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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10 - Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended July 28, 2002
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from______to_______.
Commission file number 1-13740
BORDERS GROUP, INC.
-------------------
(Exact name of registrant as specified in its charter)
MICHIGAN 38-3294588
-------- ----------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
100 Phoenix Drive, Ann Arbor, Michigan 48108
--------------------------------------------
(Address of principal executive offices)
(zip code)
(734) 477-1100
--------------
(Registrant's telephone number, including area code)
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
-------------- --------------
Title of Class Shares Outstanding As of
-------------- August 25, 2002
Common Stock ---------------
79,448,424
BORDERS GROUP, INC.
INDEX
Part I - Financial Information
Page
Item 1. Financial Statements 1
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of
Operations 11
Item 3. Quantitative and Qualitative Disclosures about
Market Risk N/A
Part II - Other information
Item 1. Legal Proceedings 27
Item 2. Changes in Securities and Use of Proceeds N/A
Item 3. Defaults Upon Senior Securities N/A
Item 4. Submission of Matters to a vote of 27
Securityholders
Item 5. Other Information N/A
Item 6. Exhibits and Reports on Form 8-K 28
Signatures 29
Certifications 30
ii
BORDERS GROUP, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(DOLLARS IN MILLIONS EXCEPT COMMON SHARE DATA)
(UNAUDITED)
13 WEEKS ENDED
JULY 28, JULY 29,
2002 2001
---------- ---------
Sales $ 763.6 $ 739.8
Cost of merchandise sold, including
occupancy costs 571.0 553.7
---------- ---------
Gross margin 192.6 186.1
Selling, general and administrative expenses 183.6 179.9
Pre-opening expense 1.0 1.5
Goodwill amortization - 0.6
---------- ---------
Operating income 8.0 4.1
Interest expense 2.5 4.0
---------- ---------
Income before income tax 5.5 0.1
Income tax provision 2.1 -
---------- ---------
Net income $ 3.4 $ 0.1
========== =========
EARNINGS PER COMMON SHARE DATA --
Diluted earnings per common share $ 0.04 $ -
========== =========
Diluted weighted average common shares outstanding (in thousands) 83,139 82,994
========== =========
Basic earnings per common share $ 0.04 $ -
========== =========
Basic weighted average common shares outstanding (in thousands) 81,256 80,455
========== =========
See accompanying Notes to Unaudited Condensed Consolidated Financial Statements.
1
BORDERS GROUP, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(DOLLARS IN MILLIONS EXCEPT COMMON SHARE DATA)
(UNAUDITED)
26 WEEKS ENDED
JULY 28, JULY 29,
2002 2001
---------- ----------
Sales $ 1,515.3 $ 1,469.7
Cost of merchandise sold, including
occupancy costs 1,131.9 1,098.8
Fulfillment center inventory writedowns - 12.7
---------- ----------
Gross margin 383.4 358.2
Selling, general and administrative expenses 364.9 358.3
Legal settlement expense - 2.4
Pre-opening expense 1.8 2.3
Asset impairments and other writedowns - 15.8
Goodwill amortization - 1.3
---------- ----------
Operating income (loss) 16.7 (21.9)
Interest expense 4.9 8.0
---------- ----------
Income (loss) before income tax 11.8 (29.9)
Income tax provision (benefit) 4.5 (11.1)
---------- ----------
Net income (loss) $ 7.3 $ (18.8)
========== ==========
EARNINGS (LOSS) PER COMMON SHARE DATA --
Diluted earnings (loss) per common share $ 0.09 $ (0.23)
========== ==========
Diluted weighted average common shares outstanding (in thousands) 83,615 80,142
========== ==========
Basic earnings (loss) per common share $ 0.09 $ (0.23)
========== ==========
Basic weighted average common shares outstanding (in thousands) 81,367 80,142
========== ==========
See accompanying Notes to Unaudited Condensed Consolidated Financial Statements.
2
BORDERS GROUP, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(DOLLARS IN MILLIONS)
(UNAUDITED)
JULY 28, JULY 29, JANUARY 27,
2002 2001 2002
-------- -------- --------
ASSETS
Current Assets:
Cash and cash equivalents $ 53.1 $ 59.8 $ 190.2
Merchandise inventories 1,212.7 1,143.4 1,178.8
Accounts receivable and other current assets 85.8 99.6 73.1
-------- -------- --------
Total Current Assets 1,351.6 1,302.8 1,442.1
Property and equipment, net of accumulated depreciation of
$607.4, $543.0 and $596.2 at July 28, 2002, July 29,
2001, and January 27, 2002, respectively 544.5 532.4 529.4
Other assets and deferred charges 121.3 57.1 119.1
Goodwill 94.2 90.5 88.7
-------- -------- --------
Total Assets $2,111.6 $1,982.8 $2,179.3
======== ======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Short-term debt and capital lease obligations due within
one year $ 146.1 $ 272.0 $ 83.3
Trade accounts payable 598.1 515.2 638.2
Accrued payroll and other liabilities 240.6 226.6 288.9
Taxes, including income taxes 59.8 40.6 93.0
Deferred income taxes - - 3.3
-------- -------- --------
Total Current Liabilities 1,044.6 1,054.4 1,106.7
Long-term capital lease and financing obligations 52.1 14.0 49.7
Other long-term liabilities 77.2 71.5 73.0
-------- -------- --------
Total Liabilities 1,173.9 1,139.9 1,229.4
-------- -------- --------
Stockholders' Equity:
Common stock; 200,000,000 shares authorized;
79,704,467, 80,941,413 and 81,202,967 issued
and outstanding at July 28, 2002, July 29, 2001, and
January 27, 2002, respectively 677.1 705.3 707.9
Officers receivable and deferred compensation (0.3) (0.2) (0.2)
Accumulated other comprehensive loss (4.1) (13.7) (15.5)
Retained earnings 265.0 151.5 257.7
-------- -------- --------
Total Stockholders' Equity 937.7 842.9 949.9
-------- -------- --------
Total Liabilities & Stockholders' Equity $2,111.6 $1,982.8 $2,179.3
======== ======== ========
See accompanying Notes to Unaudited Condensed Consolidated Financial Statements.
3
BORDERS GROUP, INC.
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
FOR THE 26 WEEKS ENDED JULY 28, 2002
(DOLLARS IN MILLIONS)
(UNAUDITED)
DEFERRED ACCUMULATED
COMPENSATION OTHER
COMMON STOCK AND OFFICER COMPREHENSIVE RETAINED
SHARES AMOUNT RECEIVABLES LOSS EARNINGS TOTAL
----------- -------- ----------- ------------- -------- -------
BALANCE AT JANUARY 27, 2002 81,202,967 $707.9 $(0.2) $(15.5) $257.7 $949.9
----------- ------ ----- ------ ------ ------
Net income - - - - 7.3 7.3
Currency translation adjustment - - - 10.4 - 10.4
Change in fair value of
derivatives, net of tax of $0.6 - - - 1.0 - 1.0
------
Comprehensive income (loss) 18.7
Issuance of common stock 1,257,600 16.2 - - - 16.2
Repurchase and retirement of
common stock (2,756,100) (51.7) - - - (51.7)
Change in receivable and
deferred compensation - - (0.1) - - (0.1)
Tax benefit of equity
compensation - 4.7 - - - 4.7
----------- ------ ----- ------ ------ ------
BALANCE AT JULY 28, 2002 79,704,467 $677.1 $(0.3) $ (4.1) $265.0 $937.7
=========== ====== ===== ====== ====== ======
See accompanying Notes to Unaudited Condensed Consolidated Financial Statements.
4
BORDERS GROUP, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN MILLIONS)
(UNAUDITED)
26 WEEKS ENDED
JULY 28, JULY 29,
2002 2001
------ ------
CASH PROVIDED BY (USED FOR):
OPERATIONS
Net income / (loss) $ 7.3 $(18.8)
Adjustments to reconcile net income (loss) to operating cash flows:
Depreciation and goodwill amortization 46.3 45.8
(Increase) / decrease in deferred income taxes 0.1 -
Change in other long-term assets and liabilities 8.9 3.0
Asset impairments and other writedowns - 10.0
Cash provided by (used for) current assets and current liabilities:
(Increase) / decrease in inventories (27.5) 56.5
(Increase) / decrease in accounts receivable 19.9 4.5
(Increase) / decrease in prepaid expenses (30.8) (29.7)
Increase / (decrease) in accounts payable (43.0) (106.7)
Increase / (decrease) in taxes payable (38.2) (49.4)
Increase / (decrease) in expenses payable and accrued liabilities (49.4) (32.8)
------ ------
Net cash used for continuing operations (106.4) (117.6)
Net cash provided by (used for) discontinued operations - 1.8
------ ------
Net cash used for operations (106.4) (115.8)
INVESTING
Capital expenditures (48.0) (27.6)
------ ------
Net cash used for investing (48.0) (27.6)
FINANCING
Net funding from credit facility 53.0 130.4
Issuance of common stock 16.2 21.3
Repurchase of common stock (51.7) (5.5)
Other (1.2) (1.6)
------ ------
Net cash provided by financing 16.3 144.6
------ ------
Effect of exchange rates on cash and equivalents 1.0 (0.5)
NET INCREASE (DECREASE) IN CASH AND EQUIVALENTS (137.1) 0.7
------ ------
Cash and equivalents at beginning of year 190.2 59.1
------ ------
Cash and equivalents at end of period $ 53.1 $ 59.8
====== ======
See accompanying Notes to Unaudited Condensed Consolidated Financial Statements.
5
BORDERS GROUP, INC.
NOTES TO UNAUDITED CONDENSED
CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions except per common share data)
NOTE 1 - BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements of
Borders Group, Inc. (the Company) have been prepared in accordance with Rule
10-01 of Regulation S-X and do not include all the information and notes
required by accounting principles generally accepted in the United States for
complete financial statements. All adjustments, consisting only of normal
recurring adjustments, have been made which, in the opinion of management, are
necessary for a fair presentation of the results of the interim periods. The
results of operations for such interim periods are not necessarily indicative of
results of operations for a full year. The unaudited condensed consolidated
financial statements should be read in conjunction with the Company's
consolidated financial statements and notes thereto for the fiscal year ended
January 27, 2002.
The Company's fiscal year ends on the Sunday immediately preceding the last
Wednesday in January. At July 28, 2002, the Company operated 399 superstores
primarily under the Borders name, including 13 in the United Kingdom, six in
Australia, two in Puerto Rico, and one each in Singapore and New Zealand. The
Company also operated 811 mall-based and other bookstores primarily under the
Waldenbooks name, and 36 bookstores under the Books etc. name in the United
Kingdom.
NOTE 2 - COMMITMENTS AND CONTINGENCIES
LITIGATION
In August 1998, The Intimate Bookshop, Inc. (Intimate) and its owner, Wallace
Kuralt, filed a lawsuit in the United States District Court for the Southern
District of New York against the Company, Barnes & Noble, Inc., and others
alleging violation of the Robinson-Patman Act and other federal laws, New York
statutes governing trade practices and common law. In response to Defendants'
Motion to Dismiss the Complaint, plaintiff Kuralt withdrew his claims and
plaintiff Intimate voluntarily dismissed all but its Robinson-Patman claims.
Intimate has filed a Second Amended Complaint limited to allegations of
violations of the Robinson-Patman Act. The Second Amended Complaint alleges that
Intimate has suffered $11.3 or more in damages and requests treble damages,
injunctive and declaratory relief, interest, costs, attorneys' fees and other
unspecified relief. The Company intends to vigorously defend the action.
Two former employees, individually and on behalf of a purported class consisting
of all current and former employees who worked as assistant managers in Borders
stores in the state of California at any time between April 10, 1996, and the
present, have filed an action against the Company in the Superior Court of
California for the County of San Francisco. The action alleges that the
individual plaintiffs and the purported class members worked hours for which
they were entitled to receive, but did not receive, overtime compensation under
California law, and that they were classified as exempt store management
employees but were forced to work more than 50% of their time in non-exempt
tasks. The Amended Complaint, which names two additional plaintiffs, alleges
violations of the California Labor Code and the California Business and
Professions Code. The relief sought includes compensatory and punitive damages,
penalties, preliminary and permanent injunctions requiring Borders to pay
overtime compensation as required under California and Federal law, prejudgment
interest, costs, and attorneys' fees and such other relief as the court deems
proper. On July 29, 2002, the Superior Court of California granted the
plaintiffs' motion for class certification in the action. The class certified
consists of all individuals who worked as Assistant Managers in a Borders
superstore in California at any time between April 10, 1996 and March 18, 2001.
The class was further certified by the Court into the following subclasses:
Assistant Manager-Merchandising; Assistant Manager-Inventory; Assistant
Manager-Human Resources; Assistant Manager-Music; Assistant Manager-Training;
Assistant Manager-Cafe. The Company intends to vigorously defend the action.
6
BORDERS GROUP, INC.
NOTES TO UNAUDITED CONDENSED
CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions except per common share data)
The Company has not included any liability in its consolidated financial
statements in connection with the lawsuits described above and has expensed as
incurred all legal costs to date. Although an adverse resolution of either of
these lawsuits could have a material adverse effect on the result of the
operations of the Company for the applicable period or periods, the Company does
not believe that any such litigation will have a material effect on its
liquidity or financial position.
In addition to the matters described above, the Company is, from time to time,
involved in or affected by other litigation incidental to the conduct of its
businesses.
RELATIONSHIP WITH KMART
General. Prior to its initial public offering in May 1995, the Company was a
subsidiary of Kmart Corporation (Kmart); Kmart currently owns no shares of
common stock of the Company. In January 2002, Kmart Corporation filed for
reorganization under Chapter 11 of the US Bankruptcy Code. Such filing has not
affected the operations of the Company.
Kmart and the Company continue to have the following contractual relationships.
Tax Allocation and Indemnification Agreement. Prior to the completion of its
initial public offering (IPO), the Company was included in the consolidated
federal income tax returns of Kmart and filed on a combined basis with Kmart in
certain states. Pursuant to a tax allocation and indemnification agreement
between the Company and Kmart (Tax Allocation Agreement) the Company will remain
obligated to pay to Kmart any income taxes the Company would have had to pay if
it had filed separate tax returns for the tax period beginning on January 26,
1995, and ending on June 1, 1995, the date of the consummation of the IPO (to
the extent that it has not previously paid such amounts to Kmart). In addition,
if the tax liability attributable to the Company for any previous tax period
during which the Company was included in a consolidated federal income tax
return filed by Kmart or a combined state return is adjusted as a result of an
action of a taxing authority or a court, then the Company will pay to Kmart the
amount of any increase in such liability and Kmart will pay to the Company the
amount of any decrease in such liability (in either case together with interest
and penalties). The Company's tax liability for previous years will not be
affected by any increase or decrease in Kmart's tax liability if such increase
or decrease is not directly attributable to the Company. After completion of the
IPO, the Company continued to be subject under existing federal regulations to
several liability for the consolidated federal income taxes for any tax year in
which it was a member of any consolidated group of which Kmart was the common
parent. Pursuant to the Tax Allocation Agreement, however, Kmart agreed to
indemnify the Company for any federal income tax liability of Kmart or any of
its subsidiaries (other than that which is attributable to the Company) that the
Company could be required to pay and the Company agreed to indemnify Kmart for
any of the Company's separate company taxes.
Lease Guaranty Agreement. Borders' leases for 13 of its retail stores and its
distribution center in Harrisburg, Pennsylvania have been guaranteed by Kmart.
Under the terms of a lease guaranty, indemnification and reimbursement agreement
entered into upon completion of the IPO, as amended, (Lease Guaranty Agreement),
the underlying leases will be transferable by Borders, subject to a right of
first refusal in favor of Kmart with respect to sites within a three-mile radius
of a Kmart store and, with respect to all other sites, a right of first offer in
favor of Kmart. The Company and Borders are required to indemnify Kmart with
respect to (i) any liabilities Kmart may incur under the lease guarantees,
except those liabilities arising from the gross negligence or willful misconduct
of Kmart, and (ii) any losses incurred by Kmart after taking possession of any
particular premises, except to the extent such losses arise solely from the acts
or omissions of Kmart. Under the terms of the Lease Guaranty Agreement, in the
event of (i) the Company's or Borders' failure to provide any required
indemnity, (ii) a knowing and material violation of the limitations on transfers
of guaranteed leases set forth in the agreement, or (iii) certain events of
bankruptcy, Kmart will have the right to assume any or all of the guaranteed
leases and to take possession of all of the premises underlying such guaranteed
leases; provided, that in the event of a failure or failures to provide required
indemnities, the remedy of taking possession of all of the premises underlying
the guaranteed
7
BORDERS GROUP, INC.
NOTES TO UNAUDITED CONDENSED
CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions except per common share data)
leases may be exercised only if such failures relate to aggregate liability of
$10.0 or more and only if Kmart has provided 100 days' prior written notice. In
the event of a failure to provide required indemnities resulting in losses of
more than the equivalent of two months rent under a particular lease but less
than $10.0, Kmart may exercise such remedy of possession as to the premises
underlying the guaranteed lease or leases to which the failure to provide the
indemnity relates and one additional premise for each such premises to which the
failure relates, up to a maximum, in any event, of five additional premises, and
thereafter, with respect to such additional premises, Kmart remedies and
indemnification rights shall terminate. In the event of a failure to provide
required indemnities resulting in liabilities of less than the equivalent of two
months rent under a particular lease, Kmart may exercise such remedy of
possession only as to the premises underlying the guaranteed lease or leases to
which the failure to provide the indemnity relates. The Lease Guaranty Agreement
will remain in effect until the expiration of all lease guarantees, which the
Company believes will be in January 2020.
NOTE 3 - FINANCING
Credit Facility. The Company has a Multicurrency Revolving Credit Agreement (the
"Credit Agreement"), which will expire in June 2005. The Credit Agreement
provides for borrowings of up to $375.0, which will be increased to $400.0 upon
the reduction of the amounts outstanding under the Original Lease Facility
described below to $75.0 or less. Borrowings under the Credit Agreement bear
interest at a variable base rate plus an increment or LIBOR plus an increment at
the Company's option. This Credit Agreement contains covenants which limit,
among other things, the Company's ability to incur indebtedness, grant liens,
make investments, consolidate or merge, declare dividends, dispose of assets,
repurchase its common stock in excess of $100.0 over the term of the Agreement
or $50.0 in any fiscal year (plus any proceeds and tax benefits resulting from
stock option exercises and tax benefits resulting from restricted shares
purchased by employees from the Company), and requires the Company to meet
certain financial measures regarding fixed coverage, leverage, tangible net
worth and capital expenditures. The Company had borrowings outstanding under the
Credit Agreement (or a prior agreement) of $144.6 at July 28, 2002, $270.9 at
July 29, 2001 and $81.6 at January 27, 2002.
Lease Financing Facilities. The Company has two lease financing facilities
(collectively, the "Lease Financing Facilities") to finance new stores and other
property owned by unaffiliated entities and leased to the Company or its
subsidiaries. The original facility (the "Original Lease Facility") will expire
in June 2004 (2005 if certain conditions are satisfied). In June of 2002, the
Company established a new facility (the "New Lease Facility"), which will expire
in 2007. The aggregate amount available under the Lease Financing Facilities is
$100.0 until December 1, 2002 and $75.0 thereafter. Properties to be financed
after the effective date of the New Lease Facility will be financed under that
Facility, and no additional properties will be financed under the Original Lease
Facility. By December 1, 2002 (November 1, 2002 for purposes of the Credit
Agreement), the Company is required to reduce amount financed under the Original
Lease Facility to $75.0 or less, and expects to do so by permanently financing
certain properties currently financed under the Original Lease Facility. The
Lease Financing Facilities provide financing to lessors of properties leased to
the Company or its subsidiaries through loans from lenders for up to 95% of a
project's cost. Additionally, under the New Lease Facility, the unaffiliated
lessor will make equity contributions approximating 5% of the cost of each
project. The lessors under the Original Lease Facility have made similar
contributions. Independent of the Company's obligations relating to the leases,
the Company and certain of its subsidiaries guarantee payment when due of all
amounts required to be paid to the third-party lenders. The agreements relating
to both of the Lease Financing Facilities contain covenants and events of
default that are similar to those contained in the Credit Agreement described
above.
8
BORDERS GROUP, INC.
NOTES TO UNAUDITED CONDENSED
CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions except per common share data)
There was $92.7, $127.0 and $121.8 outstanding under the Original Lease Facility
at July 28, 2002, July 29, 2001 and January 27, 2002, respectively. The Company
has recorded $52.1, $14.0 and $49.7 of the amounts under the Original Lease
Facility as capitalized lease and financing obligations at July 28, 2002, July
29, 2001 and January 27, 2002, respectively. These amounts have been treated as
non-cash items on the consolidated statements of cash flows. In the second
quarter of 2002, the Company permanently financed nine properties, one of which
had been capitalized, with a total value of approximately $28.5 through
long-term leases. There had not been any borrowings under the New Lease Facility
as of July 28, 2002.
The Company is in compliance with all debt covenants contained within the
Multicurrency and Lease Financing facilities described above.
NOTE 4 - CHANGE IN ACCOUNTING PRINCIPLE
Effective January 28, 2002, the Company adopted Statement of Financial
Accounting Standards No. 142, "Goodwill and Other Intangible Assets" (FAS 142).
As required by FAS 142, the Company is no longer amortizing goodwill, but will
be reviewing annually (or more frequently if impairment indicators arise) for
impairment. Upon initial application of FAS 142, the Company determined that
there was no impairment of goodwill for any of its reporting units. The
following pro forma earnings and earnings per share data have been presented on
a pro forma basis to eliminate goodwill amortization, as required by FAS 142.
13 WEEKS ENDED 26 WEEKS ENDED
JULY 28, JULY 29, JULY 28, JULY 29,
2002 2001 2002 2001
----- ----- ----- ------
ADJUSTED NET INCOME/(LOSS):
Net income/(loss) $ 3.4 $ 0.1 $ 7.3 $(18.8)
Goodwill amortization - 0.6 - 1.3
----- ----- ----- ------
Adjusted net income/(loss) $ 3.4 $ 0.7 $ 7.3 $(17.5)
===== ===== ===== ======
DILUTED EARNINGS (LOSS) PER SHARE:
Net income (loss) $0.04 $ - $0.09 $(0.23)
Goodwill amortization - 0.01 - 0.02
----- ----- ----- ------
Adjusted net income (loss) $0.04 $0.01 $0.09 $(0.21)
===== ===== ===== ======
BASIC EARNINGS (LOSS) PER SHARE:
Net income (loss) $0.04 $ - $0.09 $(0.23)
Goodwill amortization - 0.01 - 0.02
----- ----- ----- ------
Adjusted net income (loss) $0.04 $0.01 $0.09 $(0.21)
===== ===== ===== ======
NOTE 5 - ASSET IMPAIRMENTS AND OTHER WRITEDOWNS
On March 15, 2001, the Company announced an agreement with Ingram Book Group
("Ingram"), a wholesaler of books, spoken audio and magazines, pursuant to which
Ingram provides fulfillment services for the Company's special order sales. This
agreement resulted in a pre-tax charge of $15.8 in the first quarter of 2001.
This charge primarily related to the writedown of assets used by the
Company-owned facility to fulfill special order sales, including warehouse
equipment, hardware and software, and is categorized as "Asset impairments and
other writedowns" on the Condensed Consolidated Statements of Operations.
9
BORDERS GROUP, INC.
NOTES TO UNAUDITED CONDENSED
CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions except per common share data)
The agreement with Ingram also resulted in a $12.7 pre-tax charge in the first
quarter of 2001 for the writedown of Fulfillment center inventory. This charge
is categorized as "Fulfillment center inventory writedowns" on the Condensed
Consolidated Statements of Operations.
NOTE 6 - SEGMENT INFORMATION
The Company is organized based upon the following operating segments: domestic
Borders stores, international Borders and Books etc. stores, Walden stores, and
other (consisting of the unallocated portion of interest expense and certain
corporate governance costs).
Segment data includes charges allocating certain corporate headquarters costs to
each segment. Transactions between segments, consisting principally of inventory
transfers, are recorded primarily at cost. The Company evaluates the performance
of its segments and allocates resources to them based on anticipated future
contribution.
Total assets for the Other segment include certain corporate headquarters
property and equipment, net of accumulated depreciation, of $71.1 and $59.7 at
July 28, 2002 and July 29, 2001, respectively, whose related depreciation
expense has been allocated to the Borders and Waldenbooks segments. Depreciation
expense allocated to the Borders segment totaled $2.3 and $2.0 for the 13 weeks
ended July 28, 2002 and July 29, 2001, respectively, and $4.6 and $4.0 for the
26 weeks ended July 28, 2002 and July 29, 2001, respectively. Depreciation
expense allocated to the Waldenbooks segment totaled $1.3 and $0.9 for the 13
weeks ended July 28, 2002 and July 29, 2001, respectively, and $2.6 and $1.8 for
the 26 weeks ended July 28, 2002 and July 29, 2001, respectively.
13 WEEKS ENDED 26 WEEKS ENDED
JULY 28, JULY 29, JULY 28, JULY 29,
2002 2001 2002 2001
------ ------ -------- --------
Sales
Borders $529.6 $511.1 $1,048.1 $1,011.7
Walden 168.3 175.6 338.3 352.4
International 65.7 53.1 128.9 105.6
------ ------ -------- --------
Total sales $763.6 $739.8 $1,515.3 $1,469.7
====== ====== ======== ========
Net income (loss)
Borders $ 11.8 $ 8.4 $ 23.0 $ (1.1)
Walden (0.8) (1.0) 0.6 (2.2)
International (5.2) (4.4) (9.9) (7.9)
Other (2.4) (2.9) (6.4) (7.6)
------ ------ -------- --------
Total net income (loss) $ 3.4 $ 0.1 $ 7.3 $ (18.8)
====== ====== ======== ========
Total assets
Borders $1,358.6 $1,261.8
Walden 376.8 402.9
International 287.2 215.9
Other 89.0 90.3
-------- --------
Total continuing operations 2,111.6 1,970.9
Discontinued operations - 11.9
-------- --------
Total assets $2,111.6 $1,982.8
======== ========
10
BORDERS GROUP, INC.
NOTES TO UNAUDITED CONDENSED
CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions except per common share data)
NOTE 7 - SUBSEQUENT EVENT
On July 30, 2002 the Company issued $50.0 senior guaranteed notes (the "Notes")
due July 30, 2006 and bearing interest at 6.31%. The proceeds of the sale of the
Notes are being used to refinance existing indebtedness of the Company and its
subsidiaries and for general corporate purposes. The note purchase agreement
relating to the Notes contains covenants which limit, among other things, the
Company's ability to incur indebtedness, grant liens, make investments, engage
in any merger or consolidation, dispose of assets or change the nature of its
business, and requires the Company to meet certain financial measures regarding
net worth, total debt coverage and fixed charge coverage.
11
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
GENERAL
Borders Group, Inc., (the Company), through its subsidiaries, is the second
largest operator of book and music superstores and the largest operator of
mall-based bookstores in the world based upon both sales and number of stores.
As of July 28, 2002, the Company operated 399 superstores primarily under the
Borders name, including 13 in the United Kingdom, six in Australia, two in
Puerto Rico and one each in Singapore and New Zealand. The Company also operated
811 mall-based and other bookstores primarily under the Waldenbooks name, and 36
bookstores under the Books etc. name in the United Kingdom.
The Company's business strategy is to continue its growth and increase its
profitability through (i) expanding and refining its core superstore business,
(ii) driving international growth by leveraging infrastructure investments and
expanding established markets, (iii) leveraging strategic alliances and in-store
Web-based commerce technologies which enhance the customer experience, and (iv)
maximizing cash flow at Waldenbooks by containing costs. Specifically, the
Company expects to open an average of 40 domestic Borders stores annually over
the next several years. International store growth over the next several years
will focus on existing markets, primarily in the United Kingdom and Australia,
with approximately eight to ten international store openings annually. Full year
profitability is expected to be achieved by the International segment in 2003.
The Waldenbooks segment has experienced decreased comparable sales percentages
for the past few years primarily due to the overall decrease in mall traffic and
the impact of superstore openings. As a result, the Company has developed a plan
for the optimization of its store base in order to improve net income and free
cash flow. This plan could result in further store closing costs or asset
impairments over the next few years. The Company's objectives with respect to
these initiatives are to support consolidated annual sales growth of
approximately 8% to 10% and consolidated annual earnings growth of approximately
13% to 15%.
In fiscal 2001, the Company entered into an agreement with Amazon.com, Inc.
("Amazon") for Amazon to develop and operate a co-branded web site utilizing the
Borders.com URL (the "Mirror Site"). Operation of the Mirror Site began August
1, 2001. As of this date, the Company stopped selling merchandise via its
Company-owned and -operated Borders.com web site (and the Internet). Under this
agreement, Amazon is the merchant of record for all sales made through the
Mirror Site, and determines all prices and other terms and conditions applicable
to such sales. Amazon or one of its affiliates fulfills, packages and ships to
customers all products sold through the Mirror Site. In addition, Amazon assumes
all risk, cost and responsibility related to the sale and fulfillment of all
products sold through the Mirror Site and retains all payments from customers.
The Company receives referral fees for products purchased through the Mirror
Site.
The Company's second quarters of 2002 and 2001 consisted of the 13 weeks ended
July 28, 2002 and July 29, 2001, respectively.
12
RESULTS OF OPERATIONS
The following table presents the Company's consolidated statement of operations
data, as a percentage of sales, for the periods indicated.
13 WEEKS ENDED 26 WEEKS ENDED
JULY 28, 2002 JULY 29, 2001 JULY 28, 2002 JULY 29, 2001
------------- ------------- ------------- -------------
Sales 100.0% 100.0% 100.0% 100.0%
Cost of merchandise sold (includes
occupancy) 74.8 74.8 74.7 74.8
Fulfillment center inventory writedowns - - - 0.8
----- ----- ----- -----
Gross margin 25.2 25.2 25.3 24.4
Selling, general and administrative
expenses 24.0 24.3 24.1 24.4
Legal settlement expense - - - 0.2
Pre-opening expense 0.1 0.2 0.1 0.2
Goodwill amortization - 0.1 - 0.1
Asset impairments and other writedowns - - - 1.1
----- ----- ----- -----
Operating income (loss) 1.1 0.6 1.1 (1.6)
Interest expense 0.4 0.6 0.3 0.5
----- ----- ----- -----
Income (loss) before income tax 0.7 - 0.8 (2.1)
Income tax 0.3 - 0.3 (0.8)
----- ----- ----- -----
Net income (loss) 0.4% 0.0% 0.5% (1.3)%
===== ===== ===== =====
CONSOLIDATED RESULTS
COMPARISON OF THE 13 WEEKS ENDED JULY 28, 2002 AND JULY 29, 2001
SALES
Consolidated sales increased $23.8 million, or 3.2%, to $763.6 million in
2002 from $739.8 million in 2001. This resulted primarily from increased
sales in the Borders and International segments due to the opening of new
superstores, partially offset by a decrease in Borders' comparable store
sales. A decrease in sales of the Waldenbooks segment also partially offset
the increase in consolidated sales, due primarily to store closures and a
decrease in comparable store sales. Please see "Segment Results" for a
detailed discussion of the changes in sales.
GROSS MARGIN
Consolidated gross margin increased $6.5 million, or 3.5%, to $192.6 million
in 2002 from $186.1 million in 2001. As a percentage of sales, however, it
remained flat at 25.2% in 2002 and 2001. This primarily resulted from an
increase in gross margin as a percentage of sales for the Borders segment,
offset by a decrease in the Waldenbooks segment (and to a lesser extent, a
decrease in the International segment). The improvement at Borders was
primarily due to decreased shrinkage costs resulting from improved store
compliance with shrinkage prevention procedures and increased management
focus. Waldenbooks' gross margin as a percentage of sales decreased
primarily due to increased promotional markdowns taken in the second quarter
of 2002.
The Company classifies the following items as "Cost of merchandise sold
(includes occupancy)" on its consolidated statements of operations: product
costs and related discounts, markdowns, freight, shrinkage, preferred reader
club income, capitalized inventory costs, distribution center costs
(including payroll, rent, supplies, depreciation, and other operating
expenses), and store occupancy costs (including rent, common area
maintenance, depreciation, repairs and maintenance, taxes, insurance, and
others). The Company's gross margin may not be comparable to that of other
retailers, since some retailers exclude the costs related to their
distribution network from cost of sales and include them in other financial
statement lines.
13
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
Consolidated selling, general and administrative expenses (SG&A) increased
$3.7 million, or 2.1%, to $183.6 million in 2002 from $179.9 million in
2001. As a percentage of sales, however, it decreased to 24.0% in 2002 from
24.3% in 2001. This decrease primarily resulted from a decrease in SG&A
expenses as a percentage of sales for the International segment, partially
offset by an increase at the Waldenbooks segment. Borders' SG&A expenses as
a percentage of sales were essentially flat in 2002 with 2001. The
improvement at International segment was primarily the result of store
payroll costs and store operating expenses increasing at rates less than
sales growth. Waldenbooks experienced higher overhead payroll and
non-payroll expenses as a percentage of sales due to these costs remaining
relatively fixed while sales declined.
The Company classifies the following items as "Selling, general and
administrative expenses" on its consolidated statements of operations: store
and administrative payroll, utilities, supplies and equipment costs, credit
card and bank processing fees, bad debt, legal and consulting fees,
advertising, and others.
GOODWILL AMORTIZATION
In the first quarter of 2002, the Company adopted Statement of Financial
Accounting Standards No. 142, "Goodwill and Other Intangible Assets" (FAS
142). Adoption had the impact of eliminating the Company's goodwill
amortization and increasing net income by approximately $0.7 million in the
second quarter of 2002. Upon initial application of FAS 142, the Company
determined no goodwill impairment existed.
INTEREST EXPENSE
Consolidated interest expense decreased $1.5 million, or 37.5%, to $2.5
million in 2002 from $4.0 million in 2001. This was primarily due to lower
average debt levels in the second quarter of 2002 as compared to the second
quarter of 2001, which resulted primarily from increased cash flow generated
by the Borders segment.
TAXES
The effective tax rate for the years presented differed from the federal
statutory rate primarily as a result of state income taxes. The Company's
estimated effective tax rate used was 38.0% in 2002 compared to 37.0% in
2001. The increase is primarily due to changes in the mix of income subject
to tax in the various taxing jurisdictions.
COMPARISON OF THE 26 WEEKS ENDED JULY 28, 2002 AND JULY 29, 2001
SALES
Consolidated sales increased $45.6 million, or 3.1%, to $1,515.3 million in
2002 from $1,469.7 million in 2001. This resulted primarily from increased
sales in the Borders and International segments due to the opening of new
superstores, partially offset by a decrease in Borders' comparable store
sales. A decrease in sales of the Waldenbooks segment also partially offset
the increase in consolidated sales, due primarily to store closures and a
decrease in comparable store sales. Please see "Segment Results" for a
detailed discussion of the changes in sales.
GROSS MARGIN
Consolidated gross margin increased $25.2 million, or 7.0%, to $383.4
million in 2002 from $358.2 million in 2001. As a percentage of sales, it
increased to 25.3% in 2002 from 24.4% in 2001. This increase primarily
resulted from a $12.7 million pre-tax charge taken in the first quarter of
2001 for the writedown of inventory affected by the Company's agreement with
Ingram Book Company (Ingram). On March 15, 2001, the Company announced an
agreement with Ingram, a wholesaler of books, spoken audio and magazines,
pursuant to which Ingram provides fulfillment services for the Company's
special order book sales. The agreement included the sale to Ingram of a
large percentage of the book inventory housed in the Company's fulfillment
center in LaVergne, Tennessee, which handled the function assumed by Ingram.
Excluding this charge, gross margin as a percentage of sales increased to
25.3% in 2002 from 25.2% in 2001. This was the result of an increase in
gross margin as a percentage of sales for the Waldenbooks segment, partially
offset by a decrease at the International segment. Borders' gross margin as
a percentage of sales was flat in 2002 with 2001. The improvement at
Waldenbooks was primarily due to decreased distribution costs as a
percentage of sales, resulting primarily from Borders increased usage of
Waldenbooks' distribution facilities (coupled with a corresponding decrease
in Waldenbooks' usage). The decrease in International gross margin as a
percentage of sales was primarily due to the Company's obtaining merchandise
from a wholesaler to address internal capacity limits in the United Kingdom
for a portion of 2002.
14
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
Consolidated selling, general and administrative expenses (SG&A) increased
$6.6 million, or 1.8%, to $364.9 million in 2002 from $358.3 million in
2001. As a percentage of sales, however, it decreased to 24.1% in 2002 from
24.4% in 2001. This decrease primarily resulted from a decrease in SG&A
expenses as a percentage of sales for the Borders and International
segments, partially offset by an increase for the Waldenbooks segment. The
improvement at Borders was primarily the result of a reduction in
Borders.com operating expenses in conjunction with the agreement with
Amazon. The improvement at International was primarily the result of store
payroll costs and store operating expenses increasing at rates less than
sales growth. Waldenbooks experienced higher overhead payroll and
non-payroll expenses as a percentage of sales due to these costs remaining
relatively fixed while sales declined.
LEGAL SETTLEMENT EXPENSE
In March 1998, the American Booksellers Association (ABA) and 26 independent
bookstores filed a lawsuit in the United States District Court for the
Northern District of California against the Company and Barnes & Noble, Inc.
alleging violations of the Robinson-Patman Act, the California Unfair Trade
Practice Act, and the California Unfair Competition Act. On April 19, 2001,
the Company announced that a settlement had been reached in this action. The
Company paid $2.4 million under the agreement.
GOODWILL AMORTIZATION
In the first quarter of 2002, the Company adopted Statement of Financial
Accounting Standards No. 142, "Goodwill and Other Intangible Assets" (FAS
142). Adoption had the impact of eliminating the Company's goodwill
amortization and increasing net income by approximately $1.4 million in the
26 weeks ended July 28, 2002. Upon initial application of FAS 142, the
Company determined no goodwill impairment existed.
ASSET IMPAIRMENTS AND OTHER WRITEDOWNS
In addition to the writedown of inventory discussed above, the Company's
agreement with Ingram in March 2001 resulted in a first quarter 2001 pre-tax
charge of approximately $15.8 million. This charge was primarily related to
the writedown of assets used by the Company-owned facility to fulfill
special order sales, including computer hardware and software, leasehold
improvements, and warehouse equipment.
INTEREST EXPENSE
Consolidated interest expense decreased $3.1 million, or 38.8%, to $4.9
million in 2002 from $8.0 million in 2001. This was primarily due to lower
average debt levels in the first half of 2002 as compared to the first half
of 2001, which primarily resulted from increased cash flow generated by the
Borders segment.
TAXES
The effective tax rate for the years presented differed from the federal
statutory rate primarily as a result of state income taxes. The Company's
estimated effective tax rate used was 38.0% in 2002 compared to 37.0% in
2001. The increase is primarily due to changes in the mix of income subject
to tax in the various taxing jurisdictions.
SEGMENT RESULTS
The Company is organized based upon the following operating segments: domestic
Borders stores, Waldenbooks stores, international Borders and Books etc. stores,
and other (consisting of the unallocated portion of interest expense and certain
corporate governance costs). Amounts relating to Borders.com, other than
intercompany interest expense (net of related taxes), have been reclassified
into the Borders segment for all periods presented. Intercompany interest
charges (net of related taxes) relating to Borders.com have been included in the
other segment. See Note 6 in the notes to the condensed consolidated financial
statements for further information relating to these segments.
15
13 WEEKS ENDED 26 WEEKS ENDED
BORDERS
(dollar amounts in millions)
JULY 28, 2002 JULY 29, 2001 JULY 28, 2002 JULY 29, 2001
------------- ------------- ------------- -------------
Sales $529.6 $511.1 $1,048.1 $1,011.7
Net income (loss) $ 11.8 $ 8.4 $ 23.0 $ (1.1)
Net income (loss) as % of sales 2.2% 1.6% 2.2% (0.1)%
Depreciation and
amortization expense $ 16.2 $ 16.5 $ 32.6 $ 31.9
Interest expense $ 0.6 $ 3.0 $ 0.6 $ 5.8
Store Openings 7 6 13 10
Store Closings - - - -
Store Count 376 345 376 345
COMPARISON OF THE 13 WEEKS ENDED JULY 28, 2002 AND JULY 29, 2001
SALES
Borders' sales increased $18.5 million, or 3.6%, to $529.6 million in 2002
from $511.1 million in 2001. This increase was comprised of non-comparable
sales primarily associated with 2002 and 2001 store openings of $28.1
million, comparable store sales decreases of $6.4 million, and decreased
Borders.com sales of $3.2 million (due to the agreement with Amazon).
Comparable store sales decreased 1.0% in 2002. Borders' comparable store
sales measures, which are based upon a 52-week year, include all stores open
more than one year except those not offering music (of which there are
fourteen, representing approximately 3% of total sales). New stores are
included in the calculation of comparable store sales measures upon the 13th
month of operation. The comparable store sales decrease for 2002 was due
primarily to the music category, which experienced negative comparable store
sales. Among other factors, this was primarily the result of fewer large
releases in the current year as compared to the prior year. Partially
offsetting the weakness in the music category, however, were increased
comparable stores sales in the movies and gifts and stationary categories.
Sales of the movie category improved on a comparable store basis primarily
as the result of increased sales of digital video discs (DVDs). This
increase, which was slightly offset by a decrease in videotape sales,
resulted from the increasing popularity of the DVD format. Sales of the
gifts and stationary category also increased, principally the result of
category management initiatives resulting in product enhancements, improved
placements, and a slight increase in space allocation. However, the overall
mix of book, music, cafe, and gifts and stationary merchandise sold by
Borders stores did not change significantly in 2002 as compared to 2001. The
impact of price changes on comparable store sales was not significant.
GROSS MARGIN
Gross margin as a percentage of sales increased approximately 0.3% in 2002
compared to 2001. The largest contributor to this increase was a 0.7%
decrease in product and distribution costs, consisting primarily of a 0.4%
decrease in shrinkage costs, a 0.1% decrease in distribution center
processing costs, and a 0.2% improvement in various other product cost
categories. Shrinkage expense decreased primarily due to improved store
compliance with shrinkage prevention procedures and increased management
focus. Offsetting the improvement in gross margin as a percentage of sales
was a 0.4% increase in store occupancy costs as a percentage of sales
primarily as a result of the stores' rent, common area maintenance, property
taxes, and insurance expenses representing a higher percentage of sales.
This was primarily due to new stores' rent costs representing a higher
percentage of sales than older stores and the increased lease costs related
to the permanent refinancing of certain stores previously financed through
the Original Lease Facility.
Gross margin dollars increased approximately 4.9% in 2002 primarily due to
new store openings and the improvement in gross margin percentage noted
above.
16
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
Selling, general and administrative expenses (SG&A) as a percentage of sales
were essentially flat in 2002 compared to 2001. A slight improvement of 0.1%
in store payroll and operating expenses as a percentage of sales was offset
by a similar decrease in advertising income as a percentage of sales.
SG&A dollars increased approximately 3.2% in 2002 primarily due to new store
openings and the increased store payroll and operating expenses required.
NET INCOME
Net income as a percentage of sales increased to 2.2% in 2002 from 1.6% in
2001. Increased gross margin as a percentage of sales, coupled with
decreased interest costs, were the largest contributors to the increase.
Borders' net income dollars increased $3.4 million, or 40.4%, to $11.8
million in 2002 from $8.4 million in 2001. This was primarily due to the
gross margin generated by new store openings and decreased interest costs.
OTHER
Depreciation and amortization expense decreased $0.3 million, or 1.8%, to
$16.2 million in 2002 from $16.5 million in 2001. This was primarily the
result of the cessation of goodwill amortization pursuant to the Company's
adoption of FAS 142.
Interest expense decreased $2.4 million, or 80.0%, to $0.6 million in 2002
from $3.0 million in 2001. This was due to the generation of cash flow,
which reduced average borrowing levels at fixed internal interest rates.
COMPARISON OF THE 26 WEEKS ENDED JULY 28, 2002 AND JULY 29, 2001
SALES
Borders' sales increased $36.4 million, or 3.6%, to $1,048.1 million in 2002
from $1,011.7 million in 2001. This increase was comprised of non-comparable
sales primarily associated with 2002 and 2001 store openings of $54.8
million, comparable store sales decreases of $9.7 million, and decreased
Borders.com sales of $8.7 million (due to the agreement with Amazon).
Comparable store sales decreased 0.8% in 2002. The comparable store sales
decrease for 2002 was due primarily to the music category, which experienced
negative comparable store sales. Among other factors, this was primarily the
result of fewer large releases in the current year as compared to the prior
year. Partially offsetting the weakness in the music category, however, were
increased comparable stores sales in the movies and gifts and stationary
categories. Sales of the movie category improved on a comparable store basis
primarily as the result of increased sales of digital video discs (DVDs).
This increase, which was slightly offset by a decrease in videotape sales,
resulted from the increasing popularity of the DVD format. Sales of the
gifts and stationary category also increased, principally the result of
category management initiatives resulting in product enhancements, improved
placements, and a slight increase in space allocation. However, the overall
mix of book, music, cafe, and gifts and stationary merchandise sold by
Borders stores did not change significantly in 2002 as compared to 2001. The
impact of price changes on comparable store sales was not significant.
GROSS MARGIN
Gross margin as a percentage of sales increased approximately 1.3% in 2002
compared to 2001. The largest contributor to this increase was a $12.7
million pre-tax charge taken in the first quarter of 2001 for the writedown
of inventory affected by the Company's agreement with Ingram, as previously
discussed. Excluding this charge, gross margin as a percentage of sales was
flat in 2002 with 2001. This resulted from a 0.6% decrease in product and
distribution costs, consisting primarily of a 0.2% improvement in product
costs resulting from the Company's cessation of merchandise sales via the
Internet in August 2001, a 0.1% decrease in shrinkage costs, a 0.1% decrease
in distribution center processing costs, and a 0.2% improvement in various
other product cost categories. The Company's stoppage of merchandise sales
via the Internet benefited the gross margin percentage primarily because the
Company's gross margin percentage on Internet sales had been lower than on
merchandise sold via other channels. Offsetting the improvement in gross
margin as a percentage of sales was a 0.6% increase in store occupancy costs
as a percentage of sales primarily as a result of the stores' rent, common
area
17
maintenance, property taxes, and insurance expenses representing a higher
percentage of sales. This was primarily due to new stores' rent costs
representing a higher percentage of sales than older stores and the
increased lease costs related to the permanent refinancing of certain stores
previously financed through the Original Lease Facility.
Gross margin dollars increased approximately 8.8% in 2002 primarily due to
the $12.7 million pre-tax charge taken in the first quarter of 2001 relating
to the agreement with Ingram. Excluding this charge, gross margin dollars
increased approximately 3.7%, primarily due to new store openings.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
Selling, general and administrative expenses (SG&A) as a percentage of sales
improved 0.2% in 2002 compared to 2001. This improvement was primarily due
to a reduction in Borders.com operating expenses in 2002 in conjunction with
the agreement with Amazon.
SG&A dollars increased approximately 2.5% in 2002 primarily due to new store
openings and the increased store payroll and operating expenses required,
partially offset by a reduction in Borders.com operating expenses.
ASSET IMPAIRMENTS AND OTHER WRITEDOWNS
In addition to the writedown of inventory discussed above, the Company's
agreement with Ingram in March 2001 resulted in a first quarter 2001 pre-tax
charge of approximately $15.8 million. This charge was primarily related to
the writedown of assets used by the Company-owned facility to fulfill
special order sales, including computer hardware and software, leasehold
improvements, and warehouse equipment.
NET INCOME (LOSS)
Net income as a percentage of sales increased to 2.2% in 2002 from a net
loss of 0.1% in 2001. This was primarily due to the asset impairments and
inventory markdowns recorded in the first quarter of 2001 discussed above,
coupled with decreased interest costs.
Borders' net income dollars increased to $23.0 million in 2002 from a net
loss of $1.1 million in 2001. This was primarily due to the asset
impairments and inventory markdowns recorded in the first quarter of 2001
discussed above, coupled with decreased interest costs.
OTHER
Depreciation and amortization expense increased $0.7 million, or 2.2%, to
$32.6 million in 2002 from $31.9 million in 2001. This was primarily the
result of increased depreciation expense recognized on new stores' capital
expenditures, partially offset by the cessation of goodwill amortization
pursuant to the Company's adoption of FAS 142.
Interest expense decreased $5.2 million, or 89.7%, to $0.6 million in 2002
from $5.8 million in 2001. This was due to the generation of cash flow,
which reduced average borrowing levels at fixed internal interest rates.
13 WEEKS ENDED 26 WEEKS ENDED
WALDENBOOKS
(dollar amounts in millions) JULY 28, 2002 JULY 29, 2001 JULY 28, 2002 JULY 29, 2001
------------- ------------- ------------- -------------
Sales $168.3 $175.6 $338.3 $352.4
Net income (loss) $ (0.8) $ (1.0) $ 0.6 $ (2.2)
Net income (loss) as % of sales (0.4)% (0.6)% 0.2% (0.6)%
Depreciation expense $ 4.6 $ 4.5 $ 9.1 $ 9.5
Interest income $ 8.0 $ 6.6 $ 16.3 $ 13.6
Store Openings - - - 4
Store Closings 9 7 16 18
Store Count 811 855 811 855
COMPARISON OF THE 13 WEEKS ENDED JULY 28, 2002 AND JULY 29, 2001
SALES
Waldenbooks' sales decreased $7.3 million, or 4.2%, to $168.3 million in
2002 from $175.6 million in 2001.
18
This decrease was comprised of comparable store sales decreases of $1.1
million and decreased non-comparable sales associated with 2002 and 2001
store closings of $6.2 million.
Comparable store sales decreased 0.6% in 2002. Waldenbooks' comparable store
sales measures, which are based upon a 52-week year, include all stores open
more than one year. New stores are included in the calculation of comparable
store sales measures upon the 13th month of operation. The Company's
seasonal mall-based kiosks are also included in Waldenbooks' comparable
store sales measures. The comparable store sales decrease for 2002 was due
primarily to decreased mall traffic and the impact of superstore openings.
Overall, Waldenbooks' merchandise mix did not change significantly in 2002
as compared to 2001, nor was the impact of price changes on comparable store
sales significant.
GROSS MARGIN
Gross margin as a percentage of sales decreased approximately 0.4% in 2002
as compared to 2001. Of this, 0.3% was due primarily to increased
promotional markdowns. In addition, gross margin as a percentage of sales
was negatively impacted approximately 0.2% due primarily to an increase in
the stores' common area maintenance and property tax expenses as a
percentage of sales, and an additional 0.2% due to increased shrinkage
costs. These factors were partially offset by a decrease in the stores' rent
expense as a percentage of sales of 0.1%, a decrease in the distribution
facilities' payroll costs as a percentage of sales of 0.1%, and various
other cost reductions of 0.1%.
Gross margin dollars decreased approximately 5.9% in 2002, primarily due to
store closings, the decrease in comparable store sales, and the decrease in
gross margin percentage.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
Selling, general and administrative expenses (SG&A) as a percentage of sales
increased approximately 0.3% in 2002 compared to 2001. Contributing to this
was an increase of 0.7% of corporate overhead payroll and non-payroll costs
as a percentage of sales due to these costs remaining relatively fixed while
sales declined. Partially offsetting these factors was a 0.2% decrease in
store operating expenses as a percentage of sales, and a 0.2% increase in
vendor advertising income as a percentage of sales.
SG&A dollars decreased approximately 3.0% in 2002 primarily due to store
closings.
NET LOSS
Net loss as a percentage of sales decreased to 0.4% in 2002 from 0.6% in
2001. The improvement was primarily due to increased interest income.
Waldenbooks' net loss dollars decreased $0.2 million, or 20.0%, to $0.8
million in 2002 from $1.0 million in 2001. This was primarily due to
increased interest income.
OTHER
Depreciation expense increased $0.1 million, or 2.2%, to $4.6 million in
2002 from $4.5 million in 2001.
Interest income increased $1.4 million, or 21.2%, to $8.0 million in 2002
from $6.6 million in 2001. This was the result of Waldenbooks' continued
positive cash flow at fixed internal interest rates.
COMPARISON OF THE 26 WEEKS ENDED JULY 28, 2002 AND JULY 29, 2001
SALES
Waldenbooks' sales decreased $14.1 million, or 4.0%, to $338.3 million in
2002 from $352.4 million in 2001. This decrease was comprised of comparable
store sales decreases of $1.6 million and decreased non-comparable sales
associated with 2002 and 2001 store closings of $12.5 million.
Comparable store sales decreased 0.4% in 2002. The comparable store sales
decrease for 2002 was due primarily to decreased mall traffic and the impact
of superstore openings. Overall, Waldenbooks' merchandise mix did not change
significantly in 2002 as compared to 2001, nor was the impact of price
changes on comparable store sales significant.
19
GROSS MARGIN
Gross margin as a percentage of sales increased approximately 0.5% in 2002
as compared to 2001. Contributing to this improvement was a decrease of 0.4%
in distribution costs, of which 0.3% related to Borders' increased usage of
Waldenbooks' distribution facilities (coupled with a corresponding decrease
in Waldenbooks' usage), and 0.1% related to a decrease in the distribution
facilities' payroll costs as a percentage of sales. In addition, gross
margin as a percentage of sales was positively impacted approximately 0.3%
due primarily to a decrease in product costs as a percentage of sales. These
factors were partially offset by a 0.2% increase in the stores' common area
maintenance, property tax, insurance, and shrinkage expenses as a percentage
of sales.
Gross margin dollars decreased approximately 1.9% in 2002, primarily due to
store closings and the decrease in comparable store sales, partially offset
by the increase in gross margin percentage.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
Selling, general and administrative expenses (SG&A) as a percentage of sales
increased approximately 0.2% in 2002 compared to 2001. The most significant
contribution to this was an increase of 0.4% of corporate overhead payroll
and non-payroll costs as a percentage of sales due to these costs remaining
relatively fixed while sales declined. Partially offsetting these factors
was a 0.2% decrease in store operating expenses as a percentage of sales.
SG&A dollars decreased approximately 3.3% in 2002 primarily due to store
closings.
NET INCOME (LOSS)
Waldenbooks' generated net income of $0.6 million in 2002 as compared to a
net loss of $2.2 million in 2001. This was primarily due to increased
interest income.
OTHER
Depreciation expense decreased $0.4 million, or 4.2%, to $9.1 million in
2002 from $9.5 million in 2001. This was primarily due to a lower fixed
asset base resulting from asset impairments and store closings.
Interest income increased $2.7 million, or 19.9%, to $16.3 million in 2002
from $13.6 million in 2001. This was the result of Waldenbooks' continued
positive cash flow at fixed internal interest rates.
13 WEEKS ENDED 26 WEEKS ENDED
INTERNATIONAL
(dollar amounts in millions) JULY 28, 2002 JULY 29, 2001 JULY 28, 2002 JULY 29, 2001
-----------------------------------------------------------------
Sales $65.7 $53.1 $128.9 $105.6
Net loss $ 5.2 $ 4.4 $ 9.9 $ 7.9
Net loss as % of sales 7.9% 8.3% 7.7% 7.5%
Depreciation and amortization
expense $ 2.3 $ 2.2 $ 4.6 $ 4.4
Interest expense $ 4.1 $ 3.3 $ 7.9 $ 6.6
Superstore Store Openings 1 2 1 3
Superstore Store Count 23 17 23 17
Books etc. Store Openings - - - 1
Books etc. Store Closings - - - -
Books etc. Store Count 36 32 36 32
COMPARISON OF THE 13 WEEKS ENDED JULY 28, 2002 AND JULY 29, 2001
SALES
International sales increased $12.6 million, or 23.7%, to $65.7 million in
2002 from $53.1 million in 2001. This is primarily the result of new
superstore openings, and to a lesser extent, comparable store sales
increases (which include all stores open more than one year). In the second
quarter of 2002, the Company opened one international superstore in the
United Kingdom.
The overall mix of book, music, cafe, and sideline merchandise sold by
International superstores, and the mix of books and sidelines offered by
Books etc. stores, did not change significantly in 2002 as compared to 2001.
The impact of price changes on comparable store sales was also not
significant.
20
GROSS MARGIN
Gross margin as a percentage of sales decreased 0.6% in 2002 as compared to
2001, primarily due to an increase of 0.4% in merchandise costs as a
percentage of sales. The increased merchandise costs as a percentage of
sales were primarily the result of the Company obtaining merchandise from a
wholesaler to address internal distribution capacity limits in the United
Kingdom throughout a portion of the second quarter of 2002. A new
distribution facility was opened in the second quarter of 2002, and
significant amounts of merchandise are no longer being sourced from this
wholesaler.
Gross margin dollars increased approximately 20.2% in 2002 primarily due to
new store openings.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
Selling, general and administrative expenses (SG&A) as a percentage of sales
decreased approximately 0.5% in 2002 compared to 2001. This improvement was
primarily the result of store payroll costs and store operating expenses
increasing at rates less than sales growth. Although store payroll and
operating expenses increased in dollars, the increase in comparable store
sales reduced their percentage of sales.
SG&A dollars increased approximately 21.4% in 2002 primarily due to store
openings and the increased store payroll and operating expenses required.
NET LOSS
Net loss as a percentage of sales decreased to 7.9% in 2002 from 8.3% in
2001 primarily due to the improvements in SG&A percentage previously
discussed.
Net loss dollars increased $0.8 million, or 18.2%, to $5.2 million in 2002
from $4.4 million in 2001. This was primarily due to the increase in
interest expense on borrowings to fund new store openings.
OTHER
Depreciation and amortization expense increased $0.1 million, or 5.0%, to
$2.3 million in 2002 from $2.2 million in 2001. This was primarily due to
depreciation expense recognized on new stores' capital expenditures,
partially offset by the cessation of goodwill amortization in 2002.
Interest expense increased $0.8 million, or 24.2%, to $4.1 million in 2002
from $3.3 million in 2001. This was a result of higher average borrowing
levels at fixed internal interest rates.
21
COMPARISON OF THE 26 WEEKS ENDED JULY 28, 2002 AND JULY 29, 2001
SALES
International sales increased $23.3 million, or 22.1%, to $128.9 million in
2002 from $105.6 million in 2001. This is primarily the result of new
superstore openings. In 2002, the Company opened one international store in
the United Kingdom.
The overall mix of book, music, cafe, and sideline merchandise sold by
International superstores, and the mix of books and sidelines offered by
Books etc. stores, did not change significantly in 2002 as compared to 2001.
The impact of price changes on comparable store sales was also not
significant.
GROSS MARGIN
Gross margin as a percentage of sales decreased 0.7% in 2002 as compared to
2001, primarily the result of a 0.6% increase in merchandise costs as a
percentage of sales. The increased merchandise costs as a percentage of
sales were primarily the result of the Company obtaining merchandise from a
wholesaler to address internal distribution capacity limits in the United
Kingdom throughout a portion of 2002. A new distribution facility was opened
in the second quarter of 2002, and significant amounts of merchandise are no
longer being sourced from this wholesaler.
Gross margin dollars increased approximately 17.7% in 2002 primarily due to
new store openings.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
Selling, general and administrative expenses (SG&A) as a percentage of sales
decreased approximately 0.2% in 2002 compared to 2001. This improvement was
primarily the result of store payroll costs and store operating expenses
increasing at rates less than sales growth. Although store payroll and
operating expenses increased in dollars, the increase in sales reduced their
percentage of sales.
SG&A dollars increased approximately 21.3% in 2002 primarily due to store
openings and the increased store payroll and operating expenses required.
NET LOSS
Net loss as a percentage of sales increased to 7.7% in 2002 from 7.5% in
2001 primarily due the decrease in gross margin percentage as previously
discussed, partially offset by the improvement in SG&A percentage.
Net loss dollars increased $2.0 million, or 25.3%, to $9.9 million in 2002
from $7.9 million in 2001. This was primarily due to the increase in
interest expense on borrowings to fund new store openings.
OTHER
Depreciation and amortization expense increased $0.2 million, or 5.0%, to
$4.6 million in 2002 from $4.4 million in 2001. This was primarily due to
depreciation expense recognized on new stores' capital expenditures,
partially offset by the cessation of goodwill amortization in 2002.
Interest expense increased $1.3 million, or 19.6%, to $7.9 million in 2002
from $6.6 million in 2001. This was a result of higher average borrowing
levels at fixed internal interest rates.
OTHER 13 WEEKS ENDED 26 WEEKS ENDED
(dollars in
millions) JULY 28, 2002 JULY 29, 2001 JULY 28, 2002 JULY 29, 2001
-------------------------------------------------------------
Net loss $2.4 $2.9 $ 6.4 $7.6
Interest expense $5.8 $4.3 $12.7 $9.2
22
COMPARISON OF THE 13 WEEKS ENDED JULY 28, 2002 AND JULY 29, 2001
Net loss consists of various corporate governance costs and income. Net loss
dollars decreased $0.5 million, or 17.2%, to $2.4 million in 2002 from $2.9
million in 2001. This was primarily due to the timing of various governance
costs as compared to the prior year, partially offset by increased interest
expense for this segment. Interest expense represents corporate-level
interest costs not charged to the Company's operating segments.
COMPARISON OF THE 26 WEEKS ENDED JULY 28, 2002 AND JULY 29, 2001
Net loss consists of various corporate governance costs and income. Net loss
dollars decreased $1.2 million, or 14.0%, to $6.4 million in 2002 from $7.6
million in 2001. This was primarily due to legal and settlement costs
incurred in the first quarter of 2001 which were associated with the
American Booksellers Association litigation, partially offset by increased
interest expense for this segment. Interest expense represents
corporate-level interest costs not charged to the Company's operating
segments.
LIQUIDITY AND CAPITAL RESOURCES
The Company's principal capital requirements are to fund the opening of new
stores, the refurbishment and expansion of existing stores, continued expansion
of in-store Web-based commerce technologies, and corporate information
technology streamlining.
Net cash used for continuing operations was $106.4 million and $117.6 million
for the 26 weeks ended July 28, 2002 and July 29, 2001, respectively. Cash from
operations for the period primarily reflects operating results net of non-cash
depreciation and amortization expense. Operating cash outflows for the period
were primarily the result of increases in inventory and prepaid expenses, and
decreases in accounts payable, taxes payable, and accrued liabilities during the
period partially offset by an decrease in accounts receivable.
Net cash used for investing was $48.0 million and $27.6 million for the 26 weeks
ended July 28, 2002 and July 29, 2001, respectively, which primarily funded
capital expenditures for new stores, the refurbishment of existing stores and
technology investments.
Net cash provided by financing in the first 26 weeks of 2002 was $16.3 million
versus $144.6 million in the first 26 weeks of 2001. The decrease was primarily
the result of decreased borrowing needs due to the higher year end cash balance.
The Company expects capital expenditures to approximate $120.0 million for the
full year of 2002, resulting primarily from domestic store openings. Capital
expenditures will result from international store openings, refurbishment of a
number of existing stores, and investment in information technology
streamlining. The Company currently plans to open approximately 40 domestic
Borders superstores and eight international stores in 2002. Average cash
requirements for the opening of a domestic prototype Borders Books and Music
superstore are $2.4 million, representing capital expenditures of $1.1 million,
inventory requirements (net of related accounts payable) of $1.1 million, and
$0.2 million of pre-opening costs. Average cash requirements to open a new or
expanded Waldenbooks store range from $0.4 million to $0.7 million, depending on
the size and format of the store. The Company plans to lease new store locations
predominantly under operating leases.
The Company has a share repurchase program in place with remaining authorization
at July 28, 2002 to repurchase $39.6 million. The covenants under the Company's
Multicurrency Credit Agreement and Lease Financing Facilities (as defined below)
limited, as of July 28, 2002, the amount available to repurchase in fiscal 2002
to $18.5 million.
The Company has a Multicurrency Revolving Credit Agreement (the "Credit
Agreement"), which will expire in June 2005. The Credit Agreement provides for
borrowings of up to $375.0 million, which will be increased to $400.0 million
upon the reduction of the amounts outstanding under the Original Lease Facility
described below to $75.0 million or less. Borrowings under the Credit Agreement
bear interest at a variable base rate plus an increment or LIBOR plus an
increment at the Company's option. This Credit Agreement contains covenants
which limit, among other things, the Company's ability to incur indebtedness,
grant liens, make investments, consolidate or merge, declare dividends, dispose
of assets, repurchase its common stock in excess of $100.0 million over the term
of the Agreement or $50.0 million in any fiscal year (plus any proceeds and tax
benefits resulting from stock option exercises and tax benefits resulting from
restricted shares purchased by employees from the Company), and requires
23
the Company to meet certain financial measures regarding fixed coverage,
leverage, tangible net worth and capital expenditures. The Company had
borrowings outstanding under the Credit Agreement (or a prior agreement) of
$144.6 million at July 28, 2002, $270.9 million at July 29, 2001 and $81.6
million at January 27, 2002.
The Company has two lease financing facilities (collectively, the "Lease
Financing Facilities") to finance new stores and other property owned by
unaffiliated entities and leased to the Company or its subsidiaries. The
original facility (the "Original Lease Facility") will expire in June 2004 (2005
if certain conditions are satisfied). In June of 2002, the Company established a
new facility (the "New Lease Facility"), which will expire in 2007. The
aggregate amount available under the Lease Financing Facilities is $100.0
million until December 1, 2002 and $75.0 million thereafter. Properties to be
financed after the effective date of the New Lease Facility will be financed
under that Facility, and no additional properties will be financed under the
Original Lease Facility. By December 1, 2002 (November 1, 2002 for purposes of
the Credit Agreement), the Company is required to reduce amount financed under
the Original Lease Facility to $75.0 million or less, and expects to do so by
permanently financing certain properties currently financed under the Original
Lease Facility. The Lease Financing Facilities provide financing to lessors of
properties leased to the Company or its subsidiaries through loans from lenders
for up to 95% of a project's cost. Additionally, under the New Lease Facility,
the unaffiliated lessor will make equity contributions approximating 5% of the
cost of each project. The lessors under the Original Lease Facility have made
similar contributions. Independent of the Company's obligations relating to the
leases, the Company and certain of its subsidiaries guarantee payment when due
of all amounts required to be paid to the third-party lenders. The agreements
relating to both of the Lease Financing Facilities contain covenants and events
of default that are similar to those contained in the Credit Agreement described
above.
There were 21, 33 and 31 properties financed through the Original Lease
Facility, with a financed value of $92.7 million, $127.0 million and $121.8
million, as of July 28, 2002, July 29, 2001 and January 27, 2002, respectively.
Of these amounts, the Company has recorded $52.1 million, $14.0 million and
$49.7 million as capital lease and financing obligations on the consolidated
balance sheets, at July 28, 2002, July 29, 2001, and January 27, 2002,
respectively. These amounts have been treated as non-cash items on the
consolidated statements of cash flows. Properties to be financed under the New
Lease Facility will be recorded on the Company's consolidated balance sheets. In
the second quarter of 2002, the Company permanently refinanced 9 properties, one
of which had been capitalized, with a total value of approximately $28.5 million
through operating leases. There were no amounts outstanding under the New Lease
Facility at July 28, 2002.
To date, the Company has not been required to perform under the guarantees
described above. In the event that the Company should be required to perform,
borrowings under the Credit Agreement would be sufficient to meet its
obligations.
The Company is in compliance with all debt covenants contained within the
Credit Agreement and Lease Financing facilities described above.
Management believes that the rental payments for properties financed through the
Original and New Lease Facility may be lower than those which the Company could
obtain elsewhere due to, among other factors, (i) the lower borrowing rates
available to the Company's landlords under the facility and (ii) the fact that
rental payments for properties financed through the facility do not include
amortization of the principal amounts of the landlords' indebtedness related to
the properties. Rental payments relating to such properties will be adjusted
when permanent financing is obtained to reflect the interest rates available at
the time of the refinancing and the amortization of principal.
24
The Company plans to execute its expansion plans for Borders superstores and
other strategic initiatives principally with funds generated from operations and
financing through the Notes described below, the Lease Financing Facilities and
the Credit Agreement. The Company believes funds generated from operations,
borrowings under the Notes, the Credit Agreement, and financing through the
Lease Financing Facilities will be sufficient to fund its anticipated capital
requirements for the next several years.
The following table summarizes the Company's significant financing and lease
obligations at July 28, 2002:
Fiscal Year 2007 and
(dollars in millions) 2002 2003-2004 2005-2006 thereafter Total
------ --------- --------- ---------- --------
Credit Facility borrowings $144.6 $ -- $ -- $ -- $ 144.6
Capital lease obligations 1.5 -- -- 52.1 53.6
Operating lease obligations 142.1 513.1 457.7 2,067.9 3,180.8
------ ------ ------ -------- --------
Total $288.2 $513.1 $457.7 $2,120.0 $3,379.0
====== ====== ====== ======== ========
Lease Facility guarantees (1) $ 92.7 $ -- $ -- $ -- $ 92.7
(1) Includes $52.1 million treated as capital lease and financing obligations.
SUBSEQUENT EVENT
On July 30, 2002, the Company issued $50.0 million senior guaranteed notes (the
"Notes") due July 30, 2006 and bearing interest at 6.31%. The proceeds of the
sale of the Notes are being used to refinance existing indebtedness of the
Company and its subsidiaries and for general corporate purposes. The note
purchase agreement relating to the Notes contains covenants which limit, among
other things, the Company's ability to incur indebtedness, grant liens, make
investments, engage in any merger or consolidation, dispose of assets or change
the nature of its business, and requires the Company to meet certain financial
measures regarding net worth, total debt coverage and fixed charge coverage.
CRITICAL ACCOUNTING ESTIMATES
In the ordinary course of business, the Company has made a number of estimates
and assumptions relating to the reporting of results of operations and financial
condition in the preparation of its financial statements in conformity with
accounting principles generally accepted in the United States. Actual results
could differ from those estimates under different assumptions and conditions.
The Company believes that the following discussion addresses the Company's most
critical accounting estimates.
ASSET IMPAIRMENTS
The carrying value of long-lived assets is evaluated whenever changes
in circumstances indicate the carrying amount of such assets may not be
recoverable. In performing such reviews for recoverability, the Company
compares the expected cash flows to the carrying value of long-lived
assets for each of its stores. If the expected future cash flows are
less than the carrying amount of such assets, the Company recognizes an
impairment loss for the difference between the carrying amount and the
estimated fair value. Expected future cash flows, which are estimated
over each store's remaining lease term, contain estimates of sales and
the impact those future sales will have upon cash flows. Future sales
are estimated based upon a projection of each store's sales trend of
the past several years. Additionally, each store's future cash
contribution is based upon the most recent year's actual cash
contribution, but is adjusted based upon projected sales trends. Fair
value is estimated using expected discounted future cash flows, with
the discount rate approximating the Company's borrowing rate.
Significant deterioration in the performance of the Company's stores
compared to projections could result in significant additional asset
impairments.
25
GOODWILL IMPAIRMENT
Upon adoption of FAS 142 on January 28, 2002, the Company's goodwill
was tested for impairment, and no impairment existed. The carrying
amounts of the net assets of the applicable reporting units (including
goodwill) were compared to the estimated fair values of those reporting
units. Fair value was estimated using a discounted cash flow model
which depended on, among other factors, estimates of future sales and
expense trends, liquidity, and capitalization. The discount rate used
approximated the borrowing rate estimated necessary to finance the
acquisition of the applicable reporting units by a third party. Changes
in any of the assumptions underlying these estimates may result in the
future impairment of goodwill. The Company anticipates that its future
annual tests of goodwill impairment will be based upon the methodology
described above and will be subject to the same risks and
uncertainties.
LEASES
All leases, including those for properties financed through the Lease
Facility, are reviewed for capital or operating classification at their
inception under the guidance of Financial Accounting Standards Board
Statement No. 13, "Accounting for Leases" (FAS 13), as amended. The
leases of certain properties financed through the Lease Facility were
capitalized based upon this and other guidance.
The lessors of properties financed through the Lease Facility are not
consolidated in the consolidated financial statements of the Company,
based upon the applicable authoritative guidance.
INVENTORY
The carrying value of the Company's inventory is affected by reserves
for shrinkage and non-returnable inventory. Projections of shrinkage
are based upon the results of regular, periodic physical counts of the
Company's inventory. The Company's shrinkage reserve is adjusted as
warranted based upon the trends yielded by the physical counts.
Reserves for non-returnable inventory are based upon the Company's
history of liquidating non-returnable inventory. The markdown
percentages utilized in developing the reserve are evaluated against
actual, ongoing markdowns of non-returnable inventory to ensure that
they remain consistent. Significant differences between future
experience and that which was projected (for either the shrinkage or
non-returnable inventory reserves) could affect the recorded amounts of
inventory and cost of sales.
The Company includes certain distribution and other expenses in its
inventory costs, particularly freight, distribution payroll, and
certain occupancy expenses. In addition, certain selling, general and
administrative expenses are included in inventory costs. These amounts
approximate 2% of total inventory. The extent to which these costs are
included in inventory is based on certain estimates of space and labor
allocation.
FORWARD LOOKING STATEMENTS
This Quarterly Report on Form 10-Q contains forward-looking statements as
defined in the Private Securities Litigation Reform Act of 1995. Forward-looking
statements reflect management's current expectations and are inherently
uncertain. The Company's actual results may differ significantly from
management's expectations. Exhibit 99.1 to this report, "Cautionary Statement
under the Private Securities Litigation Reform Act of 1995", identifies the
forward-looking statements and describes some, but not all, of the factors that
could cause these differences.
26
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The Company's Form 10-K Annual Report for the fiscal year ended January 27,
2002, describes pending lawsuits against the Company. Although an adverse
resolution of either of these lawsuits could have a material adverse effect on
the result of the operations of the Company for the applicable period or
periods, the Company does not believe that any such litigation will have a
material effect on its liquidity or financial position. The status of such
litigation has not changed in any material respect except as follows:
On July 29, 2002, the Superior Court of California granted the
plaintiffs' motion for class certification in the action filed on
behalf of current and former assistant managers in Borders stores in
California alleging they were denied overtime compensation under
California law. The class certified consists of all individuals who
worked as Assistant Managers in a Borders superstore in California at
any time between April 10, 1996 and March 18, 2001. The class was
further certified by the Court into the following subclasses: Assistant
Manager-Merchandising; Assistant Manager-Inventory; Assistant
Manager-Human Resources; Assistant Manager-Music; Assistant
Manager-Training; Assistant Manager-Cafe. The Company intends to
vigorously defend the action.
In addition to the matters described above, the Company is from time to time
involved in or affected by other litigation incidental to the conduct of its
businesses. The Company does not believe that any such other litigation will
have a material adverse effect on its liquidity, financial position or results
of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITYHOLDERS
The following actions were taken at the Annual Meeting of the Company held on
May 23, 2002 with the votes on such matters being indicated as below:
1. The following individuals were elected to serve as directors for one
year terms expiring in 2003:
Authority
Name For Withheld
---- --- --------
Joel J. Cohen 76,478,647 Shares 159,309
Robert F. DiRomualdo 76,480,648 Shares 157,308
Peter R. Formanek 76,484,748 Shares 153,208
Gregory P. Josefowicz 76,479,502 Shares 158,454
Amy B. Lane 76,488,353 Shares 149,603
Victor L. Lund 76,490,542 Shares 147,414
Edna Greene Medford 76,470,674 Shares 167,282
George R. Mrkonic 76,476,097 Shares 161,859
Lawrence I.. Pollock 76,247,903 Shares 390,053
Beth M. Pritchard 76,489,086 Shares 148,870
27
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
Exhibits:
(a) Exhibits:
10.41 Multicurrency Revolving Credit Agreement dated as of June 21,
2002 among Borders Group, Inc., certain of its subsidiaries
and other Parties thereto.
10.42 Omnibus Amendment dated as of June 21, 2002 relating to the
Amended and Restated Participation Agreement, the Amended and
Restated Credit Agreement, the Amended and Restated Guarantee
Agreement, and certain other agreements among Borders Group,
Inc., its subsidiaries and Parties thereto.
10.43 Master Agreement dated as of June 21, 2002 among Borders
Group, Inc., certain of its subsidiaries and the other Parties
thereto.
10.44 Loan Agreement dated as of June 21, 2002 among Atlantic
Financial Group, LTD, the Financial Institutions party
thereto, and Suntrust Bank relating to the Borders Group, Inc.
Lease Financing Facility.
10.45 Guaranty Agreement dated as of June 21, 2002 from Borders
Group, Inc., and certain of its subsidiaries.
10.46 Construction Agency Agreement dated as of June 21, 2002 among
Borders Inc. and Atlantic Financial Group, LTD.
10.47 Master Lease Agreement dated as of June 21, 2002 between
Borders Inc., certain other subsidiaries of Borders Group,
Inc. and Atlantic Financial Group, LTD.
10.48 Note Purchase Agreement dated as of July 30, 2002 relating to
the 6.31% Senior Guaranteed Notes of Borders Group, Inc.
99.1 Cautionary Statement under the Private Securities Litigation
Reform Act of 1995 - "Safe Harbor" for Forward-Looking
Statements.
(b) Reports on Form 8-K:
Subsequent to the 26 weeks ended July 28, 2002 and prior to the filing
of this Form 10-Q, one report was filed on Form 8-K under Item 5. Other
Events and Regulation FD Disclosure. This report was filed on July 31,
2002.
28
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereto duly authorized.
BORDERS GROUP, INC.
-------------------
(REGISTRANT)
Date: September 10, 2002 By:/s/ Edward W. Wilhelm
--------------------------
Edward W. Wilhelm
Senior Vice President and
Chief Financial Officer
(Principal Financial and
Accounting Officer)
29
CERTIFICATIONS
I, Edward W. Wilhelm certify that:
1. I have reviewed this quarterly report on Form 10-Q of Borders Group,
Inc.;
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect to
the period covered by this quarterly report; and
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented in
this quarterly report.
Date: September 10, 2002 By: /s/Edward W. Wilhelm
----------------------------- --------------------------
Edward W. Wilhelm
Senior Vice President and Chief
Financial Officer (Principal
Financial and Accounting Officer)
30
I, Gregory P. Josefowicz certify that:
1. I have reviewed this quarterly report on Form 10-Q of Borders Group,
Inc.;
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect to
the period covered by this quarterly report; and
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented in
this quarterly report.
Date: September 10, 2002 By: /s/Gregory P. Josefowicz
--------------------------- --------------------------
Gregory P. Josefowicz
President and Chief Executive Officer
31
EXHIBIT INDEX
DESCRIPTION OF EXHIBITS
(a) Exhibits:
10.41 Multicurrency Revolving Credit Agreement dated as of June 21,
2002 among Borders Group, Inc., certain of its subsidiaries
and other Parties thereto.
10.42 Omnibus Amendment dated as of June 21, 2002 relating to the
Amended and Restated Participation Agreement, the Amended and
Restated Credit Agreement, the Amended and Restated Guarantee
Agreement, and certain other agreements among Borders Group,
Inc., its subsidiaries and Parties thereto.
10.43 Master Agreement dated as of June 21, 2002 among Borders
Group, Inc., certain of its subsidiaries and the other Parties
thereto.
10.44 Loan Agreement dated as of June 21, 2002 among Atlantic
Financial Group, LTD, the Financial Institutions party
thereto, and Suntrust Bank relating to the Borders Group, Inc.
Lease Financing Facility.
10.45 Guaranty Agreement dated as of June 21, 2002 from Borders
Group, Inc., and certain of its subsidiaries.
10.46 Construction Agency Agreement dated as of June 21, 2002 among
Borders Inc. and Atlantic Financial Group, LTD.
10.47 Master Lease Agreement dated as of June 21, 2002 between
Borders Inc., certain other subsidiaries of Borders Group,
Inc. and Atlantic Financial Group, LTD.
10.48 Note Purchase Agreement dated as of July 30, 2002 relating to
the 6.31% Senior Guaranteed Notes of Borders Group, Inc.
99.1 Cautionary Statement under the Private Securities Litigation
Reform Act of 1995 - "Safe Harbor" for Forward-Looking
Statements.
(b) Reports on Form 8-K:
Subsequent to the 26 weeks ended July 28, 2002 and prior to the filing
of this Form 10-Q, one report was filed on Form 8-K under Item 5. Other
Events and Regulation FD Disclosure. This report was filed on July 31,
2002.