilities:
Other
The Company owns or leases various other real properties, including primarily former store locations. Such property is not material, either individually or in the aggregate, to the Company’s consolidated financial position or results of operations.
Item 3.
Item 3.
Legal Proceedings
In the ordinary course of business, the Company is subject to various legal proceedings and claims. The Company believes that the ultimate outcome of these matters will not have a material adverse effect on its consolidated financial position or results of operations.
Item 4.
Item 4.
Reserved
PART II
Item 5.
Item 5.
Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
In fiscal year 2010, there was no established public trading market for either the Belk Class A Common Stock, par value $.01 per share (the “Class A Common Stock”) or the Belk Class B Common Stock, par value $.01 per share (the “Class B Common Stock”). There were limited and sporadic quotations of bid and ask prices for the Class A Common Stock and the Class B Common Stock in the Pink Sheets and on the Over the Counter Bulletin Board under the symbols “BLKIA” and “BLKIB,” respectively. As of January 30, 2010, there were approximately 599 holders of record of the Class A Common Stock and 363 holders of record of the Class B Common Stock.
On April 1, 2010, the Company declared a regular dividend of $0.40 and a special one-time additional dividend of $0.40 on each share of the Class A and Class B Common Stock outstanding on that date. On April 1, 2009 and April 2, 2008, the Company declared a regular dividend of $0.20 and $0.40, respectively, on each share of the Class A and Class B Common Stock outstanding on those dates. The amount of dividends paid out with respect to fiscal year 2011 and each subsequent year will be determined at the sole discretion of the Board of Directors based upon the Company’s results of operations, financial condition, cash requirements and other factors deemed relevant by the Board of Directors. For a discussion of the Company’s debt facilities and their restrictions on dividend payments, see “Liquidity and Capital Resources” in “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” There were no purchases of issuer equity securities during the fourth quarter of fiscal year 2010.
Item 6.
Item 6.
Selected Financial Data
The following selected financial data are derived from the consolidated financial statements of the Company.
(1)
The Company previously presented amounts due from vendors on a gross basis due to systems constraints and the lack of available information in fiscal year 2009 and prior. In the current year, the Company has presented amounts due from vendors on a net basis, and revised amounts presented in the fiscal year 2009 balance sheet for comparability purposes. This transaction caused a reduction in accounts receivable for fiscal years 2010 and 2009.
Item 7.
Item 7.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
Overview
Belk, Inc., together with its subsidiaries (collectively, the “Company” or “Belk”), is the largest privately owned mainline department store business in the United States, with 305 stores in 16 states, primarily in the southern United States. The Company generated revenues of $3.3 billion for the fiscal year ended January 30, 2010, and together with its predecessors, has been successfully operating department stores since 1888 by seeking to provide superior service and merchandise that meets customers’ needs for fashion, value and quality.
The Company’s fiscal year ends on the Saturday closest to each January 31. All references to fiscal years are as follows:
The Company’s total revenues decreased 4.4% in fiscal year 2010 to $3.3 billion. Comparable store sales decreased 4.6% as a result of a significant decline in consumer spending during the first half of fiscal year 2010 that
was partially offset by improved sales trends in the second half of fiscal year 2010. Comparable store revenue includes stores that have reached the one-year anniversary of their opening as of the beginning of the fiscal year, but excludes closed stores. Net income was $67.1 million or $1.39 per basic and diluted share in fiscal year 2010 compared to a net loss of $213.0 million or $4.35 per basic and diluted share in fiscal year 2009. The increase in net income (loss) reflects the after-tax impact of a goodwill impairment charge taken in the previous fiscal year, plus corporate initiatives that produced improved merchandise margins and reduced expenses. The Company recorded a non-cash goodwill impairment charge of $326.6 million in the fourth quarter of fiscal year 2009 as a result of the decline in the fair value of the goodwill as determined in the Company’s annual goodwill impairment test. As a result of this goodwill impairment charge, the Company had an operating loss of $232.6 million in fiscal year 2009 compared to operating income of $147.4 million in fiscal year 2010.
As of the end of fiscal year 2010, the Company operated 305 retail department stores in 16 states, primarily in the southern United States. Belk stores seek to provide customers the convenience of one-stop shopping, with an appealing merchandise mix and extensive offerings of brands, styles, assortments and sizes. Belk stores sell top national brands of fashion apparel, shoes and accessories for women, men and children, as well as cosmetics, home furnishings, housewares, fine jewelry, gifts and other types of quality merchandise. The Company also sells exclusive private label brands, which offer customers differentiated merchandise selections. Larger Belk stores may include hair salons, spas, restaurants, optical centers and other amenities.
The Company seeks to be the leading department store in its markets by selling merchandise to customers that meets their needs for fashion, selection, value, quality and service. To achieve this goal, Belk’s business strategy focuses on quality merchandise assortments, effective marketing and sales promotional strategies, attracting and retaining talented, well-qualified associates to deliver superior customer service, and operating efficiently with investments in information technology and process improvement.
The Company operates retail department stores in the highly competitive retail industry. Management believes that the principal competitive factors for retail department store operations include merchandise selection, quality, value, customer service and convenience. The Company believes its stores are strong competitors in all of these areas. The Company’s primary competitors are traditional department stores, mass merchandisers, national apparel chains, individual specialty apparel stores and direct merchant firms, including J.C. Penney Company, Inc., Dillard’s, Inc., Kohl’s Corporation, Macy’s, Inc., Sears Holding Corporation, Target Corporation and Wal-Mart Stores, Inc.
In recent years, the Company has taken advantage of prudent opportunities to expand its store base by opening and expanding stores in new and existing markets in order to increase sales, market share and customer loyalty. In response to recent economic conditions and the significant decline in the number of new retail centers being developed, the Company has scaled back its store growth plans but will continue to explore strategic opportunities to open and expand stores where the Belk name and reputation are well known and in contiguous markets where Belk can distinguish its stores from the competition. The Company will also consider closing stores in markets where more attractive locations become available or where the Company does not believe there is potential for long term growth and success. In addition, the Company periodically reviews and adjusts its space requirements to create greater operating efficiencies and convenience for the customer. In fiscal year 2010, the Company decreased net store selling square footage by 0.8 million square feet, or 3.3%, primarily due to store closures and space reductions, offset by new stores and expansions. In fiscal year 2011, the Company plans to open one new store that will have selling space of approximately 68,000 square feet, and expects to complete the renovation of three existing stores.
eCommerce
During the third quarter of fiscal year 2009, the Company launched a redesigned and expanded belk.com website and began operating a 142,000 square foot eCommerce fulfillment center in Pineville, NC to process handling and shipping of online orders. The website features a wide assortment of fashion apparel, accessories and shoes, plus a large selection of cosmetics, home and gift merchandise. Many leading national brands are offered at belk.com along with the Company’s exclusive private brands. The website also includes expanded information about the Company, including history, career opportunities, community involvement, diversity initiatives, a Company newsroom, its Securities and Exchange Commission (“SEC”) filings, and more.
Results of Operations
The following table sets forth, for the periods indicated, the percentage relationship to revenues of certain items in the Company’s consolidated statements of income and other pertinent financial and operating data.
The Company’s store and eCommerce operations have been aggregated into one operating segment due to their similar economic characteristics, products, production processes, customers and methods of distribution. These operations are expected to continue to have similar characteristics and long-term financial performance in future periods.
The following table gives information regarding the percentage of revenues contributed by each merchandise area for each of the last three fiscal years. There were no material changes between fiscal years, as reflected in the table below.
Comparison of Fiscal Years Ended January 30, 2010 and January 31,
Revenues. In fiscal year 2010, the Company’s revenues decreased 4.4%, or $0.2 billion, to $3.3 billion from $3.5 billion in fiscal year 2009. The decrease was primarily attributable to a 4.6% decrease in revenues from
comparable stores and a $15.0 million decrease in revenues due to closed stores, partially offset by an increase in revenues from new stores of $24.8 million.
Cost of Goods Sold. Cost of goods sold was $2.3 billion, or 67.9% of revenues in fiscal year 2010 compared to $2.4 billion, or 69.4% of revenues in fiscal year 2009. The decrease in cost of goods sold of $158.4 million was primarily due to the revenue decline. The decrease as a percentage of revenues was primarily attributable to reduced markdown activity.
Selling, General and Administrative Expenses. Selling, general and administrative (“SG&A”) expenses were $886.3 million, or 26.5% of revenues in fiscal year 2010, compared to $947.6 million, or 27.1% of revenues in fiscal year 2009. The decrease in SG&A expenses of $61.3 million was primarily due to reductions in selling and sales support payroll, benefits, and advertising expenses totaling $49.5 million in response to the declining sales environment. The effect of these decreases as a percentage of revenues was partially offset by the de-leveraging experienced as a result of the decline in revenues for fiscal year 2010.
Goodwill impairment. The Company recorded a goodwill impairment charge of $326.6 million in fiscal year 2009. The Company’s annual goodwill impairment measurement date was its fiscal year end and as a result of the decline in the fair value of the Company’s goodwill, the Company recorded a goodwill impairment charge during the fourth quarter of fiscal year 2009. The Company determined the fair value of goodwill through various valuation techniques including discounted cash flows and market comparisons. The impairment of goodwill was a non-cash impairment charge and did not affect the Company’s compliance with financial covenants under its various debt agreements.
Gain on sale of property and equipment. Gain on sale of property and equipment was $2.0 million for fiscal year 2010 compared to $4.1 million for fiscal year 2009. The fiscal year 2010 gain was primarily due to the $2.6 million of amortization of the deferred gain on the sale and leaseback of the Company’s headquarters building located in Charlotte, NC, offset by a $0.6 million loss on the abandonment of property and equipment. The fiscal year 2009 gain was primarily due to a $1.3 million gain on the sale of the Parisian headquarters facility and adjacent land parcels and the $2.6 million of amortization of the deferred gain on the sale and leaseback of the Company’s headquarters building.
Other Asset Impairment and Exit Costs. In fiscal year 2010, the Company recorded $38.5 million in impairment charges primarily to adjust eight retail locations’ net book values to fair value, a $1.0 million charge for real estate holding costs and other store closing costs, and $0.4 million in exit costs comprised primarily of severance costs associated with the outsourcing of certain information technology functions. The Company determines fair value of its retail locations primarily based on the present value of future cash flows. In fiscal year 2009, the Company recorded $27.1 million in impairment charges to adjust nine retail locations’ net book values to fair value, $3.5 million in exit costs comprised primarily of severance costs associated with the outsourcing of certain information technology and support functions and corporate realignment of functional areas, and a $1.0 million charge for real estate holding costs and other store closing costs.
Pension curtailment charge. A one-time pension curtailment charge of $2.7 million in the third quarter of fiscal year 2010 resulted from the decision to freeze the Company’s defined benefit plan, effective December 31, 2009, for those remaining participants whose benefits were not previously frozen in fiscal year 2006.
Interest Expense. In fiscal year 2010, the Company’s interest expense decreased $4.2 million, or 7.5%, to $51.3 million from $55.5 million for fiscal year 2009. The decrease was primarily due to weighted average interest rates being lower in fiscal year 2010 compared to fiscal year 2009.
Interest Income. In fiscal year 2010, the Company’s interest income decreased $3.6 million, or 78.0%, to $1.0 million from $4.7 million in fiscal year 2009. The decrease was primarily due to significantly lower market interest rates in fiscal year 2010 as compared to fiscal year 2009.
Income tax expense (benefit). Income tax expense for fiscal year 2010 was $30.1 million, or 30.9%, compared to income tax benefit of $70.3 million, or 24.8%, for the same period in fiscal year 2009. The effective tax rate was lower for fiscal year 2009 as a result of the impairment of the Company’s $326.6 million goodwill, of which $90.3 million was not deductible for income tax purposes.
Comparison of Fiscal Years Ended January 31, 2009 and February 2,
Revenues. In fiscal year 2009, the Company’s revenues decreased 8.5%, or $0.3 billion, to $3.5 billion from $3.8 billion in fiscal year 2008. The decrease was primarily attributable to an 8.7% decrease in revenues from comparable stores and a $75.8 million decrease in revenues due to closed stores partially offset by an increase in revenues from new stores of $69.0 million.
Cost of Goods Sold. Cost of goods sold was $2.4 billion, or 69.4% of revenues in fiscal year 2009 compared to $2.6 billion, or 68.9% of revenues in fiscal year 2008. The increase in cost of goods sold as a percentage of revenues for fiscal year 2009 was due primarily to a 0.45% increase in occupancy costs as a percentage of revenues due to rising rent associated with new stores and real estate taxes on a declining revenue base.
Selling, General and Administrative Expenses. SG&A expenses were $947.6 million, or 27.1% of revenues in fiscal year 2009, compared to $982.4 million, or 25.7% of revenues in fiscal year 2008. The decrease in SG&A expenses of $34.8 million was due to reductions in selling related payroll expense of $19.8 million in response to the declining sales environment, as well as a decrease in one-time acquisition-related expenses of $15.8 million. The increase in SG&A expenses as a percentage of revenues was primarily due to the 8.5% decline in revenue, which more than offset the improvement resulting from the decrease in the dollar amount of SG&A expenses.
Goodwill impairment. The Company recorded a goodwill impairment charge of $326.6 million in fiscal year 2009. The Company’s annual goodwill impairment measurement date was its fiscal year end and as a result of the decline in the fair value of the Company’s goodwill, the Company recorded a goodwill impairment charge during the fourth quarter of fiscal year 2009. The Company determines the fair value of goodwill through various valuation techniques including discounted cash flows and market comparisons. The impairment of goodwill was a non-cash impairment charge and did not affect the Company’s compliance with financial covenants under its various debt agreements.
Gain on sale of property and equipment. Gain on sale of property and equipment was $4.1 million for fiscal year 2009 compared to $3.4 million for fiscal year 2008. The fiscal year 2009 gain was primarily due to a $1.3 million gain on the sale of the Parisian headquarters facility and adjacent land parcels and $2.6 million of amortization of the deferred gain on the sale and leaseback of the Company’s headquarters building located in Charlotte, NC. The fiscal year 2008 gain was primarily due to insurance recoveries on property and equipment for damaged store locations of $1.4 million and $2.5 million of amortization of the deferred gain on the sale and leaseback of the Company’s headquarters.
Other Asset Impairment and Exit Costs. In fiscal year 2009, the Company recorded $27.1 million in impairment charges to adjust nine retail locations’ net book values to fair value, $3.5 million in exit costs comprised primarily of severance costs associated with the outsourcing of certain information technology and support functions and corporate realignment of functional areas, and a $1.0 million charge for real estate holding costs and other store closing costs. The Company determines fair value of its retail locations primarily based on the present value of future cash flows. In fiscal year 2008, the Company recorded $8.0 million in impairment charges to adjust two retail locations’ net book values to fair value, a $1.8 million asset impairment charge for assets related to a software development project that was abandoned and a $1.0 million charge for real estate holding costs and other store closing costs.
Interest Expense. In fiscal year 2009, the Company’s interest expense decreased $10.5 million, or 15.9%, to $55.5 million from $66.0 million for fiscal year 2008. The decrease was primarily due to weighted average interest rates being lower in fiscal year 2009 compared to fiscal year 2008.
Interest Income. In fiscal year 2009, the Company’s interest income decreased $2.9 million, or 38.6%, to $4.7 million from $7.6 million in fiscal year 2008. The decrease was due primarily to decreases in market interest rates from fiscal year 2008 to fiscal year 2009.
Income tax expense (benefit). Income tax benefit for fiscal year 2009 was $70.3 million, or 24.8%, compared to income tax expense of $42.9 million, or 30.9%, for the same period in fiscal year 2008. The effective tax rate was lower for fiscal year 2009 as a result of the impairment of the Company’s $326.6 million goodwill, of which $90.3 million was not deductible for income tax purposes.
Seasonality and Quarterly Fluctuations
Due to the seasonal nature of the retail business, the Company has historically experienced and expects to continue to experience seasonal fluctuations in its revenues, operating income and net income. A disproportionate amount of the Company’s revenues and a substantial amount of operating and net income are realized during the fourth quarter, which includes the holiday selling season. If for any reason the Company’s revenues were below seasonal norms during the fourth quarter, the Company’s annual results of operations could be adversely affected. The Company’s inventory levels generally reach their highest levels in anticipation of increased revenues during these months.
The following table illustrates the seasonality of revenues by quarter as a percentage of the full year for the fiscal years indicated.
The Company’s quarterly results of operations could also fluctuate significantly as a result of a variety of factors, including the timing of new store openings.
Liquidity and Capital Resources
The Company’s primary sources of liquidity are cash on hand, cash flows from operations, and borrowings under debt facilities, which consist of a $675.0 million credit facility that matures in October 2011 and $325.0 million in senior notes. On March 30, 2009, the Company amended its $725.0 million credit facility to revise the debt covenants, and reduce available borrowings to $675.0 million, of which a $325.0 million term loan was outstanding at January 30, 2010 and January 31, 2009. Under the amended credit facility, the Company has a $350.0 million revolving line of credit, and allows for up to $200.0 million of outstanding letters of credit. During the fourth quarter of fiscal year 2009, the Company made a $25.0 million discretionary payment on the amount outstanding under the credit facility.
The credit facility charges interest based upon certain Company financial ratios and the interest spread was calculated at January 30, 2010 using LIBOR plus 200.0 basis points. The weighted average interest rate charged on the credit facility was 2.27% at January 30, 2010. The credit facility contains restrictive covenants including leverage and fixed charge coverage ratios. The Company’s calculated leverage ratio dictates the LIBOR spread that will be charged on outstanding borrowings in the subsequent quarter. The leverage ratio is calculated by dividing adjusted debt, which is the sum of the Company’s outstanding debt plus rent expense multiplied by a factor of eight, divided by pre-tax income plus net interest expense and non-cash items, such as depreciation, amortization, and impairment expense. At January 30, 2010, the maximum leverage allowed under the credit facility is 4.25, and the calculated leverage ratio was 3.06. The Company was in compliance with all covenants at the end of fiscal year 2010 and expects to remain in compliance with all debt covenants during fiscal year 2011. The Company elected to amend the financial covenants in the credit facility on March 30, 2009. The result of this amendment was an increase in the maximum leverage ratio from 4.0 to 4.25 as well as an increase in the interest spread from LIBOR plus 112.5 basis points to LIBOR plus 200.0 basis points at March 30, 2009, as well as a reduction in the size of the credit facility to $675.0 million. As of January 30, 2010, the Company had $35.4 million of standby letters of credit and a $325.0 million term loan outstanding under the credit facility. As of January 30, 2010, availability under the credit facility was $314.6 million.
The senior notes are comprised of an $80.0 million floating rate senior note that has a stated variable interest rate based on three-month LIBOR plus 80.0 basis points, or 2.15% at January 30, 2010, that matures in July 2012. This $80.0 million notional amount has an associated interest rate swap with a fixed interest rate of 5.2%. Additionally, a $20.0 million fixed rate senior note that bears interest of 5.05% matures in July 2012, a $100.0 million fixed rate senior note that bears interest of 5.31% matures in July 2015, and a $125.0 million fixed rate senior note that bears interest of 6.2% matures in August 2017. The senior notes have restrictive
covenants that are similar to the Company’s credit facility. Additionally, the Company has a $17.8 million, 20-year variable rate, 0.24% at January 30, 2010, state bond facility which matures in October 2025.
The debt facilities place certain restrictions on mergers, consolidations, acquisitions, sales of assets, indebtedness, transactions with affiliates, leases, liens, investments, dividends and distributions, exchange and issuance of capital stock and guarantees, and require maintenance of minimum financial ratios, which include a leverage ratio, consolidated debt to consolidated capitalization ratio and a fixed charge coverage ratio. These ratios are calculated exclusive of non-cash charges, such as fixed asset, goodwill and other intangible asset impairments.
The Company utilizes derivative financial instruments (interest rate swap agreements) to manage the interest rate risk associated with its borrowings. The Company has not historically traded, and does not anticipate prospectively trading, in derivatives. These swap agreements are used to reduce the potential impact of increases in interest rates on variable rate debt. The difference between the fixed rate leg and the variable rate leg of the swap, to be paid or received, is accrued and recognized as an adjustment to interest expense. Additionally, the change in the fair value of a swap designated as a cash flow hedge is marked to market through accumulated other comprehensive income (loss). Any swap that is not designated as a hedging instrument is marked to market through gain (loss) on investments.
The Company’s exposure to derivative instruments was limited to one interest rate swap as of January 30, 2010, an $80.0 million notional amount swap, which has a fixed interest rate of 5.2% and expires in fiscal year 2013. It has been designated as a cash flow hedge against variability in future interest rate payments on the $80.0 million floating rate senior note. The Company had a $125.0 million notional amount swap, which expired in September 2008, that had previously been designated as a cash flow hedge against variability in future interest payments on a $125.0 million variable rate bond facility. On July 26, 2007, the $125.0 million notional amount swap was de-designated due to the Company’s decision to prepay the underlying debt. This swap was marked to market in gain (loss) on investments through its expiration date.
Management believes that cash flows from operations and existing credit facilities will be sufficient to cover working capital needs, stock repurchases, dividends, capital expenditures, pension funding and debt service requirements through fiscal year 2011. The Company focused on managing inventories, capital expenditures and expenses in fiscal year 2010, which resulted in an increase in cash and cash equivalents of $325.8 million compared to $73.2 million in fiscal year 2009. The Company plans to continue generating cash flows from operations during fiscal year 2011.
Net cash provided by operating activities was $387.4 million for fiscal year 2010 compared to $265.3 million for fiscal year 2009. The increase in cash provided by operating activities for fiscal year 2010 was principally due to successful inventory and expense control initiatives in fiscal year 2010 and a $39.6 million reduction in income taxes paid in fiscal year 2010 primarily as a result of the fiscal year 2009 net loss, partially offset by a $24.0 million increase in the Company’s defined benefit plan contribution.
Net cash used by investing activities decreased $78.5 million to $41.3 million for fiscal year 2010 from $119.8 million for fiscal year 2009. The decrease in cash used by investing activities was primarily due to an $87.0 million decrease in purchases of property and equipment in fiscal year 2010.
The Company made capital expenditures of $42.3 million during fiscal year 2010, comprised primarily of amounts related to three new stores, expansions, remodels and other capital needs. The Company has increased the amount of its anticipated capital expenditures for fiscal year 2011 primarily due to expansions and remodels, and other capital needs. Management expects to fund fiscal year 2011 capital expenditures with cash flows from operations.
Net cash used by financing activities decreased $52.0 million to $20.3 million for fiscal year 2010 from $72.3 million for fiscal year 2009. The decrease in cash used by financing activities primarily relates to the $10.1 million decrease in dividends paid, a $16.4 million decrease in the repurchase and retirement of common stock, and the $25.0 million discretionary payment on the amount outstanding under the credit facility in fiscal year 2009.
Contractual Obligations and Commercial Commitments
To facilitate an understanding of the Company’s contractual obligations and commercial commitments, the following data is provided:
(a)
Interest rates used to compute estimated interest payments utilize the stated rate for fixed rate debt and projected interest rates for variable rate debt. Projected rates range from 2.25% to 6.5% over the term of the variable rate debt agreements.
(b)
Lease payments consist of base rent only and do not include amounts for percentage rents, real estate taxes, insurance and other expenses related to those locations.
(c)
Purchase obligations include agreements to purchase goods or services that are enforceable and legally binding and that specify all significant terms, including: fixed or minimum quantities to be purchased; fixed, minimum or variable price provisions; and the approximate timing of the transaction. Agreements that are cancelable without penalty have been excluded. Purchase obligations relate primarily to purchases of property and equipment, information technology contracts, maintenance agreements and advertising contracts.
Obligations under the deferred compensation and postretirement benefit plans are not included in the contractual obligations table. The Company’s deferred compensation and postretirement plans are not funded in advance. Deferred compensation payments during fiscal years 2010 and 2009 totaled $5.8 million and $5.4 million, respectively. Postretirement benefit payments during fiscal years 2010 and 2009 totaled $2.8 million and $2.1 million, respectively.
Obligations under the Company’s defined benefit pension plan are not included in the contractual obligations table. Under the current requirements of the Pension Protection Act of 2006, the Company is required to fund the net pension liability (“funding shortfall”) by fiscal year 2016. The net pension liability is calculated based on certain assumptions at January 1, of each year, that are subject to change based on economic conditions (and any regulatory changes) in the future. The Company has a credit balance of $11.5 million at fiscal 2010 year-end due to excess funding over the minimum requirements in prior years, which may be used to satisfy minimum required contribution requirements during at least the first two quarters of fiscal 2011. The Company expects to contribute sufficient amounts to the pension plan so that the Pension Protection Act of 2006 guidelines are exceeded, and over the next five years, the pension plan becomes fully funded.
As of January 30, 2010, the total uncertain tax position liability was approximately $17.2 million, including tax, penalty and interest. The Company is not able to reasonably estimate the timing of these tax related future cash flows and has excluded these liabilities from the table. At this time, the Company does not expect a material change to its gross unrecognized tax benefit during fiscal year 2011.
Also excluded from the contractual obligations table are payments the Company may make for employee medical costs and workers compensation, general liability and automobile claims.
Off-Balance Sheet Arrangements
The Company has not provided any financial guarantees as of January 30, 2010. The Company has not created, and is not party to, any special-purpose or off-balance sheet entities for the purpose of raising capital, incurring debt or operating the Company’s business. The Company does not have any arrangements or relationships with entities that are not consolidated into the financial statements that are reasonably likely to materially affect the Company’s liquidity or the availability of capital resources.
Recently Issued Accounting Standards
In June 2009, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 168, “The FASB Accounting Standards Codification and the Hierarchy of Generally Accepted Accounting Principles - a replacement of SFAS No. 162,” which modifies the Generally Accepted Accounting Principles (“GAAP”) hierarchy by establishing only two levels of GAAP, authoritative and nonauthoritative accounting literature. Effective July 2009, the FASB Accounting Standards Codification (“ASC”), also known collectively as the “Codification,” is considered the single source of authoritative U.S. accounting and reporting standards, except for additional authoritative rules and interpretive releases issued by the SEC. The Codification was developed to organize GAAP pronouncements by topic so that users can more easily access authoritative accounting guidance. ASC 105-10 became effective for the third quarter of fiscal year 2010. All other accounting standard references have been updated in this report with ASC references.
In January 2010, the FASB issued Accounting Standards Update (“ASU”) 2010-06, “Improving Disclosures about Fair Value Measurements,” which updates ASC 820-10, “Fair Value Measurements and Disclosures.” The updated guidance clarifies existing disclosures and requires new disclosures regarding recurring and/or nonrecurring fair-value measurements, including significant transfers into and out of Level 1 and Level 2 fair-value measurements and information on purchases, sales, issuances, and settlements on a gross basis in the reconciliation of Level 3 fair-value measurements. ASU 2010-06 will be effective for the first quarter of fiscal year 2011, except for the disclosures regarding the reconciliation of Level 3 fair-value measurements, which will be effective for the Company in the first quarter of fiscal year 2012. The Company early adopted the requirements under ASU 2010-06 for the fourth quarter of fiscal year 2010. Refer to the Company’s notes to the consolidated financial statements for the disclosures required under ASU 2010-06.
Effective for the fourth quarter of fiscal year 2010, the FASB issued ASU 2009-05, “Measuring Liabilities at Fair Value,” which updates ASC 820-10, “Fair Value Measurements and Disclosures.” The updated guidance clarifies that the fair value of a liability can be measured in relation to the counterparty’s asset when traded in an active market, without adjusting the price for restrictions that prevent the sale of the liability. The Company’s adoption of the requirements under ASU 2009-5 did not change the Company’s valuation techniques for measuring liabilities at fair value.
Effective for the fourth quarter of fiscal year 2010, the “Compensation-Retirement Benefits Topic,” ASC 715-20 required more detailed disclosures regarding the assets of a defined benefit pension or other postretirement plan. Refer to the Company’s notes to the consolidated financial statements for the disclosures required under ASC 715-20.
Effective for the second quarter of fiscal year 2010, the “Financial Instruments Topic,” ASC 825-10 required disclosure regarding the fair value of financial instruments of publicly traded companies for interim reporting periods as well as annual reporting periods. Refer to the Company’s notes to the consolidated financial statements for the disclosures required under ASC 825-10.
Effective for the second quarter of fiscal year 2010, the “Investments-Debt and Equity Securities Topic,” ASC 320-10 amended the presentation and disclosure requirements for other-than-temporary impairment on debt and equity securities in the financial statements. Refer to the Company’s notes to the consolidated financial statements for the disclosures required under ASC 320-10.
Effective for the second quarter of fiscal year 2010, the “Fair Value Measurements and Disclosures Topic,” ASC 820-10-65-4, provided additional guidance for estimating fair value when the volume and level of activity for the asset or liability have significantly decreased and identifying circumstances that indicate a transaction is not orderly. Refer to the Company’s notes to the consolidated financial statements for the disclosures required under ASC 820-10-65-4.
Effective for the first quarter of fiscal year 2010, the “Fair Value Measurements and Disclosures Topic,” ASC 820-10-65-1, established a single definition of fair value and a framework for measuring fair value in GAAP for nonfinancial assets and liabilities to increase consistency and comparability in fair value measurements. The Company’s adoption of the requirements under ASC 820-10-65-1 did not require other additional disclosure during the first quarter of fiscal year 2010.
Impact of Inflation or Deflation
While it is difficult to determine the precise effects of inflation or deflation, management does not believe inflation or deflation had a material impact on the consolidated financial statements for the periods presented.
Critical Accounting Policies
Management’s discussion and analysis discusses the results of operations and financial condition as reflected in the Company’s consolidated financial statements, which have been prepared in accordance with GAAP. As discussed in the Company’s notes to the consolidated financial statements, the preparation of the consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and reported amounts of revenues and expenses during the reporting period. On an ongoing basis, management evaluates its estimates and judgments, including those related to inventory valuation, vendor allowances, property and equipment, rent expense, useful lives of depreciable assets, recoverability of long-lived assets, including intangible assets, store closing reserves, customer loyalty programs, income taxes, derivative financial instruments, credit income, the calculation of pension and postretirement obligations, self-insurance reserves and stock based compensation.
Management bases its estimates and judgments on its substantial historical experience and other relevant factors, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. See the Company’s notes to the consolidated financial statements for a discussion of the Company’s significant accounting policies.
While the Company believes that the historical experience and other factors considered provide a meaningful basis for the accounting policies applied in the preparation of the consolidated financial statements, the Company cannot guarantee that its estimates and assumptions will be accurate, which could require the Company to make adjustments to these estimates in future periods.
The following critical accounting policies are used in the preparation of the consolidated financial statements:
Inventory Valuation. Inventories are valued using the lower of cost or market value, determined by the retail inventory method. Under the retail inventory method (“RIM”), the valuation of inventories at cost and the resulting gross margins are calculated by applying a cost-to-retail ratio to the retail value of inventories. RIM is an averaging method that is widely used in the retail industry due to its practicality. Also, it is recognized that the use of the retail inventory method will result in valuing inventories at lower of cost or market if markdowns are currently taken as a reduction of the retail value of inventories. Inherent in the RIM calculation are certain significant management judgments and estimates including, among others, merchandise markon, markup, markdowns and shrinkage, which significantly affect the ending inventory valuation at cost as well as the corresponding charge to cost of goods sold.
In addition, failure to take appropriate markdowns currently can result in an overstatement of inventory under the lower of cost or market principle.
Vendor Allowances. The Company receives allowances from its vendors through a variety of programs and arrangements, including markdown reimbursement programs. These vendor allowances are generally intended to offset the Company’s costs of selling the vendors’ products in its stores. Allowances are recognized in the period in which the Company completes its obligations under the vendor agreements. Most incentives are deducted from amounts owed to the vendor at the time the Company completes its obligations to the vendor or shortly thereafter. The following summarizes the types of vendor incentives and the Company’s applicable accounting policy:
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Advertising allowances - Represents reimbursement of advertising costs initially funded by the Company. Amounts are recognized as a reduction to SG&A expenses in the period that the advertising expense is incurred.
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Markdown allowances - Represents reimbursement for the cost of markdowns to the selling price of the vendor’s merchandise. Amounts are recognized as a reduction to cost of goods sold in the later of the period that the merchandise is marked down or the reimbursement is negotiated. Amounts received prior to recognizing the markdowns are recorded as a reduction to the cost of inventory.
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Payroll allowances - Represents reimbursement for payroll costs. Amounts are recognized as a reduction to SG&A expense in the period that the payroll cost is incurred.
Property and Equipment, net. Property and equipment owned by the Company are stated at cost less accumulated depreciation and amortization. Property and equipment leased by the Company under capital leases are stated at an amount equal to the present value of the minimum lease payments less accumulated amortization. Depreciation and amortization are recorded utilizing straight-line and in certain circumstances accelerated methods over the shorter of estimated asset lives or related lease terms. The Company also amortizes leasehold improvements over the shorter of the expected lease term or estimated asset life that would include cancelable option periods where failure to exercise such options would result in an economic penalty in such amount that a renewal appears, at the date the assets are placed in service, to be reasonably assured.
Goodwill and Intangibles. Goodwill and other intangible assets are accounted for in accordance with ASC 350, “Intangibles - Goodwill and Other.” This statement requires that goodwill and other intangible assets with indefinite lives should not be amortized, but should be tested for impairment on an annual basis, or more often if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount.
Leasehold intangibles, which represent the excess of fair value over the carrying value (assets) or the excess of carrying value over fair value (liabilities) of acquired leases, are amortized on a straight-line basis over the remaining terms of the lease agreements. The lease term includes cancelable option periods where failure to exercise such options would result in an economic penalty in such amount that a renewal appears to be reasonably assured. The lease intangibles are included in other current assets and accrued liabilities for the current portions and other assets and other noncurrent liabilities for the noncurrent portions. Customer relationships, which represent the value of customer relationships obtained in acquisitions or purchased, are amortized on a straight-line basis over their estimated useful life and are included in other assets. The carrying value of intangible assets is reviewed by the Company’s management to assess the recoverability of the assets when facts and circumstances indicate that the carrying value may not be recoverable.
Rent Expense. The Company recognizes rent expense on a straight-line basis over the expected lease term, including cancelable option periods where failure to exercise such options would result in an economic penalty in such amount that a renewal appears, at the inception of the lease, to be reasonably assured. Developer incentives are recognized as a reduction to occupancy costs over the lease term. The lease term commences on the date when the Company gains control of the property.
Useful Lives of Depreciable Assets. The Company makes judgments in determining the estimated useful lives of its depreciable long-lived assets which are included in the consolidated financial statements. The estimate of useful lives is determined by the Company’s historical experience with the type of asset purchased.
Recoverability of Long-Lived Assets. In accordance with ASC 360, “Property, Plant, and Equipment,” long-lived assets, such as property and equipment and purchased intangible assets subject to amortization, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. If circumstances require a long-lived asset be tested for possible impairment, the Company first compares undiscounted cash flows expected to be generated by an asset to the carrying value of the asset. If the carrying value of the long-lived asset is not recoverable on an undiscounted cash flow basis, an impairment is recognized to the extent that the carrying value exceeds its fair value. The Company determines fair value of its retail locations primarily based on the present value of future cash flows.
Store Closing Reserves. The Company reduces the carrying value of property and equipment to fair value for owned locations or recognizes a reserve for future obligations for leased facilities at the time the Company ceases using property and/or equipment. The reserve includes future minimum lease payments and common area maintenance and taxes for which the Company is obligated under operating lease agreements. Additionally, the Company makes certain assumptions related to potential subleases and lease buyouts that reduce the recorded amount of the reserve. These assumptions are based on management’s knowledge of the market and other relevant experience. However, significant changes in the real estate market and the inability to enter into the subleases or obtain buyouts within the estimated time frame may result in increases or decreases to these reserves.
Customer Loyalty Programs. The Company utilizes a customer loyalty program that issues certificates for discounts on future purchases to proprietary charge card customers based on their spending levels. The certificates are classified as a reduction to revenue as they are earned by the customers. The Company maintains a reserve liability for the estimated future redemptions of the certificates. The estimated impact on revenues of a 10% change in program utilization would be $1.9 million.
Pension and Postretirement Obligations. The Company utilizes significant assumptions in determining its periodic pension and postretirement expense and obligations that are included in the consolidated financial statements. These assumptions include determining an appropriate discount rate, investment earnings, as well as the remaining service period of active employees. The Company calculates the periodic pension and postretirement expense and obligations based upon these assumptions and actual employee census data.
The Company elected an investment earnings assumption of 8.0% to determine its fiscal year 2010 expense. The Company believes that this assumption was appropriate given the composition of its plan assets and historical market returns thereon. The estimated effect of a 0.25% increase or decrease in the investment earnings assumption would decrease or increase pension expense by approximately $0.7 million. The Company has elected an investment earnings assumption of 8.0% for fiscal year 2011.
The Company selected a discount rate assumption of 6.375% to determine its fiscal year 2010 expense. The Company believes that this assumption was appropriate given the composition of its plan obligations and the interest rate environment as of the measurement date. The estimated effect of a 0.25% increase or decrease in the discount rate assumption would have decreased or increased fiscal year 2010 pension expense by approximately $0.7 million. The Company has decreased its discount rate assumption to 5.75% for fiscal year 2011.
Under the current requirements of the Pension Protection Act of 2006, the Company is required to fund the net pension liability (“funding shortfall”) by fiscal year 2016. The net pension liability is calculated based on certain assumptions at January 1, of each year, that are subject to change based on economic conditions (and any regulatory changes) in the future. The Company has a credit balance of $11.5 million at fiscal 2010 year-end due to excess funding over the minimum requirements in prior years, which may be used to satisfy minimum required contribution requirements during at least the first two quarters of fiscal 2011. The Company expects to contribute sufficient amounts to the pension plan so that the Pension Protection Act of 2006 guidelines are exceeded, and over the next five years, the pension plan becomes fully funded. The Company elected to contribute $44.0 million and $20.0 million to its Pension Plan on September 15, 2009 and September 10, 2008, respectively. The Company expects to contribute $1.4 million and $2.6 million to its non-qualified defined benefit Supplemental Executive Retirement Plan and postretirement plan, respectively, in fiscal year 2011.
Effective December 31, 2009, the Pension Plan was frozen for the remaining participants whose benefits were not previously frozen in fiscal year 2006. Upon communication of this decision to permanently freeze accruals in
the plan, the plan’s financial status was re-measured on October 31, 2009 based on economic conditions at the time. A one-time curtailment charge of $2.7 million was incurred in the third quarter of fiscal year 2010. The expense for all of fiscal year 2010 reflected a change in the fourth quarter commensurate with that re-measurement.
Self Insurance Reserves. The Company is responsible for the payment of workers’ compensation, general liability and automobile claims under certain dollar limits. The Company purchases insurance for workers’ compensation, general liability and automobile claims for amounts that exceed certain dollar limits. The Company records a liability for its obligation associated with incurred losses utilizing historical data and industry accepted loss analysis standards to estimate the loss development factors used to project the future development of incurred losses. Management believes that the Company’s loss reserves are adequate but actual losses may differ from the amounts provided.
Income Taxes. Income taxes are accounted for under the asset and liability method. The annual effective tax rate is based on income, statutory tax rates and tax planning opportunities available in the various jurisdictions in which the Company operates. Significant judgment is required in determining annual tax expense and in evaluating tax positions. In accordance with ASC 740, “Income Taxes,” the Company recognizes the effect of income tax positions only if those positions are more likely than not of being sustained. Recognized income tax positions are measured at the largest amount that is greater than 50% likely of being realized. Changes in recognition or measurement are reflected in the period in which the change in judgment occurs. The reserves (including the impact of the related interest and penalties) are adjusted in light of changing facts and circumstances, such as the progress of a tax audit.
Deferred income tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement bases and the respective tax bases of the assets and liabilities and operating loss and tax credit carry forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled.
The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. Valuation allowances are established when necessary to reduce deferred tax assets to the amount expected to be realized.
The Company accrues interest related to unrecognized tax benefits in interest expense, while accruing penalties related to unrecognized tax benefits in income tax expense (benefit).
Derivative Financial Instruments. The Company utilizes derivative financial instruments (interest rate swap agreements) to manage the interest rate risk associated with its borrowings. The Company has not historically traded, and does not anticipate prospectively trading, in derivatives. These swap agreements are used to reduce the potential impact of increases in interest rates on variable rate long-term debt. The difference between the fixed rate leg and the variable rate leg of each swap, to be paid or received, is accrued and recognized as an adjustment to interest expense. Additionally, the changes in the fair value of swaps designated as cash flow hedges are marked to market through accumulated other comprehensive income (loss). Swaps that are not designated as hedges are marked to market through gain (loss) on investments.
Stock Based Compensation. The Company accounts for stock based compensation under the guidelines of ASC 718, “Compensation - Stock Compensation.” ASC 718 requires the Company to account for stock based compensation by using the grant date fair value of share awards and the estimated number of shares that will ultimately be issued in conjunction with each award.
Finance Income. In connection with the program agreement (“Program Agreement”) signed with GE Money Bank (“GE”), an affiliate of GE Consumer Finance, in fiscal year 2006, the Company is paid a percentage of net private label credit card account sales. These payments are recorded as an offset to SG&A expenses in the consolidated statements of income. SG&A expenses are reduced by proceeds from the 10-year credit card Program Agreement between Belk and GE, which expires June 30, 2016. This Program Agreement sets forth among other things the terms and conditions under which GE will issue credit cards to Belk’s customers. The Company will be paid a percentage of net credit sales, as defined by the Program Agreement, for future credit card sales. Belk is required to perform certain duties and receive fees.
Item 7A.
Item 7A.
Quantitative and Qualitative Disclosures About Market Risk
The Company is exposed to market risk from changes in interest rates on its variable rate debt. The Company uses interest rate swaps to manage the interest rate risk associated with its borrowings and to manage the Company’s allocation of fixed and variable rate debt. The Company does not use financial instruments for trading or other speculative purposes and is not a party to any leveraged derivative instruments. The Company’s net exposure to interest rate risk is based on the difference between the outstanding variable rate debt and the notional amount of its designated interest rate swaps. At January 30, 2010, the Company had $422.8 million of variable rate debt, and an $80.0 million notional amount swap, which has a fixed interest rate of 5.2% and expires in fiscal year 2013. The effect on the Company’s annual interest expense of a one-percent change in interest rates would be approximately $3.4 million.
The Company also owns an auction rate security that is subject to market risk. A discussion of the Company’s accounting policies for derivative financial instruments and the auction rate security is included in the Summary of Significant Accounting Policies in Note 1 to the Company’s consolidated financial statements.
Item 8.
Item 8.
Financial Statements and Supplementary Data
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Stockholders
Belk, Inc.:
We have audited the accompanying consolidated balance sheets of Belk, Inc. and subsidiaries as of January 30, 2010, and January 31, 2009, and the related consolidated statements of income, changes in stockholders’ equity and comprehensive income, and cash flows for each of the years in the three-year period ended January 30, 2010. These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with the auditing standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, 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 consolidated financial statements referred to above present fairly, in all material respects, the financial position of Belk, Inc. and subsidiaries as of January 30, 2010, and January 31, 2009, and the results of their operations and their cash flows for each of the years in the three-year period ended January 30, 2010, in conformity with U.S. generally accepted accounting principles.
As discussed in Note 1 to the consolidated financial statements, the Company adopted the provisions of ASC Section 740-10-25, Income Taxes - Recognition, as of February 4, 2007.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), Belk, Inc. and subsidiaries’ internal control over financial reporting as of January 30, 2010, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), and our report dated April 14, 2010, expressed an unqualified opinion on the effectiveness of the Company’s internal control over financial reporting.
/s/ KPMG LLP
Charlotte, North Carolina
April 14, 2010
BELK, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(Dollars in thousands, except share and per share amounts)
See accompanying notes to consolidated financial statements.
BELK, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Dollars in thousands)
See accompanying notes to consolidated financial statements.
BELK, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN
STOCKHOLDERS’ EQUITY AND COMPREHENSIVE INCOME
(In thousands)
See accompanying notes to consolidated financial statements.
BELK, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in thousands)
See accompanying notes to consolidated financial statements.
BELK, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1)
Summary of Significant Accounting Policies
Description of Business and Basis of Presentation
Belk, Inc. and its subsidiaries (collectively, the “Company” or “Belk”) operate retail department stores in 16 states primarily in the southern United States. All intercompany transactions and balances have been eliminated in consolidation. The Company’s fiscal year ends on the Saturday closest to each January 31. All references to fiscal years are as follows:
Certain prior period amounts have been reclassified to conform with current year presentation. Previously, the Company presented amounts due from vendors on a gross basis due to systems constraints and the lack of available information. In the current year, the Company has presented amounts due from vendors on a net basis, and revised amounts presented in the fiscal year 2009 consolidated balance sheet and cash flow statements for comparability purposes. The revision had no impact on net income, working capital, cash flows from operating activities, or stockholders’ equity for fiscal year 2009.
Use of Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
Significant estimates are required as part of determining stock-based compensation, depreciation, amortization and recoverability of long-lived and intangible assets, valuation of inventory, establishing store closing and other reserves, self-insurance reserves and calculating retirement benefits.
Revenues
The Company’s store and eCommerce operations have been aggregated into one operating segment due to their similar economic characteristics, products, production processes, customers and methods of distribution. These operations are expected to continue to have similar characteristics and long-term financial performance in future periods.
The following table gives information regarding the percentage of revenues contributed by each merchandise area for each of the last three fiscal years. There were no material changes between fiscal years, as reflected in the table below.
BELK, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Revenues include sales of merchandise and the net revenue received from leased departments of $2.3 million, $3.1 million and $5.7 million for fiscal years 2010, 2009 and 2008, respectively. Leased department revenues were significantly affected by the conversion of fine jewelry leased departments into an owned fine jewelry operation principally during fiscal year 2008. Sales from retail operations are recorded at the time of delivery and reported net of sales taxes and merchandise returns. The reserve for returns is calculated as a percentage of sales based on historical return percentages.
The Company utilizes a customer loyalty program that issues certificates for discounts on future purchases to proprietary charge card customers based on their spending levels. The certificates are classified as a reduction to revenue as they are earned by the customers. The Company maintains a reserve liability for the estimated future redemptions of the certificates.
Cost of Goods Sold
Cost of goods sold is comprised principally of the cost of merchandise as well as occupancy, distribution and buying expenses. Occupancy expenses include rent, utilities and real estate taxes. Distribution expenses include all costs associated with distribution facilities. Buying expenses include payroll and travel expenses associated with the corporate merchandise buying function.
Selling, General and Administrative Expenses
Selling, general and administrative (“SG&A”) expenses are comprised principally of payroll and benefits for retail and corporate employees, depreciation, advertising and other administrative expenses. SG&A expenses are reduced by proceeds from the 10-year credit card program agreement (“Program Agreement”) between Belk and GE Money Bank (“GE”), an affiliate of GE Consumer Finance, which expires June 30, 2016. This Program Agreement sets forth among other things the terms and conditions under which GE will issue credit cards to Belk’s customers. The Company will be paid a percentage of net credit sales, as defined by the Program Agreement, for future credit card sales. Belk is required to perform certain duties, including receiving and remitting in-store payments on behalf of GE and receiving fees for these activities. These amounts totaled $67.0 million, $67.3 million and $71.6 million in fiscal years 2010, 2009 and 2008, respectively.
Gift Cards
At the time gift cards are sold, no revenue is recognized; rather, a liability is established for the face amount of the gift card. The liability is relieved and revenue is recognized when gift cards are redeemed for merchandise. The estimated values of gift cards expected to go unused are recognized as a reduction to SG&A expenses in proportion to actual gift card redemptions as the remaining gift card values are redeemed.
Advertising
Advertising costs, net of co-op recoveries from merchandise vendors, are expensed in the period in which the advertising event takes place and amounted to $123.5 million, $134.2 million and $137.1 million in fiscal years 2010, 2009 and 2008, respectively.
Recoverability of Long-Lived Assets
In accordance with Accounting Standards Codification (“ASC”) 360, “Property, Plant, and Equipment,” long-lived assets, such as property and equipment and purchased intangible assets subject to amortization, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. The impairment to be recognized is measured by the amount by which the carrying amount of the asset exceeds the fair value of the asset based upon the future highest and best use of the impaired asset. If circumstances require a long-lived asset be tested for possible impairment, the Company first compares
BELK, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
undiscounted cash flows expected to be generated by an asset to the carrying value of the asset. If the carrying value of the long-lived asset is not recoverable on an undiscounted cash flow basis, an impairment is recognized to the extent that the carrying value exceeds its fair value. The Company determines fair value of its retail locations primarily based on the present value of future cash flows.
Cash Equivalents
Cash equivalents include liquid investments with an original maturity of 90 days or less.
Short-term Investments
Short-term investments consist of investments whose original maturity is greater than 90 days. At January 30, 2010, the Company held an auction rate security (“ARS”) of $2.5 million in short-term investments, which represents the amount called at par by the issuer during the first quarter of fiscal year 2011. Short-term investments are classified as held-to-maturity securities and are valued at amortized cost at January 30, 2010.
Merchandise Inventory
Inventories are valued using the lower of cost or market value, determined by the retail inventory method. Under the retail inventory method (“RIM”), the valuation of inventories at cost and the resulting gross margins are calculated by applying a cost-to-retail ratio to the retail value of inventories. RIM is an averaging method that is widely used in the retail industry due to its practicality. Also, it is recognized that the use of the retail inventory method will result in valuing inventories at lower of cost or market if markdowns are currently taken as a reduction of the retail value of inventories. Inherent in the RIM calculation are certain significant management judgments and estimates including, among others, merchandise markon, markup, markdowns and shrinkage, which significantly affect the ending inventory valuation at cost as well as the corresponding charge to cost of goods sold. In addition, failure to take appropriate markdowns can result in an overstatement of inventory under the lower of cost or market principle.
Property Held for Sale
Property held for sale at January 31, 2009, represented a closed retail location which, at January 30, 2010, no longer met the held-for-sale criteria, and was reclassified to property held for use.
Investment Securities
The Company accounts for investments in accordance with the provisions of ASC 320, “Investments - Debt and Equity Securities.” Securities classified as available-for-sale are valued at fair value, while securities that the Company has the ability and positive intent to hold to maturity are valued at amortized cost. The Company includes unrealized holding gains and losses for available-for-sale securities in other comprehensive income (loss). Realized gains and losses are recognized on an average cost basis and are included in income. Declines in value that are considered to be other than temporary are reported in gain (loss) on investments.
Property and Equipment, Net
Property and equipment owned by the Company are stated at historical cost less accumulated depreciation and amortization. Property and equipment leased by the Company under capital leases are stated at an amount equal to the present value of the minimum lease payments less accumulated amortization. Depreciation and amortization are recorded utilizing straight-line and in certain circumstances accelerated methods over the shorter of estimated asset lives or related lease terms. The Company also amortizes leasehold improvements over the shorter of the estimated asset life or expected lease term that would include cancelable option periods where failure to exercise such options
BELK, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
would result in an economic penalty in such amount that a renewal appears, at the date the assets are placed in service, to be reasonably assured.
Goodwill and Intangibles
Goodwill and other intangible assets are accounted for in accordance with ASC 350, “Intangibles - Goodwill and Other.” This statement requires that goodwill and other intangible assets with indefinite lives should not be amortized, but should be tested for impairment on an annual basis, or more often if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount.
Leasehold intangibles, which represent the excess of fair value over the carrying value (assets) or the excess of carrying value over fair value (liabilities) of acquired leases, are amortized on a straight-line basis over the remaining terms of the lease agreements. The lease term includes cancelable option periods where failure to exercise such options would result in an economic penalty in such amount that a renewal appears to be reasonably assured. The lease intangibles are included in other current assets and accrued liabilities for the current portions and other assets and other noncurrent liabilities for the noncurrent portions. Customer relationships, which represent the value of customer relationships obtained in acquisitions or purchased, are amortized on a straight-line basis over their estimated useful life and are included in other assets. The carrying value of intangible assets is reviewed by the Company’s management to assess the recoverability of the assets when facts and circumstances indicate that the carrying value may not be recoverable.
Rent Expense
The Company recognizes rent expense on a straight-line basis over the expected lease term, including cancelable option periods where failure to exercise such options would result in an economic penalty in such amount that a renewal appears, at the inception of the lease, to be reasonably assured. Developer incentives are recognized as a reduction to occupancy costs over the lease term. The lease term commences on the date when the Company gains control of the property.
Vendor Allowances
The Company receives allowances from its vendors through a variety of programs and arrangements, including markdown reimbursement programs. These vendor allowances are generally intended to offset the Company’s costs of selling the vendors’ products in our stores. Allowances are recognized in the period in which the Company completes its obligations under the vendor agreements. Most incentives are deducted from amounts owed to the vendor at the time the Company completes its obligations to the vendor or shortly thereafter.
The following summarizes the types of vendor incentives and the Company’s applicable accounting policies:
•
Advertising allowances - Represents reimbursement of advertising costs initially funded by the Company. Amounts are recognized as a reduction to SG&A expenses in the period that the advertising expense is incurred.
•
Markdown allowances - Represents reimbursement for the cost of markdowns to the selling price of the vendor’s merchandise. Amounts are recognized as a reduction to cost of goods sold in the later of the period that the merchandise is marked down or the reimbursement is negotiated. Amounts received prior to recognizing the markdowns are recorded as a reduction to the cost of inventory.
•
Payroll allowances - Represents reimbursement for payroll costs. Amounts are recognized as a reduction to SG&A expenses in the period that the payroll cost is incurred.
BELK, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Stock Based Compensation
The Company accounts for stock based compensation under the guidelines of ASC 718, “Compensation - Stock Compensation.” ASC 718 requires the Company to account for stock based compensation by using the grant date fair value of share awards and the estimated number of shares that will ultimately be issued in conjunction with each award.
Self Insurance Reserves
The Company is responsible for the payment of workers’ compensation, general liability and automobile claims under certain dollar limits. The Company purchases insurance for workers’ compensation, general liability and automobile claims for amounts that exceed certain dollar limits. The Company records a liability for its obligation associated with incurred losses utilizing historical data and industry accepted loss analysis standards to estimate the loss development factors used to project the future development of incurred losses. Management believes that the Company’s loss reserves are adequate but actual losses may differ from the amounts provided.
Income Taxes
Income taxes are accounted for under the asset and liability method. The annual effective tax rate is based on income, statutory tax rates and tax planning opportunities available in the various jurisdictions in which the Company operates. Significant judgment is required in determining annual tax expense and in evaluating tax positions. In accordance with ASC 740, “Income Taxes,” the Company recognizes the effect of income tax positions only if those positions are more likely than not of being sustained. Recognized income tax positions are measured at the largest amount that is greater than 50% likely of being realized. Changes in recognition or measurement are reflected in the period in which the change in judgment occurs. The reserves (including the impact of the related interest and penalties) are adjusted in light of changing facts and circumstances, such as the progress of a tax audit.
Deferred income tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement bases and the respective tax bases of the assets and liabilities and operating loss and tax credit carry forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled.
The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. Valuation allowances are established when necessary to reduce deferred tax assets to the amount expected to be realized.
The Company accrues interest related to unrecognized tax benefits in interest expense, while accruing penalties related to unrecognized tax benefits in income tax expense (benefit).
Derivative Financial Instruments
The Company utilizes derivative financial instruments (interest rate swap agreements) to manage the interest rate risk associated with its borrowings. The Company has not historically traded, and does not anticipate prospectively trading, in derivatives. These swap agreements are used to reduce the potential impact of increases in interest rates on variable rate long-term debt. The difference between the fixed rate leg and the variable rate leg of each swap, to be paid or received, is accrued and recognized as an adjustment to interest expense. Additionally, the changes in the fair value of swaps designated as cash flow hedges are marked to market through accumulated other comprehensive income (loss). Swaps that are not designated as hedges are marked to market through gain (loss) on investments.
As of January 31, 2010, the Company has one interest rate swap for an $80.0 million notional amount, which has a fixed rate of 5.2% and expires in fiscal year 2013. It has been designated as a cash flow hedge against
BELK, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
variability in future interest rate payments on the $80.0 million floating rate senior note. The Company had a $125.0 million notional amount swap, which had a fixed rate of 6.0% and expired in September 2008, that had previously been designated as a cash flow hedge against variability in future interest payments on a $125.0 million variable rate bond facility. On July 26, 2007, the $125.0 million notional amount swap was de-designated due to the Company’s decision to prepay the underlying debt. This swap was marked to market in gain (loss) on investments through its expiration date.
Recently Issued Accounting Standards
In June 2009, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 168, “The FASB Accounting Standards Codification and the Hierarchy of Generally Accepted Accounting Principles - a replacement of SFAS No. 162,” which modifies the Generally Accepted Accounting Principles (“GAAP”) hierarchy by establishing only two levels of GAAP, authoritative and nonauthoritative accounting literature. Effective July 2009, the FASB Accounting Standards Codification (“ASC”), also known collectively as the “Codification,” is considered the single source of authoritative U.S. accounting and reporting standards, except for additional authoritative rules and interpretive releases issued by the SEC. The Codification was developed to organize GAAP pronouncements by topic so that users can more easily access authoritative accounting guidance. ASC 105-10 became effective for the third quarter of fiscal year 2010. All other accounting standard references have been updated in this report with ASC references.
In January 2010, the FASB issued Accounting Standards Update (“ASU”) 2010-06, “Improving Disclosures about Fair Value Measurements,” which updates ASC 820-10, “Fair Value Measurements and Disclosures.” The updated guidance clarifies existing disclosures and requires new disclosures regarding recurring and/or nonrecurring fair-value measurements, including significant transfers into and out of Level 1 and Level 2 fair-value measurements and information on purchases, sales, issuances, and settlements on a gross basis in the reconciliation of Level 3 fair-value measurements. ASU 2010-06 will be effective for the first quarter of fiscal year 2011, except for the disclosures regarding the reconciliation of Level 3 fair-value measurements, which will be effective for the Company in the first quarter of fiscal year 2012. The Company early adopted the requirements under ASU 2010-06 for the fourth quarter of fiscal year 2010. Refer to the Company’s notes to the consolidated financial statements for the disclosures required under ASU 2010-06.
Effective for the fourth quarter of fiscal year 2010, the FASB issued ASU 2009-05, “Measuring Liabilities at Fair Value,” which updates ASC 820-10, “Fair Value Measurements and Disclosures.” The updated guidance clarifies that the fair value of a liability can be measured in relation to the counterparty’s asset when traded in an active market, without adjusting the price for restrictions that prevent the sale of the liability. The Company’s adoption of the requirements under ASU 2009-5 did not change the Company’s valuation techniques for measuring liabilities at fair value.
Effective for the fourth quarter of fiscal year 2010, the “Compensation-Retirement Benefits Topic,” ASC 715-20 required more detailed disclosures regarding the assets of a defined benefit pension or other postretirement plan. Refer to the Company’s notes to the consolidated financial statements for the disclosures required under ASC 715-20.
Effective for the second quarter of fiscal year 2010, the “Financial Instruments Topic,” ASC 825-10 required disclosure regarding the fair value of financial instruments of publicly traded companies for interim reporting periods as well as annual reporting periods. Refer to the Company’s notes to the consolidated financial statements for the disclosures required under ASC 825-10.
Effective for the second quarter of fiscal year 2010, the “Investments-Debt and Equity Securities Topic,” ASC 320-10 amended the presentation and disclosure requirements for other-than-temporary impairment on debt and equity securities in the financial statements. Refer to the Company’s notes to the consolidated financial statements for the disclosures required under ASC 320-10.
BELK, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Effective for the second quarter of fiscal year 2010, the “Fair Value Measurements and Disclosures Topic,” ASC 820-10-65-4, provided additional guidance for estimating fair value when the volume and level of activity for the asset or liability have significantly decreased and identifying circumstances that indicate a transaction is not orderly. Refer to the Company’s notes to the consolidated financial statements for the disclosures required under ASC 820-10-65-4.
Effective for the first quarter of fiscal year 2010, the “Fair Value Measurements and Disclosures Topic,” ASC 820-10-65-1, established a single definition of fair value and a framework for measuring fair value in GAAP for nonfinancial assets and liabilities to increase consistency and comparability in fair value measurements. The Company’s adoption of the requirements under ASC 820-10-65-1 did not require other additional disclosure during the first quarter of fiscal year 2010.
(2)
Goodwill and Intangibles
Goodwill and other intangible assets are accounted for in accordance with ASC 350, “Intangibles - Goodwill and Other.” This statement requires that goodwill and other intangible assets with indefinite lives should not be amortized, but should be tested for impairment on an annual basis, or more often if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount. The Company completed its annual impairment measurement at January 31, 2009 through use of discounted cash flow techniques and market comparisons and determined that the fair value of the reporting unit was less than its carrying value. As a result, the Company recorded a $326.6 million goodwill impairment charge during the fourth quarter of fiscal year 2009. The impairment of goodwill was a non-cash charge and did not affect the Company’s compliance with financial covenants under its various debt agreements.
Amortizing intangibles are comprised of the following:
The Company recorded net amortization expense related to amortizing intangibles of $2.0 million, $2.0 million and $1.4 million in fiscal years 2010, 2009, and 2008, respectively.
(3) Other Asset Impairment and Exit Costs
In fiscal year 2010, the Company recorded $38.5 million in impairment charges primarily to adjust eight retail locations’ net book values to fair value, a $1.0 million charge for real estate holding costs and other store closing
BELK, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
costs, and $0.4 million in exit costs comprised primarily of severance costs associated with the outsourcing of certain information technology functions. The Company determines fair value of its retail locations primarily based on the present value of future cash flows.
In fiscal year 2009, the Company recorded $27.1 million in impairment charges to adjust nine retail locations’ net book values to fair value, $3.5 million in exit costs comprised primarily of severance costs associated with the outsourcing of certain information technology and support functions and corporate realignment of functional areas, and a $1.0 million charge for real estate holding costs and other store closing costs.
As of January 30, 2010 and January 31, 2009, the remaining reserve balance for post-closing real estate lease obligations was $8.8 million and $7.0 million, respectively. These balances are presented within accrued liabilities and other noncurrent liabilities on the consolidated balance sheets. The Company does not anticipate incurring significant additional exit costs in connection with the store closings. The following is a summary of post-closing real estate lease obligations activity:
(4)
Accumulated Other Comprehensive Loss
The following table sets forth the components of accumulated other comprehensive loss:
(5)
Accounts Receivable, Net
Accounts receivable, net consists of:
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(6)
Investments
Held-to-maturity securities, totaling $9.4 million, consist of the current and non-current portions of an ARS as of January 30, 2010. The ARS owned by the Company is backed by student loans, which are 97% guaranteed under the Federal Family Education Loan Program, carries the highest credit ratings of AAA, and has a maturity date of July 1, 2034. Historically, the fair value of the Company’s ARS holdings approximated par value due to the frequent auction periods, which provided liquidity to these investments. However, during fiscal year 2009, many auctions involving this security failed. The result of the failed auctions resulted in very limited liquidity, however, the Company continues to receive interest in accordance with the terms at each auction date.
To date, the Company has collected all interest payable on the outstanding ARS when due and expects to continue to do so in the future. At this time, the Company has no reason to believe that the underlying issuer of the ARS or their insurers are presently at risk. While the auction failures limit the ability to liquidate these investments, the Company expects that the ARS failures will have no significant impact on the ability to fund ongoing operations and growth initiatives due to its strong cash position. As a result of the persistent failed auctions and the uncertainty of when these investments could be successfully liquidated at par, the Company has reclassified the ARS to held-to-maturity from available-for-sale, and has recorded $6.85 million of the ARS as a non-current investment security and the remaining $2.5 million as short-term investments, which represents the amount called at par by the issuer during the first quarter of fiscal year 2011. As of January 30, 2010, the amortized cost and fair value of the ARS was $9.4 million.
Available-for-sale securities consisted primarily of equity investments as of January 31, 2009. In evaluating the possible impairment of the Company’s available-for-sale equity investment securities as of January 31, 2009, consideration was given to the length of time and the extent to which the fair value has been less than cost, the financial conditions and near-term prospects of the issuer and the ability and intent of the Company to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value. During the third quarter of fiscal year 2009, due to the current economic environment and the financial condition of the issuer, the Company recognized an other-than-temporary impairment on a portion of its investment securities. The impaired investment security had experienced a significant decline in fair value and the Company did not anticipate recovering the security’s cost basis in the near future. Accordingly, the Company recorded a $0.6 million other-than-temporary impairment in gain (loss) on investments, and reduced the cost basis of the security to the estimated fair value.
As of January 31, 2009, the cost, gross unrealized loss and fair value of available-for-sale securities was $1.8 million, $0.7 million and $1.1 million, respectively. In the fourth quarter of fiscal year 2010, the Company transferred ownership of all remaining available-for-sale securities to two charitable organizations.
During the fourth quarter of fiscal year 2009, the Company recognized an other-than-temporary impairment on its investment in a partnership that had been accounted for under the equity method of accounting, as the Company did not anticipate recovering the partnership’s cost basis in the near future. The Company determined this other-than-temporary impairment primarily due to the macroeconomic effects across the retail industry which resulted in declines in retail property values associated with this partnership. Accordingly, the Company recorded a $1.4 million other-than-temporary impairment in gain (loss) on investments, and reduced the cost basis of the partnership to a fair value of zero.
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(7)
Property and Equipment, net
Details of property and equipment, net are as follows:
The Company recorded depreciation and amortization related to property and equipment of $156.4 million, $163.3 million and $158.5 million in fiscal years 2010, 2009, and 2008, respectively. Accumulated amortization of assets under capital lease was $41.7 million and $37.5 million as of January 30, 2010 and January 31, 2009, respectively.
(8)
Sale of Properties
During fiscal year 2009, the Company sold an acquired distribution facility for $4.0 million that resulted in a gain on the sale of property of $0.7 million. The Company also sold an acquired corporate headquarters facility and adjacent land parcels for $12.4 million that resulted in a gain on the sale of property of $1.3 million. In addition, during fiscal year 2009, the Company sold two stores for net proceeds of $2.6 million, which resulted in no gain or loss.
During fiscal year 2008, the Company sold seven stores for net proceeds of $29.2 million.
Effective April 27, 2007, the Company sold a portion of its headquarters building located in Charlotte, NC for $23.3 million. The Company also entered into a lease arrangement with the purchaser of the property to lease the property for a term of 13 years, 8 months. The fiscal year 2008 sale and leaseback transaction resulted in a gain on the sale of the property of $7.3 million, which has been deferred and will be recognized ratably over the lease term.
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(9)
Accrued Liabilities
Accrued liabilities are comprised of the following:
(10)
Borrowings
Long-term debt and capital lease obligations consist of the following:
As of January 30, 2010, the annual maturities of long-term debt and capital lease obligations over the next five years are $3.4 million, $328.1 million, $103.3 million, $3.0 million, and $2.8 million, respectively. The Company made interest payments of $39.0 million, $43.7 million, and $49.3 million, of which $0.5 million, $1.7 million, and $1.9 million was capitalized into property and equipment during fiscal years 2010, 2009, and 2008, respectively.
The Company’s borrowings consist primarily of a credit facility that matures in October 2011 and $325.0 million in senior notes. On March 30, 2009, the Company amended its $725.0 million credit facility to revise the debt covenants, and reduce available borrowings to $675.0 million, of which a $325.0 million term loan was outstanding at January 30, 2010 and January 31, 2009. Under the amended credit facility, the Company has a $350.0 million revolving line of credit, and allows for up to $200.0 million of outstanding letters of credit. During the fourth quarter of fiscal year 2009, the Company made a $25.0 million discretionary payment on the amount outstanding under the credit facility.
The credit facility charges interest based upon certain Company financial ratios and the interest spread was calculated at January 30, 2010 using LIBOR plus 200.0 basis points. The weighted average interest rate charged on the credit facility was 2.27% at January 30, 2010. The credit facility contains restrictive covenants including
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leverage and fixed charge coverage ratios. The Company’s calculated leverage ratio dictates the LIBOR spread that will be charged on outstanding borrowings in the subsequent quarter. The leverage ratio is calculated by dividing adjusted debt, which is the sum of the Company’s outstanding debt plus rent expense multiplied by a factor of eight, divided by pre-tax income plus net interest expense and non-cash items, such as depreciation, amortization, and impairment expense. At January 30, 2010, the maximum leverage allowed under the credit facility is 4.25, and the calculated leverage ratio was 3.06. The Company was in compliance with all covenants at the end of fiscal year 2010 and expects to remain in compliance with all debt covenants during fiscal year 2011. The Company elected to amend the financial covenants in the credit facility on March 30, 2009. The result of this amendment was an increase in the maximum leverage ratio from 4.0 to 4.25 as well as an increase in the interest spread from LIBOR plus 112.5 basis points to LIBOR plus 200.0 basis points at March 30, 2009, as well as a reduction in the size of the credit facility to $675.0 million. As of January 30, 2010, the Company had $35.4 million of standby letters of credit and a $325.0 million term loan outstanding under the credit facility. As of January 30, 2010, availability under the credit facility was $314.6 million.
The senior notes are comprised of an $80.0 million floating rate senior note that has a stated variable interest rate based on three-month LIBOR plus 80.0 basis points, or 2.15% at January 30, 2010, that matures in July 2012. This $80.0 million notional amount has an associated interest rate swap with a fixed interest rate of 5.2%. Additionally, a $20.0 million fixed rate senior note that bears interest of 5.05% matures in July 2012, a $100.0 million fixed rate senior note that bears interest of 5.31% matures in July 2015, and a $125.0 million fixed rate senior note that bears interest of 6.2% matures in August 2017. The senior notes have restrictive covenants that are similar to the Company’s credit facility. Additionally, the Company has a $17.8 million, 20-year variable rate, 0.24% at January 30, 2010, state bond facility which matures in October 2025.
The debt facilities place certain restrictions on mergers, consolidations, acquisitions, sales of assets, indebtedness, transactions with affiliates, leases, liens, investments, dividends and distributions, exchange and issuance of capital stock and guarantees, and require maintenance of minimum financial ratios, which include a leverage ratio, consolidated debt to consolidated capitalization ratio and a fixed charge coverage ratio. These ratios are calculated exclusive of non-cash charges, such as fixed asset, goodwill and other intangible asset impairments.
The Company utilizes derivative financial instruments (interest rate swap agreements) to manage the interest rate risk associated with its borrowings. The Company has not historically traded, and does not anticipate prospectively trading, in derivatives. These swap agreements are used to reduce the potential impact of increases in interest rates on variable rate debt. The difference between the fixed rate leg and the variable rate leg of the swap, to be paid or received, is accrued and recognized as an adjustment to interest expense. Additionally, the change in the fair value of a swap designated as a cash flow hedge is marked to market through accumulated other comprehensive income (loss). Any swap that is not designated as a hedging instrument is marked to market through gain (loss) on investments.
The Company’s exposure to derivative instruments was limited to one interest rate swap as of January 30, 2010, an $80.0 million notional amount swap, which has a fixed interest rate of 5.2% and expires in fiscal year 2013. It has been designated as a cash flow hedge against variability in future interest rate payments on the $80.0 million floating rate senior note. The Company had a $125.0 million notional amount swap, which expired in September 2008, that had previously been designated as a cash flow hedge against variability in future interest payments on a $125.0 million variable rate bond facility. On July 26, 2007, the $125.0 million notional amount swap was de-designated due to the Company’s decision to prepay the underlying debt. This swap was marked to market in gain (loss) on investments through its expiration date.
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(11)
Retirement Obligations and Other Noncurrent Liabilities
Retirement obligations and other noncurrent liabilities are comprised of the following:
(12)
Leases
The Company leases some of its stores, warehouse facilities and equipment. The majority of these leases will expire over the next 15 years. The leases usually contain renewal options and provide for payment by the lessee of real estate taxes and other expenses and, in certain instances, contingent rentals determined on the basis of a percentage of sales in excess of stipulated minimums.
Future minimum lease payments under non-cancelable leases, net of future minimum sublease rental income under non-cancelable subleases, as of January 30, 2010 were as follows:
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Sublease rental income primarily relates to the portion of the Company’s headquarters building located in Charlotte, NC that was sold and leased back by the Company during fiscal year 2008 and was subsequently subleased by the Company.
Net rental expense for all operating leases consists of the following:
(13)
Income Taxes
Federal and state income tax expense (benefit) was as follows:
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
A reconciliation between income taxes and income tax expense (benefit) computed using the federal statutory income tax rate of 35% is as follows:
Deferred taxes based upon differences between the financial statement and tax bases of assets and liabilities and available tax carryforwards consist of:
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Due to current economic conditions and their impact on the future, the Company believes that it is more likely than not that the benefit from certain state net operating loss and credit carryforwards, and net deferred tax assets for state income tax purposes, will not be realized. In recognition of this risk, the Company has provided a valuation allowance of $19.7 million and $17.6 million at January 30, 2010 and January 31, 2009, respectively, on these deferred tax assets. The increase in the valuation allowance consists of $1.8 million from current year increases to deferred tax assets resulting from recurring current year operations, an increase of $0.7 million due to the Company’s Internal Revenue Service (“IRS”) audit settlement in the fourth quarter of fiscal year 2010, offset by $0.4 million related to deferred tax assets within other comprehensive income. If or when recognized, the Company anticipates that the tax benefits relating to any reversal of the valuation allowance on deferred tax assets at January 30, 2010 will be accounted for as a reduction of income tax expense.
In assessing the realization of deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The realization of deferred tax assets are dependent upon whether there are sufficient sources of income in the future. Management considers these sources of income from 1) the scheduled reversal of deferred tax liabilities, 2) projected future taxable income, 3) taxable income in prior carryback year(s) if carryback is permitted under the tax law, and 4) tax planning strategies in making this assessment.
As of January 30, 2010, the Company has net operating loss carryforwards for federal and state income tax purposes of $0.6 million and $268.7 million, respectively. These carryforwards expire at various intervals through fiscal year 2031 but primarily in fiscal years 2024 and 2026, respectively. The Company also has state job credits of $1.2 million, which are available to offset future taxable income, if any. These credits expire between fiscal years 2016 and 2023. Some of the loss carryforwards are limited to an annual deduction of approximately $0.3 million under Internal Revenue Code Section 382. In addition, the Company has alternative minimum tax net operating loss carryforwards of $0.9 million which are available to reduce future alternative minimum taxable income.
The state net operating loss carryforwards from filed returns included uncertain tax positions taken in prior years. State net operating loss carryforwards as shown on the Company’s tax returns are larger than the state net operating losses for which a deferred tax asset is recognized for financial statement purposes.
As of January 30, 2010, the total gross unrecognized tax benefit was $19.0 million. Of this total, $3.1 million represents the amount of unrecognized tax benefits (net of the federal benefit on state issues) that, if recognized, would favorably affect the effective income tax rate in a future period. A reconciliation of the beginning and ending amount of total unrecognized tax benefits is as follows:
As part of its continuing practice, the Company has accrued interest related to unrecognized tax benefits in interest expense while accruing penalties related to unrecognized tax benefits in tax expense. Total accrued interest and penalties for unrecognized tax benefits (net of the federal benefit on state issues) as of January 30, 2010 was $2.2 million, of which a benefit of $1.7 million was recognized during fiscal year 2010. Any prospective adjustments to the Company’s gross unrecognized tax benefit will be recorded as an increase or decrease to interest expense and/or the provision for income taxes (for taxes and penalties) affecting the effective tax rate.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
The Company is subject to U.S. federal income tax as well as income tax of multiple state jurisdictions. The Company has concluded all U.S. federal income tax matters with the IRS for tax years through 2007. All material state and local income tax matters have been concluded for tax years through 2004. The Company settled its federal income tax audit for tax years 2005, 2006 and 2007 during the fourth quarter of fiscal year 2010. As a result of this settlement, the Company decreased unrecognized tax benefits, interest expense and cash by $5.2 million, $0.8 million and $10.1 million, respectively and increased deferred tax assets, tax expense and accrued liabilities by $8.9 million, $0.1 million, and $3.3 million, respectively. The settlement was primarily attributable to the timing of income recognition related to gift cards, trade discounts and capitalizable inventory costs.
At this time, the Company does not expect a material change to its gross unrecognized tax benefit over the next 12 months.
(14)
Pension, SERP and Postretirement Benefits
The Company has a defined benefit pension plan, the Belk Pension Plan, which prior to fiscal year 2010 had been partially frozen and closed to new participants. Pension benefits were suspended for fiscal year 2010, and effective December 31, 2009, the Pension Plan was frozen for those remaining participants whose benefits were not previously frozen in fiscal year 2006. This Pension Plan freeze resulted in a one-time curtailment charge of $2.7 million in the third quarter of fiscal year 2010.
The Company has a non-qualified defined benefit Supplemental Executive Retirement Plan, (“Old SERP”), which provides retirement and death benefits to certain qualified executives. Old SERP has been closed to new executives and has been replaced by the 2004 Supplemental Executive Retirement Plan (“2004 SERP”), a non-qualified defined contribution plan.
The Company also provides postretirement medical and life insurance benefits to certain retired full-time employees. The Company accounts for postretirement benefits by recognizing the cost of these benefits over an employee’s estimated term of service with the Company, in accordance with ASC 715, “Compensation - Retirement Benefits.”
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The change in the projected benefit obligation, change in plan assets, funded status, amounts recognized and unrecognized, net periodic benefit cost and actuarial assumptions are as follows:
Actuarial gains and losses are generally amortized over the average remaining service life of the Company’s active employees. Due to the pension plan freeze in the third quarter of fiscal year 2010, the Company began using the average remaining life of the participants in the pension plan rather than the average remaining service life of the Company’s active employees.
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Amounts recognized in the consolidated balance sheets consist of the following:
Amounts recognized in accumulated other comprehensive loss consist of:
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Activity related to plan assets and benefit obligations recognized in accumulated other comprehensive loss are as follows:
Weighted average assumptions were:
The Company developed the discount rate by matching the projected future cash flows of the plan to a modeled yield curve consisting of over 500 Aa-graded, noncallable bonds. Based on this analysis, management selected a 5.750% discount rate, which represented the calculated yield curve rate plus 25.0 basis points. The pension plan’s expected return assumption is based on the weighted average aggregate long-term expected returns of various actively managed asset classes corresponding to the plan’s asset allocation. The majority of the pension plan assets are allocated to equity securities, with the remaining assets allocated to fixed income securities, private equity investments, and cash.
ASC 715-30-35-62, “Defined Benefit Plans - Pension, Timing of Measurement,” required the Company to transition its measurement date to the end of fiscal year 2009 as compared to a measurement date of November 1 for previous fiscal years. This resulted in a measurement period of fifteen months during fiscal year 2009, 3 months of which were recorded as an adjustment to retained earnings of $2.8 million, net of $1.7 million income taxes.
The measurement date for the defined benefit pension plan, Old SERP and postretirement benefits for fiscal year 2010 is January 30, 2010. For measurement purposes, an 8.0% annual rate of increase in the per capita cost of covered benefits (i.e., health care cost trend rate) was assumed for fiscal year 2010; the rate was assumed to decrease to 5.0% gradually over the next six years and remain at that level for fiscal years thereafter. The health care cost trend rate assumption has a significant effect on the amounts reported. For example, increasing or decreasing the assumed health care cost trend rates by one percentage point would increase or decrease the accumulated postretirement benefit obligation as of January 30, 2010 by $0.6 million and the aggregate of the service and interest cost components of net periodic postretirement benefit cost for the year ended January 30, 2010 by $0.1 million.
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The Company maintains policies for investment of pension plan assets. The policies set forth stated objectives and a structure for managing assets, which includes various asset classes and investment management styles that, in the aggregate, are expected to produce a sufficient level of diversification and investment return over time and provide for the availability of funds for benefits as they become due. The policies also provide guidelines for each investment portfolio that control the level of risk assumed in the portfolio and ensure that assets are managed in accordance with stated objectives. The policies set forth criteria to monitor and evaluate the performance results achieved by the investment managers. In addition, managing the relationship between plan assets and benefit obligations within the policy objectives is achieved through periodic asset and liability studies required by the policies.
The asset allocation for the pension plan is as follows:
The Company uses a three-tier fair value hierarchy, which prioritizes the inputs used in measuring fair value. These tiers include: Level 1, defined as observable inputs such as quoted prices in active markets for identical assets and liabilities; Level 2, defined as inputs other than quoted prices in active markets that are either directly or indirectly observable; and Level 3, defined as unobservable inputs in which little or no market data exists, therefore requiring an entity to develop its own assumptions.
As of January 30, 2010, the pension plan assets were required to be measured at fair value. These assets included cash and cash equivalents, equity securities, fixed income securities, mutual funds, private equity funds and exchange traded limited partnership units. These categories can cross various asset allocation strategies as reflected in the preceding table.
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Fair values of the pension plan assets were as follows:
(a)
The U.S. equity securities consist of large cap companies, mid cap companies and small cap companies of $95.0 million, $19.8 million and $19.3 million, respectively.
The pension plan cash and cash equivalents, equity securities, mutual funds and exchange traded limited partnership units of $0.2 million, $136.3 million, $86.0 million and $0.5 million, respectively, have been classified as Level 1 as quoted market prices were used to determine the fair value.
The pension plan cash equivalents, corporate bonds, government securities, mortgage backed securities, and mutual funds of $7.8 million, $3.4 million, $15.6 million, $0.4 million and $38.1 million, respectively, have been classified as Level 2:
Cash equivalents and mutual funds - fair values of cash equivalents and mutual funds are largely provided by independent pricing services. Where independent pricing services provide fair values, the Company has obtained an understanding of the methods, models and inputs used in pricing, and has procedures in place to validate that amounts provided represent current fair values.
Investments in corporate bonds and government securities - fair values of corporate bonds and government securities are valued based on a calculation using interest rate curves and credit spreads applied to the terms of the debt instruments (maturity and coupon interest rate) and consider the counterparty credit rating.
Mortgage backed securities - fair values of mortgage backed securities are based on external broker bids, where available, or are determined by discounting estimated cash flows.
The private equity pension plan investments are considered Level 3 assets as there is not an active market for identical assets from which to determine fair value or current market information about similar assets to use as observable inputs. The fair value of private equity investments is determined using pricing models, which requires significant management judgment.
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The following table provides a reconciliation of the beginning and ending balances of the pension plan’s private equity funds (Level 3):
The Company expects to have the following benefit payments related to its pension, Old SERP and postretirement plans in the coming years:
Under the current requirements of the Pension Protection Act of 2006, the Company is required to fund the net pension liability (“funding shortfall”) by fiscal year 2016. The net pension liability is calculated based on certain assumptions at January 1, of each year, that are subject to change based on economic conditions (and any regulatory changes) in the future. The Company has a credit balance of $11.5 million at fiscal 2010 year-end due to excess funding over the minimum requirements in prior years, which may be used to satisfy minimum required contribution requirements during at least the first two quarters of fiscal 2011. The Company expects to contribute sufficient amounts to the pension plan so that the Pension Protection Act of 2006 guidelines are exceeded, and over the next five years, the pension plan becomes fully funded. The Company elected to contribute $44.0 million and $20.0 million to its Pension Plan on September 15, 2009 and September 10, 2008, respectively. The Company expects to contribute $1.4 million and $2.6 million to its non-qualified defined benefit Supplemental Executive Retirement Plan and postretirement plan, respectively, in fiscal year 2011.
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The components of net periodic benefit expense are as follows:
The estimated amounts that will be amortized from accumulated other comprehensive income into net periodic benefit cost in fiscal year 2011 are as follows:
(15)
Other Employee Benefits
The Belk Employees’ Health Care Plan provides medical and dental benefits to substantially all full-time employees. This plan for medical and dental benefits is administered through a 501 (c) (9) Trust. The Group Life Insurance Plan and The Belk Employees Short Term Disability Insurance Plan provide insurance to substantially all full-time employees and are fully insured through contracts issued by insurance companies. Expense recognized by the Company under these plans amounted to $45.2 million, $44.0 million and $43.9 million in fiscal years 2010, 2009 and 2008, respectively.
The Belk 401(k) Savings Plan, a defined contribution plan, provides benefits for substantially all employees. Effective February 1, 2009, the 401(k) Savings Plan was suspended for employer matching contributions. As of November 1, 2009, employer match contributions, following the adoption of the IRS Safe-Harbor principle, were reinstated for the plan. Employer match contributions are calculated at 100% of the first 4% of employees’ contributions, plus 50% on the next 2% of employees’ contributions, up to a total 5% employer match on eligible compensation. The cost of the plan was $2.4 million, $11.6 million and $12.8 million in fiscal years 2010, 2009 and 2008, respectively.
The Company has a non-qualified 401(k) Restoration Plan for highly compensated employees, as defined by ERISA. The plan previously provided contributions to a participants’ account ranging from 2% to 4.5% of eligible compensation to restore benefits limited in the qualified 401(k) plan. Effective February 1, 2009, employer
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contributions were suspended. As of January 1, 2010, the plan was changed to provide a contribution equal to 5% of a participant’s compensation, except for those who are participants in the 2004 SERP plan, in excess of the limit set forth in Code section 401(a)(17), as adjusted. The Company accrues each participant’s return on investment based on an asset model of their choice. The cost (benefit) of the plan to the Company in fiscal years 2010, 2009 and 2008 was $1.3 million, $(1.0) million and $1.0 million, respectively.
The 2004 SERP, a non-qualified defined contribution retirement benefit plan for certain qualified executives, previously provided annual contributions ranging from 7% to 11% of eligible compensation to the participants’ accounts, which earned 4.0% interest at January 30, 2010. Effective February 1, 2009, employer contributions to the plan were suspended for plan year beginning April 1, 2009. Beginning with the April 1, 2010 plan year, the plan will provide a contribution equal to 5% of a participant’s compensation in excess of the limit set forth in Code section 401(a)(17), as adjusted. The contribution and interest costs charged to operations were $0.8 million, $1.7 million and $2.4 million in fiscal years 2010, 2009, and 2008, respectively.
Certain eligible employees participate in a non-qualified Deferred Compensation Plan (“DCP”). Participants in the DCP have elected to defer a portion of their regular compensation subject to certain limitations proscribed by the DCP. The Company is required to pay interest on the employees’ deferred compensation at various rates that have historically been between 7% and 10%. Interest cost related to the plan and charged to interest expense was $4.0 million, $4.0 million and $3.9 million in fiscal years 2010, 2009 and 2008, respectively.
The Company has a Pension Restoration Plan, a non-qualified defined contribution plan. The plan provides benefits for certain officers, whose pension plan benefit accruals were frozen, that would have been otherwise grandfathered in their pension participation based on age and vesting. Effective January 1, 2009, the Company suspended accrual to this plan for one year and subsequently permanently froze future contributions as of December 31, 2009. Expense of $0.1 million, $0.8 million and $0.5 million was incurred for fiscal years 2010, 2009 and 2008, respectively, to provide benefits under this plan.
(16)
Stock-Based Compensation
Under the Belk, Inc. 2000 Incentive Stock Plan (the “Incentive Plan”), the Company is authorized to award up to 2.8 million shares of common stock for various types of equity incentives to key executives of the Company.
The Company recognized compensation expense (income), net of tax, under the Incentive Plan of $0.1 million, $0.2 million and $(1.2) million for fiscal years 2010, 2009 and 2008, respectively.
Performance Based Stock Award Programs
The Company has a performance based stock award program (the “Long Term Incentive Plan” or “LTI Plan”), which the Company grants, under its Incentive Plan, stock awards to certain key executives. Shares awarded under the LTI Plan vary based on Company results versus specified performance targets and generally vest at the end of the performance period. Prior to fiscal year 2009, the performance period was typically three years. Beginning with fiscal year 2009, the LTI Plan began using a one-year performance period and a two-year service period. A portion of any shares earned during the performance period will be issued at the end of the performance period with the remaining shares issued at the end of the service period.
LTI Plan compensation costs are computed using the fair value of the Company’s stock on the grant date based on a third-party valuation and the estimated expected attainment of performance goals. As of January 30, 2010, there was no unrecognized compensation cost related to non-vested share-based compensation arrangements granted under the LTI Plan.
There were no LTI Plan shares granted during fiscal year 2010. The weighted-average grant-date fair value of shares granted under the LTI Plans during fiscal years 2009 and 2008 was $25.60 and $30.81, respectively. The total fair value of stock grants issued under the LTI Plans during fiscal years 2009 and 2008 was $1.3 million and
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$11.2 million, respectively. The fiscal year 2009 LTI performance targets were not met, therefore no stock grants vested. The total fair value of stock grants vested under the LTI Plan during fiscal year 2008 was $1.4 million.
The Company implemented performance-based stock award programs (the “Executive Transition Incentive Plans” or the “ETI Plans”) in connection with the acquisition and integration of the Proffitt’s and McRae’s stores (the “PM Plan”) and Parisian stores (the “Parisian Plan”) in fiscal years 2006 and 2007, respectively. Shares awarded under the ETI Plans varied based upon Company results versus specified performance targets. Shares awarded in the PM Plan vested at the end of each of two one-year performance periods ended August 4, 2007 and July 29, 2006. Shares awarded in the Parisian Plan vested at the end of a 16 month period, ending February 2, 2008. In addition, during fiscal year 2008, the Company made a discretionary award of approximately 50% of the total award to the participants in the Parisian Plan. The award resulted in compensation cost for fiscal year 2008 of $0.5 million.
ETI Plan compensation cost was recorded under ASC 718, “Compensation - Stock Compensation,” and was computed using the fair value stock price on the grant date and the estimated expected attainment of performance goals. The Company issued new shares of common stock as the awards vested at the end of the performance period.
The weighted-average grant-date fair value for shares granted under the ETI Plans was $27.15 for fiscal year 2008. The total fair value of stock grants vested and issued under the ETI Plans during fiscal years 2009 and 2008 was $0.4 million and $4.5 million, respectively. The ETI Plans did not vest any stock grants in fiscal year 2009. The total fair value of stock grants vested under the ETI Plans during fiscal year 2008 was $5.0 million.
The Company granted two service-based stock awards in fiscal year 2009. One service-based award will have two vesting periods, and will issue five thousand shares at the end of each service period. Because the associate was employed at April 1, 2010, a total of ten thousand shares was issued. The second service-based award granted approximately seven thousand shares in fiscal year 2009. This service-based award vested in fiscal year 2009. The weighted-average grant-date fair value for shares granted under these service-based awards was $26.49 for fiscal year 2009. The total fair value of stock grants vested during fiscal year 2010 and 2009 was $0.1 million and $0.2 million, respectively. The unrecognized compensation cost related to non-vested share-based compensation arrangements granted under the service-based plan as of January 30, 2010 and January 31, 2009 was $10.0 thousand and $0.1 million, respectively.
In fiscal year 2007, the Company established a five-year performance-based incentive stock plan for the Chief Financial Officer (the “CFO Incentive Plan”). Up to 11,765 shares are awarded under the plan at the end of each fiscal year if an annual Company performance goal is met. Performance goals are established annually for each of the five one-year performance periods, which results in five separate grant dates. The participant has the option to receive 30% of the award in cash (liability portion) at the end of each of the five one-year periods. The annual cash award is based on the number of shares earned during the annual period times the fair value of the Company’s stock as of the fiscal year end. The amounts under the liability portion of the award vest ratably at the end of each fiscal year. The remaining 70% of the award (equity portion) is granted in the Company’s stock. Shares granted under the equity portion vest at the end of the five-year period. The award also includes a cumulative five-year look-back feature whereby previously unearned one-year awards can be earned based on cumulative performance. The shares that were awarded based on the fiscal year 2010 performance goal had a grant date fair value of $11.90. The total fair value of stock grants issued during fiscal year 2008 was $0.3 million. The CFO Incentive Plan resulted in compensation cost of $0.1 million in fiscal year 2010. The CFO Incentive Plan did not result in compensation cost in fiscal years 2009 and 2008. Future compensation cost will be determined based on future grant date fair values and attainment of the performance goals.
(17)
Purchase Obligations
Purchase obligations include agreements to purchase goods or services that are enforceable and legally binding and that specify all significant terms, including: fixed or minimum quantities to be purchased; fixed, minimum or
BELK, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
variable price provisions; and the approximate timing of the transaction. Agreements that are cancelable without penalty have been excluded. Purchase obligations relate primarily to purchases of property and equipment, information technology contracts, maintenance agreements and advertising contracts.
The annual amount and due dates of purchase obligations as of January 30, 2010 are $70.4 million due within one year, $93.1 million due within one to three years, $13.2 million due within three to five years, and no purchase obligations due after five years.
(18)
Earnings Per Share
Basic earnings per share (“EPS”) is computed by dividing net income (loss) by the weighted-average number of shares of common stock outstanding for the period. The diluted EPS calculation includes the effect of contingently issuable stock-based compensation awards with performance vesting conditions as being outstanding at the beginning of the period in which all vesting conditions are met. The reconciliation of basic and diluted shares for fiscal years 2010, 2009, and 2008 is as follows:
For fiscal year ended January 31, 2009, the Company had a net loss from operations, therefore, the inclusion of contingently-issuable vested share awards would have an anti-dilutive effect on the Company’s calculation of diluted loss per share. Accordingly, the diluted loss per share equals basic loss per share for this period.
(19)
Fair Value Measurements
Fair value is the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants on the measurement date. The Company uses a three-tier fair value hierarchy, which prioritizes the inputs used in measuring fair value. These tiers include: Level 1, defined as observable inputs such as quoted prices in active markets for identical assets and liabilities; Level 2, defined as inputs other than quoted prices in active markets that are either directly or indirectly observable; and Level 3, defined as unobservable inputs in which little or no market data exists, therefore requiring an entity to develop its own assumptions.
As of January 30, 2010, the Company held an interest rate swap that is required to be measured at fair value on a recurring basis. As of January 31, 2009, the Company held available-for-sale investment securities, an auction rate security, and an interest rate swap measured at fair value on a recurring basis. In the fourth quarter of fiscal year 2010, all available-for-sale investment securities were contributed to charitable organizations, and the auction rate security was reclassified to held-to-maturity.
In fiscal year 2009, the Company’s available-for-sale investment securities’ unrealized holding gains and losses were included in other comprehensive income. The fair value of available-for-sale securities was based on quoted market prices.
The Company has entered into interest rate swap agreements with financial institutions to manage the exposure to changes in interest rates. The fair value of interest rate swap agreements is the estimated amount that the Company would pay or receive to terminate the swap agreement, taking into account the current credit worthiness of the swap counterparties. The fair values of swap contracts are determined based on inputs that are readily available in public markets or can be derived from information available in publicly quoted markets. The Company has consistently applied these valuation techniques in all periods presented. Additionally, the change in the fair value of a swap designated as a cash flow hedge is marked to market through accumulated other comprehensive
BELK, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
income (loss). Any swap that is not designated as a hedging instrument is marked to market through gain (loss) on investments.
The Company’s assets and liabilities measured at fair value on a recurring basis at January 30, 2010 and January 31, 2009, respectively, were as follows:
The following table provides a reconciliation of the beginning and ending balances of the Company’s investment in ARS (Level 3):
(a)
The auction rate security classified as available for sale was reclassified to held-to-maturity as of January 30, 2010; its carrying value approximates its fair value.
Certain assets are measured at fair value on a nonrecurring basis; that is, the instruments are not measured at fair value on an ongoing basis but are subject to fair value adjustments only in certain circumstances (for example, when there is evidence of impairment). The fair value measurements related to the long-lived assets in the following table were prompted due to real estate decisions made and annual impairment testing performed during the fourth quarter of fiscal year 2010. Fair values were determined using expected future cash flow analyses. The Company classifies these measurements as Level 3.
BELK, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
The following table presents the carrying amounts and estimated fair values of financial instruments not measured at fair value in the consolidated balance sheets. These included the Company’s auction rate security and fixed rate long-term debt.
(a)
Amounts represent held-to-maturity ARS backed by student loans, which are 97% guaranteed under the Federal Family Education Loan Program, and carries the highest credit ratings of AAA.
(b)
Represents the sum of fixed rate and variable rate long-term debt excluding capitalized leases.
As of January 30, 2010, the par value of the ARS was $9.4 million and the estimated fair value was $9.4 million. The fair value of the ARS is estimated using Level 3 inputs as a result of the lack of frequent trading in these securities. The ARS fair value determination used an income-approach considering factors that reflect assumptions market participants would use in pricing, including: the collateralization underlying the investment; the creditworthiness of the counterparty; expected future cash flows, including the next time the security is expected to have a successful auction; and risks associated with the uncertainties in the current market. The Company has no reason to believe that the underlying issuer of the ARS is presently at risk or that the underlying credit quality of the assets backing the ARS investment has been impacted by the reduced liquidity of this investment.
The fair value of the Company’s fixed rate long-term debt is estimated based on the current rates offered to the Company for debt of the same remaining maturities.
(20)
Stockholders’ Equity
Authorized capital stock of Belk, Inc. includes 200 million shares of Class A common stock, 200 million shares of Class B common stock and 20 million shares of preferred stock, all with par value of $.01 per share. At January 30, 2010, there were 46,907,178 shares of Class A common stock outstanding, 1,378,535 shares of Class B common stock outstanding, and no shares of preferred stock outstanding.
Class A shares are convertible into Class B shares on a 1 for 1 basis, in whole or in part, at any time at the option of the holder. Class A and Class B shares are identical in all respects, with the exception that Class A stockholders are entitled to 10 votes per share and Class B stockholders are entitled to one vote per share. There are restrictions on transfers of Class A shares to any person other than a Class A permitted holder. Each Class A share transferred to a non-Class A permitted holder automatically converts into one share of Class B.
On April 1, 2010, the Company declared a regular dividend of $0.40 and a special one-time additional dividend of $0.40 on each share of the Class A and Class B Common Stock outstanding on that date. On April 1, 2009 and April 2, 2008, the Company declared a regular dividend of $0.20 and $0.40, respectively, on each share of the Class A and Class B Common Stock outstanding on those dates.
On April 1, 2010, the Company’s Board of Directors approved a self-tender offer to purchase up to 2,880,000 shares of common stock at a price of $26.00 per share.
On April 1, 2009, the Company’s Board of Directors approved a self-tender offer to purchase up to 500,000 shares of common stock at a price of $11.90 per share. The tender offer was initiated on April 22, 2009, and on May 20, 2009, the Company accepted for purchase 102,128 shares of Class A and 139,536 shares of
BELK, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Class B common stock for $2.9 million. Subsequently, in a separate transaction, the Company accepted for purchase 258,336 shares of Class A common stock for $3.1 million on June 24, 2009 from Mr. H.W. McKay Belk, President and Chief Merchandising Officer. The number of shares purchased from Mr. Belk represents the difference between the number of shares of common stock which the Company offered to purchase in the tender offer that was initiated on April 22, 2009 and the number of shares that were tendered by stockholders and purchased by the Company. The purchase price was the same as the purchase price offered by the Company in the initial tender offer.
(21)
Selected Quarterly Financial Data (unaudited)
The following table summarizes the Company’s unaudited quarterly results of operations for fiscal years 2010 and 2009:
(1)
Gross profit represents revenues less cost of goods sold (including occupancy, distribution and buying expenses)
Per share amounts are computed independently for each of the quarters presented. The sum of the quarters may not equal the total year amount due to the impact of changes in average quarterly shares outstanding.
Item 9.
Item 9.
Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None.
Item 9A.
Item 9A.
Controls and Procedures
Conclusion Regarding the Effectiveness of Disclosure Controls and Procedures
The Company’s management conducted an evaluation, under the supervision and with the participation of its Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures as of the end of the period covered by this report. The Company’s disclosure controls and procedures are designed to ensure that information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the rules and forms of the Securities and Exchange Commission, and that such information is accumulated and communicated to the Company’s management, including its Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures were effective.
Management’s Report on Internal Control over Financial Reporting
The Company’s management is responsible for establishing and maintaining adequate internal control over financial reporting.
The Company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with accounting principles generally accepted in the United States of America. The Company’s internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail accurately and fairly reflect the transactions and dispositions of the assets of the Company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with accounting principles generally accepted in the United States of America, and that the receipts and expenditures of the Company are being made only in accordance with authorizations of management and directors of the Company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the Company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
Management assessed the effectiveness of the Company’s internal control over financial reporting as of January 30, 2010, based on the framework set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control-Integrated Framework. Based on that assessment, management concluded that, as of January 30, 2010, the Company’s internal control over financial reporting is effective based on the criteria established in the Internal Control-Integrated Framework.
Management’s assessment of the effectiveness of the Company’s internal controls over financial reporting as of January 30, 2010, has been audited by KPMG, LLP, an independent registered public accounting firm. Their attestation report is included herein on the effectiveness of the Company’s internal control over financial reporting as of January 30, 2010.
Changes in Internal Control over Financial Reporting
There have been no changes in the Company’s internal control over financial reporting during the fourth fiscal quarter ended January 30, 2010 that materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Stockholders
Belk, Inc.:
We have audited Belk, Inc. and subsidiaries’ internal control over financial reporting as of January 30, 2010, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Belk, Inc. and subsidiaries’ management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audit also included performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, Belk, Inc. and subsidiaries maintained, in all material respects, effective internal control over financial reporting as of January 30, 2010, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of Belk, Inc. and subsidiaries as of January 30, 2010 and January 31, 2009, and the related consolidated statements of income, changes in stockholders’ equity and comprehensive income, and cash flows for each of the years in the three-year period ended January 30, 2010, and our report dated April 14, 2010, expressed an unqualified opinion on those consolidated financial statements.
As discussed in Note 1 to the consolidated financial statements, the Company adopted the provisions of ASC Section 740-10-25, Income Taxes - Recognition, as of February 4, 2007.
/s/ KPMG LLP
Charlotte, North Carolina
April 14, 2010
Item 9B.
Item 9B.
Other Information
None.
PART III
Item 10.
Item 10.
Directors, Executive Officers and Corporate Governance
The information about the Company’s directors and executive officers is included in the sections entitled “Proposal One - Election of Directors,” “Belk Management - Directors” and “Belk Management - Executive Officers” of the Proxy Statement for the Annual Meeting of the Stockholders to be held on May 26, 2010 and is incorporated herein by reference.
The information about the Company’s Audit Committee is included in the section entitled “Belk Management - Committees of the Board - Audit Committee” of the Proxy Statement for the Annual Meeting of Stockholders to be held on May 26, 2010 and is incorporated herein by reference.
The information about the Company’s Nominating and Corporate Governance Committee is included in the section entitled “Belk Management - Committees of the Board - Nominating and Corporate Governance Committee” of the Proxy Statement for the Annual Meeting of Stockholders to be held on May 26, 2010 and is incorporated herein by reference.
The information about the Company’s compliance with Section 16 of the Exchange Act of 1934, as amended, is included in the section entitled “Section 16(a) Beneficial Ownership Reporting Compliance” of the Proxy Statement for the Annual Meeting of Stockholders to be held on May 26, 2010 and is incorporated herein by reference.
In March 2004, the Company adopted a Code of Ethics for Senior Executive and Financial Officers (the “Code of Ethics”) that applies to the chief executive officer, chief financial officer and chief accounting officer and persons performing similar functions. The Code of Ethics was filed as an exhibit to its Annual Report on Form 10-K for the fiscal year ended January 31, 2004 and is available on the Company’s website at www.belk.com.
Item 11.
Item 11.
Executive Compensation
The information about executive and director compensation is included in the sections entitled “Compensation Discussion and Analysis,” “Executive Compensation,” “Director Compensation,” “Belk Management - Compensation Committee Report” and “Compensation Committee Interlocks and Insider Participation” of the Proxy Statement for the Annual Meeting of Stockholders to be held on May 26, 2010 and is incorporated herein by reference.
Item 12.
Item 12.
Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
The information about security ownership is included in the section entitled “Common Stock Ownership of Management and Principal Stockholders” of the Proxy Statement for the Annual Meeting of Stockholders to be held on May 26, 2010 and is incorporated herein by reference.
Information about the equity compensation plans is included in the section entitled “Equity Compensation Plan Information” of the Proxy Statement for the Annual Meeting of Stockholders to be held on May 26, 2010 and is incorporated herein by reference.
Item 13.
Item 13.
Certain Relationships and Related Transactions, and Director Independence
The information about transactions with related persons is included in the section entitled “Certain Transactions” of the Proxy Statement for the Annual Meeting of Stockholders to be held on May 26, 2010 and is incorporated herein by reference.
The information about director independence is included in the sections entitled “Belk Management - Corporate Governance - Independence of Directors” and “Belk Management - Committees of the Board” of the Proxy Statement for the Annual Meeting of Stockholders to be held on May 26, 2010 and is incorporated herein by reference.
Item 14.
Item 14.
Principal Accountant Fees and Services
The information set forth under the section entitled “Summary of Fees to Independent Registered Public Accountants,” of the Proxy Statement for the Registrant’s Annual Meeting of Shareholders to be held on May 26, 2010, is incorporated herein by reference.
PART IV
Item 15.
Item 15.
Exhibits and Financial Statement Schedules
(a) 1. Consolidated Financial Statements
Report of Independent Registered Public Accounting Firm
Consolidated Statements of Income - Years ended January 30, 2010, January 31, 2009, and February 2, 2008.
Consolidated Balance Sheets - As of January 30, 2010 and January 31, 2009.
Consolidated Statements of Changes in Stockholders’ Equity and Comprehensive Income - Years ended January 30, 2010, January 31, 2009, and February 2, 2008.
Consolidated Statements of Cash Flows - Years ended January 30, 2010, January 31, 2009, and February 2, 2008.
Notes to Consolidated Financial Statements
2. Consolidated Financial Statement Schedules
None.
3. Exhibits
The following list of exhibits includes both exhibits submitted with this Form 10-K as filed with the Commission and those incorporated by reference to other filings:
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, as amended, the Registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized on the 14th day of April, 2010.
BELK, INC.
(Registrant)
By:
/s/ THOMAS M. BELK, JR.
Thomas M. Belk, Jr.
Chairman of the Board and Chief
Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this Report has been signed by the following persons on behalf of the Registrant and in the capacities indicated on April 14, 2010.