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Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

Form 10-Q

 

 

(Mark One)

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended March 31, 2018

OR

 

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                      to                     

Commission file number 001-37344

 

 

Party City Holdco Inc.

(Exact Name of Registrant as Specified in Its Charter)

 

 

 

Delaware   46-0539758

(State or Other Jurisdiction of

Incorporation or Organization)

 

(I.R.S. Employer

Identification No.)

80 Grasslands Road Elmsford, NY   10523
(Address of Principal Executive Offices)   (Zip Code)

Registrant’s telephone number, including area code: (914) 345-2020

 

 

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  ☒    No  ☐

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ☒    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 definitions of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer      Accelerated filer  
Non-accelerated filer   ☐  (Do not check if a smaller reporting company)    Smaller reporting company  
     Emerging Growth Company  

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.  ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ☐    No  ☒

As of April 25, 2018, 96,449,002 shares of the Registrant’s common stock were outstanding.

 

 

 


Table of Contents

PARTY CITY HOLDCO INC.

Form 10-Q

March  31, 2018

TABLE OF CONTENTS

 

     Page  
PART I   
Item 1. Condensed Consolidated Financial Statements (Unaudited)   

Condensed Consolidated Balance Sheets at March  31, 2018 and December 31, 2017

     3  

Condensed Consolidated Statements of Operations and Comprehensive Income (Loss) for the Three Months ended March 31, 2018 and March 31, 2017

     4  

Condensed Consolidated Statement of Stockholders’ Equity for the Three Months ended March 31, 2018

     5  

Condensed Consolidated Statements of Cash Flows for the Three Months ended March 31, 2018 and March 31, 2017

     6  

Notes to Condensed Consolidated Financial Statements

     7  
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations      17  
Item 3. Quantitative and Qualitative Disclosures about Market Risk      27  
Item 4. Controls and Procedures      27  
PART II   
Item 1. Legal Proceedings      28  
Item 1A. Risk Factors      28  
Item 5. Other Information      28  
Item 6. Exhibits      28  
Signature      29  

 

2


Table of Contents

PARTY CITY HOLDCO INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands, except share data)

 

     March 31,
2018
    December 31,
2017
 
    

(Note 2)

(Unaudited)

    (Note 2)  

ASSETS

    

Current assets:

    

Cash and cash equivalents

   $ 54,831     $ 54,291  

Accounts receivable, net

     130,946       140,980  

Inventories, net

     620,703       604,066  

Prepaid expenses and other current assets

     78,298       77,816  
  

 

 

   

 

 

 

Total current assets

     884,778       877,153  

Property, plant and equipment, net

     302,435       301,141  

Goodwill

     1,628,928       1,619,253  

Trade names

     569,196       568,681  

Other intangible assets, net

     75,680       75,704  

Other assets, net

     11,879       12,824  
  

 

 

   

 

 

 

Total assets

   $ 3,472,896     $ 3,454,756  
  

 

 

   

 

 

 

LIABILITIES, REDEEMABLE SECURITIES AND STOCKHOLDERS’ EQUITY

    

Current liabilities:

    

Loans and notes payable

   $ 349,601     $ 286,291  

Accounts payable

     129,681       160,994  

Accrued expenses

     167,078       176,609  

Income taxes payable

     39,163       45,568  

Current portion of long-term obligations

     12,931       13,059  
  

 

 

   

 

 

 

Total current liabilities

     698,454       682,521  

Long-term obligations, excluding current portion

     1,530,219       1,532,090  

Deferred income tax liabilities

     176,752       175,836  

Deferred rent and other long-term liabilities

     90,089       91,929  
  

 

 

   

 

 

 

Total liabilities

     2,495,514       2,482,376  

Redeemable securities

     3,590       3,590  

Commitments and contingencies

    

Stockholders’ equity:

    

Common stock (96,435,002 and 96,380,102 shares outstanding and 119,814,569 and 119,759,669 shares issued at March 31, 2018 and December 31, 2017, respectively)

     1,198       1,198  

Additional paid-in capital

     918,205       917,192  

Retained earnings

     371,385       372,596  

Accumulated other comprehensive loss

     (30,600     (35,818
  

 

 

   

 

 

 

Total Party City Holdco Inc. stockholders’ equity before common stock held in treasury

     1,260,188       1,255,168  

Less: Common stock held in treasury, at cost (23,379,567 shares at March 31, 2018 and December 31, 2017)

     (286,733     (286,733
  

 

 

   

 

 

 

Total Party City Holdco Inc. stockholders’ equity

     973,455       968,435  

Noncontrolling interests

     337       355  
  

 

 

   

 

 

 

Total stockholders’ equity

     973,792       968,790  
  

 

 

   

 

 

 

Total liabilities, redeemable securities and stockholders’ equity

   $ 3,472,896     $ 3,454,756  
  

 

 

   

 

 

 

See accompanying notes to unaudited condensed consolidated financial statements.

 

3


Table of Contents

PARTY CITY HOLDCO INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS)

(Unaudited)

(In thousands, except share and per share data)

 

    

Three Months Ended

March 31,

 
     2018     2017  

Revenues:

    

Net sales

   $ 505,108     $ 473,963  

Royalties and franchise fees

     2,716       3,036  
  

 

 

   

 

 

 

Total revenues

     507,824       476,999  

Expenses:

    

Cost of sales

     316,966       298,719  

Wholesale selling expenses

     18,787       15,627  

Retail operating expenses

     89,092       90,730  

Franchise expenses

     3,782       3,317  

General and administrative expenses

     48,665       48,137  

Art and development costs

     5,973       5,798  

Development stage expenses

     2,303       —    
  

 

 

   

 

 

 

Total expenses

     485,568       462,328  
  

 

 

   

 

 

 

Income from operations

     22,256       14,671  

Interest expense, net

     23,275       20,692  

Other expense, net

     848       1,162  
  

 

 

   

 

 

 

Loss before income taxes

     (1,867     (7,183

Income tax benefit

     (704     (2,500
  

 

 

   

 

 

 

Net loss

     (1,163     (4,683

Less: Net loss attributable to noncontrolling interests

     (30     —    
  

 

 

   

 

 

 

Net loss attributable to Party City Holdco Inc.

   $ (1,133   $ (4,683
  

 

 

   

 

 

 

Net loss per common share-Basic

   $ (0.01   $ (0.04

Net loss per common share-Diluted

   $ (0.01   $ (0.04

Weighted-average number of common shares-Basic

     96,398,585       119,523,867  

Weighted-average number of common shares-Diluted

     96,398,585       119,523,867  

Dividends declared per share

   $ 0.00     $ 0.00  

Comprehensive income (loss)

   $ 4,067     $ (1,475

Less: comprehensive loss attributable to noncontrolling interests

     (18     —    
  

 

 

   

 

 

 

Comprehensive income (loss) attributable to Party City Holdco Inc.

   $ 4,085     $ (1,475
  

 

 

   

 

 

 

See accompanying notes to unaudited condensed consolidated financial statements.

 

4


Table of Contents

PARTY CITY HOLDCO INC.

CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY

(Unaudited)

(In thousands, except share data)

 

     Common
Stock
     Additional
Paid-in
Capital
     Retained
Earnings
    Accumulated
Other
Comprehensive
Loss
    Total Party
City Holdco
Inc.
Stockholders’
Equity Before
Common
Stock Held In
Treasury
    Common
Stock Held
In Treasury
    Total Party
City Holdco
Inc.
Stockholders’
Equity
    Non-
Controlling
Interests
    Total
Stockholders’
Equity
 

Balance at December 31, 2017

   $ 1,198      $ 917,192      $ 372,596     $ (35,818   $ 1,255,168     $ (286,733   $ 968,435     $ 355     $ 968,790  

Cumulative effect of change in accounting principle, net (see Note 2)

           (78       (78       (78       (78
  

 

 

    

 

 

    

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balance at December 31, 2017, as adjusted

   $ 1,198      $ 917,192      $ 372,518     $ (35,818   $ 1,255,090     $ (286,733   $ 968,357     $ 355     $ 968,712  

Net loss

           (1,133       (1,133       (1,133     (30     (1,163

Employee equity based compensation

        460            460         460         460  

Warrant

        261            261         261         261  

Exercise of stock options

        292            292         292         292  

Foreign currency adjustments

             5,406       5,406         5,406       12       5,418  

Impact of foreign exchange contracts, net of tax

             (188     (188       (188       (188
  

 

 

    

 

 

    

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balance at March 31, 2018

   $ 1,198      $ 918,205      $ 371,385     $ (30,600   $ 1,260,188     $ (286,733   $ 973,455     $ 337     $ 973,792  
  

 

 

    

 

 

    

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

See accompanying notes to unaudited condensed consolidated financial statements.

 

5


Table of Contents

PARTY CITY HOLDCO INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

(In thousands)

 

    

Three Months Ended

March 31,

 
     2018     2017  
          

(Adjusted,

see Note 2)

 

Cash flows used in operating activities:

    

Net loss

   $ (1,163   $ (4,683

Adjustments to reconcile net loss to net cash used in operating activities:

    

Depreciation and amortization expense

     20,557       20,701  

Amortization of deferred financing costs and original issuance discounts

     1,556       1,233  

Provision for doubtful accounts

     350       230  

Deferred income tax expense

     178       873  

Deferred rent

     368       363  

Undistributed (income) loss in unconsolidated joint ventures

     (211     716  

Loss (gain) on disposal of assets

     22       (3

Non-employee equity based compensation

     261       —    

Employee equity based compensation

     460       2,398  

Changes in operating assets and liabilities, net of effects of acquired businesses:

    

Decrease in accounts receivable

     11,243       20,225  

(Increase) decrease in inventories

     (11,696     13,151  

(Increase) decrease in prepaid expenses and other current assets

     (923     555  

Decrease in accounts payable, accrued expenses and income taxes payable

     (46,192     (75,302
  

 

 

   

 

 

 

Net cash used in operating activities

     (25,190     (19,543

Cash flows used in investing activities:

    

Cash paid in connection with acquisitions, net of cash acquired

     (17,021     (62,171

Capital expenditures

     (17,906     (11,424

Proceeds from disposal of property and equipment

     21       5  
  

 

 

   

 

 

 

Net cash used in investing activities

     (34,906     (73,590

Cash flows provided by financing activities:

    

Repayment of loans, notes payable and long-term obligations

     (27,609     (19,272

Proceeds from loans, notes payable and long-term obligations

     87,370       87,216  

Exercise of stock options

     292       64  

Debt issuance costs

     (56     —    
  

 

 

   

 

 

 

Net cash provided by financing activities

     59,997       68,008  

Effect of exchange rate changes on cash and cash equivalents

     671       872  
  

 

 

   

 

 

 

Net increase (decrease) in cash and cash equivalents and restricted cash

     572       (24,253

Cash and cash equivalents and restricted cash at beginning of period

     54,408       64,765  
  

 

 

   

 

 

 

Cash and cash equivalents and restricted cash at end of period

   $ 54,980     $ 40,512  
  

 

 

   

 

 

 

Supplemental disclosure of cash flow information:

    

Cash paid during the period

    

Interest

   $ 28,780     $ 25,232  

Income taxes, net of refunds

   $ 5,342     $ 6,749  

See accompanying notes to unaudited condensed consolidated financial statements.

 

6


Table of Contents

PARTY CITY HOLDCO INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands, except per share)

Note 1 – Description of Business

Party City Holdco Inc. (the “Company” or “Party City Holdco”) is a vertically integrated supplier of decorated party goods. The Company designs, manufactures, sources and distributes party goods, including paper and plastic tableware, metallic and latex balloons, Halloween and other costumes, accessories, novelties, gifts and stationery. The Company’s retail operations include over 900 specialty retail party supply stores (including franchise stores) in the United States and Canada, operating under the name Party City, and e-commerce websites, principally operating under the domain name PartyCity.com. In addition to the Company’s retail operations, it is also a global designer, manufacturer and distributor of decorated party supplies, with products found in over 40,000 retail outlets, including independent party supply stores, mass merchants, grocery retailers and dollar stores. The Company’s products are available in over 100 countries with the United Kingdom, Germany, Mexico and Australia among the largest end markets outside of the United States.

Party City Holdco is a holding company with no operating assets or operations. The Company owns 100% of PC Nextco Holdings, LLC (“PC Nextco”), which owns 100% of PC Intermediate Holdings, Inc. (“PC Intermediate”). PC Intermediate owns 100% of Party City Holdings Inc. (“PCHI”), which owns the Company’s operating subsidiaries.

Note 2 – Basis of Presentation and Recently Issued Accounting Pronouncements

The unaudited condensed consolidated financial statements of the Company include the accounts of the Company and its majority-owned and controlled entities. All intercompany balances and transactions have been eliminated in consolidation. The unaudited condensed consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles for interim financial information. Accordingly, they do not include all of the information and footnotes required by U.S. generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring items) considered necessary for a fair presentation have been included in the unaudited condensed consolidated financial statements.

The majority of our retail operations define a fiscal year (“Fiscal Year”) as the 52-week period or 53-week period ended on the Saturday nearest December 31st of each year and define fiscal quarters (“Fiscal Quarter”) as the four interim 13-week periods following the end of the previous Fiscal Year, except in the case of a 53-week Fiscal Year when the fourth Fiscal Quarter is extended to 14 weeks. The condensed consolidated financial statements of the Company combine the Fiscal Quarters of our retail operations with the calendar quarters of our wholesale operations. The Company has determined the differences between the retail operation’s Fiscal Year and Fiscal Quarters and the calendar year and calendar quarters to be insignificant.

Operating results for interim periods are not necessarily indicative of the results to be expected for the year ending December 31, 2018. Our business is subject to substantial seasonal variations as our retail segment has historically realized a significant portion of its net sales, cash flows and net income in the fourth quarter of each year, principally due to its Halloween season sales in October and, to a lesser extent, other year-end holiday sales. We expect that this general pattern will continue. Our results of operations may also be affected by industry factors that may be specific to a particular period such as movement in and the general level of raw material costs. For further information see the consolidated financial statements, and notes thereto, included in the Company’s Form 10-K for the fiscal year ended December 31, 2017, as filed with the Securities and Exchange Commission on March 14, 2018.

Recently Issued Accounting Pronouncements

In August 2017, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2017-12, “Derivatives and Hedging: Targeted Improvements to Accounting for Hedging Activities”. The pronouncement amends the existing hedge accounting model in order to enable entities to better portray the economics of their risk management activities in their financial statements. The update is effective for the Company during the first quarter of 2019. Although the Company continues to evaluate this pronouncement, it does not believe that it will have a material impact on the Company’s consolidated financial statements.

In November 2016, the FASB issued ASU 2016-18, “Statement of Cash Flows: Restricted Cash”. The pronouncement requires companies to show changes in the total of cash, cash equivalents, restricted cash and restricted cash equivalents in the statement of cash flows. The Company adopted the pronouncement, which requires retrospective application, during the first quarter of 2018. The impact of such adoption was immaterial to the Company’s consolidated financial statements. See Note 15 for further discussion.

 

7


Table of Contents

In August 2016, the FASB issued ASU 2016-15, “Statement of Cash Flows: Classification of Certain Cash Receipts and Cash Payments”. The pronouncement clarifies how entities should classify certain cash receipts and cash payments on the statement of cash flows. The Company adopted the pronouncement during the first quarter of 2018 and such adoption did not have a material impact on the Company’s consolidated financial statements.

In February 2016, the FASB issued ASU 2016-02, “Leases”. The ASU requires that companies recognize on their balance sheets assets and liabilities for the rights and obligations created by the companies’ leases. The update is effective for the Company during the first quarter of 2019. The Company is in the process of evaluating the impact of the pronouncement on the Company’s consolidated financial statements.

In January 2016, the FASB issued ASU 2016-01, “Financial Instruments – Overall: Recognition and Measurement of Financial Assets and Financial Liabilities”. The update impacts the accounting for equity investments and the recognition of changes in fair value of financial liabilities when the fair value option is elected. The Company adopted the pronouncement during the first quarter of 2018 and such adoption did not have a material impact on the Company’s consolidated financial statements.

In May 2014, the FASB issued ASU 2014-09, “Revenue from Contracts with Customers (Topic 606)”. The pronouncement contains a five-step model which replaces most existing revenue recognition guidance. The new standard was effective for the Company during the first quarter of 2018. The pronouncement can be applied retrospectively to prior reporting periods or on a modified retrospective basis through a cumulative-effect adjustment as of the date of adoption. The Company decided to adopt the pronouncement using the modified retrospective approach. Therefore, on January 1, 2018, the Company adjusted its accounting for certain discounts which are tied to the timing of payments by customers of its wholesale business and the Company recorded a cumulative-effect adjustment which reduced retained earnings by $46. Additionally, as of such date, the Company modified its accounting for certain metallic balloon sales of its wholesale segment and started to defer the recognition of revenue on such sales, and the related costs, until the balloons have been filled with helium. As a result, the Company recorded a cumulative-effect adjustment which increased retained earnings by $8. Finally, as of such date, the Company adjusted its accounting for certain discounts on wholesale sales of seasonal product and the Company recorded a cumulative-effect adjustment which reduced retained earnings by $40. See Note 14 for further discussion of the adoption of the pronouncement and the Company’s revenue recognition policy.

Note 3 – Inventories

Inventories consisted of the following:

 

     March 31,
2018
     December 31,
2017
 

Finished goods

   $ 576,244      $ 562,809  

Raw materials

     31,504        30,346  

Work in process

     12,955        10,911  
  

 

 

    

 

 

 
   $ 620,703      $ 604,066  
  

 

 

    

 

 

 

Inventories are valued at the lower of cost or net realizable value. The Company principally determines the cost of inventory using the weighted average method.

The Company estimates retail inventory shrinkage for the period between physical inventory dates on a store-by-store basis. Inventory shrinkage estimates can be affected by changes in merchandise mix and changes in actual shortage trends. The shrinkage rate from the most recent physical inventory, in combination with historical experience, is the basis for estimating shrinkage.

Note 4 – Income Taxes

On December 22, 2017, the Tax Cuts and Jobs Act of 2017 (“the Act”) was signed into law. The Act significantly changed U.S. tax law, including lowering the U.S. corporate income tax rate from 35% to 21%, effective January 1, 2018, and implementing a one-time “deemed repatriation” tax on unremitted earnings accumulated in non-U.S. jurisdictions since 1986 (the “Transition Tax”). Due to the complexities of accounting for the Act, the SEC issued Staff Accounting Bulletin (“SAB”) No. 118 which allows entities to include a provisional estimate of the impact of the Act in its financial statements. Therefore, based on currently available information, during the fourth quarter of 2017, the Company recorded a provisional estimate of the impact of the Act, which included an income tax benefit of $90,965 related to the remeasurement of its domestic net deferred tax liabilities and deferred tax assets due to the lower U.S. corporate tax rate. Additionally, during the fourth quarter of 2017, the Company recorded a net income tax expense of $1,132 as its provisional estimate of the Transition Tax related to the deemed repatriation of unremitted earnings of foreign subsidiaries. The Company did not adjust these estimates during the first quarter of 2018.

 

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Table of Contents

While these amounts represent the Company’s best estimates of the impacts of the reduction in the federal corporate income tax rate and the deemed repatriation Transition Tax, the final impacts of the Act may differ from the Company’s estimates due to, among other things, changes in the Company’s interpretations and assumptions, additional guidance to be issued by the IRS, and actions the Company may take. As provided in SAB 118, any adjustments to these provisional amounts will be recorded as they are identified during the measurement period, which ends no later than December 22, 2018.

Additionally, the Act subjects a U.S. shareholder to current tax on “global intangible low-taxed income” (“GILTI”) of its controlled foreign corporations. GILTI is based on the excess of the aggregate of a U.S. shareholder’s pro rata share of net income of its controlled foreign corporations over a specified return. Given the complexity of the GILTI provisions, the Company is still evaluating the effects of the provisions and has not yet determined its accounting policy. Therefore, during the three months ended March 31, 2018, the Company has included an estimate of the tax on GILTI as a period cost in its full-year estimated effective income tax rate and it has not accounted for any tax on GILTI in its deferred balances.

The effective income tax rate for the three months ended March 31, 2018, 37.7%, is higher than the statutory rate primarily due to discrete items related to stock option exercises and state tax rate changes.

Note 5 – Changes in Accumulated Other Comprehensive Loss

The changes in accumulated other comprehensive loss consisted of the following:

 

     Three Months Ended March 31, 2018  
     Foreign
Currency
Adjustments
     Impact of
Foreign
Exchange
Contracts,
Net of Taxes
     Total,
Net of Taxes
 

Balance at December 31, 2017

   $ (35,610    $ (208    $ (35,818

Other comprehensive income (loss) before reclassifications, net of income tax

     5,406        (428      4,978  

Amounts reclassified from accumulated other comprehensive loss to the condensed consolidated statement of operations and comprehensive income, net of income tax

     —          240        240  
  

 

 

    

 

 

    

 

 

 

Net current-period other comprehensive income (loss)

     5,406        (188      5,218  
  

 

 

    

 

 

    

 

 

 

Balance at March 31, 2018

   $ (30,204    $ (396    $ (30,600
  

 

 

    

 

 

    

 

 

 
     Three Months Ended March 31, 2017  
     Foreign
Currency
Adjustments
     Impact of
Foreign
Exchange
Contracts,
Net of Taxes
     Total,
Net of Taxes
 

Balance at December 31, 2016

   $ (53,171    $ 932      $ (52,239

Other comprehensive income (loss) before reclassifications, net of income tax

     3,819        (287      3,532  

Amounts reclassified from accumulated other comprehensive loss to the condensed consolidated statement of operations and comprehensive loss, net of income tax

     —          (324      (324
  

 

 

    

 

 

    

 

 

 

Net current-period other comprehensive income (loss)

     3,819        (611      3,208  
  

 

 

    

 

 

    

 

 

 

Balance at March 31, 2017

   $ (49,352    $ 321      $ (49,031
  

 

 

    

 

 

    

 

 

 

Note 6 – Capital Stock

At March 31, 2018, the Company’s authorized capital stock consisted of 300,000,000 shares of $0.01 par value common stock and 15,000,000 shares of $0.01 par value preferred stock.

During the three months ended March 31, 2018, 54,900 shares of common stock were issued due to stock option exercises.

 

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Note 7 – Segment Information

Industry Segments

The Company has two identifiable business segments. The Wholesale segment designs, manufactures, sources and distributes party goods, including paper and plastic tableware, metallic and latex balloons, Halloween and other costumes, accessories, novelties, gifts and stationery throughout the world. The Retail segment operates specialty retail party supply stores in the United States and Canada, principally under the names Party City and Halloween City, and it operates e-commerce websites, principally through the domain name Partycity.com. The Retail segment also franchises both individual stores and franchise areas throughout the United States, Mexico and Puerto Rico, principally under the name Party City. The Company’s industry segment data for the three months ended March 31, 2018 and March 31, 2017 was as follows:

 

     Wholesale      Retail      Consolidated  

Three Months Ended March 31, 2018

        

Revenues:

        

Net sales

   $ 277,827      $ 363,576      $ 641,403  

Royalties and franchise fees

     —          2,716        2,716  
  

 

 

    

 

 

    

 

 

 

Total revenues

     277,827        366,292        644,119  

Eliminations

     (136,295      —          (136,295
  

 

 

    

 

 

    

 

 

 

Net revenues

   $ 141,532      $ 366,292      $ 507,824  
  

 

 

    

 

 

    

 

 

 

Income from operations

   $ 5,348      $ 16,908      $ 22,256  
  

 

 

    

 

 

    

Interest expense, net

           23,275  

Other expense, net

           848  
        

 

 

 

Loss before income taxes

         $ (1,867
        

 

 

 
     Wholesale      Retail      Consolidated  

Three Months Ended March 31, 2017

        

Revenues:

        

Net sales

   $ 270,692      $ 339,269      $ 609,961  

Royalties and franchise fees

     —          3,036        3,036  
  

 

 

    

 

 

    

 

 

 

Total revenues

     270,692        342,305        612,997  

Eliminations

     (135,998      —          (135,998
  

 

 

    

 

 

    

 

 

 

Net revenues

   $ 134,694      $ 342,305      $ 476,999  
  

 

 

    

 

 

    

 

 

 

Income from operations

   $ 10,416      $ 4,255      $ 14,671  
  

 

 

    

 

 

    

Interest expense, net

           20,692  

Other expense, net

           1,162  
        

 

 

 

Loss before income taxes

         $ (7,183
        

 

 

 

Note 8 – Commitments and Contingencies

The Company is a party to certain claims and litigation in the ordinary course of business. The Company does not believe these proceedings will result, individually or in the aggregate, in a material adverse effect on its financial condition or future results of operations.

On April 5, 2016, a derivative complaint was filed in the Supreme Court for the State of New York, naming certain directors and executives as defendants, and naming the Company as a nominal defendant. The complaint seeks unspecified damages and costs, and corporate governance reforms, for alleged injury to the Company in connection with public filings related to the Company’s April 2015 IPO, compensation paid to executives, and the termination of the management agreement disclosed in the initial public offering-related public filings. The Company intends to vigorously defend itself against this action. The Company is unable, at this time, to determine whether the outcome of the litigation would have a material impact on its results of operations, financial condition or cash flows.

Note 9 – Derivative Financial Instruments

The Company is directly and indirectly affected by changes in certain market conditions. These changes in market conditions may adversely impact the Company’s financial performance and are referred to as market risks. The Company, when deemed appropriate, uses derivatives as a risk management tool to mitigate the potential impact of certain market risks. The primary market risks managed through the use of derivative financial instruments are interest rate risk and foreign currency exchange rate risk.

 

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Interest Rate Risk Management

As part of the Company’s risk management strategy, the Company periodically uses interest rate swap agreements to hedge the variability of cash flows on floating rate debt obligations. Accordingly, interest rate swap agreements are reflected in the consolidated balance sheets at fair value and the related gains and losses on these contracts are deferred in equity and recognized in interest expense over the same period in which the related interest payments being hedged are recognized in income. The Company did not utilize interest rate swap agreements during the three months ended March 31, 2018 and the three months ended March 31, 2017.

Foreign Exchange Risk Management

A portion of the Company’s cash flows are derived from transactions denominated in foreign currencies. In order to reduce the uncertainty of foreign exchange rate movements on transactions denominated in foreign currencies, including the British Pound Sterling, the Canadian Dollar, the Euro, the Malaysian Ringgit, the Australian Dollar, and the Mexican Peso, the Company enters into foreign exchange contracts with major international financial institutions. These forward contracts, which typically mature within one year, are designed to hedge anticipated foreign currency transactions, primarily inventory purchases and sales. For contracts that qualify for hedge accounting, the terms of the foreign exchange contracts are such that cash flows from the contracts should be highly effective in offsetting the expected cash flows from the underlying forecasted transactions.

The foreign currency exchange contracts are reflected in the condensed consolidated balance sheets at fair value. At March 31, 2018 and December 31, 2017, the Company had foreign currency exchange contracts that qualified for hedge accounting. No components of these agreements were excluded in the measurement of hedge effectiveness. As these hedges are 100% effective, there is no current impact on earnings due to hedge ineffectiveness. The Company anticipates that substantially all unrealized gains and losses in accumulated other comprehensive loss related to these foreign currency exchange contracts will be reclassified into earnings by June 2019.

The following table displays the fair values of the Company’s derivatives at March 31, 2018 and December 31, 2017:

 

     Derivative Assets      Derivative Liabilities  
     Balance
Sheet
Line
   Fair
Value
     Balance
Sheet
Line
   Fair
Value
     Balance
Sheet
Line
   Fair
Value
     Balance
Sheet
Line
   Fair
Value
 

Derivative Instrument

       March 31, 2018              December 31, 2017              March 31, 2018              December 31, 2017      

Foreign Exchange Contracts

   (a) PP    $ 80      (a) PP    $ 95      (b) AE    $ 407      (b) AE    $ 99  
     

 

 

       

 

 

       

 

 

       

 

 

 

 

(a) PP = Prepaid expenses and other current assets
(b) AE = Accrued expenses

The following table displays the notional amounts of the Company’s derivatives at March 31, 2018 and December 31, 2017:

 

Derivative Instrument

   March 31,
2018
     December 31,
2017
 

Foreign Exchange Contracts

   $ 35,129      $ 21,672  
  

 

 

    

 

 

 

Note 10 – Fair Value Measurements

The provisions of ASC Topic 820, “Fair Value Measurement”, define fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants at the measurement date. ASC Topic 820 established a three-level fair value hierarchy that prioritizes the inputs used to measure fair value. This hierarchy requires entities to maximize the use of observable inputs and minimize the use of unobservable inputs. The three levels of inputs used to measure fair value are as follows:

 

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  Level 1 — Quoted prices in active markets for identical assets or liabilities.

 

  Level 2 — Observable inputs other than quoted prices included in Level 1, such as quoted prices for similar assets and liabilities in active markets; quoted prices for identical or similar assets and liabilities in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.

 

  Level 3 — Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. This includes certain pricing models, discounted cash flow methodologies and similar techniques that use significant unobservable inputs.

During 2017, the Company acquired a 28% ownership interest in Punchbowl, Inc. (“Punchbowl”), a provider of digital greeting cards and digital invitations. At such time, the Company provided Punchbowl’s other investors with the ability to “put” their interest in Punchbowl to the Company at a future date. The Company is adjusting such put liability to fair value on a recurring basis. The liability represents a Level 3 fair value measurement as it is based on unobservable inputs.

During 2017, the Company and Ampology, a subsidiary of Trivergence, reached an agreement to form a new legal entity, Kazzam, LLC (“Kazzam”), for the purpose of designing, developing and launching an online exchange platform for party-related services. As part of Ampology’s compensation for designing, developing and launching the exchange platform, Ampology received a 70% ownership interest in Kazzam. The 70% interest has been recorded as redeemable securities in the mezzanine of the Company’s consolidated balance sheet as, in the future, Ampology has the right to cause the Company to purchase the interest. The mezzanine liability is adjusted to fair value on a recurring basis. The liability represents a Level 3 fair value measurement as it is based on unobservable inputs.

The following table shows assets and liabilities as of March 31, 2018 that are measured at fair value on a recurring basis:

 

     Level 1      Level 2      Level 3      Total as of
   March 31,   
2018
 

Derivative assets

   $ —        $ 80      $ —        $ 80  

Derivative liabilities

     —          407        —          407  

Kazzam liability

     —          —          3,590        3,590  

Punchbowl put liability

     —          —          171        171  

The following table shows assets and liabilities as of December 31, 2017 that are measured at fair value on a recurring basis:

 

     Level 1      Level 2      Level 3      Total as of
December 31,
2017
 

Derivative assets

   $ —        $ 95      $ —        $ 95  

Derivative liabilities

     —          99        —          99  

Kazzam liability

     —          —          3,590        3,590  

Punchbowl put liability

     —          —          2,122        2,122  

The majority of the Company’s non-financial instruments, which include goodwill, intangible assets, inventories and property, plant and equipment, are not required to be carried at fair value on a recurring basis. However, if certain triggering events occur (or at least annually for goodwill and indefinite-lived intangible assets), a non-financial instrument is required to be evaluated for impairment. If the Company determines that the non-financial instrument is impaired, the Company would be required to write down the non-financial instrument to its fair value. The carrying amounts for cash and cash equivalents, accounts receivable, prepaid expenses and other current assets, accounts payable, accrued expenses and other current liabilities approximated fair value at March 31, 2018 because of the short-term maturities of the instruments and/or their variable rates of interest.

The carrying amounts and fair values of borrowings under the Term Loan Credit Agreement and the Senior Notes as of March 31, 2018 are as follows:

 

     March 31, 2018  
     Carrying
Amount
     Fair
Value
 

Term Loan Credit Agreement

   $ 1,194,526      $ 1,212,732  

Senior Notes

     345,574        356,500  

 

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The fair values of the Term Loan Credit Agreement and the Senior Notes represent Level 2 fair value measurements as the debt instruments trade in inactive markets. The carrying amounts for other long-term debt approximated fair value at March 31, 2018 based on the discounted future cash flows of each instrument at rates currently offered for similar debt instruments of comparable maturity.

Note 11 – Earnings Per Share

Basic earnings per share are computed by dividing net income available for common stockholders by the weighted average number of common shares outstanding for the period. Diluted earnings per share are calculated based on the weighted average number of outstanding common shares plus the dilutive effect of stock options and warrants as if they were exercised.

A reconciliation between basic and diluted income per share is as follows:

 

     Three Months
Ended
March 31,
2018
     Three Months
Ended
March 31,
2017
 

Net loss attributable to Party City Holdco Inc.

   $ (1,133    $ (4,683

Weighted average shares - Basic

     96,398,585        119,523,867  

Effect of dilutive securities:

     

Warrants

     —          —    

Stock options

     —          —    
  

 

 

    

 

 

 

Weighted average shares - Diluted

     96,398,585        119,523,867  
  

 

 

    

 

 

 

Net loss per common share - Basic

   $ (0.01    $ (0.04
  

 

 

    

 

 

 

Net loss per common share - Diluted

   $ (0.01    $ (0.04
  

 

 

    

 

 

 

During the three months ended March 31, 2018 and March 31, 2017, 4,275,789 stock options and 4,640,205 stock options, respectively, were excluded from the calculation of net income per common share – diluted as they were anti-dilutive. Additionally, during the three months ended March 31, 2018 and March 31, 2017, 596,000 warrants and 0 warrants, respectively, were excluded from the calculation of net income per common share – diluted as they were anti-dilutive.

Note 12 – Long-Term Obligations

Long-term obligations at March 31, 2018 and December 31, 2017 consisted of the following:

 

     March 31,
2018
     December 31,
2017
 

Term Loan Credit Agreement

   $ 1,194,526      $ 1,196,505  

Capital lease obligations

     3,050        3,276  

Senior Notes

     345,574        345,368  
  

 

 

    

 

 

 

Total long-term obligations

     1,543,150        1,545,149  

Less: current portion

     (12,931      (13,059
  

 

 

    

 

 

 

Long-term obligations, excluding current portion

   $ 1,530,219      $ 1,532,090  
  

 

 

    

 

 

 

Term Loan Credit Agreement

During February 2018, the Company amended its Term Loan Credit Agreement. At the time of the amendment, all outstanding term loans were replaced with new term loans for the same principal amount. The applicable margin for ABR borrowings was lowered from 2.00% to 1.75% and the applicable margin for LIBOR borrowings was lowered from 3.00% to 2.75%. Additionally, based on the terms of the amendment, the ABR and LIBOR margins will drop to 1.50% and 2.50%, respectively, if the Company’s Senior Secured Leverage Ratio, as defined by the agreement, falls below 3.2 to 1.0.

The amendment provides that the term loans are subject to a 1.00% prepayment premium if voluntarily repaid within six months from the date of the amendment. Otherwise, the term loans may be voluntarily prepaid at any time without premium or penalty, other than customary breakage costs with respect to loans based on the LIBOR rate.

As the Term Loan Credit Agreement is a loan syndication, the Company assessed, on a creditor-by-creditor basis, whether the refinancing should be accounted for as an extinguishment for each creditor and the Company wrote-off $186 of existing deferred

 

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financing costs, a $102 capitalized original issue discount and $58 of capitalized call premium. The write-offs were recorded in other expense in the Company’s consolidated statement of income and comprehensive income. The remaining deferred financing costs, original issue discount and capitalized call premium will continue to be amortized over the life of the Term Loan Credit Agreement, using the effective interest method. Additionally, in conjunction with the amendment, the Company incurred $856 of banker and legal fees, $800 of which were recorded in other expense. The rest of the costs are being amortized over the life of the debt. The write-offs of the deferred financing costs, original issuance discount and call premium were included in amortization of deferred financing costs and original issuance discount in the Company’s consolidated statement of cash flows.

Note 13 – Acquisitions

During March 2018, the Company acquired 11 franchise stores, which are located in Maryland, for total consideration of approximately $14,000. The Company is in the process of finalizing purchase accounting.

Additionally, during March 2018, the Company entered into an agreement to acquire 11 independent stores, which are located in Texas, for total consideration of approximately $6,000. The Company will take control of the stores one at a time over a period of approximately one year. The Company is in the process of finalizing purchase accounting for the stores for which it has already taken control.

During 2017, the Company acquired 85% of the common stock of Granmark, S.A. de C.V., a Mexican manufacturer and wholesaler of party goods. Based on the terms of the acquisition agreement, the Company is required to acquire the remaining 15% interest over the next five years and it has recorded a liability for the estimated purchase price of such interest, $3,106 at March 31, 2018.

During 2017, the Company acquired 60% of Print Appeal, Inc. Based on the terms of the acquisition agreement, the Company will acquire the remaining 40% interest in Print Appeal over the next five years and the Company’s liability for the estimated purchase price of such interest was $2,679 at March 31, 2018.

Note 14 – Revenue from Contracts with Customers

In May 2014, the FASB issued ASU 2014-09, “Revenue from Contracts with Customers (Topic 606)”. The pronouncement contains a five-step model which replaces most existing revenue recognition guidance. The Company adopted the standard during the first quarter of 2018 via a modified retrospective approach and recognized the cumulative effect of the adoption as an adjustment to January 1, 2018 retained earnings.

Revenue Transactions—Retail

Revenue from retail store operations is recognized at the point of sale as control of the product is transferred to the customer at such time. Retail e-commerce sales are recognized when the consumer receives the product as control transfers upon delivery. Due to its extensive history operating as the largest party goods retailer in North America, the Company has sufficient history with which to estimate future retail sales returns and it uses the expected value method to estimate such activity.

The transaction price for the overwhelming majority of the Company’s retail sales is based on either: 1) the item’s stated price or 2) the stated price adjusted for the impact of a coupon which can only be applied to such transaction. To the extent that the Company charges customers for freight costs on e-commerce sales, the Company records such amounts in revenue. The Company has chosen the pronouncement’s policy election which allows it to exclude all sales taxes and value-added taxes from revenue.

Under the terms of its agreements with its franchisees, the Company provides both: 1) brand value (via significant advertising spend) and 2) support with respect to planograms, in exchange for a royalty fee that ranges from 4% to 6% of the franchisees’ sales. The Company records the royalty fees at the time that the franchisees’ sales are recorded. Additionally, although the Company anticipates that future franchise store openings will be limited, when a franchisee opens a new store, the Company receives and records a one-time fee which is earned by the Company for its assistance with site selection and development of the new location. Both the sales-based royalty fee and the one-time fee are recorded in royalties and franchise fees in the Company’s consolidated statement of operations and comprehensive income.

Revenue Transactions—Wholesale

For most of the Company’s wholesale sales, control transfers upon the Company’s shipment of the product as: 1) legal title transfers on such date and 2) the Company has a present right to payment at such time. Wholesale sales returns are not significant as the Company generally only accepts the return of goods that were shipped to the customer in error or that were damaged when received by the customer. Additionally, due to its extensive history operating as a leading party goods wholesaler, the Company has sufficient history with which to estimate future sales returns and it uses the expected value method to estimate such activity.

In most cases, the determination of the transaction price is straight-forward as it is fixed based on the contract and/or purchase order. However, a limited number of customers receive volume-based rebates. Additionally, certain customers receive small

 

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discounts for early payment (generally 1% of the transaction price). Based on the business’ long history as a leading party goods wholesaler, the Company has sufficient history with which to estimate variable consideration for such volume-based rebates and early payment discounts. To the extent that the Company charges customers for freight costs, the Company records such amounts in revenue. The Company has chosen the pronouncement’s policy election which allows it to exclude all sales taxes and value-added taxes from revenue.

The majority of the sales for the Company’s wholesale business are due within 30 to 120 days from the transfer of control of the product and substantially all of the sales are collected within a year from such transfer. For all transactions for which the Company expects to collect the transaction price within a year from the transfer of control, the Company applies one of the pronouncement’s practical expedients and does not adjust the consideration for the effects of a significant financing component.

Judgments

Although most of the Company’s revenue transactions consist of fixed transaction prices and the transfer of control at either the point of sale (for retail) or when the product is shipped (for wholesale), certain transactions involve a limited number of judgments. For transactions for which control transfers to the customer when the freight carrier delivers the product to the customer, the Company estimates the date of such receipt based on historical shipping times. Additionally, the Company utilizes historical data to estimate sales returns, volume-based rebates and discounts for early payments by customers. Due to its extensive history operating as a leading party goods retailer and wholesaler, the Company has sufficient history with which to estimate such amounts.

Other Revenue Topics

During the three months ended March 31, 2018 and March 31, 2017, impairment losses recognized on receivables and contract assets arising from the Company’s contracts with customers were $350 and $230, respectively.

As a significant portion of the Company’s revenue is either: 1) part of a contract with an original expected duration of one year or less or 2) related to sales-based royalties promised in exchange for licenses of intellectual property, the Company has elected to apply the optional exemptions in paragraphs ASC 606-10-50-14 through ASC 606-10-50-14A.

Additionally, the Company has elected to apply the practical expedient which allows companies to recognize the incremental costs of obtaining a contract as an expense if the amortization period of the asset that the entity otherwise would have recognized would have been one year or less.

Disaggregation of Revenue

The following table summarizes revenue from contracts with customers for the three months ended March 31, 2018 and March 31, 2017:

 

     Three Months
Ended
March 31,
2018
     Three Months
Ended
March 31,
2017
 

Retail Net Sales:

     

Party City Stores

   $ 330,845      $ 305,014  

Global E-commerce

     32,731        34,255  

Halloween City Stores

     —          —    
  

 

 

    

 

 

 

Total Retail Net Sales

   $ 363,576      $ 339,269  

Royalties and Franchise Fees

     2,716        3,036  
  

 

 

    

 

 

 

Total Retail Revenue

   $ 366,292      $ 342,305  
  

 

 

    

 

 

 

Wholesale Net Sales:

     

Domestic

   $ 79,559      $ 84,341  

International

     61,973        50,353  
  

 

 

    

 

 

 

Total Wholesale Net Sales

   $ 141,532      $ 134,694  
  

 

 

    

 

 

 

Total Consolidated Revenue

   $ 507,824      $ 476,999  
  

 

 

    

 

 

 

Financial Statement Impact of Adopting the Pronouncement

All of the Company’s revenue is recognized from contracts with customers and, therefore, is subject to the pronouncement.

 

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The Company adopted the pronouncement using a modified retrospective approach and applied the guidance to all contracts as of January 1, 2018. On such date, the Company reduced its retained earnings by $78, reduced its accounts receivable by $141, increased its inventory by $11, reduced its accrued expenses by $26, increased its deferred tax asset by $28 and increased its income taxes payable by $2. The cumulative adjustment principally related to certain discounts within the Company’s wholesale business.

Additionally, the adoption of the pronouncement impacted the Company’s financial statements for the three months ended March 31, 2018 as it increased pre-tax income by $13.

Note 15 – Cash, Cash Equivalents and Restricted Cash

In November 2016, the FASB issued ASU 2016-18, “Statement of Cash Flows: Restricted Cash”. The pronouncement requires companies to show changes in the total of cash, cash equivalents, restricted cash and restricted cash equivalents in their statement of cash flows. The Company adopted the pronouncement, which requires retrospective application, during the first quarter of 2018.

As a result, the Company’s statement of cash flows for the three months ended March 31, 2017 has been adjusted to include $155 of restricted cash at December 31, 2016 and $145 of restricted cash at March 31, 2017. The restricted cash, which principally relates to funds that are required to be spent on advertising, is included in “prepaid expenses and other current assets” in the Company’s consolidated balance sheet. Therefore, in the Company’s adjusted consolidated statement of cash flows for the three months ended March 31, 2017, the change in “prepaid expenses and other current assets” has been adjusted from a cash inflow of $565 to a cash inflow of $555.

The Company’s March 31, 2018 consolidated balance sheet included $54,831 of cash and cash equivalents and $149 of restricted cash and the Company’s December 31, 2017 consolidated balance sheet included $54,291 of cash and cash equivalents and $117 of restricted cash. Restricted cash is recorded in “prepaid expenses and other current assets”.

Note 16 – Related Party Transactions

Morry Weiss became a member of the Company’s Board of Directors in June 2015. He is the Chairman of the Board of American Greetings Corporation (“American Greetings”). During the three months ended March 31, 2018 and March 31, 2017, the Company had $3,807 and $4,759, respectively, of sales to American Greetings in the ordinary course of business. Additionally, during such periods, the Company purchased $870 and $929, respectively, of product from American Greetings, also in the ordinary course.

Additionally, in the normal course of business, the Company buys and sells party goods from/to certain equity method investees. Such activity is immaterial to the Company’s consolidated financial statements.

 

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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

References throughout this document to the “Company” include Party City Holdco Inc. and its subsidiaries. In this document the words “we,” “our,” “ours” and “us” refer only to the Company and its subsidiaries and not to any other person.

Business Overview

Our Company

We are the leading party goods retailer by revenue in North America and, we believe, the largest vertically integrated supplier of decorated party goods globally by revenue. With over 900 locations (inclusive of approximately 150 franchised stores), we have the only coast-to-coast network of party superstores in the U.S. and Canada that make it easy and fun to enhance special occasions with a differentiated shopping experience and an unrivaled assortment of innovative and exciting merchandise offered at a compelling value. We also operate multiple e-commerce sites, principally under the domain name PartyCity.com, and during the Halloween selling season we open a network of approximately 250 - 300 temporary stores under the Halloween City banner.

In addition to our retail operations, we are also one of the largest global designers, manufacturers and distributors of decorated party supplies, with products found in over 40,000 retail outlets worldwide, including independent party supply stores, mass merchants, grocery retailers and dollar stores. Our products are available in over 100 countries with the United Kingdom, Germany, Mexico and Australia among the largest end markets for our products outside of the United States.

How We Assess the Performance of Our Company

In assessing the performance of our company, we consider a variety of performance and financial measures for our two operating segments, Retail and Wholesale. These key measures include revenues and gross profit, comparable retail same-store sales and operating expenses. We also review other metrics such as adjusted net income (loss), adjusted net income (loss) per common share – diluted and adjusted EBITDA. For a discussion of our use of these measures and a reconciliation of adjusted net income (loss) and adjusted EBITDA to net income (loss), please refer to “Financial Measures—Adjusted EBITDA,” “Financial Measures—Adjusted Net Income (Loss)” and “Financial Measures—Adjusted Net Income (Loss) Per Common Share – Diluted” below.

Segments

Our retail operations generate revenue primarily through the sale of Amscan, Designware, Anagram, Costumes USA and other party supplies through Party City, Halloween City and PartyCity.com. During 2017, approximately 80% of the product that was sold by our retail operations was supplied by our wholesale operations.

Our wholesale revenues are generated from the sale of party goods for all occasions, including paper and plastic tableware, accessories and novelties, costumes, metallic and latex balloons and stationery. Our products are sold at wholesale to party goods superstores, including our franchise stores, other party goods retailers, mass merchants, independent card stores, dollar stores and other retailers and distributors throughout the world.

Intercompany sales between the Wholesale and the Retail segment are eliminated, and the wholesale profits on intercompany sales are deferred and realized at the time the merchandise is sold to the retail consumer. For segment reporting purposes, certain general and administrative expenses and art and development costs are allocated based on total revenues.

Financial Measures

Revenues. Revenue from retail store operations is recognized at the point of sale as control of the product is transferred to the customer at such time. Retail e-commerce sales are recognized when the consumer receives the product as control transfers upon delivery. We estimate future retail sales returns and record a provision in the period in which the related sales are recorded based on historical information. Retail sales are reported net of taxes collected.

Under the terms of our agreements with our franchisees, we provide both: 1) brand value (via significant advertising spend) and 2) support with respect to planograms, in exchange for a royalty fee that ranges from 4% to 6% of the franchisees’ sales. The Company records the royalty fees at the time that the franchisees’ sales are recorded.

For most of our wholesale sales, control transfers upon the shipment of the product as: 1) legal title transfers on such date and 2) we have a present right to payment at such time. Wholesale sales returns are not significant as we generally only accept the return of goods that were shipped to the customer in error or that were damaged when received by the customer. Additionally, due to our extensive history operating as a leading party goods wholesaler, we have sufficient history with which to estimate future sales returns and we use the expected value method to estimate such activity.

 

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Intercompany sales from our wholesale operations to our retail stores are eliminated in our consolidated total revenues.

Comparable Retail Same-Store Sales. The growth in same-store sales represents the percentage change in same-store sales in the period presented compared to the prior year. Same-store sales exclude the net sales of a store for any period if the store was not open during the same period of the prior year. Acquired stores are excluded from same-store sales until they are converted to the Party City format and included in our sales for the comparable period of the prior year. Comparable sales are calculated based upon stores that were open at least thirteen full months as of the end of the applicable reporting period. When a store is reconfigured or relocated within the same general territory, the store continues to be treated as the same store. If, during the period presented, a store was closed, sales from that store up to and including the closing day are included as same-store sales as long as the store was open during the same period of the prior year. Same-store sales for the Party City brand include North American retail e-commerce sales.

Cost of Sales. Cost of sales at wholesale reflects the production costs (i.e., raw materials, labor and overhead) of manufactured goods and the direct cost of purchased goods, inventory shrinkage at both retail and wholesale, inventory adjustments, inbound freight to our manufacturing and distribution facilities, distribution costs and outbound freight to get goods to our wholesale customers. At retail, cost of sales reflects the direct cost of goods purchased from third parties and the production or purchase costs of goods acquired from our wholesale operations. Retail cost of sales also includes inventory shrinkage, inventory adjustments, inbound freight, occupancy costs related to store operations (such as rent and common area maintenance, utilities and depreciation on assets) and all logistics costs associated with our retail e-commerce business.

Our cost of sales increases in higher volume periods as the direct costs of manufactured and purchased goods, inventory shrinkage and freight are generally tied to net sales. However, other costs are largely fixed or vary based on other factors and do not necessarily increase as sales volume increases. Changes in the mix of our products may also impact our overall cost of sales. The direct costs of manufactured and purchased goods are influenced by raw material costs (principally paper, petroleum-based resins and cotton), domestic and international labor costs in the countries where our goods are purchased or manufactured and logistics costs associated with transporting our goods. We monitor our inventory levels on an on-going basis in order to identify slow-moving goods.

Cost of sales related to sales from our wholesale segment to our retail segment are eliminated in our consolidated financial statements.

Wholesale Selling Expenses. Wholesale selling expenses include the costs associated with our wholesale sales and marketing efforts, including merchandising and customer service. Costs include the salaries and benefits of the related work force, including sales-based bonuses and commissions. Other costs include catalogues, showroom rent, travel and other operating costs. Certain selling expenses, such as sales-based bonuses and commissions, vary in proportion to sales, while other costs vary based on other factors, such as our marketing efforts, or are largely fixed and do not necessarily increase as sales volumes increase.

Retail Operating Expenses. Retail operating expenses include all of the costs associated with retail store operations, excluding occupancy-related costs included in cost of sales. Costs include store payroll and benefits, advertising, supplies and credit card costs. Retail expenses are largely variable but do not necessarily vary in proportion to net sales.

Franchise Expenses. Franchise expenses include the costs associated with operating our franchise network, including salaries and benefits of the administrative work force and other administrative costs. These expenses generally do not vary proportionally with royalties and franchise fees.

General and Administrative Expenses. General and administrative expenses include all operating costs not included elsewhere in the statement of operations and comprehensive income (loss). These expenses include payroll and other expenses related to operations at our corporate offices, including occupancy costs, related depreciation and amortization, legal and professional fees and data-processing costs. These expenses generally do not vary proportionally with net sales.

 

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Art and Development Costs. Art and development costs include the costs associated with art production, creative development and product management. Costs include the salaries and benefits of the related work force. These expenses generally do not vary proportionally with net sales.

Development Stage Expenses. Represents start-up activities related to Kazzam, LLC. See the 2017 Form 10-K for further discussion.

Adjusted EBITDA. We define EBITDA as net income (loss) before interest expense, net, income taxes, depreciation and amortization. We define Adjusted EBITDA as EBITDA, as further adjusted to eliminate the impact of certain items that we do not consider indicative of our core operating performance. We caution investors that amounts presented in accordance with our definition of Adjusted EBITDA may not be comparable to similar measures disclosed by other issuers, because not all issuers calculate Adjusted EBITDA in the same manner. We believe that Adjusted EBITDA is an appropriate measure of operating performance in addition to EBITDA because we believe it assists investors in comparing our performance across reporting periods on a consistent basis by eliminating the impact of items that we do not believe are indicative of our core operating performance. In addition, we use Adjusted EBITDA: (i) as a factor in determining incentive compensation, (ii) to evaluate the effectiveness of our business strategies, and (iii) because the credit facilities use Adjusted EBITDA to measure compliance with certain covenants.

Adjusted Net Income (Loss). Adjusted net income (loss) represents our net income (loss), adjusted for, among other items, intangible asset amortization, non-cash purchase accounting adjustments, amortization of deferred financing costs and original issue discounts, refinancing charges, equity based compensation and impairment charges. We present adjusted net income because we believe it assists investors in comparing our performance across reporting periods on a consistent basis by eliminating the impact of items that we do not believe are indicative of our core operating performance.

Adjusted Net Income (Loss) Per Common Share – Diluted. Adjusted net income (loss) per common share – diluted represents adjusted net income (loss) divided by the Company’s diluted weighted average common shares outstanding. We present the metric because we believe it assists investors in comparing our per share performance across reporting periods on a consistent basis by eliminating the impact of items that we do not believe are indicative of our core operating performance.

 

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Results of Operations

Three Months Ended March 31, 2018 Compared To Three Months Ended March 31, 2017

The following table sets forth the Company’s operating results and operating results as a percentage of total revenues for the three months ended March 31, 2018 and 2017.

 

     Three Months Ended March 31,  
     2018     2017  
     (Dollars in thousands)  

Revenues:

          

Net sales

   $ 505,108        99.5   $ 473,963        99.4

Royalties and franchise fees

     2,716        0.5       3,036        0.6  
  

 

 

    

 

 

   

 

 

    

 

 

 

Total revenues

     507,824        100.0       476,999        100.0  

Expenses:

          

Cost of sales

     316,966        62.4       298,719        62.6  

Wholesale selling expenses

     18,787        3.7       15,627        3.3  

Retail operating expenses

     89,092        17.5       90,730        19.0  

Franchise expenses

     3,782        0.7       3,317        0.7  

General and administrative expenses

     48,665        9.6       48,137        10.1  

Art and development costs

     5,973        1.2       5,798        1.2  

Development stage expenses

     2,303        0.5       —          0.0  
  

 

 

    

 

 

   

 

 

    

 

 

 

Total expenses

     485,568        95.6       462,328        96.9  
  

 

 

    

 

 

   

 

 

    

 

 

 

Income from operations

     22,256        4.4       14,671        3.1  

Interest expense, net

     23,275        4.6       20,692        4.3  

Other expense, net

     848        0.2       1,162        0.2  
  

 

 

    

 

 

   

 

 

    

 

 

 

Loss before income taxes

     (1,867      (0.4     (7,183      (1.5

Income tax benefit

     (704      (0.1     (2,500      (0.5
  

 

 

    

 

 

   

 

 

    

 

 

 

Net loss

     (1,163      (0.2     (4,683      (1.0

Less: Net loss attributable to noncontrolling interests

     (30      (0.0     —          0.0  
  

 

 

    

 

 

   

 

 

    

 

 

 

Net loss attributable to Party City Holdco Inc.

   $ (1,133      (0.2 )%    $ (4,683      (1.0 )% 
  

 

 

    

 

 

   

 

 

    

 

 

 

Net loss per common share – Basic

   $ (0.01      $ (0.04   

Net loss per common share – Diluted

   $ (0.01      $ (0.04   

Revenues

Total revenues for the first quarter of 2018 were $507.8 million and were $30.8 million, or 6.5%, higher than the first quarter of 2017. The following table sets forth the Company’s total revenues for the three months ended March 31, 2018 and 2017.

 

     Three Months Ended March 31,  
     2018     2017  
     Dollars in
Thousands
     Percentage of
Total Revenues
    Dollars in
Thousands
     Percentage of
Total Revenues
 

Net Sales:

          

Wholesale

   $ 277,827        54.7   $ 270,692        56.7

Eliminations

     (136,295      (26.8 )%      (135,998      (28.5 )% 
  

 

 

    

 

 

   

 

 

    

 

 

 

Net wholesale

     141,532        27.9     134,694        28.2

Retail

     363,576        71.6     339,269        71.1
  

 

 

    

 

 

   

 

 

    

 

 

 

Total net sales

     505,108        99.5     473,963        99.4

Royalties and franchise fees

     2,716        0.5     3,036        0.6
  

 

 

    

 

 

   

 

 

    

 

 

 

Total revenues

   $ 507,824        100.0   $ 476,999        100.0
  

 

 

    

 

 

   

 

 

    

 

 

 

Retail

Retail net sales during the first quarter of 2018 were $363.6 million and increased $24.3 million, or 7.2%, compared to the first quarter of 2017. Retail net sales at our Party City stores totaled $330.8 million and were $25.8 million, or 8.5%, higher than 2017 principally due to the acquisition of franchise and independent stores and the favorable impact of a shift in the calendar related to the timing of certain New Year’s Eve and Easter sales, which shifted into the first quarter of fiscal 2018. During the fifteen months ended March 31, 2018, we acquired 56 franchise and independent stores, opened 19 new stores and closed 17 stores. Global retail e-commerce sales totaled $32.8 million during the first quarter of 2018 and were $1.5 million, or 4.4%, lower than during the

 

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corresponding quarter of 2017. The North American e-commerce sales that are included in our Party City brand comp decreased by 9.9% during the quarter and were essentially flat when adjusting for the impact of our new “buy online, pick-up in store” program (as such sales are included in our store sales).

Same-store sales for the Party City brand (including North American retail e-commerce sales) increased by 2.4% during the first quarter of 2018. The fiscal calendar shifts discussed above were partially offset by the negative effect of holiday compression resulting from an earlier Easter season versus 2017.

Excluding the impact of e-commerce, same-store sales increased by 3.6% and were slightly positive when adjusting for the overall timing shifts discussed above.

Same-store sales percentages were not affected by foreign currency as such percentages are calculated in local currency.

Wholesale

Wholesale net sales during the first quarter of 2018 totaled $141.5 million and were $6.8 million, or 5.1%, higher than the first quarter of 2017. Net sales to domestic party goods retailers and distributors (including our franchisee network) totaled $58.3 million and were $3.4 million, or 5.5%, lower than during 2017. The decrease was largely due to our acquisition of 56 franchise and independent stores during the fifteen months ended March 31, 2018; as post-acquisition sales to such stores (approximately $3.5 million during the first quarter of 2017) are now eliminated as intercompany sales. Net sales of metallic balloons to domestic distributors and retailers (including our franchisee network) totaled $21.2 million during the first quarter of 2018 and were $1.4 million, or 6.2%, lower than during the corresponding quarter of 2017 as certain Valentine’s Day shipments accelerated into the fourth quarter of 2017 (during the 2017 Valentine’s Day season the corresponding shipments took place during the first quarter of 2017). Our international sales (which include U.S. export sales and exclude U.S. import sales from foreign subsidiaries) totaled $62.0 million and were $11.6 million, or 23.1%, higher than in 2017. The increase was largely driven by the acquisition of Granmark S.A. de C.V. (“Granmark”) in March 2017, the impact of foreign currency translation (approximately $4.5 million) and continued strong performance in the U.K. and German markets.

Intercompany sales to our retail affiliates totaled $136.3 million during the first quarter of 2018 and were $0.3 million higher than during the corresponding quarter of 2017. Intercompany sales represented 49.1% of total wholesale sales during the first quarter of 2018, compared to 50.2% during the first quarter of 2017. The intercompany sales of our wholesale segment are eliminated against the intercompany purchases of our retail segment in the consolidated financial statements.

Royalties and franchise fees

Royalties and franchise fees for the first quarter of 2018 totaled $2.7 million and were $0.3 million lower than during the first quarter of 2017 due to the acquisition of franchise stores.

Gross Profit

The following table sets forth the Company’s gross profit for the three months ended March 31, 2018 and March 31, 2017.

 

     Three Months Ended March 31,  
     2018     2017  
     Dollars in
Thousands
     Percentage of
Net Sales
    Dollars in
Thousands
     Percentage of
Net Sales
 

Retail

   $ 146,835        40.4   $ 132,581        39.1

Wholesale

     41,307        29.2       42,663        31.7  
  

 

 

    

 

 

   

 

 

    

 

 

 

Total

   $ 188,142        37.2   $ 175,244        37.0
  

 

 

    

 

 

   

 

 

    

 

 

 

The gross profit margin on net sales at retail during the first quarter of 2018 was 40.4%. Such percentage was 130 basis points higher than during the corresponding quarter of 2017. The increase was principally due to leveraging the higher same-store sales, the realization of productivity initiatives positively impacting occupancy costs and increased share of shelf (i.e., the percentage of our retail product cost of sales supplied by our wholesale operations). Our wholesale share of shelf at our Party City stores and our North American retail e-commerce operations increased from 77.4% during the first quarter of 2017 to 78.1% during the first quarter of 2018.

 

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The gross profit on net sales at wholesale during the first quarters of 2018 and 2017 was 29.2% and 31.7%, respectively. The decrease was principally due to higher logistics and distribution costs, sales mix and, to a lesser extent, purchase accounting adjustments.

Operating expenses

Wholesale selling expenses were $18.8 million during the first quarter of 2018 and $15.6 million during the corresponding quarter of 2017. The increase was primarily due to approximately $1 million of selling costs at Granmark (acquired in March 2017), the impact of foreign currency translation (also approximately $1 million) and, to a lesser extent, the impact of inflation. Wholesale selling expenses were 13.3% and 11.6% of net wholesale sales during the first quarters of 2018 and 2017, respectively.

Retail operating expenses during the first quarter of 2018 were $89.1 million and were $1.6 million lower than the corresponding quarter of 2017. The decrease was mostly due to improved labor productivity and the fact that the first quarter of 2017 included approximately $2 million of severance charges. The higher store count (discussed above) and the impact of inflation was more than offset by further realized savings associated with the improved productivity and efficiency in our stores. Retail operating expenses were 24.5% and 26.7% of net retail sales during the first quarters of 2018 and 2017, respectively. The decrease was mostly due to increased sales, the improved labor productivity and the severance charges in the first quarter of 2017.

Franchise expenses during the first quarters of 2018 and 2017 were $3.8 million and $3.3 million, respectively.

General and administrative expenses during the first quarter of 2018 totaled $48.7 million and were $0.5 million, or 1.1%, higher than in the first quarter of 2017. Increased third-party consultant costs, the impact of inflation and the impact of foreign currency translation were mostly offset by the first quarter of 2017 including severance charges related to a Transition and Consulting Agreement which the Company entered into with Gerald Rittenberg. General and administrative expenses as a percentage of total revenues were 9.6% and 10.1% during the first quarters of 2018 and 2017, respectively.

Art and development costs were $6.0 million and $5.8 million during the first quarters of 2018 and 2017, respectively.

Development stage expenses represent start-up costs related to Kazzam (see the 2017 Form 10-K for further detail).

Interest expense, net

Interest expense, net, totaled $23.3 million during the first quarter of 2018, compared to $20.7 million during the first quarter of 2017. The variance principally relates to increased borrowings under our ABL Facility, due to share repurchases during the fourth quarter of 2017, and the impact of increasing LIBOR rates on our Term Loan Credit Agreement.

Other expense, net

For the first quarters of 2018 and 2017, other expense, net, totaled $0.8 million and $1.2 million, respectively.

During February 2018, the Company amended its Term Loan Credit Agreement. At the time of the amendment, all outstanding term loans were replaced with new term loans for the same principal amount. The applicable margin for ABR borrowings was lowered from 2.00% to 1.75% and the applicable margin for LIBOR borrowings was lowered from 3.00% to 2.75%. Additionally, based on the terms of the amendment, the ABR and LIBOR margins will drop to 1.50% and 2.50%, respectively, if the Company’s Senior Secured Leverage Ratio, as defined by the agreement, falls below 3.2 to 1.0. As the Term Loan Credit Agreement is a loan syndication, the Company assessed whether the refinancing should be accounted for as an extinguishment on a creditor-by-creditor basis and wrote-off $0.3 million of existing deferred financing costs, capitalized original issue discounts and capitalized call premiums. The write-offs were recorded in other expense. Additionally, in conjunction with the amendment, the Company incurred banker and legal fees, $0.8 million of which were recorded in other expense.

Income tax benefit

On December 22, 2017, the Tax Cuts and Jobs Act of 2017 (“the Act”) was signed into law. The Act significantly changed U.S. tax law, including lowering the U.S. corporate income tax rate from 35% to 21%, effective January 1, 2018.

The effective income tax rate for the three months ended March 31, 2018, 37.7%, is higher than the statutory rate primarily due to discrete items related to stock option exercises and state tax rate changes.

 

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Adjusted EBITDA, Adjusted Net Income and Adjusted Net Income per Common Share—Diluted

The Company presents adjusted EBITDA, adjusted net income and adjusted net income per common share—diluted as supplemental measures of its operating performance. The Company defines EBITDA as net income (loss) before interest expense, net, income taxes, depreciation and amortization and defines adjusted EBITDA as EBITDA, as further adjusted to eliminate the impact of certain items that the Company does not consider indicative of our core operating performance. These further adjustments are itemized below. Adjusted net income represents the Company’s net income (loss) adjusted for, among other items, intangible asset amortization, non-cash purchase accounting adjustments, amortization of deferred financing costs and original issue discounts, equity based compensation, and impairment charges. Adjusted net income per common share—diluted represents adjusted net income divided by diluted weighted average common shares outstanding. The Company presents these measures as supplemental measures of its operating performance. You are encouraged to evaluate these adjustments and the reasons the Company considers them appropriate for supplemental analysis. In evaluating the measures, you should be aware that in the future the Company may incur expenses that are the same as, or similar to, some of the adjustments in this presentation. The Company’s presentation of adjusted EBITDA, adjusted net income and adjusted net income per common share-diluted should not be construed as an inference that the Company’s future results will be unaffected by unusual or non-recurring items. The Company presents the measures because the Company believes they assist investors in comparing the Company’s performance across reporting periods on a consistent basis by eliminating items that the Company does not believe are indicative of its core operating performance. In addition, the Company uses adjusted EBITDA: (i) as a factor in determining incentive compensation, (ii) to evaluate the effectiveness of its business strategies and (iii) because its credit facilities use adjusted EBITDA to measure compliance with certain covenants. The Company also believes that adjusted net income and adjusted net income per common share—diluted are helpful benchmarks to evaluate its operating performance.

Adjusted EBITDA, adjusted net income, and adjusted net income per common share—diluted have limitations as analytical tools. Some of these limitations are:

•  they do not reflect the Company’s cash expenditures or future requirements for capital expenditures or contractual commitments;

•  they do not reflect changes in, or cash requirements for, the Company’s working capital needs;

•  adjusted EBITDA does not reflect the significant interest expense, or the cash requirements necessary to service interest or principal payments, on the Company’s indebtedness;

•  although depreciation and amortization are non-cash charges, the assets being depreciated and amortized will often have to be replaced in the future, and adjusted EBITDA does not reflect any cash requirements for such replacements;

•  non-cash compensation is and will remain a key element of the Company’s overall long-term incentive compensation package, although the Company excludes it as an expense when evaluating its core operating performance for a particular period;

•  they do not reflect the impact of certain cash charges resulting from matters the Company considers not to be indicative of its ongoing operations; and

•  other companies in the Company’s industry may calculate adjusted EBITDA, adjusted net income and adjusted net income per common share differently than the Company does, limiting its usefulness as a comparative measure.

Because of these limitations, adjusted EBITDA, adjusted net income and adjusted net income per common share – diluted should not be considered in isolation or as substitutes for performance measures calculated in accordance with GAAP. We compensate for these limitations by relying primarily on our GAAP results and using adjusted EBITDA, adjusted net income and adjusted net income per common share – diluted only on a supplemental basis. The reconciliations from net income (loss) to adjusted EBITDA and income (loss) before income taxes to adjusted net income (loss) for the periods presented are as follows:

 

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     Three Months Ended
March 31, 2018
    Three Months Ended
March 31, 2017
 
(Dollars in thousands)             

Net loss

   $ (1,163   $ (4,683

Interest expense, net

     23,275       20,692  

Income taxes

     (704     (2,500

Depreciation and amortization

     20,557       20,701  
  

 

 

   

 

 

 

EBITDA

     41,965       34,210  

Non-cash purchase accounting

adjustments

     (556     1,850  

Restructuring, retention and severance (a)

     2,611       7,814  

Deferred rent (b)

     368       363  

Closed store expense (c)

     1,812       1,367  

Foreign currency gains, net

     (63     (537

Employee equity based compensation (d)

     460       2,398  

Non-employee equity based compensation (e)

     261       —    

Undistributed (income) loss in unconsolidated joint ventures

     (211     716  

Corporate development (f)

     2,574       723  

Non-recurring consulting charges (g)

     4,750       —    

Refinancing charges (h)

     1,146       —    

Other

     31       218  
  

 

 

   

 

 

 

Adjusted EBITDA

   $ 55,148     $ 49,122  
  

 

 

   

 

 

 
     Three Months Ended
March 31, 2018
    Three Months Ended
March 31, 2017
 
(Dollars in thousands, except per share amounts)             

Loss before income taxes

   $ (1,867   $ (7,183

Intangible asset amortization

     3,663       3,713  

Non-cash purchase accounting adjustments

     (705     2,004  

Amortization of deferred financing costs and original issuance discounts (h)

     1,556       1,233  

Restructuring, retention and severance (a)

     —         7,814  

Non-employee equity based compensation (e)

     261       —    

Refinancing charges (h)

     800       —    

Non-recurring consulting charges (g)

     4,750       —    

Employee equity based compensation (d)

     460       2,398  
  

 

 

   

 

 

 

Adjusted income before income taxes

     8,918       9,979  

Adjusted income tax expense (i)

     2,036       3,928  
  

 

 

   

 

 

 

Adjusted net income

   $ 6,882     $ 6,051  
  

 

 

   

 

 

 

Adjusted net income per common share – diluted

   $ 0.07     $ 0.05  
  

 

 

   

 

 

 

Weighted-average number of common shares-diluted

     97,650,385       120,862,319  

 

  (a)

On March 15, 2017, the Company and its then Chairman of the Board of Directors, Gerald Rittenberg, entered into a Transition and Consulting Agreement under which Mr. Rittenberg’s employment as Executive Chairman of the Company terminated effective March 31, 2017. As a result of the agreement, the Company recorded a $4.5 million severance charge in general and administrative expenses during the first quarter of 2017. Additionally, during the three months ended March 31, 2017, the Company recorded a $3.3 million severance charge related to the restructuring of its Retail segment. See the 2017 Form 10-K for further discussion. The adjustment to “Adjusted EBITDA” in the first quarter of 2018 principally relates to costs incurred while moving one of the Company’s domestic manufacturing facilities to a new location.

 

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  (b) The deferred rent adjustment reflects the difference between accounting for rent and landlord incentives in accordance with GAAP and the Company’s actual cash outlay for such items.
  (c) Principally charges incurred related to closing underperforming stores.
  (d) Represents non-cash charges related to stock options.
  (e) Principally represents shares of Kazzam awarded to Ampology as compensation for Ampology’s services. See the 2017 Form 10-K for further discussion.
  (f) Primarily represents start-up costs for Kazzam (see the 2017 Form 10-K for further discussion) and third-party costs related to acquisitions (principally legal expenses).
  (g) Non-recurring consulting charges related to the Company’s retail operations.
  (h) During February 2018, the Company amended the Term Loan Credit Agreement. In conjunction with the amendment, the Company wrote-off $0.3 million of capitalized deferred financing costs, original issue discounts and call premiums. The amounts are included in “Refinancing charges” in the adjusted EBITDA table above and in “Amortization of deferred financing costs and original issuance discounts” in the adjusted net income table above (consistent with the presentation in the Company’s condensed consolidated statement of cash flows included elsewhere in this Quarterly Report on Form 10-Q). Further, in conjunction with the amendment, the Company expensed $0.8 million of investment banking and legal fees. These amounts are included in “Refinancing charges” in the tables above.
  (i) Represents income tax expense/benefit after excluding the specific tax impacts for each of the pre-tax adjustments. The tax impacts for each of the adjustments were determined by applying to the pre-tax adjustments the effective income tax rates for the specific legal entities in which the adjustments were recorded.

Liquidity

The Company’s indebtedness principally consists of: (i) a senior secured term loan facility (“Term Loan Credit Agreement”), (ii) a $540 million asset-based revolving credit facility (with a seasonal increase to $640 million during a certain period of each calendar year) (“ABL Facility”) and (iii) $350 million of 6.125% senior notes.

We expect that cash generated from operating activities and availability under our credit agreements will be our principal sources of liquidity. Based on our current level of operations, we believe that these sources will be adequate to meet our liquidity needs for at least the next 12 months. We cannot assure you, however, that our business will generate sufficient cash flow from operations or that future borrowings will be available to us under the ABL Facility and the Term Loan Credit Agreement in amounts sufficient to enable us to repay our indebtedness or to fund our other liquidity needs.

Cash Flow

Net cash used in operating activities totaled $25.2 million and $19.5 million during the three months ended March 31, 2018 and 2017, respectively. Net cash flows provided by operating activities before changes in operating assets and liabilities were $22.4 million during the first three months of 2018, compared to $21.9 million during 2017. Changes in operating assets and liabilities during the first three months of 2018 and 2017 resulted in the use of cash of $47.6 million and $41.4 million, respectively.

Net cash used in investing activities totaled $34.9 million during the three months ended March 31, 2018, as compared to $73.6 million during the three months ended March 31, 2017. Investing activities during 2018 included $17.0 million paid in connection with acquisitions, principally related to franchise stores (see Note 13 to the consolidated financial statements for further detail). Capital expenditures during the three months ended March 31, 2018 and 2017 were $17.9 million and $11.4 million, respectively. Retail capital expenditures totaled $8.6 million during 2018 and principally related to initiatives for improving store performance. Wholesale capital expenditures during 2018 totaled $9.3 million and primarily related to printing plates and dies, as well as machinery and equipment at the Company’s manufacturing operations and main distribution center.

Net cash provided by financing activities was $60.0 million during the three months ended March 31, 2018. Such amount was principally consistent with the corresponding period of 2017, during which net cash provided by financing activities was $68.0 million.

At March 31, 2018, the Company had approximately $124 million of availability under its ABL Facility, after considering borrowing base restrictions.

 

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Contractual Obligations

Other than as described above under “Liquidity and Capital Resources”, there were no material changes to our future minimum contractual obligations as of December 31, 2017 as previously disclosed in our Annual Report on Form 10-K for the year ended December 31, 2017.

Off Balance Sheet Arrangements

We had no off balance sheet arrangements during the three months ended March 31, 2018 and the year ended December 31, 2017.

Seasonality

Wholesale Operations

Despite a concentration of holidays in the fourth quarter of the year, as a result of our expansive product lines, customer base and increased promotional activities, the impact of seasonality on the quarterly results of our wholesale operations has been limited. However, due to Halloween, the inventory balances of our wholesale operations are slightly higher during the third quarter than during the remainder of the year. Additionally, Halloween products sold to retailers and other distributors result in slightly higher accounts receivable balances during the quarter.

Retail Operations

Our retail operations are subject to significant seasonal variations. Historically, this segment has realized a significant portion of its revenues, cash flow and net income in the fourth quarter of the year, principally due to our Halloween sales in October and, to a lesser extent, year-end holiday sales.

Cautionary Note Regarding Forward-Looking Statements

From time to time, including in this filing and, in particular, the section captioned “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” we make “forward-looking statements” within the meaning of federal and state securities laws. Disclosures that use words such as the company “believes,” “anticipates,” “expects,” “estimates,” “intends,” “will,” “may” or “plans” and similar expressions are intended to identify forward-looking statements. These forward-looking statements reflect our current expectations and are based upon data available to us at the time the statements were made. An example of a forward-looking statement is our belief that our cash generated from operating activities and availability under our credit facilities will be adequate to meet our liquidity needs for at least the next 12 months. Such statements are subject to certain risks and uncertainties that could cause actual results to differ materially from expectations. These risks, as well as other risks and uncertainties, are detailed in the section titled “Risk Factors” included in our Annual Report on Form 10-K filed with the SEC on March 14, 2018. Moreover, we operate in a very competitive and rapidly changing environment. New risks emerge from time to time. It is not possible for our management to predict all risks, nor can we assess the impact of all factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements we may make. In light of these risks, uncertainties and assumptions, the forward-looking events and circumstances discussed may not occur and actual results could differ materially and adversely from those anticipated or implied in the forward-looking statements. All forward-looking statements are qualified by these cautionary statements and are made only as of the date of this filing. Any such forward-looking statements, whether made in this filing or elsewhere, should be considered in context with the various disclosures made by us about our business. The following risks related to our business, among others, could cause actual results to differ materially from those described in the forward-looking statements:

 

    our ability to compete effectively in a competitive industry;

 

    fluctuations in commodity prices;

 

    our ability to appropriately respond to changing merchandise trends and consumer preferences;

 

    successful implementation of our store growth strategy;

 

    decreases in our Halloween sales;

 

    unexpected or unfavorable consumer responses to our promotional or merchandising programs;

 

    failure to comply with existing or future laws relating to our marketing programs, e-commerce initiatives and the use of consumer information;

 

    disruption to the transportation system or increases in transportation costs;

 

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    product recalls or product liability;

 

    economic slowdown affecting consumer spending and general economic conditions;

 

    loss or actions of third party vendors and loss of the right to use licensed material;

 

    disruptions at our manufacturing facilities;

 

    failure by suppliers or third-party manufacturers to follow acceptable labor practices or to comply with other applicable laws and guidelines;

 

    our international operations subjecting us to additional risks;

 

    potential litigation and claims;

 

    lack of available additional capital;

 

    our inability to retain or hire key personnel;

 

    risks associated with leasing substantial amounts of space;

 

    failure of existing franchisees to conduct their business in accordance with agreed upon standards;

 

    adequacy of our information systems, order fulfillment and distribution facilities;

 

    our ability to adequately maintain the security of our electronic and other confidential information;

 

    our inability to successfully identify and integrate acquisitions;

 

    adequacy of our intellectual property rights;

 

    risks related to our substantial indebtedness; and

 

    the other factors set forth under “Risk Factors” in our Annual Report on Form 10-K, filed with the SEC on March 14, 2018.

Except as required by law, we undertake no obligation to update publicly any forward-looking statements after the date of this filing to conform these statements to actual results or to changes in our expectations.

You should read this filing with the understanding that our actual future results, levels of activity, performance and events and circumstances may be materially different from what we expect.

Item 3. Quantitative and Qualitative Disclosures about Market Risk

There have been no material changes in our market risks since December 31, 2017 as previously disclosed in our Annual Report on Form 10-K for the year ended December  31, 2017.

Item 4. Controls and Procedures

We have carried out an evaluation, under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act of 1934, as amended (the “Act”)) as of March 31, 2018. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures are effective in ensuring that information required to be disclosed by us in the reports that we file or submit under the Act is: (i) recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms; and (ii) accumulated and communicated to our management, including our principal executive and principal financial officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosures.

There were no changes in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Act) during the quarter ended March 31, 2018 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

 

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PART II-OTHER INFORMATION

Item 1. Legal Proceedings

Information in response to this Item is incorporated herein by reference from Note 8, Commitments and Contingencies, to our Condensed Consolidated Financial Statements in this Quarterly Report on Form 10-Q.

Item 1A. Risk Factors

There have been no material changes to the risk factors disclosed under the heading “Risk Factors” in the Company’s Annual Report on Form 10-K for the year ended December  31, 2017.

Item 5. Other Information

Amended and Restated Employment Agreements

On May 8, 2018, the Compensation Committee of Party City Holdco Inc. approved certain changes to the amended and restated employment agreements entered into among Party City Holdco Inc., Party City Holdings Inc., and each of their Chief Executive Officer, James M. Harrison, their Chief Financial Officer, Daniel J. Sullivan, and their President, Retail, Ryan Vero (collectively, as revised, the “Amended and Restated Employment Agreements”). The Amended and Restated Employment Agreements amend and restate the existing employment agreements by extending the executive’s employment period through December 31, 2020 and providing that, upon the consummation of a change of control of the Company, if Messrs. Harrison, Sullivan or Vero are not offered employment on substantially similar terms by the Company or one of its continuing affiliates immediately thereafter, then the executive’s employment shall be deemed terminated. Upon such termination, the executive would be entitled to receive (i) a lump sum payment equal to a specified multiplier (two and one-half, in the case of Mr. Harrison, and two in the case of Messrs. Sullivan and Vero) multiplied by the sum of (a) his annual base salary and (b) his annual target bonus; (ii) a pro rata annual bonus for the year of termination paid in a lump sum; and (iii) a monthly payment equal to the portion of the monthly health premiums paid by the Company on behalf of the executive prior to the date of termination for a specified period (24 months for Mr. Harrison, 12 months for Messrs. Sullivan and Vero). The description of the Employment Agreement Amendments set forth herein does not purport to be complete and is qualified in its entirety by reference to the Amended and Restated Employment Agreements filed herewith as Exhibits 10.1, 10.2 and 10.3 and such Amended and Restated Employment Agreements are incorporated herein by reference.

Item 6. Exhibits

 

3.1    Amended and Restated Certificate of Incorporation (incorporated by reference to Exhibit 3.1 to Party City Holdco Inc.’s Form  8-K dated April 21, 2015)
3.2    Amended and Restated Bylaws (incorporated by reference to Exhibit 3.2 to Party City Holdco Inc.’s Form 8-K dated April 21, 2015)
10.1†*    Amended and Restated Employment Agreement between Party City Holdings Inc., Party City Holdco Inc. and James M. Harrison, dated May 8, 2018
10.2†*   

Amended and Restated Employment Agreement between Party City Holdings Inc., Party City Holdco Inc. and Daniel J. Sullivan, dated May 8, 2018

10.3†*    Amended and Restated Employment Agreement between Party City Holdings Inc., Party City Holdco Inc. and Ryan Vero, dated May 8, 2018
31.1*    Certification of Chief Executive Officer pursuant to Rule 13a-14(a)/Rule  15d-14(a) of the Securities Exchange Act of 1934, as amended as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2*    Certification of Chief Financial Officer pursuant to Rule 13a-14(a)/Rule  15d-14(a) of the Securities Exchange Act of 1934, as amended as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1*    Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2*    Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
101*    Interactive Data Files pursuant to Rule 405 of Regulation S-T: (i) Condensed Consolidated Balance Sheets at March 31, 2018 and December 31, 2017; (ii) Condensed Consolidated Statements of Operations and Comprehensive Income (Loss) for the three month periods ended March 31, 2018 and March 31, 2017; (iii) Condensed Consolidated Statement of Stockholders’ Equity for the three month period ended March 31, 2018; (iv) Condensed Consolidated Statements of Cash Flows for the three month periods ended March 31, 2018 and March 31, 2017; and (v) Notes to the Condensed Consolidated Financial Statements.

 

Management contract of compensatory plan or arrangement
* Filed herewith.

 

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SIGNATURE

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this Quarterly Report on Form 10-Q to be signed on its behalf by the undersigned thereunto duly authorized.

 

      PARTY CITY HOLDCO INC.
    By:   /s/ Daniel J. Sullivan
      Daniel J. Sullivan
Date: May 9, 2018      

Chief Financial Officer

(on behalf of the Registrant and as Principal

Financial Officer)

 

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