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EX-31.2 - EXHIBIT 31.2 - SEAL123 INCwtslq108022014exhibit312.htm
EX-32.2 - EXHIBIT 32.2 - SEAL123 INCwtslq108022014exhibit322.htm
EX-31.1 - EXHIBIT 31.1 - SEAL123 INCwtslq108022014exhibit311.htm
EX-32.1 - EXHIBIT 32.1 - SEAL123 INCwtslq108022014exhibit321.htm

 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
____________________________________________________
FORM 10-Q
____________________________________________________
(Mark One)
ý
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended August 2, 2014

OR
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
Commission file number 001-35634 
____________________________________________________
THE WET SEAL, INC.
(Exact name of registrant as specified in its charter)
____________________________________________________
Delaware
33-0415940
(State or other jurisdiction of
incorporation or organization)
(I.R.S. Employer
Identification No.)
26972 Burbank, Foothill Ranch, CA
92610
(Address of principal executive offices)
(Zip Code)
(949) 699-3900
(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  ý    No  ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ý    No  ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act:
Large accelerated filer:
¨
 
Accelerated filer:
ý
Non-accelerated filer:
¨
(Do not check if a smaller reporting company)
Smaller reporting company:
¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  ý
The number of shares outstanding of the registrant’s Class A common stock, par value $0.10 per share, at September 5, 2014, was 84,309,311. There were no shares outstanding of the registrant’s Class B common stock, par value $0.10 per share, at September 5, 2014.



THE WET SEAL, INC.
FORM 10-Q
Table of Contents
 
 
 
 
 
 
Page
 
 
 
 
Item 1.
 
 
 
 
 
 
 
Item 2.
Item 3.
Item 4.
 
 
 
 
 
 
Item 1.
Item 1A.
Item 2.
Item 3.
Item 4.
Item 5.
Item 6.
EXHIBIT 31.1
EXHIBIT 31.2
EXHIBIT 32.1
EXHIBIT 32.2
101.INS XBRL Instance Document
101.SCH XBRL Taxonomy Extension Schema Document
101.CAL XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF XBRL Taxonomy Extension Definition Linkbase Document
101.LAB XBRL Taxonomy Extension Label Linkbase Document
101.PRE XBRL Taxonomy Extension Presentation Linkbase Document
 




PART I. Financial Information
Item 1.        Financial Statements (Unaudited)
THE WET SEAL, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except share data)
(Unaudited)
 
August 2, 2014
 
February 1, 2014
 
August 3, 2013
ASSETS
 
 
 
 
 
CURRENT ASSETS:
 
 
 
 
 
Cash and cash equivalents
$
40,274

 
$
38,772

 
$
27,773

Short-term investments

 
7,386

 
51,948

Income tax receivables

 
141

 
141

Other receivables
2,403

 
3,230

 
975

Merchandise inventories
38,382

 
31,209

 
40,910

Prepaid expenses and other current assets
13,983

 
12,742

 
13,803

Total current assets
95,042

 
93,480

 
135,550

EQUIPMENT AND LEASEHOLD IMPROVEMENTS:
 
 
 
 
 
Leasehold improvements
52,768

 
78,097

 
91,480

Furniture, fixtures and equipment
52,283

 
60,143

 
64,345

 
105,051

 
138,240

 
155,825

Less accumulated depreciation and amortization
(68,150
)
 
(81,951
)
 
(89,812
)
Net equipment and leasehold improvements
36,901

 
56,289

 
66,013

OTHER ASSETS:
 
 
 
 
 
Other assets
1,520

 
1,970

 
3,016

Total other assets
1,520

 
1,970

 
3,016

TOTAL ASSETS
$
133,463

 
$
151,739

 
$
204,579

LIABILITIES AND STOCKHOLDERS’ EQUITY
 
 
 
 
 
CURRENT LIABILITIES:
 
 
 
 
 
Current portion of convertible debt
$
6,450

 
$

 
$

Accounts payable – merchandise
23,401

 
18,530

 
24,401

Accounts payable – other
7,780

 
8,814

 
10,410

Accrued liabilities
19,507

 
20,704

 
24,826

Current portion of deferred rent
3,640

 
3,508

 
2,952

Total current liabilities
60,778

 
51,556

 
62,589

LONG-TERM LIABILITIES:
 
 
 
 
 
Warrants and Embedded derivatives
2,757

 

 

Senior convertible debt, net of discount of $4,830, at August 2, 2014
15,720

 

 

Deferred rent
29,481

 
31,066

 
31,171

Other long-term liabilities

 
1,784

 
1,834

Total long-term liabilities
47,958

 
32,850

 
33,005

Total liabilities
108,736

 
84,406

 
95,594

STOCKHOLDERS’ EQUITY:
 
 
 
 
 
Common stock, Class A, $0.10 par value, authorized 300,000,000 shares; 84,860,314 shares issued and 84,508,622 shares outstanding at August 2, 2014; 84,730,594 shares issued and 84,695,369 shares outstanding at February 1, 2014; and 91,188,299 shares issued and 84,702,041 shares outstanding at August 3, 2013
8,486

 
8,473

 
9,119

Common stock, Class B convertible, $0.10 par value, authorized 10,000,000 shares; no shares issued and outstanding

 

 

Paid-in capital
218,036

 
216,944

 
241,012

Accumulated deficit
(201,654
)
 
(157,864
)
 
(115,413
)
Treasury stock, 351,692 shares, 35,225 shares and 6,486,258 shares, at cost, at August 2, 2014, February 1, 2014, and August 3, 2013, respectively
(141
)
 
(68
)
 
(25,606
)
Accumulated other comprehensive loss

 
(152
)
 
(127
)
Total stockholders’ equity
24,727

 
67,333

 
108,985

TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY
$
133,463

 
$
151,739

 
$
204,579

See notes to condensed consolidated financial statements.

1


THE WET SEAL, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except share and per share data)
(Unaudited)
 
 
13 Weeks Ended
 
26 Weeks Ended
 
August 2, 2014
 
August 3, 2013
 
August 2, 2014
 
August 3, 2013
Net sales
$
121,176

 
$
137,249

 
$
237,904

 
$
277,694

Cost of sales
94,812

 
96,597

 
188,409

 
194,811

Gross margin
26,364

 
40,652

 
49,495

 
82,883

Selling, general, and administrative expenses
36,901

 
39,412

 
74,398

 
76,849

Asset impairment
12,740

 
262

 
20,058

 
1,858

Operating (loss) income
(23,277
)
 
978

 
(44,961
)
 
4,176

Interest income
64

 
53

 
95

 
101

Interest expense
(1,263
)
 
(54
)
 
(1,716
)
 
(108
)
Interest expense, net
(1,199
)
 
(1
)
 
(1,621
)
 
(7
)
Gain on warrants and derivatives liabilities
2,496

 

 
2,935

 

(Loss) income before provision for income taxes
(21,980
)
 
977

 
(43,647
)
 
4,169

Provision for income taxes
29

 
19

 
143

 
101

Net (loss) income
$
(22,009
)
 
$
958

 
$
(43,790
)
 
$
4,068

Net (loss) income per share, basic
$
(0.26
)
 
$
0.01

 
$
(0.52
)
 
$
0.05

Net (loss) income per share, diluted
$
(0.26
)
 
$
0.01

 
$
(0.52
)
 
$
0.05

Weighted-average shares outstanding, basic
84,189,702

 
85,800,626

 
84,144,741

 
87,178,655

Weighted-average shares outstanding, diluted
84,189,702

 
85,975,029

 
84,144,741

 
87,243,412

See notes to condensed consolidated financial statements.

2


THE WET SEAL, INC.
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE (LOSS) INCOME
(In thousands)
(Unaudited)

 
13 Weeks Ended
 
26 Weeks Ended
 
August 2, 2014

 
August 3, 2013

 
August 2, 2014

 
August 3, 2013

Net (loss) income
$
(22,009
)
 
$
958

 
$
(43,790
)
 
$
4,068

Other comprehensive gain:
 
 
 
 
 
 
 
Gain on settlement of Supplemental Employee Retirement Plan Liability (1)
152

 

 
152

 

Comprehensive (loss) income
$
(21,857
)
 
$
958

 
$
(43,638
)
 
$
4,068


(1) Amounts are shown net of income taxes. Due to the Company's valuation allowance, there is no tax impact. The entire Accumulated Other Comprehensive Loss ("AOCL") balance related to the SERP liability. As such, the amount transferred out of AOCL in the current quarter relates entirely to the retirement of the SERP liability.
See notes to condensed consolidated financial statements.


3


THE WET SEAL, INC.
CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
(In thousands, except share data)
(Unaudited)
 
 
Common Stock
 
Paid-In
Capital
 
Accumulated
Deficit
 
Treasury
Stock
 
Accumulated
Other
Comprehensive
Loss
 
Total
Stockholders’
Equity
 
Class A
 
Class B
 
 
Shares
 
Par Value
 
Shares
 
Par Value
 
Balance at February 1, 2014
84,730,594

 
$
8,473

 

 
$

 
$
216,944

 
$
(157,864
)
 
$
(68
)
 
$
(152
)
 
$
67,333

Net loss

 

 

 

 

 
(43,790
)
 

 

 
(43,790
)
Stock issued pursuant to long-term incentive plans
129,720

 
13

 

 

 
(13
)
 

 

 

 

Stock-based compensation

 

 

 

 
1,105

 

 

 

 
1,105

Settlement of SERP liability

 

 

 

 

 

 

 
152

 
152

Repurchase of common stock

 

 

 

 

 

 
(73
)
 

 
(73
)
Balance at August 2, 2014
84,860,314

 
$
8,486

 

 
$

 
$
218,036

 
$
(201,654
)
 
$
(141
)
 
$

 
$
24,727

 
See notes to condensed consolidated financial statements.

4




THE WET SEAL, INC.
CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
(In thousands, except share data)
(Unaudited)
 
 
Common Stock
 
Paid-In
Capital
 
Accumulated
Deficit
 
Treasury
Stock
 
Accumulated
Other
Comprehensive
Loss
 
Total
Stockholders’
Equity
 
Class A
 
Class B
 
 
Shares
 
Par Value
 
Shares
 
Par Value
 
Balance at February 2, 2013
90,541,144

 
$
9,054

 

 
$

 
$
239,698

 
$
(119,481
)
 
$
(412
)
 
$
(127
)
 
$
128,732

Net income

 

 

 

 

 
4,068

 

 

 
4,068

Stock issued pursuant to long-term incentive plans
496,292

 
50

 

 

 
(50
)
 

 

 

 

Stock-based compensation

 

 

 

 
845

 

 

 

 
845

Exercise of stock options
150,863

 
15

 

 

 
519

 

 

 

 
534

Repurchase of common stock

 

 

 

 

 

 
(25,194
)
 
$

 
(25,194
)
Balance at August 3, 2013
91,188,299

 
$
9,119

 

 
$

 
$
241,012

 
$
(115,413
)
 
$
(25,606
)
 
$
(127
)
 
$
108,985

See notes to condensed consolidated financial statements.

5


THE WET SEAL, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
 
26 Weeks Ended
 
August 2, 2014
 
August 3, 2013
CASH FLOWS FROM OPERATING ACTIVITIES:
 
 
 
Net (loss) income
$
(43,790
)
 
$
4,068

Adjustments to reconcile net (loss) income to net cash (used in) provided by operating activities:
 
 
 
Depreciation and amortization
5,499

 
6,775

Amortization of debt discount
861

 

Amortization of premium on investments
6

 
112

Amortization of deferred financing costs
263

 
54

Gain on warrants and derivatives liabilities
(2,935
)
 

Gain on settlement of SERP liability
(696
)
 

Gain on termination of Arden B loyalty program
(237
)
 

Loss on disposal of equipment and leasehold improvements
36

 
47

Asset impairment
20,058

 
1,858

Stock-based compensation
1,105

 
845

Changes in operating assets and liabilities:
 
 
 
Income tax receivables
141

 
145

Other receivables
827

 
763

Merchandise inventories
(7,173
)
 
(7,122
)
Prepaid expenses and other current assets
(721
)
 
(414
)
Other non-current assets
1,551

 
37

Accounts payable and accrued liabilities
3,878

 
(3,409
)
Deferred rent
(1,453
)
 
(302
)
Other long-term liabilities
(1,156
)
 
(74
)
Net cash (used in) provided by operating activities
(23,936
)
 
3,383

CASH FLOWS FROM INVESTING ACTIVITIES:
 
 
 
Purchase of equipment and leasehold improvements
(7,026
)
 
(8,863
)
Proceeds from disposal of equipment and leasehold improvements
23

 

Investment in marketable securities

 
(9,500
)
Proceeds from maturity of marketable securities
7,380

 
25,134

Net cash provided by investing activities
377

 
6,771

CASH FLOWS FROM FINANCING ACTIVITIES:
 
 
 
Proceeds from exercise of stock options

 
534

Repurchase of common stock
(73
)
 
(25,194
)
Payment of deferred financing costs
(1,866
)
 

Proceeds from issuance of senior convertible notes
27,000

 

Net cash provided by (used in) financing activities
25,061

 
(24,660
)
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
1,502

 
(14,506
)
CASH AND CASH EQUIVALENTS, beginning of period
38,772

 
42,279

CASH AND CASH EQUIVALENTS, end of period
$
40,274

 
$
27,773

SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
 
 
 
Cash paid during the period for:
 
 
 
Interest
$
596

 
$
37

Income taxes
$
195

 
$
420

SUPPLEMENTAL DISCLOSURES OF NON-CASH INVESTING AND FINANCING TRANSACTIONS:
 
 
 
Purchase of equipment and leasehold improvements unpaid at end of period
$
1,089

 
$
3,733

Debt issuance costs unpaid at end of period
$
18

 

Initial fair value of warrants liability
$
3,610

 

Initial fair value of embedded derivatives liability
$
2,081

 

See notes to condensed consolidated financial statements.

6

THE WET SEAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the 26 weeks ended August 2, 2014, and August 3, 2013
(Unaudited)


NOTE 1 – Summary of Significant Accounting Policies
Basis of Presentation
The information set forth in these condensed consolidated financial statements as of and for the 13 and 26 weeks ended August 2, 2014, and August 3, 2013 (collectively, the “Interim Financial Statements”), is unaudited. These statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) for interim financial information. Certain information and footnote disclosures normally included in The Wet Seal, Inc. (the “Company”) annual consolidated financial statements have been condensed or omitted, as permitted under applicable rules and regulations. For further information, refer to the consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the fiscal year ended February 1, 2014. All references in this Quarterly Report on Form 10-Q to “fiscal 2013” and “fiscal 2014” mean the fiscal years ended February 1, 2014 and ending January 31, 2015, respectively.
In the opinion of management, the Interim Financial Statements reflect all adjustments that are of a normal and recurring nature necessary to fairly present the Company’s financial position and results of operations and cash flows in all material respects as of the dates and for the periods presented. The results of operations presented in the Interim Financial Statements are not necessarily indicative of the results that may be expected for the fiscal year ending January 31, 2015.
On April 24, 2014, the Company committed to a plan to wind down the operations of its Arden B brand (the "Plan") due to the long-term financial under-performance of the business. As of August 2, 2014, the Company operated 51 Arden B stores. As of August 3, 2014, 30 of the Arden B stores became Wet Seal Plus stores, 18 of the Arden B stores became Wet Seal stores, one of the Arden B stores continues to operate under the Arden B name but will transition to carrying Wet Seal product, and the 2 remaining stores continued to operate as Arden B stores until their closure in August 2014. The Company anticipates closing down the Arden B website in the third fiscal quarter of 2014. As of August 2, 2014, the Company has evaluated the applicable accounting guidance for discontinued operations due to the wind down of the Arden B operations and concluded that for the second quarter of fiscal 2014, the Arden B segment should be reported as part of the results from continuing operations. Arden B cash flows will cease by the end of the third quarter and the Company will not have any significant continuing involvement with the Arden B segment, and therefore, the Arden B segment will meet the conditions to be reported as a discontinued operation beginning in the third quarter of fiscal 2014. The Company maintains its intellectual property rights in the Arden B brand and affiliated trademarks and is exploring opportunities to preserve or monetize those rights.
In fiscal 2013 and the 26 weeks ended August 2, 2014, the Company incurred net losses of $38.4 million and $43.8 million and negative cash flow from operations of $17.6 million and $23.9 million, respectively.  As of August 2, 2014, the Company had cash and cash equivalents of $40.3 million. In March 2014, the Company increased its liquidity through the senior convertible notes placement described in Note 4, "Senior Convertible Notes and Warrants." In addition, the Company has a $35.0 million senior revolving credit facility with $28.7 million of availability as of August 2, 2014. The Company’s total available liquidity as of August 2, 2014 was $69.0 million, including cash and cash equivalents and availability on the Company’s senior revolving credit facility.
In September 2014, the Company announced that it had entered into a securities purchase agreement to sell shares of its Class A common stock to a limited number of accredited investors in a private placement. Subject to the fulfillment of the closing conditions, the Company expects to receive at the closing gross proceeds from the placement of approximately $18.5 million and net proceeds of approximately $17.2 million to $17.7 million. Also in September 2014, the Company announced that, subject to applicable regulatory approvals, it intends to conduct a rights offering which, if subscribed, will allow the Company to raise equity capital through the sale of shares of its Class A common stock to its stockholders. The Company currently anticipates that the size of the rights offering will be between $25.0 and $30.0 million. The agreement for the private placement provides that the placement is to close concurrently with the closing of the rights offering. Subject to conditions, the Company currently expects that these transactions will close sometime in the fourth fiscal quarter of the current fiscal year. A number of factors may cause delays or difficulties and the closings for such transactions are subject to conditions, some of which are outside of the Company’s control. See Note 10, "Subsequent Events."
The distribution of the rights and the commencement of the rights offering may occur only after a registration statement to be filed by the Company with the Securities and Exchange Commission ("SEC") becomes effective. Nothing in this Form 10-Q shall constitute an offer to sell or a solicitation of an offer to buy the securities, nor shall there be any offer, solicitation or sale of

7

THE WET SEAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the 26 weeks ended August 2, 2014, and August 3, 2013
(Unaudited)

the securities in any state or jurisdiction in which such offer, solicitation or sale would be unlawful prior to the registration or qualification of the securities under the securities laws of such state or jurisdiction.
The Company has historically financed its operations primarily from internally generated cash flows. These interim financial statements have been prepared on a basis of management’s belief that based on current forecasts, the Company believes that cash flows from operations, working capital, cash reserves, availability under its senior revolving credit facility and the anticipated proceeds from the private placement and the intended rights offering noted above will be sufficient to meet its operating and capital expenditure needs for the next twelve months in the normal course of business and do not include any adjustments that might result from uncertainties. If the Company is unable to complete the private placement and the intended rights offering, return to positive same-store sales growth and improve its gross margins in the future, and it then continues to experience negative cash flow from operations, the Company may deplete all of its cash reserves and be required to access most, if not all, of the senior revolving credit facility, and would potentially require other sources of financing to fund its operations, which sources might not be available, or if available, may not be on terms acceptable to the Company. In addition, the Company may need to take various actions, such as down-sizing, which could include exit costs, or reducing or delaying capital expenditures, strategic investments or other actions, and the Company's business could be materially and adversely affected and could raise substantial doubt about the Company’s ability to continue as a going concern. In this event, it could have an adverse impact on the Company's relationships with its merchandise vendors, lenders and other creditors.
On August 18, 2014, the Company received a letter from Nasdaq (the “Notice”) notifying the Company that the closing bid price of the Company’s common stock was below the $1.00 minimum bid price requirement for 30 consecutive business days and, as a result, the Company no longer complies with the minimum bid price requirement for continued listing on Nasdaq. The Notice also stated that the Company has been provided an initial cure period of 180 calendar days, or until February 17, 2015, to regain compliance with the minimum bid price requirement. To regain compliance, the closing bid price of the Company’s common stock must be at least $1.00 per share for a minimum of 10 consecutive business days prior to February 17, 2015. If the Company does not regain compliance by February 17, 2015, it may be eligible for additional time. To qualify, the Company must submit, no later than February 17, 2015, an on-line transfer application. The Company will be required to meet the continued listing requirement for market value of publicly held shares and all other initial listing standards, with the exception of the bid price requirement, and will need to provide written notice of its intention to cure the deficiency during the second cure period by effecting a reverse stock split, if necessary. As part of its review process, Nasdaq will make a determination of whether they believe that the Company will be able to cure this deficiency. Should Nasdaq conclude that the Company will not be able to cure the deficiency, or should the Company determine not to submit a transfer application or make the required representation, Nasdaq will provide notice that the Company's securities will be subject to delisting.
If the Company's securities are delisted and the Company cannot obtain listing for the securities on another established market or exchange, its stock’s liquidity could suffer, and it would likely experience reduced investor interest. Such factors may result in a decrease in the Company's stock’s trading price. Delisting may also make it more difficult for the Company to issue additional securities or to secure financing. Furthermore, if the Company's common stock is not listed on the Nasdaq Global Select Market, the Nasdaq Global Market, the Nasdaq Capital Market or other eligible market, it would be an event of default under its Exchange Note which would enable the holder of the Exchange Note to demand that it redeem all or any portion of the convertible notes (including all accrued and unpaid interest and all interest that would have accrued through March 27, 2017, the maturity date), in cash pursuant to the terms of the notes. If an event of default under the Exchange Note occurs, the Company's available cash could be seriously depleted and its financial condition would be materially and adversely affected.
Significant Accounting Policies
Long-Lived Assets
The Company evaluates the carrying value of long-lived assets for impairment quarterly or whenever events or changes in circumstances indicate that the carrying value of such assets may not be recoverable. Factors that are considered important that could result in the necessity to perform an impairment review include a current-period operating or cash flow loss combined with a history of operating or cash flow losses and a projection or forecast that indicates continuing losses or insufficient income associated with the realization of a long-lived asset or asset group. Other factors include a significant change in the manner of the use of the asset or a significant negative industry or economic trend. This evaluation is performed based on estimated undiscounted future cash flows from operating activities compared with the carrying value of the related assets. If the estimated undiscounted future cash flows are less than the carrying value, an impairment loss is recognized, measured by the difference between the

8

THE WET SEAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the 26 weeks ended August 2, 2014, and August 3, 2013
(Unaudited)

carrying value and the estimated fair value of the assets, based on discounted estimated future cash flows using the Company’s weighted average cost of capital. With regard to store assets, which are comprised of leasehold improvements, fixtures and computer hardware and software, the Company considers the assets at each individual store to represent an asset group. In addition, the Company has considered the relevant valuation techniques that could be applied without undue cost and effort and has determined that the discounted estimated future cash flow approach provides the most relevant and reliable means by which to determine fair value in this circumstance.
The Company conducts its quarterly impairment evaluation at the individual store level using the guidance under applicable accounting standards. The quarterly analysis includes the Company's estimates of future cash flows using only the cash inflows and outflows that are directly related to each store over the remaining lease term. Key assumptions made by the Company and included within the cash flow estimates are future sales and gross margin projections. The Company determines the future sales and gross margin projections by considering each store's recent and historical performance, the Company's overall performance trends and projections and the potential impact of strategic initiatives on future performance.
The Company's evaluations during the 13 and 26 weeks ended August 2, 2014, and August 3, 2013 included impairment testing of 70, 101, 38 and 47 stores and resulted in 63, 93, 2 and 8 stores being impaired, respectively, as their projected future cash flows were not sufficient to recover the net carrying value of their assets. Due to the Company's plan to wind down the Arden B brand, during the quarter ended May 3, 2014, it tested all Arden B stores with carrying value and the corporate assets associated with the Arden B website, which was also impaired as of May 3, 2014. The Company recorded the following non-cash charges within asset impairment in the condensed consolidated statements of operations to write down the carrying values of impaired stores' long-lived assets to their estimated fair values (in thousands except for number of stores):
 
 
13 Weeks Ended
26 Weeks Ended
 
 
August 2, 2014
 
August 3, 2013
 
August 2, 2014
 
August 3, 2013
Aggregate carrying value of all long-lived assets impaired
 
$
13,108

 
$
262

 
$
20,549

 
$
2,135

Less: Impairment charges - stores
 
12,740

 
262

 
19,674

 
1,858

         Impairment charges - corporate
 

 

 
384

 

Aggregate fair value of all long-lived assets impaired
 
$
368

 
$

 
$
491

 
$
277

Number of stores with asset impairment
 
63

 
2

 
93

 
8

Of the 7 stores that were tested and determined not to be impaired during the 13 weeks ended August 2, 2014, 4 could be deemed to be at risk of future impairment. When making this determination, the Company considered the potential impact that reasonably possible changes to sales and gross margin performance versus the Company's current projections for these stores could have on their current estimated cash flows. Of the $12.7 million in impairment charges for the 13 weeks ended August 2, 2014, $0.1 million was for Arden B stores.
As noted above, the Company considers the potential impact expected from its strategic initiatives when determining the key assumptions to use within the projected cash flows for each store during its quarterly analysis. If the Company is not able to achieve its projected key financial metrics, and the strategic initiatives being implemented do not result in significant improvements in the Company's current financial performance trend, the Company may incur additional impairment in the future for those stores tested and not deemed to be impaired in its most recent quarterly analysis, as well as for additional stores not tested in its most recent quarterly analysis.
Capitalized interest included in equipment and leasehold improvements, net, totaled less than $0.1 million during the 13 and 26 weeks ended August 2, 2014.
Warrants for Common Stock and Embedded Derivatives
The Company’s common stock warrants and embedded derivatives have been bifurcated from the debt host and are classified as liabilities on the condensed consolidated balance sheet. The Company records the warrants and embedded derivatives liabilities at fair value and adjusts the carrying values to their estimated fair value at each reporting date, with the increases or decreases in

9

THE WET SEAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the 26 weeks ended August 2, 2014, and August 3, 2013
(Unaudited)

the fair values at each reporting date recorded as a gain or (loss) in the condensed consolidated statements of operations. Refer to Note 4, "Senior Convertible Notes and Warrants" and Note 5, "Fair Value Measurements and Disclosures."
Income Taxes
The Company accounts for income taxes in accordance with applicable accounting standards which require that the Company recognize deferred tax assets, which include net operating loss carryforwards (NOLs) and tax credits, and liabilities based on the differences between the financial statement carrying amounts and the tax bases of assets and liabilities, using enacted tax rates in effect in the years the differences are expected to reverse. Deferred income tax expense or benefit results from the change in net deferred tax assets or deferred tax liabilities. Such guidance requires that deferred tax assets be reduced by a valuation allowance if it is more likely than not that some portion or all of the net deferred tax assets will not be realized. Due to the Company's three-year cumulative operating losses, the Company established a valuation allowance against all of its deferred tax assets in fiscal 2012. In addition, the Company discontinued recording income tax benefits in the condensed consolidated statements of operations. The Company will not record income tax benefits until it is determined that it is more likely than not that the Company will generate sufficient taxable income to realize the deferred income tax assets. The Company remains in a cumulative three-year operating loss position and realization of its deferred income tax assets is not deemed to be more likely than not. Prospectively, as the Company continues to evaluate available evidence, it is possible that the Company may deem some or all of its deferred income tax assets to be realizable.
The Company has approximately $165.0 million of federal NOLs available to offset taxable income in fiscal 2014 and thereafter, subject to certain annual limitations based on the provisions of Section 382 of the Internal Revenue Code. It is possible that the contemplated private placement and intended rights offering described in Note 10, "Subsequent Events," if completed, may result in additional ownership changes for purposes of Section 382. The Company's effective tax rates for the 13 and 26 weeks ended August 2, 2014, were approximately negative 0.1% and negative 0.3%, respectively, despite its net loss. These effective rates are due to certain state income taxes for fiscal 2014 that are not based on consolidated net income. The Company expects a negative 0.3% effective income tax rate for fiscal 2014, although a number of factors could cause its actual effective tax rate for fiscal 2014 to differ.
Other Comprehensive Income
Other comprehensive income refers to gains and losses that are recorded as an element of stockholders' equity but are excluded from net loss. Employers are required to recognize the over or under funded status of defined benefit plans and other postretirement plans in the statement of financial position and to recognize changes in the funded status in the year in which the changes occur through comprehensive (loss) income. Other comprehensive (loss) income in the condensed consolidated balance sheets is zero, due to the settlement of the Company’s supplemental employee retirement plan liability. Refer to Note 2, Stock-Based Compensation and Supplemental Employee Retirement Plan.
Recent Accounting Pronouncements
In April 2014, the Financial Accounting Standards Board ("FASB") issued amended guidance on the presentation of financial statements and reporting discontinued operations and disclosures of disposals of components of an entity within property, plant and equipment. This guidance amends the definition of a discontinued operation and requires entities to disclose additional information about disposal transactions that do not meet the discontinued-operations criteria. The effective date is for disposals that occur in annual periods (and interim periods therein) beginning on or after December 15, 2014. Early adoption is permitted. As discussed under "Basis of Presentation" above, the Company evaluated its wind down of the Arden B brand under the existing discontinued operations guidance and did not elect early adoption of this amended guidance.
In May 2014, the FASB issued a new accounting standard which amends the existing accounting standards for revenue recognition. This new standard is based on principles that govern the recognition of revenue at an amount to which an entity expects to be entitled when products are transferred to customers. The Company is required to adopt this new standard for annual and interim periods beginning after December 15, 2016. Early adoption is not permitted. The new revenue accounting standard may be applied retrospectively to each prior period presented or retrospectively with the cumulative effect recognized as of the date of adoption. Based on the Company’s evaluation of this standard, adoption is not expected to have a material impact on the Company’s consolidated financial statements.

10

THE WET SEAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the 26 weeks ended August 2, 2014, and August 3, 2013
(Unaudited)

In June 2014, the FASB issued a new stock compensation accounting standard, which requires an entity to treat a performance target that affects vesting and that could be achieved after the requisite service period as a performance condition. Under this new standard, the performance target should not be reflected in estimating the grant-date fair value of the award, and compensation cost should be recognized in the period in which it becomes probable that the performance target will be achieved, and should represent the compensation cost attributable to the period(s) for which the requisite service has already been rendered; if the performance target becomes probable of being achieved before the end of the requisite service period, then the remaining unrecognized compensation cost should be recognized prospectively over the remaining requisite service period. The total amount of compensation cost recognized during and after the requisite service period should reflect the number of awards that are expected to vest, and should be adjusted to reflect those awards that ultimately vest. The Company is required to adopt this new standard for annual and interim periods beginning after December 15, 2015. The Company does not expect the adoption of this new standard to have a material impact on its consolidated financial statements.
In August 2014, the FASB issued a new accounting standard which requires management to evaluate whether there is substantial doubt about an entity’s ability to continue as a going concern for each annual and interim reporting period. If substantial doubt exists, additional disclosure is required. This new standard will be effective for the Company for annual and interim periods beginning after December 15, 2016. Early adoption is permitted. The Company expects to adopt this new standard for the fiscal year ending February 3, 2018 and the Company will continue to assess the impact on its consolidated financial statements.
NOTE 2 – Stock-Based Compensation and Supplemental Employee Retirement Plan
The Company has one stock incentive plan under which shares were available for grant at August 2, 2014: the 2005 Stock Incentive Plan (the “2005 Plan”). The Company previously granted share awards under its 1996 Long-Term Incentive Plan (the “1996 Plan”) that remain unvested and/or unexercised as of August 2, 2014; the 1996 Plan expired during fiscal 2006, and no further share awards may be granted under the 1996 Plan. The 2005 Plan and the 1996 Plan are collectively referred to as the “Plans.”
The 2005 Plan permits the granting of options, restricted common stock, performance share awards, restricted and performance stock units, or other equity-based awards to the Company’s employees, officers, directors, and consultants. The Company believes the granting of equity-based awards helps to align the interests of its employees, officers and directors with those of its stockholders. The Company has a practice of issuing new shares to satisfy stock option exercises, as well as for restricted stock, performance share grants and other awards made or settled in the form of Company stock. The 2005 Plan was approved by the Company’s stockholders on January 10, 2005, as amended with stockholder approval on July 20, 2005, for the issuance of incentive awards covering 12,500,000 shares of Class A common stock. Additionally, an amended and restated 2005 Plan was approved by the Company’s stockholders on May 19, 2010, which increased the incentive awards capacity to 17,500,000 shares of Class A common stock. The Company amended the 2005 Plan in August 2014 to permit the grant of up to 4,000,000 shares as inducement grants. Refer to Note 10, Subsequent Events. An aggregate of 22,557,528 shares of Class A common stock have been issued or may be issued pursuant to the Plans. As of August 2, 2014, 2,052,826 shares were available for future grants under the 2005 Plan.
Stock Options
The Plans provide that the per-share exercise price of a stock option may not be less than the fair market value of the Company’s Class A common stock on the date the option is granted. Under the Plans, outstanding options vest over periods ranging from three to five years from the grant date and expire from five to ten years after the grant date. Certain stock option and other equity-based awards provide for accelerated vesting if there is a change in control (as defined in the Plans). The Company records compensation expense for employee stock options based on the estimated fair value of the options on the date of grant using the Black-Scholes option-pricing model. The Company uses historical data, the implied volatility of market-traded options and other factors to estimate the expected price volatility, option lives, and forfeiture rates.
The risk-free rate is based on the U.S. Treasury yield curve in effect at the time of grant and the estimated life of the option. The following weighted-average assumptions were used to estimate the fair value of options granted during the periods indicated using the Black-Scholes option-pricing model:
 
13 Weeks Ended
 
26 Weeks Ended
 
August 2, 2014
 
August 3, 2013
 
August 2, 2014
 
August 3, 2013
Dividend Yield
%
 
%
 
%
 
%
Expected Volatility
41.66
%
 
40.73
%
 
41.66
%
 
40.92
%
Risk-Free Interest Rate
1.00
%
 
0.70
%
 
1.02
%
 
0.56
%
Expected Life of Options (in Years)
3.3

 
3.3

 
3.3

 
3.3

At August 2, 2014, there was $0.5 million of total unrecognized compensation expense related to nonvested stock options under the Company’s share-based payment plans, which will be recognized over an average period of 2.4 years, representing the remaining vesting periods of such options through fiscal 2017.

11

THE WET SEAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the 26 weeks ended August 2, 2014, and August 3, 2013
(Unaudited)

The following table summarizes the Company’s stock option activities with respect to its Plans for the 26 weeks ended August 2, 2014 (aggregate intrinsic value in thousands):
Options
Number of
Shares
 
Weighted-
Average
Exercise
Price Per
Share
 
Weighted-
Average
Remaining
Contractual Life
(in years)
 
Aggregate
Intrinsic
Value
Outstanding at February 1, 2014
882,333

 
$
3.82

 
 
 
 
Granted
1,445,246

 
$
1.51

 
 
 
 
Exercised

 
$

 
 
 
 
Canceled
(281,732
)
 
$
4.12

 
 
 
 
Outstanding at August 2, 2014
2,045,847

 
$
2.15

 
4.22
 
$

Vested and expected to vest in the future at August 2, 2014
1,674,654

 
$
2.26

 
4.12
 
$

Exercisable at August 2, 2014
385,723

 
$
3.74

 
2.77
 
$

Options vested and expected to vest in the future is comprised of all options outstanding at August 2, 2014, net of estimated forfeitures. Additional information regarding stock options outstanding as of August 2, 2014, is as follows:
 
Options Outstanding
 
Options Exercisable
Range of Exercise Prices
Number
Outstanding
as of
August 2, 2014
 
Weighted-
Average
Remaining
Contractual Life
(in years)
 
Weighted-
Average
Exercise
Price Per
Share
 
Number
Exercisable
as of
August 2, 2014
 
Weighted-
Average
Exercise
Price Per
Share
$ 0.92 - $ 1.52
1,440,246

 
4.72
 
$
1.51

 

 
$

$ 2.26 -  $ 3.43
206,001

 
2.65
 
$
2.95

 
115,998

 
$
3.03

$ 3.44 - $ 4.97
399,600

 
3.19
 
$
4.05

 
269,725

 
$
4.05

$ 0.92 - $ 4.97
2,045,847

 
4.22
 
$
2.15

 
385,723

 
$
3.74

The weighted-average grant-date fair value of options granted during the 13 and 26 weeks ended August 2, 2014, and August 3, 2013, was $0.29, $0.27, $1.37 and $1.13, respectively. No options were exercised during the 13 and 26 weeks ended August 2, 2014. The total intrinsic values for options exercised during the 13 and 26 weeks ended August 3, 2013, was $0.2 million and $0.2 million, respectively.
Cash received from option exercises under the Plans for the 26 weeks ended August 3, 2013, was $0.5 million. The Company did not realize tax benefits for the tax deductions from option exercises as it must first utilize its regular NOL prior to realizing the excess tax benefits.
Restricted Common Stock, Restricted Stock Units, Performance Share Awards, and Performance Stock Units
Under the 2005 Plan, the Company grants directors, certain executives and other key employees restricted common stock and restricted stock units with vesting contingent upon completion of specified service periods ranging from one to three years. In fiscal 2013, the Company also granted certain executives performance share awards and performance stock units with vesting contingent upon a combination of specified service periods and the Company’s achievement of a specified corporate performance objective. The performance share awards and performance stock units granted in fiscal 2013 were subsequently forfeited due to the failure to achieve the performance metric. As of August 2, 2014, there were no performance share awards or performance stock units outstanding under the 2005 Plan. Restricted stock units awarded to employees represent the right to receive one share of the Company's Class A common stock upon vesting.
During the 26 weeks ended August 2, 2014, the Company granted 1,476,513 restricted stock units to certain employees under the Plans with a weighted-average grant-date fair value of $1.50 per share. During the 26 weeks ended August 3, 2013, the Company granted 234,759 shares of restricted common stock to certain employees and directors under the Plans, with a weighted-average grant-date fair value of $3.03 per share.

12

THE WET SEAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the 26 weeks ended August 2, 2014, and August 3, 2013
(Unaudited)

The fair value of nonvested restricted common stock awards and restricted stock units is equal to the price of the Company’s Class A common stock on the grant date. The following table summarizes activity with respect to the Company’s restricted common stock and restricted stock units during the 26 weeks ended August 2, 2014:
Restricted Common Stock and Restricted Stock Units
Number of Shares
 
Weighted-Average Grant-Date Fair Value
Nonvested at February 1, 2014
899,939

 
$
3.06

Granted
1,476,513

 
$
1.50

Vested
(207,972
)
 
$
2.72

Forfeited
(84,376
)
 
$
2.42

Nonvested at August 2, 2014
2,084,104

 
$
2.02

At August 2, 2014, there was $2.8 million of total unrecognized compensation expense related to nonvested restricted common stock and restricted stock units under the Plans. That cost is expected to be recognized over a weighted-average period of 2.0 years, representing the remaining vesting periods of such stock awards through fiscal 2017.
The following tables summarize stock-based compensation recorded in the condensed consolidated statements of operations (in thousands):
 
13 Weeks Ended
 
26 Weeks Ended
 
August 2, 2014
 
August 3, 2013
 
August 2, 2014
 
August 3, 2013
Stock options
$
62

 
$
73

 
$
81

 
$
122

Restricted stock awards and units
399

 
328

 
1,024

 
622

Performance share awards and units

 
75

 

 
101

Stock-based compensation
$
461

 
$
476

 
$
1,105

 
$
845

 
13 Weeks Ended
 
26 weeks ended
 
August 2, 2014
 
August 3, 2013
 
August 2, 2014
 
August 3, 2013
Cost of sales
$
59

 
$
72

 
$
76

 
$
122

Selling, general, and administrative expenses
402

 
404

 
1,029

 
723

Stock-based compensation
$
461

 
$
476

 
$
1,105

 
$
845


Supplemental Employee Retirement Plan
The Company maintained a defined benefit Supplemental Employee Retirement Plan (the “SERP”) for a former Chairman of the Board of Directors of the Company. The Company funded the SERP in prior years through contributions to a trust fund known as a “Rabbi” trust. Funds were held in a Rabbi trust for the SERP consisting of a life insurance policy reported at cash surrender value. On May 21, 2014, the Company surrendered the life insurance policy for its cash value of $1.4 million, settled its SERP plan liability by transferring the obligation to a transferee in exchange for a cash payment of $1.1 million to the transferee, and recognized a gain of $0.7 million as a result of such transfer, which is included in the selling, general, and administrative expenses line in the condensed consolidated statements of operations.

13

THE WET SEAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the 26 weeks ended August 2, 2014, and August 3, 2013
(Unaudited)

NOTE 3 – Senior Revolving Credit Facility
The Company maintains a $35.0 million senior revolving credit facility (the “Facility”), which can be increased up to $50.0 million in the absence of any default and upon the satisfaction of certain conditions precedent specified in the Facility. The Facility expires in February 2016. Under the Facility, the Company is subject to borrowing base limitations on the amount that can be borrowed and certain customary covenants, including, under certain circumstances, covenants limiting the ability to incur additional indebtedness, make investments and acquisitions, grant liens, pay dividends, repurchase its Class A common stock, close stores, and dispose of assets, without the lender’s consent. The ability of the Company to borrow and request the issuance of letters of credit is subject to the requirement that the Company maintain an excess of the borrowing base over the outstanding credit extensions of the greater of 10% of the aggregate amount of the Facility or $4.0 million. The annual interest rate on the revolving line of credit under the Facility is (i) the higher of the lender’s prime rate, the Federal funds rate plus 0.5% or the one month London InterBank Offered Rate (LIBOR) plus 1.0%, collectively referred to as the “Base Rate”, plus the applicable margin ranging from 0.5% to 1.0% or, (ii) if the Company elects, either the one, two, three or six months LIBOR plus a margin ranging from 1.5% to 2.0%. The applicable Base Rate or LIBOR margin is based on the level of average excess availability, as defined under the Facility, at the time of election, as adjusted quarterly. The Company also incurs fees on outstanding letters of credit under the Facility at an annual rate equal to the applicable LIBOR margin for standby letters of credit and 23.0% of the applicable LIBOR margin for commercial letters of credit. Additionally, the Company is subject to commitment fees at an annual rate of 0.25% on the unused portion of the line of credit under the Facility.
Borrowings under the Facility are secured by cash, cash equivalents, investments, receivables and inventory held by the Company and three of its wholly owned subsidiaries, The Wet Seal Retail, Inc. and Wet Seal Catalog, Inc., each of which may be a borrower under the Facility, and Wet Seal GC, LLC, which is a guarantor of the obligations owing under the Facility.
At August 2, 2014, the amount outstanding under the Facility consisted of $4.5 million in documentary letters of credit related to merchandise purchases and $1.8 million in standby letters of credit, and the Company had $28.7 million available under the Facility for cash advances and/or the issuance of additional letters of credit, subject to the borrowing limitations noted above.
On March 20, 2014, the Company amended the terms of the Facility in order to permit the issuance of the senior convertible notes and warrants and for the amortization of the senior convertible notes described in Note 4, "Senior Convertible Notes and Warrants." On September 2, 2014, the Company executed a letter agreement with the agent and sole lender under the Facility pursuant to which the agent and such lender consented to the exchange of senior convertible notes and warrants as described in Note 10, "Subsequent Events."
At August 2, 2014, the Company was in compliance with all covenant requirements under the Facility.
NOTE 4 – Senior Convertible Notes and Warrants
On March 26, 2014, the Company sold $27.0 million of senior convertible notes and issued warrants to purchase up to 8,804,348 shares of the Company's Class A common stock in a private placement to a single institutional investor with proceeds to the Company, net of $1.9 million of deferred financing costs, of $25.1 million. The Company intends to use the proceeds for general corporate purposes. On September 3, 2014, the Company entered into an Amendment, Consent and Exchange Agreement (the “Exchange Agreement”) whereby the Company agreed to issue a new convertible senior note in principal amount equal to $27 million (the “Exchange Note”) in exchange for the initial note and a new warrant to purchase up to 8,804,348 shares of the Company's Class A Common Stock in exchange for the initial warrants (the “Exchange Warrant”). See Note 10, "Subsequent Events."
The senior convertible notes bear interest at a rate of 6% per year, subject to certain adjustments, and mature in March 2017. The senior convertible notes are convertible, at the holder's option, into shares of the Company's Class A common stock at a price of $1.84 per share, subject to customary adjustments. Interest on the senior convertible notes is payable monthly and the principal amount of the senior convertible notes will amortize monthly with payments beginning September 26, 2014. The installment amount due under the Exchange Note for each month during a six-month time period beginning on September 26, 2014 is $700,000, which is $350,000 higher than the installment amount due under the initial note, and if the Company distributes rights to its stockholders pursuant to a rights offering before March 31, 2015, with proceeds to the Company of not less than $11.5 million, then such amortization payments shall equal $1,050,000 for each such installment date during such 6-month period. On March 26, 2015, the Company’s scheduled amortization payment will be $350,000. For each of the subsequent 12 installment dates, the Company’s scheduled amortization payment will be an amount equal to $1,000,000. For each of the final 12 installment dates, the

14

THE WET SEAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the 26 weeks ended August 2, 2014, and August 3, 2013
(Unaudited)

Company’s scheduled principal amortization payment will be an amount equal to the lesser of $1,075,000 and the remaining principal amount outstanding on such installment date.
The following table shows amortization payments by fiscal year as of August 2, 2014 under the terms of the initial notes and as of September 3, 2014 under the terms of the Exchange Note (in thousands):
Fiscal Year
 
As of August 2, 2014 under the initial note
 
As of September 3, 2014 under the Exchange Note (1)
2014
 
$
1,750

 
$
3,500

2015
 
10,700

 
11,050

2016
 
12,750

 
12,450

2017
 
1,800

 

(1) If the Company distributes rights to its stockholders pursuant to a rights offering before March 31, 2015, with proceeds to the Company of not less than $11.5 million, the Company will need to make an additional payment at that time of $350,000 times the number of payments made prior to the rights offering and an additional $350,000 for any further payments due through February 26, 2015.
Monthly interest and principal payments may be settled in cash or shares of the Company's Class A common stock, at its option, subject to certain conditions including: (i) the daily dollar trading volume of the Company's common stock for the average of the daily weighted average prices during the twenty (20) day trading period prior to the payment shall be at least $1.0 million; (ii) the daily dollar trading volume of the Company's common stock for each trading day during the ten (10) trading day period ending on the trading day immediately prior to the applicable date of determination shall be at least $0.5 million; and (iii) on each trading day during the twenty (20) day trading period prior to the payment, the weighted average price of the Company's common stock equals or exceeds $1.00. Also subject to certain conditions, at any time from and after April 26, 2015, solely if the Company is making the scheduled amortization payment for such scheduled amortization date in shares of common stock, the holder may accelerate a limited amount of scheduled amortization payments.
In connection with the Exchange Agreement, the Company issued the Exchange Warrants to purchase up to 8,804,348 shares of the Company's Class A common stock. The warrants will be exercisable beginning six months and one day after issuance through March 4, 2020 at $1.76 per share, which is $0.36 less than the initial exercise price of the initial warrants, subject to potential future adjustments.
The senior convertible notes were initially recorded net of a discount of $5.7 million, reflecting the fair value of the warrants and embedded derivatives within the senior convertible notes on the issuance date. Refer to Note 5, "Fair Value Measurements and Disclosures." for further detail on the fair value of the warrants and derivatives. The $5.7 million debt discount will be amortized through interest expense on the condensed consolidated statements of operations, using the effective interest method, over the term of the senior convertible notes. The Company incurred $1.9 million of deferred financing costs through August 2, 2014 and, net of $0.3 million of amortization to date, has included the current portion of $0.6 million in "prepaid expenses and other current assets" and the non-current portion of $1.0 million in "other assets" in the condensed consolidated balance sheets as of August 2, 2014. These costs will be amortized through interest expense on the condensed consolidated statements of operations over the term of the senior convertible notes.
The $5.7 million fair values of the warrants and embedded derivatives, which require bifurcation from the debt host, were recorded within long-term liabilities on the condensed consolidated balance sheets. The embedded derivatives are comprised of the conversion option, redemption in the case of an event of default and redemption in the case of a change in control features of the senior convertible note. The warrants and embedded derivatives are marked to market quarterly, with any change recorded as an adjustment to the carrying value of these liabilities and the gain or (loss) on warrants and derivatives liabilities recorded in the condensed consolidated statements of operations. The fair value of the warrants and embedded derivatives from the issuance date to the end of the quarter ended August 2, 2014, declined $2.9 million. Accordingly, this amount was recorded as a gain on warrants and derivatives liabilities in the condensed consolidated statements of operations. Refer to Note 5, "Fair Value Measurements and Disclosures."

15

THE WET SEAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the 26 weeks ended August 2, 2014, and August 3, 2013
(Unaudited)

NOTE 5 – Fair Value Measurements and Disclosures
Fair value is defined as the price that would be received upon sale of an asset or paid upon transfer of a liability in an orderly transaction between market participants at the measurement date and in the principal or most advantageous market for that asset or liability. The fair value should be calculated based on assumptions that market participants would use in pricing the asset or liability, not on assumptions specific to the entity. In addition, the fair value of liabilities should include consideration of non-performance risk, including the Company's own credit risk.
Inputs used in measuring fair value are prioritized into a three-level hierarchy based on whether the inputs to those measurements are observable or unobservable. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect the Company's market assumptions. The fair-value hierarchy requires the use of observable market data when available and consists of the following levels:
Level 1 – Quoted prices for identical instruments in active markets;
Level 2 – Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations in which all significant inputs are observable in active markets; and
Level 3 – Valuations derived from valuation techniques in which one or more significant inputs are unobservable.
The following tables present information on the Company’s financial instruments (in thousands):
 
Carrying
Amount as of
August 2, 2014
 
Fair Value Measurements
at Reporting Date Using
Level 1
 
Level 2
 
Level 3
Financial assets:
 
 
 
 
 
 
 
Money market funds
$
22,033

 
$

 
$
22,033

 
$

Cash equivalents
22,033

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Financial liability:
 
 
 
 
 
 
 
Senior convertible notes
$
22,170

 
$

 
$

 
$
22,170

 
Carrying
Amount as of
February 1,
2014
 
Fair Value Measurements
at Reporting Date Using
Level 1
 
Level 2
 
Level 3
Financial assets:
 
 
 
 
 
 
 
Money market funds
$
22,427

 
$

 
$
22,427

 
$

Cash equivalents
22,427

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Certificates of deposits
3,084

 

 
3,079

 

US government securities
4,302

 

 
4,300

 

Short-term investments
$
7,386

 


 


 



16

THE WET SEAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the 26 weeks ended August 2, 2014, and August 3, 2013
(Unaudited)

 
Carrying
Amount as of
August 3, 2013
 
Fair Value Measurements
at Reporting Date Using
Level 1
 
Level 2
 
Level 3
Financial assets:
 
 
 
 
 
 
 
Money market funds
$
9,233

 
$

 
$
9,233

 
$

Cash equivalents
9,233

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Certificates of deposit
7,613

 

 
7,596

 

US treasury securities
9,991

 

 
9,999

 

US government securities
34,344

 

 
34,319

 

Short-term investments
51,948

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Long-term tenant allowances receivable
$
1,005

 
$

 
$

 
$
1,005

Cash equivalents are carried at either cost or amortized cost, which approximates fair value, due to their short term maturities. The Company's money market funds are valued at $1, which is generally the net asset value of these funds and are represented at Level 2. Units are redeemable on a daily basis and redemption requests generally can be received the same day as the effective date. The Company’s short-term investments consist of interest-bearing bonds of various U.S. Government agencies, U.S. treasury securities and certificates of deposit, have maturities that are less than one year and are carried at amortized cost plus accrued income. Short-term investments are carried at amortized cost due to the Company’s intent to hold to maturity. The fair value of the Company’s short-term investments was determined based on quoted prices for similar instruments in active markets. The carrying value of the senior convertible notes at August 2, 2014 is net of the unamortized discount of $4,830. The fair value of the senior convertible notes was determined using a discounted cash flow analysis with Level 3 inputs of comparable yields from various high yield debt indices made up of companies with similar size, industry, credit rating and debt maturities. The carrying amount of the senior convertible notes translates to a yield of 21.5%, which is within the range of comparable yields for debt securities with similar terms and issuer credit profiles and the Company has therefore assumed that the carrying value approximates fair value. The Company believes the carrying amounts of other receivables and accounts payable approximate fair value. The fair value of the tenant allowances receivable was determined by discounting to present value using an incremental borrowing rate of 9.26%, at the time of recording, over their five year collection period. As of August 2, 2014 and February 1, 2014, they are included in other receivables within the condensed consolidated balance sheets.
On a non-recurring basis, the Company measures certain of its long-lived assets at fair value based on Level 3 inputs consisting of, but not limited to, projected sales growth, estimated gross margins, projected operating costs and an estimated weighted-average cost of capital. As of August 2, 2014, sales projections are based on current trend with annual improvement up to a maximum 3.0% increase in annual sales. Gross margin projections assume annual merchandise margin improvement up to historical peak merchandise margins and occupancy costs are based on lease terms. Projected operating costs are based on the current trend and maintaining consistent percentage of sales ratios for future periods. The weighted-average cost of capital is based on the Company's cost of debt and equity weighted in proportion to the amounts of debt and equity. For the 13 weeks ended August 2, 2014, the Company's weighted-average cost of capital was 19.5%. During the 13 and 26 weeks ended August 2, 2014, and August 3, 2013, the Company recorded $12.7 million, $20.1 million, $0.3 million and $1.9 million of impairment charges, respectively, in the accompanying condensed consolidated statements of operations. Refer to Note 1, “Summary of Significant Accounting Policies.”
Recurring Fair Value Measurements
Warrants Liability
The warrants to purchase the Company's Class A common stock are required to be measured at fair value each reporting period. Refer to Note 4, "Senior Convertible Notes and Warrants." The fair value of the warrants was estimated using the Black-Scholes option-pricing model as of August 2, 2014. The Company uses historical data to estimate the expected price volatility. The risk-free rate is based on the U.S. Treasury yield curve in effect as of August 2, 2014.

17

THE WET SEAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the 26 weeks ended August 2, 2014, and August 3, 2013
(Unaudited)

As of August 2, 2014, the following assumptions were used to estimate the fair value of the warrants using the Black-Scholes option-pricing model. As of March 26, 2014, the fair value of the warrants was estimated using a Monte Carlo simulation model that requires Level 3 inputs, which are highly subjective. The following significant assumptions were used as of August 2, 2014 and March 26, 2014:
 
August 2, 2014
 
March 26, 2014
Stock price
$
0.90

 
$
1.16

Exercise price
$
2.12

 
$
2.12

Exercise price floor
$
1.76

 
$
1.76

Expected volatility
51.93
%
 
54.00
%
Expected term (in years)
5.2

 
5.5

Risk free interest rate
1.72
%
 
1.86
%
Expected dividend yield
%
 
%

The following table presents the activity recorded for the warrants liability since inception (in thousands):
 
August 2, 2014
Beginning balance as of March 26, 2014
$
3,610

Less: Gain from change in fair value
264

Balance as of May 3, 2014
3,346

Less: Gain from change in fair value
1,409

Balance as of August 2, 2014
$
1,937

Derivatives Liability
The embedded derivatives liability is required to be measured at fair value each reporting period. Refer to Note 4, "Senior Convertible Notes and Warrants." The fair value of the embedded derivatives was estimated using a binomial lattice model, incorporating the “with-and-without” method to bifurcate the embedded derivatives, which requires Level 3 inputs that are highly subjective and determined using the following significant assumptions:
 
August 2, 2014
 
March 26, 2014
Stock price
$
0.90

 
$
1.16

Conversion price
1.84

 
1.84

Expected volatility
51.93
%
 
52.0
%
Expected term (in years)
2.7

 
3.0

Risk free interest rate
0.81
%
 
0.89
%
Expected dividend yield
%
 
%
Bond yield
4.1
%
 
4.2
%
Recovery rate
45.0
%
 
45.0
%

The following table presents the activity recorded for the derivative liability since inception (in thousands):
 
August 2, 2014
Beginning balance as of March 26, 2014
$
2,081

Less: Gain from change in fair value
175

Balance as of May 3, 2014
$
1,906

Less: Gain from change in fair value
1,087

Balance as of August 2, 2014
$
819


18

THE WET SEAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the 26 weeks ended August 2, 2014, and August 3, 2013
(Unaudited)

Changes in the fair value of the warrants and derivatives liabilities are included in gain on warrants and derivatives liabilities in the accompanying condensed consolidated statement of operations. It is possible that even small changes in any of the above assumptions could have a significant impact on the Company's financial results.
NOTE 6 – Net (Loss) Income Per Share
Net (loss) income per share, basic, is computed based on the weighted-average number of common shares outstanding for the period, including consideration of the two-class method with respect to certain of the Company’s other equity securities (see below). Net (loss) income per share, diluted, is computed based on the weighted-average number of common and potentially dilutive common equivalent shares outstanding for the period, also with consideration given to the two-class method.
While the Company historically has paid no cash dividends, participants in the Company’s equity compensation plans who were granted restricted stock and performance shares are allowed to receive cash dividends paid on unvested restricted stock and unvested performance shares. Holders of the Company's notes and warrants are entitled to participation in any dividends, and therefore the notes and warrants are participating securities. The Company’s unvested restricted stock and unvested performance shares also qualify as participating securities and are included in the computation of earnings per share pursuant to the two-class method. Restricted and performance stock units are not participating securities.
For the dilutive computation, under the two-class method, determination of whether the unvested share-based payment awards are dilutive is based on the application of the “treasury stock” method and whether the performance criteria has been met. For the dilutive computation of the warrants, under the two-class method, determination of the weighted average number of warrants not yet converted will be added to the basic weighted average number of shares whenever the period’s average price is higher than the exercise price of $2.12 per share as of August 2, 2014. As of September 3, 2014, the exercise price of the warrants is $1.76 per share. The "treasury stock" method will be applied to determine the incremental number of convertible shares that are assumed to be converted into common stock. The warrants will only have a dilutive effect when they are “in the money." As of August 2, 2014, the warrants were not exercisable until September 2014 and therefore, they have not been included in the table below. As of September 3, 2014, the warrants are not exercisable until March 2015. The dilutive effect of the senior convertible notes, including the interest, is included in the diluted share calculation based on the "if-converted method." Interest charges applicable to the convertible debt are added back as an adjustment to the numerator, net of tax. The payment of the principal and interest of the notes is presumed to be settled in common stock (versus cash) and the potentially issued shares resulting from this settlement are included in the diluted share calculation.
For the 13 and 26 weeks ended August 2, 2014, the Company incurred a net loss and there was no dilutive effect of any unvested share-based payment awards, warrants or senior convertible notes.

The following tables summarize the allocation of undistributed earnings among common stock and other participating securities for the 13 and 26 weeks ended August 3, 2013 using the two-class method and reconciles the weighted average common shares used in the computation of basic and diluted earnings per share (in thousands, except share data):
 
13 Weeks Ended
 
26 Weeks Ended
 
August 3, 2013
 
August 3, 2013
 
Net Income
 
Shares
 
Per Share
Amount
 
Net Income
 
Shares
 
Per Share
Amount
Net income per share, basic:
 
 
 
 
 
 
 
 
 
 
 
Net income
$
958

 
 
 
 
 
$
4,068

 
 
 
 
Less: Undistributed earnings allocable to participating securities
(12
)
 
 
 
 
 
(46
)
 
 
 
 
Net income per share, basic
$
946

 
85,800,626

 
$
0.01

 
$
4,022

 
87,178,655

 
$
0.05

Net income per share, diluted:
 
 
 
 
 
 
 
 
 
 
 
Net income
$
958

 
 
 
 
 
$
4,068

 
 
 
 
Less: Undistributed earnings allocable to participating securities
(12
)
 
 
 
 
 
(46
)
 
 
 
 
Effect of dilutive securities
 
 
174,403

 
 
 
 
 
64,757

 
 
Net income per share, diluted
$
946

 
85,975,029

 
$
0.01

 
4,022

 
87,243,412

 
$
0.05


19

THE WET SEAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the 26 weeks ended August 2, 2014, and August 3, 2013
(Unaudited)

The computations of net (loss) income per share, diluted, excluded the following potentially dilutive securities exercisable into Class A common stock for the 13 and 26 weeks ended August 2, 2014, and August 3, 2013, respectively, because their effect would have been anti-dilutive.
 
13 Weeks Ended
 
26 Weeks Ended
 
August 2, 2014
 
August 3, 2013
 
August 2, 2014
 
August 3, 2013
Stock options outstanding
2,045,847

 
237,977

 
2,045,847

 
487,735

Unvested restricted and performance stock awards and units
1,826,269

 
1,366,185

 
1,529,929

 
1,171,813

Interest on convertible debt
3,071,316

 

 
2,193,797

 

Senior convertible notes weighted-average shares outstanding
14,673,913

 

 
10,481,366

 

Total
21,617,345

 
1,604,162

 
16,250,939

 
1,659,548


NOTE 7 – Commitments and Contingencies
Litigation

On May 9, 2011, a complaint was filed in the Superior Court of the State of California for the County of Alameda on behalf of certain of the Company's current and former employees who were employed and paid by the Company from May 9, 2007 through the present. The Company was named as a defendant. The complaint alleges various violations under the State of California Labor Code and the State of California Business and Professions Code. Plaintiffs are seeking statutory penalties, civil penalties, injunctive relief, and attorneys' fees and costs. On February 3, 2012, the court granted the Company’s motion to transfer venue to the County of Orange. On July 13, 2012, the Court granted the Company's motion to compel arbitration. Plaintiffs appealed and oral argument was heard on September 23, 2013. On November 15, 2013, the Court of Appeals issued an order in which it affirmed in part and reversed in part the trial court’s order granting the Company’s motion to compel arbitration. Specifically, the Court of Appeal affirmed the trial court’s order compelling arbitration of individual claims but held that the Private Attorney General Action (PAGA) claim can only be brought as a representative action. The Company filed a petition for review to the California Supreme Court that was denied on February 11, 2014. The matter was remitted to the Superior Court for additional proceedings and on April 29, 2014, the Superior Court granted the Company’s motion and issued an order to stay the case. On May 20, 2014, Plaintiffs filed a Request for Clarification of the Superior Court’s order staying the case, On June 12, 2014, the Superior Court denied Plaintiffs’ request and reaffirmed that a stay is in effect. On June 26, 2014, Plaintiffs filed a Petition for Writ of Mandate with the Court of Appeals requesting that the stay of non-arbitral claims be lifted. On August 5, 2014, the Court of Appeals issued an order denying Plaintiffs’ Writ. A hearing to review the status of the stay took place in Superior Court on August 26, 2014 during which the Court continued the stay for an additional 90 days in order for the parties to proceed with arbitration of the individual claims.  The parties are in the process of initiating arbitration proceedings. In addition, on July 18, 2012, the Company received notice that Plaintiffs filed charges with the National Labor Relations Board (NLRB) under Section 7 of the National Labor Relations Board Act based on the arbitration agreements Plaintiffs signed upon their hiring with the Company. Plaintiffs alleged that the Company’s arbitration agreements unlawfully compel employees to waive their rights to participate in class or representative actions against the Company. On September 20, 2012, the NLRB dismissed Plaintiffs claims.

On October 27, 2011, a complaint was filed in the Superior Court of the State of California for the County of Los Angeles on behalf of certain of the Company’s current and former employees who were employed in California during the time period from October 27, 2007 through the present. The Company was named as a defendant. Plaintiffs are seeking unpaid wages, civil and statutory penalties, restitution, injunctive relief, interest, and attorneys' fees and costs. The complaint alleges various violations under the State of California Labor Code and the State of California Business and Professions Code. On March 28, 2012, the court entered an Order denying the Company’s motion to compel arbitration. On September 21, 2012, the Company filed a notice of appeal that is still pending.

As of August 2, 2014, the Company has accrued less than $0.1 million for loss contingencies in connection with the litigation matters enumerated above and other pending legal matters. The Company is vigorously defending the pending matters and will continue to evaluate its potential exposure and estimated costs as these matters progress. Future developments may require the Company to record accrual for these matters, or other legal matters, which could have a material negative effect on its results of operations or financial condition.

20

THE WET SEAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the 26 weeks ended August 2, 2014, and August 3, 2013
(Unaudited)


From time to time, the Company is involved in other litigation matters relating to claims arising out of its operations in the normal course of business. The Company believes that, in the event of a settlement or an adverse judgment on certain of these claims, insurance may cover a portion of such losses. However, certain matters could arise for which the Company does not have insurance coverage or for which insurance provides only partial coverage. These matters could have a material negative effect on its results of operations or financial condition.

NOTE 8 – Segment Reporting
The Company operates exclusively in the retail apparel industry in which it sells apparel and accessory items, primarily through mall-based chains of retail stores, to female consumers with a young, active lifestyle. The Company has identified two operating segments (“Wet Seal” and “Arden B”). E-commerce operations for Wet Seal and Arden B are included in their respective operating segments. Refer to Note 1, “Summary of Significant Accounting Policies.”
Information for the 13 and 26 weeks ended August 2, 2014, and August 3, 2013, for the two reportable segments is set forth below (in thousands, except percentages): 
13 Weeks Ended August 2, 2014
 
Wet Seal
 
Arden B
 
Corporate
and
Unallocated
 
Total
Net sales
 
$
108,722

 
$
12,454

 
$

 
$
121,176

Percentage of consolidated net sales
 
90
%
 
10
%
 
%
 
100
%
Operating loss
 
$
(15,562
)
 
$
(947
)
 
$
(6,768
)
 
$
(23,277
)
Depreciation and amortization expense
 
$
1,980

 
$
53

 
$
527

 
$
2,560

Interest income
 
$

 
$

 
$
64

 
$
64

Interest expense
 
$

 
$

 
$
(1,263
)
 
$
(1,263
)
Gain on warrants and derivatives liabilities
 
$

 
$

 
$
2,496

 
$
2,496

Loss before provision for income taxes
 
$
(15,562
)
 
$
(947
)
 
$
(5,471
)
 
$
(21,980
)
 
13 Weeks Ended August 3, 2013
 
Wet Seal
 
Arden B
 
Corporate
and
Unallocated
 
Total
Net sales
 
$
120,567

 
$
16,682

 
$

 
$
137,249

Percentage of consolidated net sales
 
88
%
 
12
%
 

 
100
%
Operating income (loss)
 
$
8,950

 
$
491

 
$
(8,463
)
 
$
978

Depreciation and amortization expense
 
$
2,732

 
$
322

 
$
383

 
$
3,437

Interest income
 
$

 
$

 
$
53

 
$
53

Interest expense
 
$

 
$

 
$
(54
)
 
$
(54
)
Income (loss) before provision for income taxes
 
$
8,950

 
$
491

 
$
(8,464
)
 
$
977



21

THE WET SEAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the 26 weeks ended August 2, 2014, and August 3, 2013
(Unaudited)

26 Weeks Ended August 2, 2014
 
Wet Seal
 
Arden B
 
Corporate
and
Unallocated
 
Total
Net sales
 
$
212,031

 
$
25,873

 
$

 
$
237,904

Percentage of consolidated net sales
 
89
%
 
11
%
 
%
 
100
%
Operating loss
 
$
(23,947
)
 
$
(5,579
)
 
$
(15,435
)
 
$
(44,961
)
Depreciation and amortization expense
 
$
4,229

 
$
217

 
$
1,053

 
$
5,499

Interest income
 
$

 
$

 
$
95

 
$
95

Interest expense
 
$

 
$

 
$
(1,716
)
 
$
(1,716
)
Gain on warrants and derivatives liabilities
 
$

 
$

 
$
2,935

 
$
2,935

Loss before provision for income taxes
 
$
(23,947
)
 
$
(5,579
)
 
$
(14,121
)
 
$
(43,647
)

26 Weeks Ended August 3, 2013
 
Wet Seal
 
Arden B
 
Corporate
and
Unallocated
 
Total
Net sales
 
$
243,367

 
$
34,327

 
$

 
$
277,694

Percentage of consolidated net sales
 
88
%
 
12
%
 

 
100
%
Operating income (loss)
 
$
18,502

 
$
1,048

 
$
(15,374
)
 
$
4,176

Depreciation and amortization expense
 
$
5,317

 
$
581

 
$
877

 
$
6,775

Interest income
 
$

 
$

 
$
101

 
$
101

Interest expense
 
$

 
$

 
$
(108
)
 
$
(108
)
Income (loss) before provision for income taxes
 
$
18,502

 
$
1,048

 
$
(15,381
)
 
$
4,169


 
The “Corporate and Unallocated” column is presented to allow for reconciliation of segment contribution to consolidated operating (loss) income, interest income, interest expense, gain on warrants and derivatives liabilities and (loss) income before provision for income taxes. Wet Seal and Arden B segment results include net sales, cost of sales, asset impairment and other direct store and field management expenses, with no allocation of corporate overhead or interest income and expense. The application of accounting policies for segment reporting is consistent with the application of accounting policies for corporate reporting.
Wet Seal operating (loss) income during the 13 and 26 weeks ended August 2, 2014, and August 3, 2013, includes $12.6 million, $16.8 million, $0.3 million and $1.4 million, respectively, of asset impairment charges.
Arden B operating (loss) income during the 13 and 26 weeks ended August 2, 2014, and August 3, 2013, includes $0.1 million, $2.9 million, none and $0.5 million, respectively, of asset impairment charges. Arden B operating loss during the 13 and 26 weeks ended August 2, 2014, include $0.4 million and $1.0 million, respectively, of costs to wind down the Arden B business and a $0.2 million gain on the termination of the Arden B loyalty program.
Corporate expenses during the 13 and 26 weeks ended August 2, 2014, include a $0.7 million gain on the retirement of the SERP liability. Corporate expenses during the 26 weeks ended August 2, 2014, include a $0.5 million benefit for miscellaneous non-recurring other income and $0.4 million in asset impairment charges. Corporate expenses during the 26 Weeks Ended August 3, 2013, include a $3.5 million benefit to adjust a loss contingency related to legal matters.

NOTE 9 – Treasury Stock
During the 26 weeks ended August 2, 2014, the Company tendered 43,183 shares of its Class A common stock upon restricted stock vesting to satisfy employee withholding tax obligations for a total cost of $0.1 million, as well as 273,284 shares reacquired by the Company, at no cost, upon employee forfeitures of stock-based compensation.

22

THE WET SEAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the 26 weeks ended August 2, 2014, and August 3, 2013
(Unaudited)

NOTE 10 - Subsequent Events

On September 3, 2014, the Company announced that it has entered into a securities purchase agreement to sell shares of its Class A common stock to a limited number of accredited investors in a private placement. Subject to the satisfaction of closing conditions, the Company expects to receive at the closing gross proceeds from the placement of approximately $18.5 million and net proceeds of approximately $17.2 million to $17.7 million.

Investors in the private placement have agreed to purchase shares of Class A common stock at a per share price equal to the lesser of $1.01, 87.5% of the volume weighted-average price for the 20 consecutive trading day period prior to when the price is set, or if the Company commences a rights offering to its shareholders at a subscription price which is lower than the foregoing, at such a lesser price. Each investor will also receive a discount to the per share purchase price of four percent, but in no event greater than $0.04 per share. The Company has the right to terminate the anticipated closing of the sale if the volume weighted-average price for its common stock for a 15 consecutive trading day period is below $0.80, subject to investors receiving a cash payment equal to the discount to the per share purchase price of four percent, but in no event greater than $0.04 per share. The closing of the private placement is subject to customary closing conditions, including, but not limited to, the concurrent closing of the intended rights offering, the effectiveness of a registration statement providing for the resale of the shares of common stock which the Company issues in the private placement and the Company having received approval from its shareholders pursuant to the NASDAQ listing requirements with respect to the issuance of all the common stock to be issued in the private placement. The Company intends to actively pursue the steps necessary to fulfill such closing conditions, although some of the conditions are outside of the Company's control.

Also on September 3, 2014, the Company announced that, subject to applicable regulatory approvals, it intends to conduct a rights offering which will allow the Company to raise equity capital through the sale of shares of its Class A common stock to its stockholders. The Company currently anticipates that the size of the rights offering will be between $25.0 and $30.0 million. Additional terms of the rights will be determined by the Company at a later date. The agreement for the private placement provides that it will close concurrently with the closing of the rights offering. Subject to conditions, the Company currently expects that these transactions will close sometime in the fourth fiscal quarter of the current fiscal year, although the Company could experience delays or difficulties. If the Company's contemplated rights offering is not consummated within 180 days of the date of the securities purchase agreement and the securities purchase agreement for the private placement has not been previously terminated pursuant to its terms, the purchasers have the right to elect to proceed with the private placement.

The distribution of the rights and the commencement of the rights offering may occur only after a registration statement to be filed by the Company with the Securities and Exchange Commission ("SEC") becomes effective. Nothing in this Form 10-Q shall constitute an offer to sell or a solicitation of an offer to buy the securities, nor shall there be any offer, solicitation or sale of the securities in any state or jurisdiction in which such offer, solicitation or sale would be unlawful prior to the registration or qualification of the securities under the securities laws of such state or jurisdiction.

On September 3, 2014, the Company entered into the Exchange Agreement with the investor in its senior convertible notes (see Note 4, "Senior Convertible Notes and Warrants"), pursuant to which the investor agreed to, among other things, the transactions contemplated by the private placement and rights offering described above, and the Company agreed to issue the Exchange Note in exchange for the initial note and the Exchange Warrant to purchase up to 8,804,348 shares of Common Stock in exchange for the initial warrants. The Exchange Note is convertible into shares of Common Stock and is entitled to earn interest, which may be paid in cash or in shares of Common Stock. The Exchange Warrant is exercisable into shares of Common Stock.

The Exchange Note and the Exchange Warrant are identical in all material respects to the initial notes and the initial warrants, respectively, except:
The Exchange Note clarifies what certifications must be made by the Company upon payment of interest in shares of common stock;
The Investor’s “maximum percentage” in each of the Exchange Note and the Exchange Warrant was increased from 4.99% to 9.99%;
Changes to the installment amount due under the Exchange Note as described in Note 4, "Senior Convertible Notes and Warrants;"
The initial exercise price of the Exchange Warrant is $1.76 per share, which is $0.36 less than the initial exercise price of the initial warrant, and adjusts on stock splits, combinations or similar events but not on certain dilutive issuances

23

THE WET SEAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the 26 weeks ended August 2, 2014, and August 3, 2013
(Unaudited)

provided for in the initial notes. The Exchange Warrant becomes exercisable six months and one day after its issuance;
The Exchange Note and the Exchange Warrant limit the Investors’ right to participate in a rights offering by the Company during a certain limited time period.

On September 2, 2014, the Company executed a consent agreement with the agent under its senior revolving credit facility (see Note 3, "Senior Revolving Credit Facility") whereby the agent and lenders under the senior revolving credit facility (a) consented to (i) the replacement of the Company's senior convertible notes and warrants (see Note 4, "Senior Convertible Notes and Warrants") with the Exchange Note and Exchange Warrant as described above and (ii) the consummation of the rights offering and the related equity issuances and the other transactions contemplated by the private placement as described above, (b) agree that any reference in the credit agreement and the other loan documents to the "Senior Convertible Notes and Warrants" shall be deemed to refer to the Exchange Note and Exchange Warrant and acknowledge and agree that the indebtedness evidenced by the Exchange Note and Exchange Warrant constitutes "Permitted Indebtedness", and (c) agree that the related equity issuance and the issuances of equity interests in connection with the rights offering shall not be deemed to be a "Prepayment Event" under the credit agreement; provided that, in the event that a cash dominion event shall have occurred and be continuing at the time of receipt by the Company of any proceeds from the related equity issuance and the issuances of equity interests in connection with the rights offering, the Company shall cause such proceeds to be deposited in the concentration account as required under the credit agreement evidencing the senior revolving credit facility.

On August 27, 2014, Company’s Board of Directors voted to approve John D. Goodman’s Severance Agreement and Release with the Company (the “Severance Agreement”). Pursuant to such agreement, Mr. Goodman’s employment with the Company ended on August 26, 2014, at which time he resigned as the Company’s Chief Executive Officer (and principal executive officer) and from all other positions with the Company, including his position as a director on the Board of Directors. Subject to the terms of the Severance Agreement, Mr. Goodman will receive (i) a cash payment in the aggregate amount of $819,200 (less required legal deductions), payable within ten (10) business days of the date of the Severance Agreement, and (ii) the immediate vesting of 100,000 shares of restricted stock previously issued to Mr. Goodman that were unvested immediately prior to the execution of the Severance Agreement. In consideration for these payments and benefits, Mr. Goodman agreed to a general release of potential claims, acknowledged the forfeiture of 377,953 shares of restricted stock units and 161,699 shares of restricted stock and affirmed certain confidentiality obligations. Pursuant to the Severance Agreement, Mr. Goodman also agreed to reasonably cooperate with the Company on transition matters.

In addition, on August 27, 2014, the Company’s Board of Directors voted to appoint Mr. Edmond S. Thomas to serve as the Company's Chief Executive Officer and to serve as a member of the Board of Directors. Mr. Thomas’s appointments were effective on September 8, 2014, which was the date that his full-time employment with the Company commenced.

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Item 2.        Management’s Discussion and Analysis of Financial Condition and Results of Operations
Management’s Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with our unaudited condensed consolidated financial statements and the notes thereto. The following discussion and analysis contains forward-looking statements. Forward-looking statements include statements that are predictive in nature, which depend upon or refer to future events or conditions, and/or which include words such as “believes,” “plans,” “intends,” “anticipates,” “estimates,” “expects,” “may,” “will,” or similar expressions. In addition, any statements concerning future financial performance, ongoing strategies or prospects, and possible future actions, which may be provided by our management, are also forward-looking statements. Forward-looking statements are based on current expectations and projections about future events and are subject to risks, uncertainties, and assumptions about the Company, economic and market factors and the industry in which we do business, among other things. These statements are not guarantees of future performance and we undertake no obligation to publicly update any forward-looking statements, whether as a result of new information, future events or otherwise.
Actual events and results may differ materially from those expressed or forecasted in forward-looking statements due to a number of factors. Factors that could cause our actual performance, future results and actions to differ materially from any forward-looking statements include, but are not limited to, those discussed in “Risk Factors” included in our Annual Report on Form 10-K for the fiscal year ended February 1, 2014, in our other filings with the Securities and Exchange Commission, and elsewhere in this Quarterly Report on Form 10-Q. All forward-looking statements included in this Quarterly Report speak only as of the date of this Quarterly Report.
All references to “we,” “our,” “us,” and “the Company” in this Quarterly Report on Form 10-Q mean The Wet Seal, Inc. and its wholly owned subsidiaries. All references in this Quarterly Report on Form 10-Q to “fiscal 2013” and “fiscal 2014” mean the fiscal years ended February 1, 2014 and ending January 31, 2015, respectively.
Executive Overview
We are a national multi-channel specialty retailer selling fashion apparel and accessory items designed for female customers aged 13 to 27 years old through our stores and e-commerce websites. In the first and second quarters of fiscal 2014, we operated two nationwide, primarily mall-based, chains of retail stores under the names “Wet Seal” and “Arden B.” At August 2, 2014, we had 531 retail stores in 47 states and Puerto Rico. Of the 531 stores, there were 480 Wet Seal stores and 51 Arden B stores. Our merchandise can also be purchased online through the websites of each of our chains.
On April 24, 2014, we committed to a plan to wind down the operations of our Arden B brand (the "Plan") due to the long-term financial under-performance of the business. As of August 2, 2014, we operated 51 Arden B stores. As of August 3, 2014, 30 of the Arden B stores became Wet Seal Plus stores, 18 of the Arden B stores became Wet Seal stores, one of the Arden B stores continues to operate under the Arden B name, but will transition to carrying Wet Seal product, and the 2 remaining stores continued to operate as Arden B stores until their closure in August 2014. We anticipate closing down the Arden B website in the third fiscal quarter of 2014. As of August 2, 2014, we have evaluated the applicable accounting guidance for discontinued operations due to the wind down of the Arden B operations and concluded that for the second quarter of fiscal 2014, the Arden B segment should be reported as part of the results from continuing operations. Arden B cash flows will cease by the end of the third quarter and we will not have any significant continuing involvement with the Arden B segment and, therefore, the Arden B segment will meet the conditions to be reported as a discontinued operation beginning in the third quarter of fiscal 2014. We maintain our intellectual property rights in the Arden B brand and affiliated trademarks and are exploring opportunities to preserve or monetize those rights.
The total amount of charges incurred in our condensed consolidated statement of operations during the 13 and 26 weeks ended August 2, 2014, in connection with the winding down of the Arden B brand, including charges for employee severance and retention plans, transitioning the stores from Arden B to Wet Seal merchandise, lease amendment and early termination fees, and non-cash asset impairments, was $0.5 million and $4.3 million, respectively. We estimate the amount of charges to our condensed consolidated statement of operations that will result in future cash expenditures during the remainder of 2014 fiscal year, comprised of a store employee retention plan and lease amendment and early termination fees, will be approximately $0.4 million. As of August 2, 2014, we also estimate that we will incur future cash expenditures during fiscal 2014 and 2015 of approximately $0.3 million that will not affect our condensed consolidated statement of operations, which are comprised of reimbursements to landlords of unamortized tenant allowances upon our early termination of certain leases for former Arden B store locations.
We consider the following to be key performance indicators in evaluating our performance:
Comparable store sales—For purposes of measuring comparable store sales, sales include merchandise sales as well as membership fee revenues recognized under our Wet Seal division’s frequent buyer program during the applicable period. Stores are deemed comparable stores on the first day of the month following the one-year anniversary of their opening or significant remodel/relocation, which we define to be a square footage increase or decrease of at least 20%. Stores that are remodeled or

25


relocated with a resulting square footage change of less than 20% are maintained in the comparable store base with no interruption. However, stores that are closed for three or more days in a fiscal month, due to remodel, relocation or other reasons, are removed from the comparable store base for that fiscal month as well as for the comparable fiscal month in the following fiscal year. Beginning with the first quarter of fiscal 2014, we began including ecommerce sales in our comparable store sales results and have revised the second quarter of fiscal 2013 comparable store sales results included herein to also include e-commerce sales. Comparable store sales results are important in achieving operating leverage on expenses such as store payroll, occupancy, depreciation and amortization, general and administrative expenses, and other costs that are at least partially fixed. Positive comparable store sales results generate greater operating leverage on expenses while negative comparable store sales results negatively affect operating leverage. Comparable store sales results also have a direct impact on our total net sales, cash and working capital.
Average transaction counts—We consider the trend in the average number of sales transactions occurring in our stores to be a key performance metric. To the extent we are able to increase transaction counts in our stores that more than offset the decrease, if any, in the average dollar sale per transaction, we will generate increases in our comparable store sales.
Gross margins — We analyze the components of gross margin, specifically cumulative mark-on, markups, markdowns, inventory shrink, buying costs, distribution costs and store occupancy costs. Any inability to obtain acceptable levels of initial markups, a significant increase in our use of markdowns or in inventory shrink, or an inability to generate sufficient sales leverage on other components of cost of sales could have an adverse impact on our gross margin results and results of operations.
Operating (loss) income — We view operating (loss) income as a key indicator of our financial success. The key drivers of operating (loss) income are comparable store sales, gross margins and the changes we experience in operating costs.
Cash flow and liquidity (working capital) — We evaluate cash flow from operations, capital expenditures, liquidity and working capital to determine our short-term operational and long-term capital financing needs.
Business Segments
We currently report our results as two reportable segments representing our two retail divisions. Although the two operating segments have many similarities in their products, production processes, distribution methods, and regulatory environment, there are differences in most of these areas and distinct differences in their economic characteristics. As a result, we consider these segments to be two distinct reportable segments. As discussed further in the Executive Overview, we are winding down the Arden B business.
Wet Seal. Wet Seal is a junior apparel brand for girls who seek fashion apparel and accessories at affordable prices, with a target customer age range of 13 to 23 years old. Wet Seal seeks to provide its customer base with a balance of trend right and fashion basic apparel and accessories that are budget-friendly.
Arden B. Arden B is a fashion brand at affordable prices for the contemporary woman. Arden B targets customers aged 24 to 34 years old and seeks to deliver differentiated contemporary fashion, dresses, sportswear separates and accessories for many occasions of the customers’ lifestyles.
We maintain a Web-based store located at www.wetseal.com, offering Wet Seal merchandise comparable to that carried in our stores. We also maintain a Web-based store located at www.ardenb.com, offering Arden B merchandise comparable to that carried in our stores. Our e-commerce stores are designed to serve as an extension of the in-store experience and offer an expanded selection of merchandise, with the goal of growing both e-commerce and in-store sales. We continue to develop our Wet Seal website to increase its effectiveness in marketing our brand. We do not consider our Web-based business to be a distinct reportable segment. The Wet Seal and Arden B reportable segments include, in addition to data from their respective stores, data from their respective e-commerce operations.

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Current Trends and Outlook
Our soft sales trends that started in the second half of 2013 continued through our second fiscal quarter of 2014, with continued softness in mall traffic, an intense promotional environment throughout the specialty retail apparel segment, weakness in retail trends and in fast fashion merchandise in general, and challenging economic conditions, especially for our middle and lower-middle income target customers, contributing negatively to our retail sales. Our comparable store sales decreased 12.4% during the 13 weeks ended August 2, 2014, driven by an 11.1% comparable store sales decrease in our Wet Seal division and a 22.8% comparable store sales decrease in our Arden B division during its wind down. Our comparable store sales declines, along with merchandise margin weakness from efforts to compete in the current promotional environment, has resulted in significant operating losses and use of cash in operating activities in each of the past four fiscal quarters. See Liquidity and Capital Resources herein for further discussion.
The Wet Seal division's comparable store sales decrease was primarily attributable to a decrease in transaction volume and a decrease in average dollar sales per transaction, which was driven by a decrease in average unit selling price, partially offset by an increase in units purchased per customer. The Arden B division comparable store sales decrease was primarily attributable to a decrease in transaction volume and a decrease in average dollar sales per transaction, which was driven by a decrease in average unit selling price from wind-down clearance events, partially offset by an increase in units purchased per customer.
Our combined e-commerce net sales compared to the prior year quarter, which is included in calculating our comparable store sales, increased 11.4% for the 13 weeks ended August 2, 2014, including a 25.1% increase at Wet Seal and a 24.6% decrease at Arden B due to the wind down of the Arden B business. Since the implementation of our new Demandware ecommerce platform in November 2013, we have shown improved mobile traffic and mobile conversion rates compared to periods before implementation. Improving the mobile shopping experience for our customers continues to be a key element of our ecommerce growth strategy.
Store Openings and Closures
For fiscal 2014, we currently expect to open 9 new Wet Seal stores, primarily in outlet and off-mall centers, and close approximately 48 stores upon lease expiration in fiscal 2014. Of the 48 stores expected to close, 33 are Wet Seal stores, and 15 are Arden B transition stores temporarily operating as Wet Seal or Wet Seal Plus stores. In August 2014, we converted 30 Arden B stores into Wet Seal Plus stores, 18 Arden B stores into Wet Seal stores and 1 of the Arden B stores continues to operate under the Arden B name, but will sell Wet Seal product, and the 2 remaining stores continued to operate as Arden B stores until their closure in August 2014.
Excluding the Arden B stores that were converted to Wet Seal or Wet Seal Plus stores, at Wet Seal, we opened 4 new stores and closed 2 stores during the 13 weeks ended August 2, 2014. At Arden B, we closed 3 stores during the 13 weeks ended August 2, 2014.
Critical Accounting Policies and Estimates
Our condensed consolidated financial statements were prepared in conformity with accounting principles generally accepted in the United States of America (“U.S. GAAP”) for interim financial information and the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by U.S. GAAP for complete financial statements.
The preparation of financial statements in conformity with U.S. GAAP requires the appropriate application of accounting policies, some of which require us to make estimates and assumptions about future events and their impact on amounts reported in our condensed consolidated financial statements. Since future events and their impact cannot be determined with absolute certainty, the actual results will inevitably differ from our estimates.
We believe the application of our accounting policies, and the estimates inherently required therein, are reasonable. Our accounting policies and estimates are reevaluated on an ongoing basis, and adjustments are made when facts and circumstances dictate a change. Our accounting policies are more fully described in Note 1, "Summary of Significant Accounting Policies" and in Management’s Discussion and Analysis of Financial Condition and Results of Operations included in our Annual Report on Form 10-K for the fiscal year ended February 1, 2014.
The policies and estimates discussed below involve the selection or application of alternative accounting policies that are material to our condensed consolidated financial statements. Management has discussed the development and selection of these critical accounting policies and estimates with the Audit Committee of our Board of Directors.

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We have certain accounting policies that require more significant management judgment and estimates than others. These include our accounting policies with respect to revenue recognition, merchandise inventories, long-lived assets, stock-based compensation, accounting for income taxes, legal loss contingencies, insurance reserves and warrants and embedded derivatives liabilities. There have been no significant additions to or modifications of the application of the critical accounting policies described in our Annual Report on Form 10-K for the fiscal year ended February 1, 2014, except for the following updates for our critical accounting policies for long-lived assets, accounting for income taxes, legal loss contingencies and warrants and embedded derivatives liabilities.
Long-Lived Assets
We evaluate the carrying value of long-lived assets for impairment quarterly or whenever events or changes in circumstances indicate that the carrying value of such assets may not be recoverable. Factors that are considered important that could result in the necessity to perform an impairment review include a current-period operating or cash flow loss combined with a history of operating or cash flow losses and a projection or forecast that indicates continuing losses or insufficient income associated with the realization of a long-lived asset or asset group. Other factors include a significant change in the manner of the use of the asset or a significant negative industry or economic trend. During the 13 and 26 weeks ended August 2, 2014, and August 3, 2013, we recorded $12.7 million, $20.1 million, $0.3 million and $1.9 million, respectively, of impairment charges. Additional information required by this item is incorporated herein by reference to Note 1, "Summary of Significant Accounting Policies," to the condensed consolidated financial statements included elsewhere in this report.
Accounting for Income Taxes
We have approximately $165.0 million of federal NOLs available to offset taxable income in fiscal 2014 and thereafter, subject to certain annual limitations based on the provisions of Section 382 of the Internal Revenue Code. Our effective tax rates for the 13 and 26 weeks ended August 2, 2014, were approximately negative 0.1% and 0.3%, respectively, despite our net loss. These effective rates are due to certain state income taxes for fiscal 2014 that are not based on consolidated net income. We expect a negative 0.3% effective income tax rate for fiscal 2014, although a number of factors could cause our actual effective tax rate for fiscal 2014 to differ from our expected effective tax rate. Additional information required by this item is incorporated herein by reference to Note 1, "Summary of Significant Accounting Policies," to the condensed consolidated financial statements included elsewhere in this report.
Legal Loss Contingencies
We are subject to the possibility of various legal losses. We consider the likelihood of loss or the incurrence of a liability, as well as our ability to reasonably estimate the amount of loss, in determining loss contingencies. An estimated loss contingency is accrued when it is probable that a liability has been incurred and the amount of loss can be reasonably estimated. We evaluate current information available to us to determine whether such accruals should be adjusted and whether new accruals are required. As of August 2, 2014, we have accrued less than $0.1 million for loss contingencies in connection with the litigation matters discussed in Note 7, "Commitments and Contingencies," to the condensed consolidated financial statements included elsewhere in this report. Future developments may require us to adjust the amount of this accrual, which, if increased, could have a material adverse effect on our results of operations or financial condition.
Warrants and Embedded Derivatives Liabilities
During the first quarter of 2014, we issued $27.0 million of senior convertible notes and warrants to purchase up to 8,804,348 shares of our Class A common stock to a single institutional investor, with proceeds to us, net of $1.9 million of deferred financing costs, of $25.1 million. The senior convertible notes were initially recorded net of a discount of $5.6 million, reflecting the fair value of the warrants and embedded derivatives within the senior convertible notes on the issuance date. The $5.6 million debt discount will be amortized through interest expense on the consolidated statements of operations, using the effective interest method, over the term of the senior convertible notes. The $1.9 million of deferred financing costs will be amortized through interest expense on our condensed consolidated statements of operations over the term of the senior convertible notes.

The $5.6 million fair value of the warrants and embedded derivatives are recorded within long-term liabilities on the condensed consolidated balance sheets. The warrants and embedded derivatives are marked to market quarterly, with any change recorded as an adjustment to the carrying value of these liabilities and the gain or (loss) on warrants and derivatives liabilities recorded in the condensed consolidated statements of operations. The change in the value of the warrants and embedded derivatives liabilities from time to time cannot be predicted and may be significant, which could have a significant effect on our financial results. Events that could cause the valuation to change include changes in our stock price and the risk free interest rate. The fair value of the

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warrants and embedded derivatives from the issuance date to the end of the second quarter declined $2.9 million. Accordingly, this amount was recorded as a gain on warrants and derivatives liabilities in our condensed consolidated statements of operations.

The initial senior convertible note and warrants were exchanged in September 2014 for the Exchange Note and the Exchange Warrant as more fully described under Management's Discussion and Analysis - Liquidity and Capital Resources - Subsequent Events.
Recent Accounting Pronouncements
The information required by this item is incorporated herein by reference to Note 1, "Summary of Significant Accounting Policies," to the condensed consolidated financial statements included elsewhere in this report.

Results of Operations
The following table sets forth selected condensed consolidated statements of operations data as a percentage of net sales for the periods indicated. The discussion that follows should be read in conjunction with the table below:
 
13 Weeks Ended
 
26 Weeks Ended
 
August 2, 2014
 
August 3, 2013
 
August 2, 2014
 
August 3, 2013
Net sales
100.0
 %
 
100.0
%
 
100.0
 %
 
100.0
%
Cost of sales
78.2

 
70.4

 
79.2

 
70.2

Gross margin
21.8

 
29.6

 
20.8

 
29.8

Selling, general, and administrative expenses
30.5

 
28.7

 
31.3

 
27.7

Asset impairment
10.5

 
0.2

 
8.4

 
0.6

Operating (loss) income
(19.2
)
 
0.7

 
(18.9
)
 
1.5

Interest expense, net
(1.0
)
 

 
(0.7
)
 

Gain on warrants and derivatives liabilities
2.1

 

 
1.2

 

(Loss) income before provision for income taxes
(18.1
)
 
0.7

 
(18.4