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EX-32.2 - EX-32.2 - SCHOOL SPECIALTY INCd572905dex322.htm
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EX-31.1 - EX-31.1 - SCHOOL SPECIALTY INCd572905dex311.htm

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

 

 

FORM 10-Q

 

 

 

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: 000-24385

 

 

SCHOOL SPECIALTY, INC.

(Exact name of Registrant as specified in its charter)

 

 

 

Delaware   39-0971239

(State or Other Jurisdiction

of Incorporation)

 

(IRS Employer

Identification No.)

W6316 Design Drive

Greenville, Wisconsin 54942

(Address of Principal Executive Offices)

(Zip Code)

(920) 734-5712

(Registrant’s Telephone Number, including Area Code)

 

 

Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes ☒    No  ☐

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (Section 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ☒    No  ☐

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth 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  ☒

The aggregate market value of the Registrant’s common stock held by non-affiliates as of June 30, 2017 was $77,217,446.

Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Sections 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court.     Yes  ☒    No  ☐

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

 

Class

 

Outstanding at May 7, 2018

Common Stock, $0.001 par value   7,000,000

 

 

 


SCHOOL SPECIALTY, INC.

INDEX TO FORM 10-Q

FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2018

 

         Page
Number
 
PART I—FINANCIAL INFORMATION   

ITEM 1.

 

CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS

  
 

Condensed Consolidated Balance Sheets at March 31, 2018, December  30, 2017 and April 1, 2017

     3  
 

Condensed Consolidated Statements of Operations for the Three Months Ended March 31, 2018 and April 1, 2017

     4  
 

Condensed Consolidated Statements of Comprehensive Income (Loss) for the Three Months Ended March 31, 2018 and April 1, 2017

     5  
 

Condensed Consolidated Statements of Cash Flows for Three Months Ended March 31, 2018 and April 1, 2017

     6  
 

Notes to Condensed Consolidated Financial Statements

     7  

ITEM 2.

 

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

     28  

ITEM 3.

 

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

     33  

ITEM 4.

 

CONTROLS AND PROCEDURES

     33  

PART II—OTHER INFORMATION

  

ITEM 6.

 

EXHIBITS

     34  

 

-Index-


PART I – FINANCIAL INFORMATION

ITEM 1. Condensed Consolidated Unaudited Financial Statements

SCHOOL SPECIALTY, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED)

(In Thousands, except share and per share amounts)

 

    March 31, 2018     December 30, 2017     April 1, 2017  

ASSETS

     

Current assets:

     

Cash and cash equivalents

  $ 10,276     $ 31,861     $ 5,586  

Accounts receivable, less allowance for doubtful accounts of $668, $1,059, and $1,073, respectively

    54,300       69,297       54,486  

Inventories, net

    102,232       77,162       98,146  

Deferred catalog costs

    —         3,450       8,950  

Prepaid expenses and other current assets

    15,425       14,121       11,923  

Refundable income taxes

    958       547       1,219  
 

 

 

   

 

 

   

 

 

 

Total current assets

    183,191       196,438       180,310  

Property, plant and equipment, net

    32,465       33,579       29,498  

Goodwill

    26,842       26,842       21,588  

Intangible assets, net

    36,164       37,163       34,148  

Development costs and other

    16,158       16,339       12,941  

Deferred taxes long-term

    9,355       2,046       187  
 

 

 

   

 

 

   

 

 

 

Total assets

  $ 304,175     $ 312,407     $ 278,672  
 

 

 

   

 

 

   

 

 

 

LIABILITIES AND STOCKHOLDERS’ EQUITY

     

Current liabilities:

     

Current maturities—long-term debt

  $ 30,400     $ 10,989     $ 8,753  

Accounts payable

    34,544       26,591       36,782  

Accrued compensation

    4,423       11,995       4,405  

Contract liabilities

    5,113       3,454       2,099  

Accrued royalties

    1,946       5,699       460  

Other accrued liabilities

    10,048       15,442       10,577  
 

 

 

   

 

 

   

 

 

 

Total current liabilities

    86,474       74,170       63,076  

Long-term debt—less current maturities

    130,489       130,574       133,460  

Other liabilities

    785       172       167  
 

 

 

   

 

 

   

 

 

 

Total liabilities

    217,748       204,916       196,703  
 

 

 

   

 

 

   

 

 

 

Commitments and contingencies—Note 16

     

Stockholders’ equity:

     

Preferred stock, $0.001 par value per share, 500,000 shares authorized; none outstanding

    —         —         —    

Common stock, $0.001 par value per share, 50,000,000 shares authorized; 7,000,000 shares outstanding

    7       7       7  

Capital in excess of par value

    123,655       123,083       121,429  

Accumulated other comprehensive loss

    (1,661     (1,425     (1,739

Accumulated deficit

    (35,574     (14,174     (37,728
 

 

 

   

 

 

   

 

 

 

Total stockholders’ equity

    86,427       107,491       81,969  
 

 

 

   

 

 

   

 

 

 

Total liabilities and stockholders’ equity

  $ 304,175     $ 312,407     $ 278,672  
 

 

 

   

 

 

   

 

 

 

See accompanying notes to condensed consolidated financial statements.

 

3


SCHOOL SPECIALTY, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)

(In Thousands, Except Per Share Amounts)

 

     For the Three Months Ended  
     March 31, 2018     April 1, 2017  

Revenues

   $ 99,287     $ 97,110  

Cost of revenues

     63,166       62,586  
  

 

 

   

 

 

 

Gross profit

     36,121       34,524  

Selling, general and administrative expenses

     57,138       47,468  

Facility exit costs and restructuring

     311       173  
  

 

 

   

 

 

 

Operating loss

     (21,328     (13,117

Other expense (income):

    

Interest expense

     3,506       4,050  
  

 

 

   

 

 

 

Loss before benefit from income taxes

     (24,834     (17,167

Benefit from income taxes

     (6,156     (392
  

 

 

   

 

 

 

Net loss

   $ (18,678   $ (16,775
  

 

 

   

 

 

 

Weighted average shares outstanding:

    

Basic

     7,000       7,000  

Diluted

     7,000       7,000  

Net loss per Share:

    

Basic

   $ (2.67   $ (2.40

Diluted

   $ (2.67   $ (2.40

See accompanying notes to condensed consolidated financial statements.

 

4


SCHOOL SPECIALTY, INC.

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS (UNAUDITED)

(In Thousands)

 

     For the Three Months Ended  
     March 31, 2018     April 1, 2017  

Net loss

   $ (18,678   $ (16,775

Other comprehensive income, net of tax:

    

Foreign currency translation adjustments

     (236     45  
  

 

 

   

 

 

 

Total comprehensive loss

   $ (18,914   $ (16,730
  

 

 

   

 

 

 

See accompanying notes to condensed consolidated financial statements.

 

5


SCHOOL SPECIALTY, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)

(In Thousands)

 

     For the Three Months Ended  
     March 31, 2018     April 1, 2017  

Cash flows from operating activities:

    

Net loss

   $ (18,678   $ (16,775

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

    

Depreciation and intangible asset amortization expense

     5,458       3,326  

Amortization of development costs

     1,304       1,111  

Gain on disposal of Assets

     (20     —    

Amortization of debt fees and other

     269       536  

Unrealized foreign exchange (gain) loss

     3       18  

Share-based compensation expense

     572       580  

Deferred taxes

     (6,364     (2

Non-cash interest expense

     602       468  

Changes in current assets and liabilities:

    

Accounts receivable

     16,702       7,254  

Inventories

     (26,540     (24,497

Deferred catalog costs

     —         (3,714

Prepaid expenses and other current assets

     (1,714     (437

Accounts payable

     7,921       14,622  

Accrued liabilities

     (14,663     (12,220
  

 

 

   

 

 

 

Net cash used by operating activities

     (35,148     (29,730
  

 

 

   

 

 

 

Cash flows from investing activities:

    

Additions to property, plant and equipment

     (3,426     (3,241

Investment in product development costs

     (1,229     (546

Proceeds from sale of assets

     100       —    
  

 

 

   

 

 

 

Net cash used in investing activities

     (4,555     (3,787
  

 

 

   

 

 

 

Cash flows from financing activities:

    

Proceeds from bank borrowings

     53,297       17,975  

Repayment of bank borrowings

     (34,660     (14,057

Earnout payment for acquisition

     (343     —    
  

 

 

   

 

 

 

Net cash provided in financing activities

     18,294       3,918  
  

 

 

   

 

 

 

Effect of exchange rate changes on cash

     (176     88  
  

 

 

   

 

 

 

Net decrease in cash and cash equivalents

     (21,585     (29,511

Cash and cash equivalents, beginning of period

     31,861       35,097  
  

 

 

   

 

 

 

Cash and cash equivalents, end of period

   $ 10,276     $ 5,586  
  

 

 

   

 

 

 

Supplemental disclosures of cash flow information:

    

Interest paid

   $ 2,635     $ 3,046  

Income taxes paid, net

   $ 18     $ 36  

See accompanying notes to condensed consolidated financial statements.

 

6


SCHOOL SPECIALTY, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(In thousands, except per share amounts)

NOTE 1 – BASIS OF PRESENTATION

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. In the opinion of management, all adjustments (which are normal and recurring in nature unless otherwise noted) considered necessary for a fair presentation have been included. The balance sheet at December 30, 2017 has been derived from School Specialty, Inc.’s (“School Specialty” or the “Company”) audited financial statements for the period ended December 30, 2017. For further information, refer to the consolidated financial statements and notes thereto included in the Company’s Form 10-K for the period ended December 30, 2017.

NOTE 2 – INCREASED AUTHORIZED SHARES AND STOCK-SPLIT

At the Special Meeting of Stockholders of School Specialty, Inc. (the “Company”) held on August 15, 2017, the Company’s stockholders voted on a proposal to approve the proposed amendment to the Company’s Amended and Restated Certificate of Incorporation, as amended, to increase the number of authorized shares of common stock, par value $0.001 per share, of the Company (“Common Stock”) from 2,000 to 50,000 shares (the “Amendment”) for the purpose of, among other things, effecting a seven-for-one stock split of the Common Stock as part of the Amendment. Our condensed consolidated financial statements, related notes, and other financial data contained in this report have been adjusted to give retroactive effect to the increased authorization and stock split for all periods presented.

NOTE 3 – RECENT ACCOUNTING PRONOUNCEMENTS

In February 2018, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2018-02, “Income Statement – Reporting Comprehensive Income: Reclassification of Certain Tax Effect from Accumulated Other Comprehensive Income.” ASU 2018-02 permits a company to reclassify the income tax effects of the U.S. Tax Cuts and Jobs Act of 2017 (the “2017 Act”) on items within accumulated other comprehensive income or loss (AOCI-L) to retained earnings. Because most items that are charged to AOCI-L are recorded net of applicable income taxes, the subsequent reclassification of these items from AOCI-L to the statement of operations will be at different income tax rates due to the 2017 Act, thereby leaving a “stranded” tax balance within AOCI-L. ASU 2018-02 will allow a company to transfer these “stranded” amounts from AOCI-L to retained earnings. ASU 2018-02 will be effective for the Company at the beginning of fiscal 2019, with early adoption permitted. The adoption is not expected to have a material impact on the consolidated financial statements.

In May 2017, the FASB issued ASU No. 2017-09, “Compensation—Stock Compensation: Scope of Modification Accounting.” ASU 2017-09 amends the scope of modification accounting for share-based payment arrangements. Specifically, an entity would not apply modification accounting if the fair value, vesting conditions, and classification of the awards are the same immediately before and after the modification. The amendments in this update are effective for financial statements issued for annual periods beginning after December 15, 2017, including interim periods within those annual periods, and early adoption is permitted for interim or annual periods. The adoption did not have a material impact on the consolidated financial statements.

In August 2016, the FASB issued ASU No. 2016-15,Statement of Cash Flows.” ASU No. 2016-15 is intended to reduce diversity in practice in the manner certain transactions are classified in the statement of cash flows. This guidance will be effective for fiscal years beginning after December 15, 2017 and interim periods within those fiscal years. The adoption of this update did not have a material impact on the Company’s consolidated financial statements.

In February 2016, the FASB issued ASU No. 2016-02,Leases.” ASU No. 2016-02 requires lessees to recognize the assets and liabilities arising from leases on the balance sheet. The new guidance requires that all leases create an asset and a liability for the lessee in accordance with FASB Concepts Statement No. 6, Elements of Financial Statements. This guidance will be effective for periods beginning after December 15, 2018. The Company is currently in the process of evaluating the impact of adoption of this ASU on the Company’s consolidated financial statements.

 

7


SCHOOL SPECIALTY, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(In thousands, except per share amounts)

 

In May 2014, the FASB issued ASU No. 2014-09, “Revenue from Contracts with Customers. ASU No. 2014-09 provides guidance for revenue recognition. The standard’s core principle is that a company will recognize revenue when it transfers promised goods or services to customers in an amount that reflects the consideration to which the company expects to be entitled in exchange for those goods or services. In doing so, companies will need to use more judgment and make more estimates than under today’s guidance. These may include identifying performance obligations in the contract, estimating the amount of variable consideration to include in the transaction price and allocating the transaction price to each separate performance obligation. This guidance became effective for the Company in the first quarter of fiscal 2018, see Note 4 – Changes in Accounting Principle.

NOTE 4 – CHANGE IN ACCOUNTING PRINCIPLE

In the first quarter of 2018, the Company adopted ASU No. 2014-09, “Revenue from Contracts with Customers. ASU No. 2014-09 provides guidance for revenue recognition. The standard’s core principle is that a company will recognize revenue when it transfers promised goods or services to customers in an amount that reflects the consideration to which the company expects to be entitled in exchange for those goods or services. The guidance within this standard must be applied using either of the following transition methods: (1) a full retrospective approach reflecting the application of the standard in each prior reporting period with the option to elect certain practical expedients; or (2) a modified retrospective approach with the cumulative effect of initially adopting the standard recognized at the date of adoption (which requires additional footnote disclosures). The Company chose to adopt ASC 606 using the modified retrospective transition approach applied to contracts not completed as of the date of adoption. We recognized the cumulative effect of initially applying the new revenue standard, net of tax, as an increase of $2,722 to the opening balance of accumulated deficit. The comparative financial information has not been restated and continues to be reported under the accounting standards in effect for that period. We do not expect the adoption of the new revenue standard to have a material impact on our net income on an ongoing basis.

Revenue is recognized upon the satisfaction of performance obligations, which occurs when control of the good or service transfers to the customer. Approximately 98% of the Company’s consolidated revenues are related to the sale of products. Under our standard contracts or purchase orders received from customers, the only performance obligation is the shipment of products. Revenue for products is recognized and the customer is invoiced when the control of the product transfers to the customer, which is generally when the product is shipped. The Company determines the time at which transfer and control of products has passed to its customers, and the time at which it is able to invoice the customers, based on review of sales agreements and purchase orders. Payment terms are generally established to be 30 days from the shipment date. We generally determine standalone selling prices based on the prices charged to customers for all material performance obligations.

The Company provides its customers an implicit right of return for full or partial refund. Prior to the adjustment for ASC 606 the Company reflected the right of return in accounts receivable. Under ASC 606 the Company has reclassified this right of return from accounts receivable into a combination of a refund liability, within other accrued liabilities, and other current assets.

Variable consideration is accounted for as a price adjustment (sales adjustment). Following are examples of variable consideration that affect the Company’s reported revenue. Rights of return are typically contractually limited, amounts are estimable based upon historic return levels, and the Company records provisions for anticipated returns at the time revenue is recognized. Trade promotions are offered to cooperatives and end users through various programs, generally with terms of one year or less. Such promotions typically involve rebates based on annual purchases. Payment of incentives generally take the form of cash and are paid according to the terms of their agreement, typically within a year. Rebates are accrued as sales occur based on the program rebate rates.

Amounts billed to customers for shipping and handling are included in revenues when control of the goods and services transfers to the customer. Shipping and handling is arranged with third party carriers in connection with delivering good to customers. Amounts billed to customers for sales tax are not included in revenues.

The Company typically does not have contracts with significant financing components as payments are generally received within 60 days from the time of completion of the performance obligations. Cost incurred to obtain contracts are settled within 12 months of contract inception. Our accounting policy under ASC 606 remains consistent with past accounting policy where by costs are expensed as incurred.

 

8


SCHOOL SPECIALTY, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(In thousands, except per share amounts)

 

In the analysis of the revenue streams, the Company identified two revenue streams for which the timing of revenue recognition would change.

 

  1) Furniture revenue associated with projects was previously recognized upon the completion of the project, or at customer acceptance. Under ASC 606, the Company has determined that is has two performance obligations within the project revenue stream: a) the delivery of the equipment or furniture and b) the installation of equipment or the furniture. For furniture associated with projects, the Company determined that control of the furniture was transferred to the customer upon delivery of the furniture to the customer site as the customer is in possession of the product at that time. The revenue attributable to the performance obligation associated with the delivery of the equipment or furniture is accelerated under the new revenue recognition standard and recognized upon delivery. The revenue attributable to installation is recognized over time during the installation process based on costs incurred relative to total expected installation costs. Under the contract terms the customer is not billed for the equipment or furniture or installation until the installation is complete. The Company allocates revenues to these two performance obligations using a cost plus margin approach, where by gross margins are consistent for each component. The revenue associated with unsatisfied performance obligations for furniture is related to installation which the installation is typically completed and revenue is recognized within approximately 90 days following the delivery of the equipment or furniture. The impact of this change in the first quarter of fiscal 2018 was accelerated recognition of $539 of revenue and $35 of gross profit.

 

  2) Professional development or training days are provided to customers that order certain of the Company’s curriculum products, the most prominent of which being the FOSS product line. The Company bills for these training days at the same time the customer is billed for the product based on stand-alone selling price. Prior to the adoption of ASC 606, the Company accrued the estimated costs associated with providing training days, when the product was shipped. After the adoption of ASC 606, the Company is deferring revenue associated with providing training days and will recognize the cost associated with providing the training within SG&A when the costs are incurred. Training typically is completed and revenue is recognized within six to nine months following the shipment of the product. The impact of this change in the first quarter of fiscal 2018 was an acceleration in the recognition of $183 of both revenue and gross profit and SG&A of $46.

The Company also evaluated its catalog costs under the new revenue recognition standard and determined that its catalog costs should be treated as costs incurred to obtain contracts. Since catalog costs are incurred regardless of whether specific customer contracts or purchase orders are obtained, catalog costs are now expensed as incurred. Under the prior guidance, the Company capitalized catalog costs and amortized over the period within which revenues attributable to the catalogs were generated, which was generally one year or less. The impact of this change was an accelerated recognition of catalog cost expense in SG&A of $4,224 in the first quarter of fiscal 2018.

The cumulative effect of the changes made to our consolidated condensed balance sheet on December 31, 2017 (the first day of our fiscal 2018) for the adoption of the new revenue standard was as follows:

 

9


SCHOOL SPECIALTY, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(In thousands, except per share amounts)

 

    Reported as of
December 30, 2017
    Adjustments Due
to ASC 606
    As Adjusted
December 31, 2017
 

ASSETS

     

Accounts receivable (3)

  $ 69,297     $ 458     $ 69,755  

Inventories, net

    77,162       (1,468     75,694  

Deferred catalog costs

    3,450       (3,450     —    

Prepaid expenses and other current assets (1) (3)

    14,121       2,043       16,164  

Deferred taxes long-term

    2,046       947       2,993  
 

 

 

   

 

 

   

 

 

 

Total Assets

    312,407       (1,470     310,937  

LIABILITIES

     

Contract liabilities (2) (4)

    3,454       2,723       6,177  

Other accrued liabilities (2) (3)

    15,442       (1,471     13,971  
 

 

 

   

 

 

   

 

 

 

Total Liabilities

    204,916       1,252       206,168  

STOCKHOLDERS’ EQUITY

     

Accumulated deficit

  $ (14,174   $ (2,722   $ (16,896
 

 

 

   

 

 

   

 

 

 

Total Stockholders’ Equity

    107,491       (2,722     104,769  

Total Liabilities and Stockholders’ Equity

  $ 312,407     $ (1,470   $ 310,937  

 

(1) Contract assets of $1,746 are included in Prepaid expenses and other current assets above
(2) Customer rebates of $1,689 have been reclassified from Other accrued liabilities to Contract liabilities
(3) The reserve for customer returns, refunds and allowances, in the amount of $458, was reclassified as follows: a) The amount associated with refund liabilities, of $755, has been reclassified to Other accrued liabilities; and b) The amount associated with the estimated value of returned product, of $297, has been reclassified to Prepaid expenses and other current assets
(4) The amounts classified as Deferred revenues in the Company’s December 30, 2017 consolidated consolidated balance sheets, have been reclassified to Contract liabilities in accordance with ASC 606

The cumulative effect of the adjustments to our March 31, 2018 condensed consolidated statement of operations and condensed consolidated balance sheet for the adoption of ASC 606 were as follows:

 

     For the Three Months Ended  
     March 31, 2018  
     Prior to
Adoption of
ASC 606
     Adjustments Due
to ASC 606
     As Reported  

Revenues

   $ 98,565      $ 722      $ 99,287  

Cost of revenues

     62,661        505        63,166  
  

 

 

    

 

 

    

 

 

 

Gross profit

     35,904        217        36,121  

Selling, general and administrative expenses

   $ 52,868      $ 4,270      $ 57,138  
  

 

 

    

 

 

    

 

 

 

Operating loss

     (17,275      (4,053      (21,328

Loss before benefit from income taxes

     (20,781      (4,053      (24,834
  

 

 

    

 

 

    

 

 

 

Benefit from income taxes

     (5,151      (1,005      (6,156
  

 

 

    

 

 

    

 

 

 

Net loss

     (15,630      (3,048      (18,678
  

 

 

    

 

 

    

 

 

 

 

10


SCHOOL SPECIALTY, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(In thousands, except per share amounts)

 

     March 31, 2018  
     Prior to
Adoption of
ASC 606
     Adjustments Due
to ASC 606
     As Reported  

ASSETS

        

Accounts receivable (3)

   $ 53,794      $ 506      $ 54,300  

Inventories, net

     104,204        (1,972      102,232  

Deferred catalog costs

     7,449        (7,449      —    

Prepaid expenses and other current assets (1) (3)

     12,796        2,629        15,425  

Deferred taxes long-term

     8,350        1,005        9,355  
  

 

 

    

 

 

    

 

 

 

Total Assets

     309,456        (5,281      304,175  

LIABILITIES

        

Contract liabilities (2)

   $ 2,992      $ 2,121      $ 5,113  

Other accrued liabilities (2) (3)

     10,738        (690      10,048  
  

 

 

    

 

 

    

 

 

 

Total Liabilities

     216,317        1,431        217,748  

STOCKHOLDERS’ EQUITY

        

Accumulated deficit

   $ (28,862    $ (6,712    $ (35,574
  

 

 

    

 

 

    

 

 

 

Total Stockholders’ Equity

     93,139        (6,712      86,427  

Total Liabilities and Stockholders’ Equity

   $ 309,456      $ (5,281    $ 304,175  

 

(1) Contract assets of $2,289 are included in prepaid expenses and other current assets above
(2) Customer rebates of $1,269 have been reclassed from other accrued liabilities to contract liabilities
(3) The reserve for customer returns, refunds and allowances, in the amount of $506, was reclassified as follows: a) The amount associated with refund liabilities, of $846, has been reclassified to Other accrued liabilities; and b) The amount associated with the estimated value of returned product, of $340, has been reclassified to Prepaid expenses and other current assets

The below table shows the Company’s disaggregated revenues for the three months ended March 31, 2018 and April 1, 2017.

 

11


SCHOOL SPECIALTY, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(In thousands, except per share amounts)

 

     For the Three Months Ended  
     March 31, 2018      April 1, 2017  

Distribution revenues by product line:

     

Supplies

   $ 53,432      $ 58,156  

Furniture

     23,952        22,596  

Instruction & Intervention

     12,520        6,183  

AV Tech

     4,277        4,784  

Agendas

     246        271  

Freight Revenue

     1,807        1,538  

Customer Allowances / Discounts

     (1,613      (1,594
  

 

 

    

 

 

 

Total Distribution Segment

   $ 94,621      $ 91,934  

Curriculum revenues by product line:

     

Science

   $ 4,666      $ 5,176  
  

 

 

    

 

 

 

Total Curriculum Segment

   $ 4,666      $ 5,176  
  

 

 

    

 

 

 

Total revenues

   $ 99,287      $ 97,110  
  

 

 

    

 

 

 

Revenues from the sale of products comprise the significant portion of revenues in all product categories in the above table. These product revenues associated with the above disaggregated revenues are recorded when control of goods or services are transferred to the customer. The Furniture category includes installation revenues that are recorded over time as installation services are incurred. The Instruction & Intervention category includes subscription revenues which are recognized over the subscription period, typically twelve months. All product categories are impacted by school budget funding.

The Company had a contract liability balance of $6,177 as of December 31, 2017, after the cumulative affects related to the adoption of ASC 606. During the three months ended March 31, 2018, the Company recognized into revenues $2,552 which had been included in the contract liability balance as of December 31, 2017.

NOTE 5 – BUSINESS COMBINATIONS

On August 18, 2017, the Company completed the acquisition of the assets of Triumph Learning, LLC (“Triumph Learning”) pursuant to the terms of an Asset Purchase Agreement dated August 18, 2017 (the “Purchase Agreement”) by and among School Specialty and Triumph Learning, LLC, a Delaware limited liability company. School Specialty acquired all the assets of Triumph Learning for $20,376 plus the assumption of certain liabilities. At closing, $18,114 of the total purchase price was paid using the Company’s existing debt facilities (see Note 12 – Debt). The Company drew $14,000 from the delayed draw term loan feature of its New Term Loan (as defined in Note 12) and drew $4,114 from its ABL Facility (as defined in Note 12) to fund this portion of the purchase price. In November 2017, the Company paid $912 as a final working capital adjustment, which was funded through the Company’s ABL Facility. The remaining purchase price in excess of the cash paid at closing represents the discounted fair value of the contingent portion of the purchase price. The contingent portion of the purchase price is 4.5% of net Triumph Learning revenues from certain Triumph Learning products over the period August 18, 2017 through December 18, 2018, subject to a maximum consideration of $1.5 million. The contingent portion of the purchase price is scheduled to be paid quarterly over the above-mentioned period, and $350 of this contingent obligation was paid in the first quarter ended March 31, 2018. The maximum present value of the contingent portion of the purchase price is $1,350. The Company accounted for this acquisition as a business combination in accordance with ASC 805.

Triumph Learning is a publisher of state-specific assessment preparation, and supplemental and intervention curriculum products for the K-12 education market. For over 25 years, Triumph Learning’s flagship product, Coach, has been utilized throughout education, providing educational facilities and teachers with hands-on test preparation books for English and Language Arts (ELA), Math, Science and Social Studies, with materials customized to state-specific best practices, along with a comprehensive series of supplemental and intervention resources for Math, ELA

 

12


SCHOOL SPECIALTY, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(In thousands, except per share amounts)

 

and Science. Solutions are delivered through multiple platforms, including both print and digital, as well as through third-party platforms and applications. Triumph Learning’s products are complementary to School Specialty’s current offering and others that it intends to bring to market, as it expands its product offering in the Instruction & Intervention category. There are also significant synergies beyond product offering as the Company anticipates the acquisition will result in a broader and more effective selling organization and extended customer reach that will enable the Company to deliver a true blended learning solution to its customers.

School Specialty incurred acquisition and integration costs of $1,215 in the first quarter of 2018 and $3,203 in the third and fourth quarters of fiscal 2017 related to the Triumph Learning acquisition. These costs included legal, due diligence and integration-related costs and are recorded as SG&A.

The Company engaged a third party to complete a full valuation of the assets, including any identified intangible assets of Triumph Learning. School Specialty’s estimates and assumptions are subject to change during the measurement period (up to one year from the acquisition date), as the Company finalizes the valuations of certain liabilities assumed in connection with the acquisition. The table below summarizes the fair value amounts of the $20,376 of net assets acquired.

 

Accounts receivable

   $ 4,409  

Inventory

     2,307  

Prepaids

     476  

Property, plant & equipment

     920  

Product Development

     4,273  

Coach Brand

     3,887  

Customer Relationships

     1,994  

Goodwill

     5,253  
  

 

 

 

Total assets

   $ 23,519  
  

 

 

 

Accounts payable

   $ 2,251  

Other accruals

     892  

Deferred revenue

     —    
  

 

 

 

Total liabilities

   $ 3,143  
  

 

 

 

Cash paid

   $ 20,376  
  

 

 

 

The unaudited pro forma consolidated results in the following table include the Company’s reported results for each respective period and the historical results of Triumph Learning for those periods. The unaudited pro forma condensed combined statements of operations for the three months ended March 31, 2018 and April 1, 2017 give effect to the acquisition of Triumph Learning as if it had occurred at the beginning of the periods presented.

Anticipated synergies from the combined operations have not been incorporated into the pro forma results as synergies are preliminary. Net income does reflect the incremental interest expense which would have been incurred if the acquisition had been completed at the beginning of the periods presented.

 

13


SCHOOL SPECIALTY, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(In thousands, except per share amounts)

 

PRO FORMA CONDENSED COMBINED STATEMENTS OF OPERATIONS (UNAUDITED)

(In Thousands, Except Per Share Amounts)

 

     For the Three Months Ended  
     March 31, 2018      April 1, 2017  

Revenues

   $ 99,287      $ 104,668  

Net loss

     (18,678      (16,784

Weighted average shares outstanding:

     

Basic EPS

     7,000        7,000  

Diluted EPS

     7,000        7,000  

Net income per Share:

     

Basic

   $ (2.67    $ (2.40

Diluted

   $ (2.67    $ (2.40

NOTE 6 – INCOME TAXES

The Company files income tax returns with the U.S., various U.S. states, and foreign jurisdictions. The most significant tax return the Company files is with the U.S. The Company’s tax returns are no longer subject to examination by the U.S. for fiscal years before 2015. The Company has various state tax audits and appeals in process at any given time. It is not anticipated that any adjustments resulting from tax examinations or appeals would result in a material change to the Company’s financial position or results of operations.

The Company has net operating loss (“NOL”) carryforwards of $3.4 million for federal and $3.4 million for state. The federal NOL begins to expire in 2037. In December 2017, the Tax Act was enacted into law, significantly changing income tax law that affects U.S. corporations. Key changes included a corporate tax rate reduction from 35 percent to 21 percent effective January 1, 2018, expensing of certain qualified property, significant changes to the U.S international tax system such as a one-time transition tax on accumulated foreign earnings, and how foreign earnings are subject to U.S. tax. Due to the timing of the Tax Act and additional guidance and interpretations that may be issued in the future, the Company has not completed its analysis of the effects of the Tax Act as it relates to the one-time transition tax on accumulated foreign earnings. The Company has estimated the impact of the one-time transition tax to be between zero and $1,000. For the period ended December 30, 2017, the Company recorded a tax benefit of $704 associated with the re-measurement of deferred taxes for the corporate rate reduction and a provisional tax provision of zero for the one-time transition tax. The provisional estimates will be adjusted during the measurement period of twelve months from the initial date of the Tax Act, defined under SAB 118, based upon the Company’s ongoing analysis of its data and tax positions along with new guidance from regulators and interpretations of the law.

The Company has determined that an ownership change occurred in fiscal 2013 that is subject to IRC Section 382. Due to the limitations imposed under Section 382, certain federal and state deferred tax attributes, such as foreign tax credits, may be significantly reduced over the next five years.

In the fourth quarter of fiscal 2017, the Company decreased its valuation allowance by $1.7 million. Based on the Company’s trend of positive earnings before tax plus projections of the future earnings before tax we believe it is more likely than not that we will realize the tax benefit associated with $1.7 million of net deferred tax assets. As of December 30, 2017, the Company continued to maintain a valuation allowance of $7.3 million against its foreign tax credits and capital loss carryovers based on projections that reflect minimal to zero foreign source income and capital gains. The Company previously had concluded that the realization of substantially all its deferred tax assets did not meet the more likely than not threshold and recorded a tax valuation allowance due to the lack of taxable income. As of March 31, 2018, the Company had an immaterial amount of unremitted earnings from foreign investments.

 

14


SCHOOL SPECIALTY, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(In thousands, except per share amounts)

 

The balance of the Company’s liability for unrecognized income tax benefits, net of federal tax benefits, at March 31, 2018, December 30, 2017, and April 1, 2017, was $785, $172, and $167, respectively, all of which would have an impact on the effective tax rate if recognized. The Company does not expect any material changes in the amount of unrecognized tax benefits within the next twelve months. The Company classifies accrued interest and penalties related to unrecognized tax benefits as income tax expense in its consolidated statements of operations. The amounts of accrued interest and penalties included in the liability for uncertain tax positions are not material.

NOTE 7 – STOCKHOLDERS’ EQUITY

Changes in condensed consolidated stockholders’ equity during the three months ended March 31, 2018 and April 1, 2017, were as follows:

 

(in thousands)

   Common
Stock
     Capital in
Excess of Par
Value
     Retained Earnings
(Accumulated
Deficit)
    Accumulated
Other
Comprehensive
Income (Loss)
    Total
Stockholders’
Equity
 

Balance, December 30, 2017

   $ 7      $ 123,083      $ (14,174   $ (1,425   $ 107,491  

Cumulative effect of change in accounting principle (1)

     —          —          (2,722     —         (2,722

Net loss

     —          —          (18,678     —         (18,678

Share-based compensation expense

     —          572        —         —         572  

Foreign currency translation adjustment

     —          —          —         (236     (236
  

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

Balance, March 31, 2018

   $ 7      $ 123,655      $ (35,574   $ (1,661   $ 86,427  
  

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

Balance, December 31, 2016

   $ 7      $ 120,849      $ (20,953   $ (1,784   $ 98,119  

Net loss

     —          —          (16,775     —         (16,775

Share-based compensation expense

     —          580        —         —         580  

Foreign currency translation adjustment

     —          —          —         45       45  
  

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

Balance, April 1, 2017

   $ 7      $ 121,429      $ (37,728   $ (1,739   $ 81,969  
  

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

 

(1) See Note 4, “Change in Accounting Principle,” of the notes of condensed consolidated financial statements for further discussion

NOTE 8 – EARNINGS PER SHARE

Earnings Per Share

The following information presents the Company’s computations of basic earnings per share (“basic EPS”) and diluted earnings per share (“diluted EPS”) for the periods presented in the condensed consolidated statements of operations:

 

15


SCHOOL SPECIALTY, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(In thousands, except per share amounts)

 

     Income (loss)
(Numerator)
     Weighted
Average
Shares
(Denominator)
     Per Share
Amount
 

Three months ended March 31, 2018:

        

Basic EPS

   $ (18,678      7,000      $ (2.67
        

 

 

 

Effect of dilutive stock options

     —          —       
  

 

 

    

 

 

    

Basic and diluted EPS

   $ (18,678      7,000      $ (2.67
  

 

 

    

 

 

    

 

 

 

Three months ended April 1, 2017:

        

Basic EPS

   $ (16,775      7,000      $ (2.40
        

 

 

 

Effect of dilutive stock options

     —          —       
  

 

 

    

 

 

    

Basic and diluted EPS

   $ (16,775      7,000      $ (2.40
  

 

 

    

 

 

    

 

 

 

The Company had weighted average stock options outstanding of 721 and 707 for the three months ended March 31, 2018 and April 1, 2017, respectively, which were not included in the computation of diluted EPS because they were anti-dilutive. The Company had restricted stock units outstanding of 196 for the three month periods ended March 31, 2018 and April 1, 2017 and were not included in the computation of diluted EPS because they were anti-dilutive due to the net loss in the quarter.

On August 15, 2017, the Company’s stockholders approved an increase in the number of authorized shares of School Specialty common stock from 2,000 shares to 50,000 shares, for the purpose of, among other things, effecting a seven-for-one stock split of School Specialty’s shares. The stock split became effective on August 23, 2017, and the number of outstanding shares of School Specialty stock increased from 1,000 to 7,000. All previously stated values have been restated to adjust for this seven-for-one stock split.

NOTE 9 – SHARE-BASED COMPENSATION EXPENSE

As of March 31, 2018, the Company had one share-based employee compensation plan: the School Specialty, Inc. 2014 Incentive Plan (the “2014 Plan”). The 2014 Plan was adopted by the Board of Directors on April 24, 2014 and approved on September 4, 2014 by the Company’s stockholders. The Company’s proxy filing for 2018 includes a stockholder proposal to increase the number of shares available to be granted under the 2014 Plan.

The Company made 231 stock option awards during the three month period ended April 1, 2017 to members of management including its CEO. The options awarded to the Company’s CEO will vest as to one-fourth of the options on the first four anniversaries of the date of the award. The options that were awarded to the other members of management will vest as to one-half of the options on the second anniversary of the date of the award and as to one-fourth of the options on each of the third and fourth anniversaries of the award date. The Company did not grant stock option awards during the three month period ended March 31, 2018.

The fair-value of the options granted in the three month period ended April 1, 2017 was $10.08 per share. The fair value of the options is estimated on the measurement date using the Black-Scholes single option pricing model. The assumptions included a risk-free rate of 2.06%, expected volatility of 59% and an expected term of 6.3 years.

 

16


SCHOOL SPECIALTY, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(In thousands, except per share amounts)

 

A summary of option transactions for the three months ended March 31, 2018 and April 1, 2017 were as follows:

 

     Options Outstanding      Options Exercisable  
     Options      Weighted-
Average
Exercise
Price
     Options      Weighted-
Average
Exercise
Price
 

Balance at December 30, 2017

     721      $ 18.57        350      $ 18.57  

Granted

     —          —          

Exercised

     —          —          

Canceled

     —          —          
  

 

 

          

Balance at March 31, 2018

     721      $ 18.57        363      $ 18.57  
  

 

 

          

Balance at December 31, 2016

     490      $ 18.57        224      $ 18.57  

Granted

     231        18.57        

Exercised

     —          —          

Canceled

     (14      18.57        
  

 

 

          

Balance at April 1, 2017

     707      $ 18.57        245      $ 18.57  
  

 

 

          

The weighted average life remaining of the stock options outstanding as of March 31, 2018 was 7.2 years and as of April 1, 2017 was 8.2 years.

On May 28, 2014, the Board granted 39 stock appreciation rights (“SARs”) to each of the non-employee members of the Board under the 2014 Plan. On July 31, 2015, the Board granted 39 stock appreciation rights to each of the two new non-employee members of the Board. On January 17, 2018, the Board granted 39 stock appreciation rights to its new non-employee member of the Board. Each SAR has a grant date value of $18.57 and will be settled in cash upon exercise. As such, the SARs are accounted for as liability awards. Since the Company’s stock trading price was less than each SAR’s exercise price as of March 31, 2018, no expense or liability was recorded for the SARs. The SARs vested as to one-half of the SARs on the second anniversary of the date of grant and will vest as to one-fourth of the SARs on each of the third and fourth anniversaries of the date of grant. Total SARs that remain outstanding as of March 31, 2018 are 193.

On March 23, 2016, the Compensation Committee of the Board of Directors of the Company granted an aggregate of 196 Restricted Stock Units (“RSUs”) under the Company’s 2014 Plan to members of the Company’s senior management. The RSUs are performance-based. A certain percentage of the RSUs will vest on the third anniversary of the date of grant, with such percentage based on the 15 day Volume Weighted Average Price (“VWAP”) of the Company’s common stock prior to the vesting date. The percentage of RSUs that will vest shall be determined as follows:

 

Vesting%

  

15 Day VWAP

0%    VWAP less than $15.43
20%    VWAP greater than or equal to $15.43, but less than $16.86
40%    VWAP greater than or equal to $16.86, but less than $18.29
60%    VWAP greater than or equal to $18.29, but less than $19.71
80%    VWAP greater than or equal to $19.71, but less than $21.14
100%    VWAP greater than or equal to $21.14

Any RSUs that vest will be settled in shares of Company common stock. Due to the nature of the vesting conditions of the RSUs, a valuation methodology needed to incorporate potential equity value paths for the Company. As such, the fair value of the RSU grants was determined under a Monte Carlo approach with a simulation of the Company’s stock price to a date that is 15 trading days prior to the vesting date. A large number of trials were run under the Monte Carlo approach to ensure an adequate sampling of different potential scenarios was achieved. Based on this approach, the fair value of the RSUs granted on March 23, 2016 was $11.55 per share.

 

17


SCHOOL SPECIALTY, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(In thousands, except per share amounts)

 

The following table presents the share-based compensation expense recognized for the three month periods ended March 31, 2018 and April 1, 2017:

 

     For the Three Months Ended  
     March 31, 2018      April 1, 2017  
     Gross      Net of Tax      Gross      Net of Tax  

Stock Options

   $ 383      $ 287      $ 382      $ 233  

SARs

     —          —          —          —    

RSUs

     189        142        198        121  
  

 

 

       

 

 

    

Total stock-based compensation expense

   $ 572         $ 580     
  

 

 

       

 

 

    

The stock-based compensation expense is reflected in selling, general and administrative (“SG&A”) expenses in the accompanying consolidated statements of operations. The Company records actual forfeitures in the period the forfeiture occurs.

The total unrecognized share-based compensation expense as of March 31, 2018 and April 1, 2017 was as follows:

 

     March 31, 2018      April 1, 2017  

Stock Options, net of actual forfeitures

   $ 2,039      $ 3,645  

RSUs

     739        1,562  

NOTE 10 – GOODWILL AND OTHER INTANGIBLE ASSETS

The following tables present details of the Company’s intangible assets, including the estimated useful lives, excluding goodwill:

 

18


SCHOOL SPECIALTY, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(In thousands, except per share amounts)

 

March 31, 2018

   Gross Value      Accumulated
Amortization
     Net Book
Value
 

Amortizable intangible assets:

        

Customer relationships (10-13 years)

   $ 13,294      $ (4,334    $ 8,960  

Publishing rights (20 years)

     4,000        (967      3,033  

Trademarks (20 years)

     26,587        (5,615      20,972  

Developed technology (7 years)

     6,600        (4,557      2,043  

Content (5 years)

     4,400        (4,400      —    

Perpetual license agreements (5 years)

     1,200        (1,160      40  

Favorable leasehold interests (10 years)

     2,160        (1,044      1,116  
  

 

 

    

 

 

    

 

 

 

Total intangible assets

   $ 58,241      $ (22,077    $ 36,164  
  

 

 

    

 

 

    

 

 

 

December 30, 2017

   Gross Value      Accumulated
Amortization
     Net Book
Value
 

Amortizable intangible assets:

        

Customer relationships (10-13 years)

   $ 13,294      $ (4,067    $ 9,227  

Publishing rights (20 years)

     4,000        (917      3,083  

Trademarks (20 years)

     26,587        (5,283      21,304  

Developed technology (7 years)

     6,600        (4,321      2,279  

Content (5 years)

     4,400        (4,400      —    

Perpetual license agreements (5 years)

     1,200        (990      210  

Favorable leasehold interests (10 years)

     2,160        (1,100      1,060  
  

 

 

    

 

 

    

 

 

 

Total intangible assets

   $ 58,241      $ (21,078    $ 37,163  
  

 

 

    

 

 

    

 

 

 

April 1, 2017

   Gross Value      Accumulated
Amortization
     Net Book
Value
 

Amortizable intangible assets:

        

Customer relationships (13 years)

   $ 11,300      $ (3,332    $ 7,968  

Publishing rights (20 years)

     4,000        (767      3,233  

Trademarks (20 years)

     22,700        (4,351      18,349  

Developed technology (7 years)

     6,600        (3,614      2,986  

Content (5 years)

     4,400        (4,400      —    

Perpetual license agreements (5 years)

     1,200        (920      280  

Favorable leasehold interests (10 years)

     2,160        (828      1,332  
  

 

 

    

 

 

    

 

 

 

Total intangible assets

   $ 52,360      $ (18,212    $ 34,148  
  

 

 

    

 

 

    

 

 

 

The gross values were determined by the valuation which was performed as part of the fresh start accounting. In addition to the intangible assets above, the Company recorded $26,842 of goodwill. This includes $5,253 of goodwill associated with the purchase price allocation associated with the Triumph Learning acquisition.

Intangible asset amortization expense for the three month periods ended March 31, 2018 and April 1, 2017, was $999 and $901, respectively.

Intangible asset amortization expense for each of the five succeeding fiscal years is expected to be as follows:

 

Fiscal 2018 (9 months remaining)

   $ 2,893  

Fiscal 2019

     3,757  

Fiscal 2020

     3,207  

Fiscal 2021

     2,814  

Fiscal 2022

     2,814  

Fiscal 2023

     2,688  

 

19


SCHOOL SPECIALTY, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(In thousands, except per share amounts)

 

The table below shows the allocation of the recorded goodwill as of March 31, 2018 for both the reporting units and reporting segments.

 

     Distribution
Segment
     Curriculum
Segment
     Total  

Goodwill

   $ 22,262      $ 4,580      $ 26,842  
  

 

 

    

 

 

    

 

 

 

Balance at March 31, 2018

   $ 22,262      $ 4,580      $ 26,842  
  

 

 

    

 

 

    

 

 

 

NOTE 11 – PROPERTY, PLANT AND EQUIPMENT

Property, plant and equipment consist of the following:

 

     March 31,
2018
     December 30,
2017
     April 1,
2017
 

Projects in progress

   $ 6,347      $ 5,186      $ 7,831  

Buildings and leasehold improvements

     2,989        3,048        3,297  

Furniture, fixtures and other

     61,799        60,046        48,274  

Machinery and warehouse equipment

     13,813        13,813        13,317  
  

 

 

    

 

 

    

 

 

 

Total property, plant and equipment

     84,948        82,093        72,719  

Less: Accumulated depreciation

     (52,483      (48,514      (43,221
  

 

 

    

 

 

    

 

 

 

Net property, plant and equipment

   $ 32,465      $ 33,579      $ 29,498  
  

 

 

    

 

 

    

 

 

 

Depreciation expense for the three month periods ended March 31, 2018 and April 1, 2017 was $4,459 and $2,425, respectively.

NOTE 12 – DEBT

Long-term debt consisted of the following:

 

     March 31,
2018
     December 30,
2017
     April 1,
2017
 

ABL Facility, maturing in 2022

   $ 27,300      $ —        $ 8,753  

New Term Loan, maturing in 2022

     113,274        121,938        —    

Term Loan

     —          —          117,391  

Term Loan Original Issue Discount

     —          —          (1,251

Unamortized New Term Loan Debt Issuance Costs

     (3,040      (3,205      —    

Unamortized Term Loan Debt Issuance Costs

     —          —          (3,047

Deferred Cash Payment Obligations, maturing in 2019

     23,355        22,830        20,367  
  

 

 

    

 

 

    

 

 

 

Total debt

     160,889        141,563        142,213  

Less: Current maturities

     (30,400      (10,989      (8,753
  

 

 

    

 

 

    

 

 

 

Total long-term debt

   $ 130,489      $ 130,574      $ 133,460  
  

 

 

    

 

 

    

 

 

 

ABL Facility

On June 11, 2013, the Company entered into a Loan Agreement (the “ABL Facility”) by and among the Company, Bank of America, N.A., as Agent, SunTrust Bank, as Syndication Agent, Merrill Lynch, Pierce, Fenner & Smith Incorporated and SunTrust Robinson Humphrey, Inc., as Joint Lead Arrangers and Bookrunners, and the Lenders that are party to the Asset-Based Credit Agreement (the “Asset-Based Lenders”).

 

20


SCHOOL SPECIALTY, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(In thousands, except per share amounts)

 

Under the ABL Facility, the Asset-Based Lenders agreed to provide a revolving senior secured asset-based credit facility in an aggregate principal amount of $175,000. On August 7, 2015, the aggregate commitments were permanently reduced, at the election of the Company, by $50,000, from $175,000 to $125,000.

Outstanding amounts under the ABL Facility bear interest at a rate per annum equal to, at the Company’s election: (1) a base rate (equal to the greatest of (a) the prime lending rate, (b) the federal funds rate plus 0.50%, and (c) the 30-day LIBOR rate plus 1.00% per annum) (the “Base Rate”) plus an applicable margin (equal to a specified margin based on the interest rate elected by the Company, the fixed charge coverage ratio under the ABL Facility and the applicable point in the life of the ABL Facility (the “Applicable Margin”)), or (2) a LIBOR rate plus the Applicable Margin (the “LIBOR Rate”). Interest on loans under the ABL Facility bearing interest based upon the Base Rate will be due monthly in arrears, and interest on loans bearing interest based upon the LIBOR Rate will be due on the last day of each relevant interest period or, if sooner, on the respective dates that fall every three months after the beginning of such interest period.

In November 2014, the Company amended the ABL Facility. The main purpose for the amendment was to provide the Company additional flexibility in its execution of certain restructuring actions by increasing the cap on the amount that may be added back under the definition of earnings before interest, taxes, depreciation, and amortization (“EBITDA”) for non-recurring, unusual or extraordinary charges, business optimization expenses or other restructuring charges or reserves and cash expenses relating to earn outs or similar obligations.

In September 2015, the Company amended the ABL Facility. The main purposes for the amendment were to reduce the Applicable Margin for base rate and LIBOR loans, reduce the unused line fee rate and extend the scheduled maturity date. As amended, the maturity date was extended to September 16, 2020, which would have automatically become March 12, 2019 unless the Company’s term loan facility had been repaid, refinanced, redeemed, exchanged or amended prior to such date, in the case of any refinancing or amendment, to a date that was at least 90 days after the scheduled maturity date. In addition, the amendment provided for the withdrawal of Sun Trust Bank as a lender and the assumption of its commitments by the remaining lenders.

On April 7, 2017, the Company executed the Third Amendment to its ABL Facility (the “ABL Amendment”). The ABL Amendment provided a new lower pricing tier of LIBOR plus 125 basis points, a seasonal increase in the borrowing base of 5.0% of eligible accounts receivable for the months of March through August, and the inclusion of certain inventory in the borrowing base, which previously had been excluded. Additionally, certain conforming changes were made in connection with the entry into the New Term Loan Agreement (as defined below). The ABL Amendment extends the maturity of the ABL Facility, as amended, to April 7, 2022 (“ABL Termination Date”), provided that the ABL Termination Date will automatically become due February 7, 2022 unless the New Term Loan (as defined below) has been repaid, prepaid, refinanced, redeemed, exchanged, amended or otherwise defeased or discharged prior to such date.

Pursuant to an Amended and Restated Guarantee and Collateral Agreement dated as of April 7, 2017 (the “ABL Security Agreement”), the Loan Agreement is secured by a first priority security interest in substantially all assets of the Company and the subsidiary borrowers. Under the New Intercreditor Agreement (as defined below), the ABL Lenders have a first priority security interest in substantially all working capital assets of the Company and the subsidiary borrowers, and a second priority security interest in all other assets, subordinate only to the first priority security interest of the New Term Loan Lenders (as defined below) in such other assets.

The effective interest rate under the ABL Facility for the three months ended March 31, 2018 was 12.74%, which includes interest on borrowings of $83, amortization of loan origination fees of $104 and commitment fees on unborrowed funds of $109. The effective interest rate under the ABL Facility for the three months ended April 1, 2017 was 112.85%, which includes interest on borrowings of $13, amortization of loan origination fees of $195 and commitment fees on unborrowed funds of $116. The rate for the first quarter is typically more heavily influenced by the commitment fees and debt fee amortization due to the seasonally low outstanding balance on the ABL Facility in the first quarter.

 

21


SCHOOL SPECIALTY, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(In thousands, except per share amounts)

 

As of March 31, 2018, the outstanding balance on the ABL Facility was $27,300. As of April 1, 2017, the outstanding balance on the ABL Facility was $8,753. The Company has estimated that the fair value of its ABL Facility (valued under level 3) as of March 31, 2018 approximated the carrying value of $27,300.

The Company may prepay advances under the ABL Facility in whole or in part at any time without penalty or premium. The Company will be required to make specified prepayments upon the occurrence of certain events, including: (1) the amount outstanding on the ABL Facility exceeding the Borrowing Base (as determined in accordance with the terms of the ABL Facility), and (2) the Company’s receipt of net cash proceeds of any sale or disposition of assets that are first priority collateral for the ABL Facility.

The Asset-Based Credit Agreement contains customary events of default and financial, affirmative and negative covenants, including but not limited to a springing financial covenant relating to the Company’s fixed charge coverage ratio and restrictions on indebtedness, liens, investments, asset dispositions and dividends and other restricted payments.

Term Loan

On June 11, 2013, the Company entered into a Credit Agreement (the “Term Loan Credit Agreement”) among the Company, Credit Suisse AG, as Administrative Agent and Collateral Agent, and the Lenders defined in the Term Loan Credit Agreement (the “Term Loan Lenders”). In November 2014, the Company amended the Term Loan Credit Agreement. The main purpose for the amendment was to provide the Company additional flexibility in its execution of certain restructuring actions by increasing the cap on the amount that may be added back under the definition of consolidated EBITDA for non-recurring, unusual or extraordinary charges, business optimization expenses or other restructuring charges or reserves and cash expenses relating to earn outs or similar obligations.

Under the Term Loan Credit Agreement, the Term Loan Lenders agreed to make a term loan (the “Term Loan”) to the Company in aggregate principal amount of $145,000, including an original issue discount of $2,900. The outstanding principal amount of the Term Loan bore interest at a rate per annum equal to the applicable LIBOR rate (with a 1% floor) plus 8.50%, or the base rate plus a margin of 7.50%. Interest on loans under the Term Loan Credit Agreement bearing interest based upon the base rate were due quarterly in arrears, and interest on loans bearing interest based upon the LIBOR Rate were due on the last day of each relevant interest period or, if sooner, on the respective dates that fall every three months after the beginning of such interest period.

The remaining principal amount of the Term Loan, plus accrued interest, was repaid in full on April 7, 2017, and the Term Loan Credit Agreement was terminated on April 7, 2017.

The Term Loan Credit Agreement contained customary events of default and financial, affirmative and negative covenants, including but not limited to quarterly financial covenants, relating to the Company’s (1) minimum interest coverage ratio and (2) maximum net total leverage ratio and restrictions on indebtedness, liens, investments, asset dispositions and dividends and other restricted payments. The Company was in compliance with the financial covenants of the loan during the period of time in which the loan was outstanding during fiscal 2017.

The Term Loan required the Company to enter into an interest rate hedge, within 90 days of its effective date, in an amount equal to at least 50% of the aggregate principal amount outstanding under the Term Loan. The purpose of the interest rate hedge was to effectively subject a portion of the Term Loan to a fixed or maximum interest rate. As such, the Company entered into an interest rate swap agreement on August 27, 2013 that effectively fixed the interest payments on a portion of the Company’s variable-rate debt. The swap, which terminated on September 11, 2016, effectively fixed the LIBOR-based interest rate on the debt in the amount of the notional amount of the swap at 9.985%. The Company did not enter into a subsequent interest rate swap after the termination of the above-mentioned interest rate swap.

 

22


SCHOOL SPECIALTY, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(In thousands, except per share amounts)

 

Under this swap agreement, the Company paid the counterparty interest on the notional amount at a fixed rate per annum of 1.485% and the counterparty paid the Company interest on the notional amount at a variable rate per annum equal to the greater of 1-month LIBOR or 1.0%. The notional amounts did not represent amounts exchanged by the parties, and thus were not a measure of exposure of the Company.

The effective interest rate under the term loan credit facility for the three months ended April 1, 2017 was 10.95%, which includes interest on borrowings of $2,916, amortization of loan origination fees of $316 and original issue discount amortization of $128. As of April 1, 2017, the outstanding balance on the Term Loan Credit Agreement was $116,140, net of the unamortized original issue discount.

New Term Loan

On April 7, 2017, the Company entered into a Loan Agreement (the “New Term Loan Agreement”) among the Company, as borrower, certain of its subsidiaries, as guarantors, the financial parties party thereto, as lenders (the “New Term Loan Lenders”) and TCW Asset Management Company LLC, as the agent.

Under the New Term Loan Agreement, the Term Loan Lenders agreed to make a term loan (the “New Term Loan”) to the Company in aggregate principal amount of $140,000. The initial draw on the New Term Loan at closing was $110,000. These proceeds, along with proceeds received from a draw on the ABL Facility (as defined below), were used to repay the Term Loan which had a remaining principal balance including accrued interest of $118,167. The New Term Loan Agreement provides for a delayed draw feature that allows the Company to draw up to an additional $30,000 through April 7, 2019. The ability to access the delayed draw commitment is subject to compliance with certain terms and conditions. The proceeds from the delayed draw can be used to fund distributions, permitted acquisitions, and repayments of existing indebtedness. In the third quarter of fiscal 2017, the Company drew $14,000 under the delayed draw term loan feature in conjunction with the Triumph Learning acquisition. At the Company’s option, the New Term Loan interest rate will be either the prime rate or the LIBOR rate (with a LIBOR floor of 1.0%), plus an applicable margin based on the Company’s net senior leverage ratio. The Company may specify the interest rate period of one, three or six months for interest on loans under the New Term Loan Agreement bearing interest based on the LIBOR rate.

The New Term Loan matures on April 7, 2022. The New Term Loan requires scheduled quarterly principal payments of 0.625% of the original principal amount which commenced June 30, 2017 and continue through the quarter ended March 31, 2019. Subsequent to March 31, 2019, the scheduled quarterly principal payments are 1.250% of the original principal amount. Required scheduled quarterly principal payments on borrowings under the delayed-draw feature begin in the quarter following a draw on this feature. In addition to scheduled quarterly principal repayments, the New Term Loan Agreement requires prepayments at specified levels upon the Company’s receipt of net proceeds from certain events, including but not limited to certain asset dispositions, extraordinary receipts, and the issuance or sale of any indebtedness or equity interests (other than permitted issuances or sales). The New Term Loan Agreement also requires prepayments at specified levels from the Company’s excess cash flow. In the first quarter of fiscal 2018, the Company made a $7,801 repayment of principal based on fiscal 2017 excess cash flow. The Company is also permitted to voluntarily prepay the New Term Loan in whole or in part. Voluntary prepayments made before April 7, 2018 will be subject to an early prepayment fee of 2.0%, while any voluntary prepayment made on or after April 7, 2018, but before April 7, 2019, will be subject to a 1.0% early prepayment fee. Voluntary prepayments made on or after April 7, 2019 will not be subject to an early payment fee. All prepayments of the loans will be applied first to that portion of the loans comprised of prime rate loans and then to that portion of loans comprised of LIBOR rate loans. The New Term Loan Agreement contains customary events of default and financial, affirmative and negative covenants, including but not limited to quarterly financial covenants commencing with the fiscal quarter ending September 30, 2017 relating to the Company’s fixed charge coverage ratio and net senior leverage ratio, and an annual limitation on capital expenditures and product development investments, collectively. The Company was in compliance with all such financial covenants during the first quarter of fiscal 2018.

 

23


SCHOOL SPECIALTY, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(In thousands, except per share amounts)

 

Pursuant to a Guarantee and Collateral Agreement dated as of April 7, 2017 (the “New Term Loan Security Agreement”), the New Term Loan is secured by a first priority security interest in substantially all assets of the Company and the subsidiary guarantors. Under an intercreditor agreement (the “New Intercreditor Agreement”) between the New Term Loan Lenders and the ABL Lenders, the New Term Loan Lenders have a second priority security interest in substantially all working capital assets of the Company and the subsidiary guarantors, subordinate only to the first priority security interest of the ABL Lenders in such assets, and a first priority security interest in all other assets.

The effective interest rate under the New Term Loan for the three months ended March 31, 2018 was 8.56%, which includes interest on borrowings of $2,430 and amortization of loan origination fees of $177. As of March 31, 2018, the outstanding balance on the New Term Loan Credit Agreement was $113,274. Of this amount, $3,100 was reflected as currently maturing, long-term debt in the accompanying condensed consolidated balance sheets.

The Company has estimated that the fair value of its New Term Loan (valued under Level 3) as of March 31, 2018 approximated the carrying value of $113,274.

Deferred Cash Payment Obligations

In connection with the previously disclosed 2013 Reorganization Plan, general unsecured creditors are entitled to receive a deferred cash payment obligation of 20% of the allowed claim in full settlement of the allowed unsecured claims. Such payment accrues quarterly paid-in-kind interest of 5% per annum beginning on June 11, 2013 (the “Effective Date”). Trade unsecured creditors had the ability to make a trade election to provide agreed upon customary trade terms. If the election was made, those unsecured trade creditors received a deferred cash payment obligation of 45% of the allowed claim in full settlement of those claims. As of the Effective Date, the deferred payment obligations under the trade elections began to accrue quarterly paid-in-kind interest of 10% per annum. All deferred cash payment obligations, along with interest paid-in-kind, are payable in December 2019.

The Company’s reconciliation of general unsecured claims was completed in fiscal 2015. As of March 31, 2018, the Company’s deferred payment obligations were $23,355, of which $3,083 represents a 20% recovery for the general unsecured creditors and $12,095 represents a 45% recovery for those creditors who elected to provide the Company standard trade terms with the remaining $8,177 related to accrued paid-in-kind interest.

The Company has estimated that the fair value of its Deferred Cash Payment Obligations (valued under Level 3) approximates $23,301, as of March 31, 2018. The Company estimated the fair value for its Deferred Cash Payment Obligations based upon the net present value of future cash flows using the discount rate that is consistent with our New Term Loan.

NOTE 13 – CHANGES IN ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)

Changes in accumulated other comprehensive loss during the three months ended March 31, 2018 and April 1, 2017 were as follows:

 

     Foreign
Currency
Translation
 

Accumulated Other Comprehensive Income (Loss) at December 30, 2017.

   $ (1,425

Other comprehensive income before reclassifications

     (236

Amounts reclassified from other comprehensive income

     —    
  

 

 

 

Accumulated Other Comprehensive Income (Loss) at March 31, 2018

   $ (1,661
  

 

 

 
     Foreign
Currency
Translation
 

Accumulated Other Comprehensive Income (Loss) at December 31, 2016

   $ (1,784

Other comprehensive income before reclassifications

     45  

Amounts reclassified from other comprehensive income

     —    
  

 

 

 

Accumulated Other Comprehensive Income (Loss) at April 1, 2017

   $ (1,739
  

 

 

 

 

24


SCHOOL SPECIALTY, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(In thousands, except per share amounts)

 

NOTE 14 – RESTRUCTURING

In the three months ended March 31, 2018 and April 1, 2017, the Company recorded restructuring costs associated with severance related to headcount reductions. The following is a reconciliation of accrued restructuring costs for these periods and are included in facility exit costs and restructuring in the Condensed Consolidated Statements of Operations.

 

     Distribution      Curriculum      Corporate      Total  

Accrued Restructuring Costs at December 30, 2017

   $ —        $ —        $ 50      $ 50  

Amounts charged to expense

     —          —          311        311  

Payments

     —          —          (189      (189
  

 

 

    

 

 

    

 

 

    

 

 

 

Accrued Restructuring Costs at March 31, 2018

   $ —        $ —        $ 172      $ 172  
  

 

 

    

 

 

    

 

 

    

 

 

 
     Distribution      Curriculum      Corporate      Total  

Accrued Restructuring Costs at December 31, 2016

   $ —        $ —        $ 561      $ 561  

Amounts charged to expense

     —          —          173        173  

Payments

     —          —          (574      (574
  

 

 

    

 

 

    

 

 

    

 

 

 

Accrued Restructuring Costs at April 1, 2017

   $ —        $ —        $ 160      $ 160  
  

 

 

    

 

 

    

 

 

    

 

 

 

NOTE 15 – SEGMENT INFORMATION

The Company determines its operating segments based on the information utilized by the chief operating decision maker, the Company’s Chief Executive Officer, to allocate resources and assess performance. Based on this information, the Company has determined that it operates in two operating segments, Distribution and Curriculum, which also constitute its reportable segments. The Company operates principally in the United States, with limited operations in Canada.

Beginning in the second quarter of fiscal 2017, the Company revised its internal management reporting structure whereby: a) a new Instruction & Intervention product line included in the Distribution segment was formed consisting of its Reading product lines, formerly managed as a separate product line and the supplemental education products, which were previously included within the former Instructional Solutions product line; b) the early learning and special needs products from the former Instructional Solutions product line are reported within the Supplies product line; and, c) the science supplies, previously included in the Science product line, within the Curriculum operating segment, were combined within the Supplies product line within the Distribution operating segment. The Company has revised its go-to-market strategy and management structure resulting in the alignment of the reading and science supply products to be consistent with other distributed items within the Distribution operating segment. This change also is consistent with the Company’s internal realignment of the new team sell model established in 2017 whereby every customer, district and territory will have a Distribution team supporting their business. The Distribution sales team focuses on selling all Distribution segment products, including the reading and science supplies items. The Distribution segment offers products primarily to the pre-kindergarten through twelfth grade (“preK-12”) education market that include basic classroom supplies and office products, instructional materials, indoor and outdoor furniture and equipment, physical education equipment, classroom technology, and planning and organizational products.

The Curriculum segment is a publisher of proprietary core curriculum, primarily FOSS and Delta Science Module products, in the science category within the preK-12 education market. The Curriculum segment has a sales team which is unique from the Distribution sales team and focuses exclusively on the products within this segment. In addition, these products have specific product development requirements, and customer purchasing decisions are made in a different manner than the products represented in our Distribution segment. The accounting policies of the segments are the same as those described in Summary of Significant Accounting Policies as included in the Company’s Report on Form 10-K for the fiscal year ended December 30, 2017.

 

25


SCHOOL SPECIALTY, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(In thousands, except per share amounts)

 

The Company measures profitability of its operating segments at a gross profit level. Since the majority of SG&A costs are managed centrally and allocation methodologies of these costs to the operating segments is arbitrary, the Company’s chief operating decision maker does not review segment profitability using operating profit, only gross profit. Accordingly, the segment information reports gross profit at the segment level.

 

    Three Months Ended
March 31, 2018
    Three Months Ended
April 1, 2017
 

Revenues:

   

Distribution

  $ 94,621     $ 91,934  

Curriculum

    4,666       5,176  
 

 

 

   

 

 

 

Total

  $ 99,287     $ 97,110  
 

 

 

   

 

 

 

Gross Profit:

   

Distribution

  $ 33,942     $ 32,428  

Curriculum

    2,179       2,096  
 

 

 

   

 

 

 

Total

  $ 36,121     $ 34,524  
 

 

 

   

 

 

 

Operating (loss) income and loss before taxes:

   

Operating (loss) income

    (21,328     (13,117

Interest expense and reorganization items, net

    3,506       4,050  
 

 

 

   

 

 

 

Loss before benefit from income taxes

  $ (24,834   $ (17,167
 

 

 

   

 

 

 

 

     March 31,
2018
     December 30,
2017
     April 1, 2017  

Identifiable assets:

        

Distribution

   $ 238,470      $ 230,449      $ 226,388  

Curriculum

     46,690        48,894        46,662  

Corporate assets

     19,015        33,064        5,622  
  

 

 

    

 

 

    

 

 

 

Total

   $ 304,175      $ 312,407      $ 278,672  
  

 

 

    

 

 

    

 

 

 

 

     Three Months Ended      Three Months Ended  
     March 31, 2018      April 1, 2017  

Depreciation and amortization of intangible assets and development costs:

     

Distribution

   $ 5,973      $ 3,541  

Curriculum

     789        896  
  

 

 

    

 

 

 

Total

   $ 6,762      $ 4,437  
  

 

 

    

 

 

 

Expenditures for property, plant and equipment, intangible and other assets and development costs:

     

Distribution

   $ 3,696      $ 3,287  

Curriculum

     959        500  
  

 

 

    

 

 

 

Total

   $ 4,655      $ 3,787  
  

 

 

    

 

 

 

 

26


SCHOOL SPECIALTY, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(In thousands, except per share amounts)

 

The following table shows the Company’s revenues by each major product line within its two segments:

 

     For the Three Months Ended  
     March 31, 2018      April 1, 2017  

Distribution revenues by product line:

     

Supplies

   $ 53,432      $ 58,156  

Furniture

     23,952        22,596  

Instruction & Intervention

     12,520        6,183  

AV Tech

     4,277        4,784  

Agendas

     246        271  

Freight Revenue

     1,807        1,538  

Customer Allowances / Discounts

     (1,613      (1,594
  

 

 

    

 

 

 

Total Distribution Segment

   $ 94,621      $ 91,934  

Curriculum revenues by product line:

     

Science

   $ 4,666      $ 5,176  
  

 

 

    

 

 

 

Total Curriculum Segment

   $ 4,666      $ 5,176  
  

 

 

    

 

 

 

Total revenues

   $ 99,287      $ 97,110  
  

 

 

    

 

 

 

The above table is an enhanced disclosure to provide additional details related to our revenues by segment. Prior period amounts in this note have been reclassified in order to present segment and product line amounts consistent with the Company’s current reporting structure.

Revenues associated with the Triumph Learning acquisition are included within the Instruction & Intervention product line. The above table is consistent with disaggregated revenues in Note 4.

NOTE 16 – COMMITMENTS AND CONTINGENCIES

Various claims and proceedings arising in the normal course of business are pending against the Company. The results of these matters are not expected to have a material effect on the Company’s consolidated financial position, results of operations or cash flows.

 

27


ITEM 2. Management’s Discussion and Analysis of Financial Condition and Results of Operation

Quarterly Overview

School Specialty is a leading distributor of supplies, furniture, technology products, supplemental learning products (“instructional solutions”) and curriculum solutions, primarily to the education marketplace. The Company provides educators with innovative and proprietary products and services, from basic school supplies to 21st century classroom designs to Science, English and Language Arts (“ELA”), and Math core and supplemental instructional materials. Through its nationwide distribution network, School Specialty also provides its customers with access to a broad spectrum of trusted, third-party brands across its business segments. This assortment strategy enables the Company to offer a broad range of products primarily serving the preK-12 education market at the state, district and school levels. The Company is expanding its presence outside the education market into channels such as partnerships with e-tailers, retailers and healthcare facilities.

Our goal is to grow profitably as a leading provider of supplies, products, services and curriculum for the education market and select other markets. We have experienced three consecutive years of overall revenue growth. We expect to continue to achieve this goal over the long-term through an organic growth strategy based on leveraging our strong brand names and distribution capabilities and transforming the Company’s sales and marketing to a team-based selling approach focused on new customer acquisition, customer retention and penetration, and expanding into new markets or product areas. New revenue streams may include opportunities in areas that could expand our addressable market, such as distribution to non-education customers, expansion into new product lines, continued growth in our e-tail and retailer partnerships, and potentially, abroad in select international markets. In addition, the Company is committed to continuing to invest in product development in order to expand and improve its product offerings.

While remaining focused on lowering costs through consolidation and process improvement, the Company is equally focused on revenue growth and gross margin management. The Company believes the following initiatives will contribute to continued revenue growth, while effectively managing gross margin and operating costs:

 

    Successful execution of a new team sell model;

 

    Establish momentum in delivering the “21st Century Safe School” value proposition;

 

    Improve the effectiveness of pricing strategies and margin management;

 

    Development of effective strategies to manage margin in competitive bidding scenarios;

 

    Increase product line specific sales and support expertise; and

 

    Execute on key platform investments to both drive efficiency and improve customer experiences.

Our business and working capital needs are highly seasonal, as schools and teachers look to receive a material portion of the products they purchase in the weeks leading up to the start of the school year. As such, our peak sales levels occur from June through September. We expect to ship approximately 50% of our revenue and earn more than 100% of our annual net income from June through September of our fiscal year and operate at a net loss from October through May. In anticipation of the peak shipping season, our inventory levels increase during the months of April through June. Our working capital historically peaks in August or September mainly due to the higher levels of accounts receivable related to our peak revenue months. Historically, accounts receivable collections are most significant in the months of September through December as over 100% of our annual operating cash flow is generated in those months.

On August 18, 2017, the Company acquired of the assets of Triumph Learning. Triumph Learning is a publisher of state-specific test preparation, and supplemental and intervention curriculum products for the K-12 education market. For over 25 years, Triumph Learning’s flagship product, Coach, has been utilized throughout education, providing educational facilities and teachers with hands-on test preparation books for ELA, Math, Science and Social Studies, with materials customized to state-specific best practices, along with a comprehensive series of supplemental and intervention resources for Math, ELA and Science. Solutions are delivered through multiple platforms, including both print and digital, as well as through third-party platforms and applications.

 

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Triumph Learning’s products are complementary to School Specialty’s current offering and others that it intends to bring to market, as it expands its product offering in the Instruction & Intervention category. There are also significant synergies beyond product offering as the Company anticipates the acquisition will result in a broader and more effective selling organization and extended customer reach that will enable the Company to deliver a true blended learning solution to its customers.

Results of Operations

Costs of Revenues and Selling, General and Administrative Expenses

The following table illustrates the primary costs classified in Cost of Revenues and Selling, General and Administrative Expenses:

 

Cost of Revenues

  

Selling, General and Administrative Expenses

•  Direct costs of merchandise sold, net of vendor rebates other than the reimbursement of specific, incremental and identifiable costs, and net of early payment discounts.

 

•  Amortization of product development costs

 

•  Freight expenses associated with moving merchandise from our vendors to fulfillment centers or from our vendors directly to our customers.

  

•  Compensation and benefit costs for all selling (including commissions), marketing, customer care and fulfillment center operations (which include the pick, pack and shipping functions), and other general administrative functions such as finance, human resources and information technology.

 

•  Occupancy and operating costs for our fulfillment centers and office operations.

 

•  Freight expenses associated with moving our merchandise from our fulfillment centers to our customers

 

•  Catalog expenses, offset by vendor payments or reimbursement of specific, incremental and identifiable costs.

 

•  Depreciation and intangible asset amortization expense, other than amortization of product development costs.

The classification of these expenses varies across the distribution industry. As a result, the Company’s gross margin may not be comparable to other retailers or distributors.

Three Months Ended March 31, 2018 Compared to Three Months Ended April 1, 2017

Revenues

Revenue of $99.3 million for the three months ended March 31, 2018 increased by $2.2 million, or 2.3%, as compared to the three months ended April 1, 2017. The adoption of ASC 606 contributed $0.7 million of the incremental revenue, primarily within the Company’s Distribution segment.

Distribution segment revenues of $94.6 million for the three months ended March 31, 2018 increased by 2.9%, or $2.7 million, from the three months ended April 1, 2017. Revenues from the Triumph Learning products, acquired in the third quarter of fiscal 2017 and which are reported in our Instruction & Intervention product category, contributed $7.0 million of incremental revenues in the first quarter of fiscal 2018. After adjusting for the impact of revenues from our Triumph Learning products, Distribution segment revenues are down in the first quarter by $4.3 million. Management believes this is entirely due to order timing as order volumes have increased significant subsequent to quarter end. For example, revenues from the Supplies product category, our largest category, declined approximately $4.7 million in the quarter and booked orders were down year-over-year by over 7%; however, April orders are up nearly 25% year-over-year. On a year-to-date basis through April, Supplies category orders are now up approximately 1.3%. First quarter revenues in our second largest category, Furniture, were up 6.0%, or $1.4 million, compared to last year’s first quarter, and incoming orders have continued to strengthen in the second quarter. Finally, when the Instruction & Intervention category is adjusted to exclude the incremental revenue associated with the Triumph Learning products, the category was down 10.7%. However, Instruction & Intervention exited the first quarter with $0.3 million more open orders than prior year and has experienced strong order trends as it relates to core proprietary products, such as Wordly Wise and Spire, and the opportunity pipeline relating to these products is building.

Curriculum segment revenues of $4.7 million for the three months ended March 31, 2018 decreased by 9.9%, or $0.5 million, from the three months ended April 1, 2017. With limited state science adoption related opportunities in 2018, we expect modest declines in segment revenues in fiscal 2018 before resuming growth in 2019 as adoption related opportunities are expected to increase. Finally, the first quarter 2018 was anticipated to experience a modest decline due to the strength of the 2017 fiscal fourth quarter in which revenue exceeded prior year by $6.8 million, or 77.9%.

 

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Gross Profit

Gross profit for the three months ended March 31, 2018 was $36.1 million, as compared to $34.5 million for the three months ended April 1, 2017. Gross margin for the three months ended March 31, 2018 was 36.4%, as compared to 35.6% for the three months ended April 1, 2017. Increased revenues contributed $0.8 million of additional gross profit partially offset by higher product development amortization expense which decreased gross profit by $0.2 million.

Distribution segment gross margin was 35.9% for the three months ended March 31, 2018, as compared to 35.3% for the three months ended April 1, 2017. A shift in product mix, primarily related to the Triumph Learning products, contributed approximately 180 basis points of gross margin improvement in the first quarter of fiscal 2018. This increase was partially offset by higher product development amortization in the current year first quarter, which resulted in 40 basis points of lower gross margin. The remaining decrease in gross margin was related to the impact of certain pricing agreements which became effective after the first quarter of 2017 and changes to our pricing strategy. Based on market analysis, the pricing strategy improved the competitiveness of our published prices on many commodity items while increasing prices on many proprietary items. The Company continues to expect the net impact of the new pricing strategy to be minimal over the full year. We do anticipate margin pressure in the Supplies category in 2018 relating to certain strategic pricing agreements and contracts secured in 2017, specifically our multi-year New York City agreement among others. However, increased sales in the Instruction & Intervention category are generally expected to offset this margin pressure.

Curriculum segment gross margin was 46.7% for the three months ended March 31, 2018, as compared to 40.5% for the three months ended April 1, 2017. Lower product development amortization in the current year first quarter resulted in 370 basis points of the gross margin increase. The remaining difference in gross margin is related to favorable year-over-year changes in cost variances.

Selling, General and Administrative Expenses

SG&A includes: selling expenses, the most significant of which are wages and commissions; operations expenses, which includes customer service, warehouse and out-bound freight costs; catalog costs; general administrative overhead, which includes information systems, accounting, legal and human resources; and, depreciation and intangible asset amortization expense.

SG&A increased $9.6 million in the first quarter of fiscal 2018, from $47.5 million for the three months ended April 1, 2017 to $57.1 million for the three months ended March 31, 2018. The increase in SG&A is primarily related to the adoption of ASC 606, the Triumph Learning acquisition completed in August 2017, and incremental depreciation and amortization.

The adoption of ASC 606 resulted in a $4.2 million increase in catalog expenses in the first quarter of fiscal 2018 as compared to the first quarter of fiscal 2017. Under ASC 606, catalog costs are treated as a cost to acquire contracts and are not related to a specific contract, therefore are expensed when incurred. Prior to ASC 606, the Company capitalized catalog costs and amortized the costs over the revenue stream attributable to the catalogs. The Company expects to recognize lower catalog expenses over the remaining three quarters of fiscal 2018 as compared to the last three quarters of fiscal 2017, and full year catalog expenses for 2018 are anticipated to be lower as compared to 2017. The Company’s acquisition of Triumph Learning during last year’s third quarter resulted in approximately $4.4 million of incremental SG&A costs in the first quarter of 2018 versus last year’s first quarter. Approximately $0.8 million of the costs associated with Triumph Learning were related directly to the integration. As of the end of the first quarter of fiscal 2018, Triumph Learning is fully integrated into the operations of the Company. Depreciation and amortization expense increased by $2.1 million in the current year first quarter related primarily to incremental depreciation associated with the Company’s new phone system implementation.

All other SG&A expenses were down approximately $1.2 million during the quarter. This reduction related to primarily to decreases in variable sales compensation expense, as well as decreases in sales and marketing expenses.

As a percent of revenue, SG&A increased from 48.9% for the three months ended April 1, 2017 to 57.5% for the three months ended March 31, 2018. The impact of the adoption of ASC 606 contributed 430 bps of this increase.    

Facility exit costs and restructuring

For the three-month period ended March 31, 2018, the Company recorded $0.3 million of facility exit costs and restructuring charges. For the three-month period ended April 1, 2017, the Company recorded $0.2 million of facility exit costs and restructuring charges. The amounts in both periods were entirely related to severance.

 

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Interest Expense

Interest expense decreased from $4.1 million for the three months ended April 1, 2017 to $3.5 million for the three months ended March 31, 2018. A lower interest rate on the Company’s New Term Loan resulted in approximately $0.5 million of lower interest expense in the current year’s first quarter. Non-cash interest and amortization of debt fees were down approximately $0.1 million year-over-year.

Provision for (Benefit from) Income Taxes

The benefit from income taxes was $6.2 million for the three months ended March 31, 2018, as compared to $0.4 million for the three months ended April 1, 2017.

The effective income tax rate for the three months ended March 31, 2018 and the three months ended April 1, 2017 was 24.8% and 2.2%, respectively. The change in the effective income tax rate year-over-year is due to a combination of lower tax rates associated with the 2017 tax reform as well as the partial reversal of valuation allowances in the fourth quarter of fiscal 2017. The tax benefit recorded in the three months ended March 31, 2018 is expected to be entirely offset by tax provisions recognized against the net income expected to be generated over the remainder of fiscal 2018.

Liquidity and Capital Resources

At March 31, 2018, the Company had net working capital of $96.7 million, a decrease of $20.5 million as compared to the three months ended April 1, 2017. Net working capital includes both $10.3 million of cash and $30.4 million of current maturities of long-term debt. The Company estimates that the carrying value of its accounts receivable and accounts payable, as shown on the condensed consolidated balance sheets, approximate fair value. The Company’s capitalization at March 31, 2018 was $247.3 million and consisted of total debt of $160.9 million and stockholders’ equity of $86.4 million. The change in accounting principle (See Note 4) resulted in $7.7 million of decreased working capital, primarily related to the immediate expensing of catalog costs.

Net cash used by operating activities was $35.1 million and $29.7 million for the three months ended March 31, 2018 and April 1, 2017, respectively. The increase in cash used by operating activities related primarily to working capital changes. Cash provided by accounts receivable was $16.7 million in the first quarter of fiscal 2018 as compared to $7.3 million in the first quarter of fiscal 2017. The increase in cash provided by accounts receivable is related to a combination of collections associated with increased year-over-year accounts receivable balances as of year end and incremental volume, primarily due to the revenue generated from Triumph Learning products in the first quarter of 2018. Cash provided by changes in our accounts payable balances were $7.9 million during the first quarter of 2018 as compared to $14.6 million over the first quarter of 2017. The change in cash provided by accounts payable was down in the first quarter of fiscal 2018 due to entering 2018 with a higher accounts payable balance than 2017. The remaining change is primarily related to an increased net loss in the first quarter of 2018 versus the first quarter of fiscal 2017.

Net cash used in investing activities was $4.6 million in the first quarter of fiscal 2018 as compared to $3.8 million in the first quarter of fiscal 2017. The Company expects net cash used in investing activities to increase by approximately $2.4 million for the full year fiscal 2018 as compared to full year fiscal 2017 due to investments in the Company’s ecommerce platform, product information management systems and curriculum product development. The completion of these projects is expected to result in improvements to the Company’s platforms and processes, lower both ongoing operating costs and future investments in systems, and enable revenue growth.

Net cash provided from financing activities was $18.3 million in fiscal 2018 versus $3.9 million in fiscal 2017. In both periods the net cash provided from financing activities represents net draws from the ABL Facility, which combined with beginning of period cash balances, were used to fund operating and investing cash outflows, as well as Term Loan repayments in fiscal 2017. Outstanding borrowings on the ABL Facility were $27.3 million as of March 31, 2018, while the excess availability on that date for the ABL Facility was $38.9 million. The company repaid principal on its Term Loan in the amount of $8.7 million during the first quarter of fiscal 2018, which consisted of an excess cash flow payment of $7.8M and regularly scheduled principal payments of $0.9M.

The Company’s ABL Facility, as amended, and New Term Loan, as described above, contain customary events of default and financial, affirmative negative covenants. Based on current projections, the Company believes it will maintain compliance with these covenants throughout the next twelve months.

 

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We believe that our cash flow from operations, borrowings available from our existing credit facility and other sources of capital will be sufficient to meet our liquidity requirements for operations, including anticipated capital expenditures and our contractual obligations for the next twelve months.

Fluctuations in Quarterly Results of Operations

Our business is subject to seasonal influences. Our historical revenues and profitability have been dramatically higher in the periods from June through September, primarily due to increased shipments to customers coinciding with the start of each school year. Quarterly results also may be materially affected by variations in our costs for the products sold, the mix of products sold and general economic conditions. Therefore, results for any quarter are not indicative of the results that we may achieve for any subsequent fiscal quarter or for a full fiscal year.

Inflation

Inflation, particularly in energy costs, wage rates, and transportation costs has had and is expected to have an effect on our results of operations and our internal and external sources of liquidity.

Forward-Looking Statements

Statements in this Quarterly Report on Form 10-Q that are not historical are “forward-looking” statements within the meaning of the Private Securities Litigation Reform Act of 1995. The forward-looking statements include: (1) statements made under Item 2, Management’s Discussion and Analysis of Financial Condition and Results of Operations, including, without limitation, statements with respect to our internal growth plans, projected revenues and revenue growth, margin improvement, capital expenditures, adequacy of capital resources and ability to comply with financial covenants; and (2) statements included or incorporated by reference in our future filings with the Securities and Exchange Commission. Forward-looking statements also include statements regarding the intent, belief or current expectation of School Specialty or its officers. Forward-looking statements include statements preceded by, followed by or that include forward-looking terminology such as “may,” “should,” “believes,” “expects,” “anticipates,” “estimates,” “continues,” “projects” or similar expressions.

All forward-looking statements included in this Quarterly Report are based on information available to us as of the date hereof. We do not undertake to update any forward-looking statements that may be made by us or on our behalf, in this Quarterly Report on Form 10-Q or otherwise. Our actual results may differ materially from those contained in the forward-looking statements identified above. Factors which may cause such a difference to occur include, but are not limited to, the risk factors set forth in Item 1A, “Risk Factors” of our Annual Report on Form 10-K for the fiscal year ended December 30, 2017.

 

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ITEM 3. Quantitative and Qualitative Disclosures About Market Risk

There have been no material changes in qualitative and quantitative disclosures about market risk from what was reported on Form 10-K for the fiscal year ended December 30, 2017.

ITEM 4. Controls and Procedures

Evaluation of Disclosure Controls and Procedures

Based on an evaluation as of the end of the period covered by this quarterly report, the Company’s principal executive officer and principal financial officer have concluded that the Company’s disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934 (the “Exchange Act”)) were not effective for the purposes set forth in the definition of the Exchange Act rules due to a material weakness in internal control over financial reporting related to insufficient general information technology controls which impact the reliability of automated inventory and revenue controls. While the Company has operational procedures in the areas of inventory and revenue control, they are not designed, executed and/or documented in a manner that is sufficient to be considered effective manual controls in accordance with the criteria established by Internal Control—Integrated Framework 2013. Based on the Company’s inability to rely on these automated and manual controls, the Company has concluded it has material weaknesses in controls related to: a) inventory quantities at the locations subject to routine cycle counts; and b) the accuracy of pricing and quantities shipped to customers. We did not identify any adjustments to our financial statements as a result of either the identification of these material weaknesses, our additional review of these areas, or our initial implementation of measures to remediate these material weaknesses.

Changes in Internal Control Over Financial Reporting

There were no changes in our internal control over financial reporting (as defined in Rule 13a-15(f) under the Exchange Act) during the fiscal 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 6. Exhibits

 

Exhibit No.

  

Description

31.1    Certification pursuant to Section 302 of the Sarbanes Oxley Act of 2002, by Chief Executive Officer.
31.2    Certification pursuant to Section 302 of the Sarbanes Oxley Act of 2002, by Chief Financial Officer.
32.1    Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes Oxley Act of 2002, by Chief Executive Officer.
32.2    Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes Oxley Act of 2002, by Chief Financial Officer.
101    The following materials from School Specialty, Inc.’s. Quarterly Report on Form 10-Q for the quarter ended March 31, 2018 are filed herewith, formatted in XBRL (Extensive Business Reporting Language): (i) the Condensed Consolidated Balance Sheets, (ii) the Condensed Consolidated Statement of Operations, (iii) the Condensed Consolidated Statement of Comprehensive Income, (iv) the Condensed Consolidated Statement of Cash Flows, and (v) Notes to Condensed Consolidated Financial Statements.

 

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

      SCHOOL SPECIALTY, INC.
      (Registrant)
May 9, 2018      

/s/ Joseph M. Yorio

Date       Joseph M. Yorio
      President and Chief Executive Officer
      (Principal Executive Officer)
May 9, 2018      

/s/ Kevin L. Baehler

Date       Kevin L. Baehler
      Executive Vice President and Chief Financial Officer
      (Principal Financial Officer)

 

 

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