UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
Mark One
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended November 29, 2008
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _____ to _____
Commission File Number 1-4141
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
----------------------------------------------
(Exact name of registrant as specified in charter)
Maryland 13-1890974
---------------------------------- ------------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
2 Paragon Drive
Montvale, New Jersey 07645
------------------------------------------------
(Address of principal executive offices)
(201) 573-9700
------------------------------------------------
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
YES [X] NO [ ]
Indicate by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or smaller reporting company. See
definitions of "large accelerated filer," "accelerated filer" and "smaller
reporting company" in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer [ ] Accelerated filer [X]
Non-accelerated filer [ ](Do not check if smaller reporting company)
Smaller reporting company [ ]
Indicate by check mark whether the Registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act).
YES [ ] NO [X]
As of January 6, 2009, the Registrant had a total of 57,674,799 shares of common
stock - $1 par value outstanding.
PART I - FINANCIAL INFORMATION
ITEM 1 - Financial Statements
The Great Atlantic & Pacific Tea Company, Inc.
Consolidated Statements of Operations
(Dollars in thousands, except share and per share amounts)
(Unaudited)
12 Weeks Ended 40 Weeks Ended
----------------------------- -----------------------------
Nov. 29, 2008 Dec. 1, 2007 Nov. 29, 2008 Dec. 1, 2007
------------- ------------ ------------- ------------
Sales $ 2,120,954 $ 1,251,123 $ 7,226,255 $ 4,204,630
Cost of merchandise sold (1,460,569) (869,448) (5,030,741) (2,901,336)
------------ ------------ ------------ ------------
Gross margin 660,385 381,675 2,195,514 1,303,294
Store operating, general and administrative
expense (648,476) (402,808) (2,193,037) (1,323,411)
------------ ------------ ------------ ------------
Income (loss) from operations 11,909 (21,133) 2,477 (20,117)
Gain on sale of Canadian operations -- 495 -- 209
Gain on disposition of Metro, Inc. -- 106,063 -- 184,451
Nonoperating income 22,777 -- 114,269 --
Interest expense (36,727) (14,499) (116,621) (48,806)
Interest and dividend income 86 3,910 553 12,231
Equity in earnings of Metro, Inc. -- -- -- 7,869
------------ ------------ ------------ ------------
(Loss) income from continuing operations
before income taxes (1,955) 74,836 678 135,837
Provision for income taxes (1,038) (1,754) (3,460) (4,288)
------------ ------------ ------------ ------------
(Loss) income from continuing operations (2,993) 73,082 (2,782) 131,549
Discontinued operations:
Loss from operations of discontinued
businesses, net of tax provision of $0
for the 12 and 40 weeks ended 11/29/08
and 12/1/07,respectively (12,466) (13,540) (30,624) (179,667)
Gain (loss) on disposal of discontinued
businesses, net of tax provision of $0
for the 12 and 40 weeks ended 11/29/08
and 12/1/07, respectively 1,831 (2,235) 4,653 (51,039)
------------ ------------ ------------ ------------
Loss from discontinued operations (10,635) (15,775) (25,971) (230,706)
------------ ------------ ------------ ------------
Net (loss) income $ (13,628) $ 57,307 $ (28,753) $ (99,157)
============ ============ ============ ============
Net (loss) income per share -- basic:
Continuing operations $ (0.06) $ 1.74 $ (0.05) $ 3.14
Discontinued operations (0.20) (0.38) (0.52) (5.51)
------------ ------------ ------------ ------------
Net (loss) income per share -- basic $ (0.26) $ 1.36 $ (0.57) $ (2.37)
============ ============ ============ ============
Net (loss) income per share -- diluted:
Continuing operations $ (1.35) $ 1.73 $ (2.33) $ 3.11
Discontinued operations (0.26) (0.38) (0.46) (5.45)
------------ ------------ ------------ ------------
Net (loss) income per share -- diluted $ (1.61) $ 1.35 $ (2.79) $ (2.34)
============ ============ ============ ============
Weighted average number of common shares outstanding:
Basic 52,391,948 41,961,253 50,362,875 41,888,969
============ ============ ============ ============
Diluted 41,462,695 42,363,903 56,190,659 42,306,348
============ ============ ============ ============
See Notes to Consolidated Financial Statements
2
The Great Atlantic & Pacific Tea Company, Inc.
Consolidated Statements of Stockholders' Equity and Comprehensive (Loss) Income
(Dollars in thousands, except share amounts)
(Unaudited)
Retained Accumulated
Common Stock Additional Earnings Other Total
------------------------- Paid-in (Accumulated Comprehensive Stockholders'
Shares Amount Capital Deficit) (Loss) Income Equity
----------- ----------- ----------- ------------ -------------- -------------
40 Week Period Ended November 29, 2008
--------------------------------------
Balance at beginning of period 57,100,955 $ 57,101 $ 373,594 $ 16,423 $ (28,975) $ 418,143
Net loss (28,753) (28,753)
Other comprehensive loss (744) (744)
Financing warrants and conversion
features related to convertible debt 57,422 57,422
Stock options exercised 106,626 107 2,096 2,203
Other share based awards 455,953 456 3,186 3,642
----------- ----------- ----------- ----------- ----------- -----------
Balance at end of period 57,663,534 $ 57,664 $ 436,298 $ (12,330) $ (29,719) $ 451,913
=========== =========== =========== =========== =========== ===========
40 Week Period Ended December 1, 2007
-------------------------------------
Balance at beginning of period,
as previously reported 41,589,195 $ 41,589 $ 212,868 $ 153,325 $ 22,888 $ 430,670
Impact of the adoption of change in
measurement date under FAS 158 (643) (643)
Cumulative impact of
the adoption of FIN48 24,421 24,421
----------- ----------- ----------- ----------- ----------- -----------
Balance at beginning of period,
as adjusted 41,589,195 41,589 212,868 177,103 22,888 454,448
Net loss (99,157) (99,157)
Other comprehensive loss (10,802) (10,802)
Stock options exercised 368,974 369 5,848 6,217
Tax benefit on stock options 2,374 2,374
Other share based awards 6,597 7 7,275 7,282
------------ ----------- ----------- ----------- ----------- -----------
Balance at end of period 41,964,766 $ 41,965 $ 228,365 $ 77,946 $ 12,086 $ 360,362
=========== =========== =========== =========== =========== ===========
Comprehensive (Loss) Income
---------------------------
12 Weeks Ended 40 weeks Ended
------------------------------ ------------------------------
Nov. 29, 2008 Dec. 1, 2007 Nov. 29, 2008 Dec. 1, 2007
------------- ------------ ------------- ------------
Net (loss) income $ (13,628) $ 57,307 $ (28,753) $ (99,157)
----------- ----------- ----------- -----------
Foreign currency translation adjustment, net of tax -- (34,268) -- (9,710)
Reclassification adjustment for sale of investment
securities, net of tax -- (115,385) -- --
Net unrealized gain on marketable securities, net of tax -- -- -- 22
Pension and other post-retirement benefits, net of tax (154) (334) (744) (1,114)
----------- ----------- ----------- -----------
Other comprehensive loss, net of tax (154) (149,987) (744) (10,802)
----------- ----------- ----------- -----------
Total comprehensive loss $ (13,782) $ (92,680) $ (29,497) $ (109,959)
=========== =========== =========== ===========
Accumulated Other Comprehensive (Loss) Income Balances
------------------------------------------------------
Net Unrealized Net Unrealized Pension Accumulated
Foreign Gain on (Loss) Gain & Other Other
Currency Investment on Marketable Post-retirement Comprehensive
Translation Securities Securities Benefits (Loss) Income
------------- ----------- ------------- ------------ ------------
Balance at February 23, 2008 $ -- $ -- $ -- $ (28,975) $ (28,975)
Current period change -- -- -- (744) (744)
------------- ----------- ------------ ------------ ------------
Balance at November 29, 2008 $ -- $ -- $ -- $ (29,719) $ (29,719)
============= =========== ============ ============ ============
Balance at February 24, 2007 $ 9,710 $ -- $ (22) $ 13,200 $ 22,888
Current period change (9,710) -- 22 (1,114) (10,802)
------------- ----------- ------------ ------------ ------------
Balance at December 1, 2007 $ -- $ -- $ -- $ 12,086 $ 12,086
============= =========== ============ ============ ===========
See Notes to Consolidated Financial Statements
3
The Great Atlantic & Pacific Tea Company, Inc.
Consolidated Balance Sheets
(Dollars in thousands, except share and per share amounts)
November 29, 2008 February 23, 2008
----------------- -----------------
(Unaudited)
ASSETS
Current assets:
Cash and cash equivalents $ 160,863 $ 100,733
Restricted cash 2,662 3,713
Restricted marketable securities 2,059 6,796
Accounts receivable, net of allowance for doubtful accounts of $9,972
and $6,152 at November 29, 2008 and February 23, 2008, respectively 170,495 173,203
Inventories 552,824 505,012
Prepaid expenses and other current assets 67,741 94,969
----------- -----------
Total current assets 956,644 884,426
----------- -----------
Non-current assets:
Property:
Property owned, net 1,647,992 1,751,440
Property leased under capital leases, net 136,805 149,363
----------- -----------
Property - net 1,784,797 1,900,803
Goodwill 483,560 387,546
Intangible assets, net 226,972 234,086
Other assets 259,328 236,995
----------- -----------
Total assets $ 3,711,301 $ 3,643,856
=========== ===========
LIABILITIES & STOCKHOLDERS' EQUITY
Current liabilities:
Current portion of long-term debt $ 8,209 $ 11,875
Current portion of obligations under capital leases 11,891 11,344
Current portion of other financial liabilities -- 44,539
Accounts payable 237,501 216,703
Book overdrafts 50,969 36,435
Accrued salaries, wages and benefits 146,235 175,430
Accrued taxes 45,077 46,156
Other accruals 222,583 229,333
----------- -----------
Total current liabilities 722,465 771,815
----------- -----------
Non-current liabilities:
Long-term debt 969,810 758,886
Long-term obligations under capital leases 150,357 157,430
Long-term real estate liabilities 345,733 346,110
Deferred real estate income 77,668 81,110
Other financial liabilities 7,360 180,250
Other non-current liabilities 985,995 930,112
----------- -----------
Total liabilities 3,259,388 3,225,713
----------- -----------
Commitments and contingencies
Stockholders' equity:
Preferred stock--no par value; authorized - 3,000,000 shares; issued - none -- --
Common stock--$1 par value; authorized - 160,000,000 shares; issued and
outstanding -- 57,663,534 and 57,100,955 shares at November 29, 2008
and February 23, 2008, respectively 57,664 57,101
Additional paid-in capital 436,298 373,594
Accumulated other comprehensive loss (29,719) (28,975)
(Accumulated deficit) retained earnings (12,330) 16,423
----------- -----------
Total stockholders' equity 451,913 418,143
----------- -----------
Total liabilities and stockholders' equity $ 3,711,301 $ 3,643,856
=========== ===========
See Notes to Consolidated Financial Statements
4
The Great Atlantic & Pacific Tea Company, Inc.
Consolidated Statements of Cash Flows
(Dollars in thousands)
(Unaudited)
40 weeks Ended
----------------------------
Nov. 29, 2008 Dec. 1, 2007
------------- ------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (28,753) $ (99,157)
Adjustments to reconcile net loss to net cash used in operating activities:
Asset disposition initiatives 9,824 120,422
Depreciation and amortization 201,362 122,614
(Gain) loss on disposal of owned property and write-down of property, net (362) 2,514
(Gain) loss on disposal of discontinued operations (4,653) 51,039
Other property impairments 2,667 3,551
Gain on sale of Canadian operations -- (209)
Nonoperating income (114,269) --
Other share based awards 3,642 7,282
Equity in earnings of Metro, Inc. -- (7,869)
Gain on disposition of Metro, Inc. -- (184,451)
Other changes in assets and liabilities:
(Increase) decrease in receivables (2,634) 31,915
(Increase) decrease in inventories (49,116) 72,741
Increase in prepaid expenses and other current assets (2,627) (14,230)
Increase in other assets (11,766) (3,131)
Increase (decrease) in accounts payable 21,710 (27,285)
Decrease in accrued salaries, wages, benefits and taxes (30,323) (52,836)
Decrease in other accruals (1,939) (5,544)
Decrease in other non-current liabilities (49,042) (42,559)
Other operating activities, net 8,065 (67)
----------- ---------
Net cash used in operating activities (48,214) (25,260)
----------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Expenditures for property (85,659) (98,447)
Proceeds from disposal of property 17,702 121,583
Purchase of business -- (765)
Disposal related expenditures for sale of Canadian operations -- (395)
Acquisition related expenditures for the purchase of Pathmark Stores, Inc. -- (18,668)
Decrease (increase) in restricted cash 1,051 (490,933)
Net proceeds from the sale of shares of Metro, Inc. -- 551,238
Proceeds from maturities of marketable securities 9,907 20,446
----------- ---------
Net cash (used in) provided by investing activities (56,999) 84,059
----------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds under revolving lines of credit 1,683,823 459,200
Principal payments on revolving lines of credit (1,491,940) (517,900)
Proceeds under line of credit 54,936 --
Principal payments on line of credit (58,607) --
Proceeds from promissory note 10,000 --
Payments on long-term borrowings (206) (31,977)
Settlement of Series A warrants (45,735) --
Long term real estate liabilities 25 6,419
Principal payments on capital leases (5,567) (262)
Increase in book overdrafts 14,534 1,448
Deferred financing fees 1,961 (257)
Acquisition related expenditures for financing the purchase of Pathmark Stores, Inc. -- (865)
Tax benefit on stock options -- 2,374
Proceeds from exercises of stock options 2,203 6,217
----------- ---------
Net cash provided by (used in) financing activities 165,427 (75,603)
Effect of exchange rate changes on cash and cash equivalents (84) 20
----------- ---------
Net increase (decrease) in cash and cash equivalents 60,130 (16,784)
Cash and cash equivalents at beginning of period 100,733 86,194
----------- ---------
Cash and cash equivalents at end of period $ 160,863 $ 69,410
=========== =========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid during the year for interest $ 92,223 $ 48,974
Cash paid during the year for income taxes $ 3,147 $ 1,853
See Notes to Consolidated Financial Statements
5
The Great Atlantic & Pacific Tea Company, Inc.
Notes to Consolidated Financial Statements
(Dollars in thousands, except share and per share amounts)
1. Basis of Presentation
The accompanying Consolidated Statements of Operations for the 12 and 40 weeks
ended November 29, 2008 and December 1, 2007, Consolidated Statements of
Stockholders' Equity and Comprehensive (Loss) Income and Consolidated Statements
of Cash Flows for the 40 weeks ended November 29, 2008 and December 1, 2007, and
the Consolidated Balance Sheets at November 29, 2008 and February 23, 2008 of
The Great Atlantic & Pacific Tea Company, Inc. ("We," "Our," "Us" or "Our
Company"), are unaudited and, in the opinion of management, contain all
adjustments that are of a normal and recurring nature necessary for a fair
statement of financial position and results of operations for such periods. The
consolidated financial statements should be read in conjunction with the
consolidated financial statements and related notes contained in our revised
Fiscal 2007 Annual Report on Form 10-K. Interim results are not necessarily
indicative of results for a full year.
The consolidated financial statements include the accounts of our Company and
all subsidiaries. All intercompany accounts and transactions have been
eliminated.
As discussed in Note 8 - Discontinued Operations, the criteria necessary to
classify the operations for the Midwest and the Greater New Orleans area as
discontinued were satisfied during fiscal 2007 and as such, have been
reclassified in our Consolidated Statements of Operations for all periods
presented.
Certain reclassifications have been made to prior year amounts to conform to
current year presentation.
2. Impact of New Accounting Pronouncements
In September 2006, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standard ("SFAS ") No. 157, "Fair Value
Measurements" ("SFAS 157"). SFAS 157 defines fair value, establishes a framework
for measuring fair value in accordance with generally accepted accounting
principles, and expands disclosures about fair value measurements. The
provisions of SFAS 157 are effective for fiscal years beginning after November
15, 2007 (our year ending February 28, 2009). In February 2008, the FASB also
issued FASB Staff Position ("FSP") No. 157-1, "Application of FASB Statement No.
157 to FASB Statement No. 13 and Other Accounting Pronouncements That Address
Fair Value Measurements for Purposes of Lease Classification or Measurement
under Statement 13" ("FSP FAS 157-1"). FSP FAS 157-1 excludes FASB Statement No.
13, "Accounting for Leases" ("SFAS 13"), as well as other accounting
pronouncements that address fair value measurements on lease classification or
measurement under SFAS 13, from the scope of SFAS 157. FSP FAS 157-1 is
effective upon the initial adoption of SFAS 157.
In addition, in February 2008, the FASB issued FSP No. 157-2, "Effective Date of
FASB Statement No. 157" ("FSP FAS 157-2"). FSP FAS 157-2 delays the effective
date of SFAS 157 for all nonrecurring fair value measurements of nonfinancial
assets and nonfinancial liabilities until fiscal years beginning after November
15, 2008. FSP FAS 157-2 states that a measurement is recurring if it happens at
least annually and defines nonfinancial assets and nonfinancial liabilities as
all assets and liabilities other than those meeting the definition of a
financial asset or financial liability in SFAS 159, "The Fair Value Option for
6
Financial Assets and Financial Liabilities." FSP FAS 157-2 is effective upon
issuance. Our Company adopted SFAS 157 as of February 24, 2008, with the
exception of the application of the statement to nonrecurring nonfinancial
assets and nonfinancial liabilities. Refer to Note 6 - Fair Value Measurements
for further discussion.
In October 2008, the FASB issued FSP 157-3, "Determining the Fair Value of a
Financial Asset When the Market for That Asset Is Not Active" ("FSP FAS 157-3"),
with an immediate effective date, including prior periods for which financial
statements have not been issued. FSP FAS 157-3 amends SFAS 157 to clarify the
application of fair value in inactive markets and allows for the use of
management's internal assumptions about future cash flows with appropriately
risk-adjusted discount rates when relevant observable market data does not
exist. The objective of SFAS 157 has not changed and continues to be the
determination of the price that would be received in an orderly transaction that
is not a forced liquidation or distressed sale at the measurement date. We have
evaluated the provisions of FSP FAS 157-3 and the guidance did not have an
impact on our Company's financial condition or results of operations.
In February 2007, the FASB issued SFAS No. 159, "The Fair Value Option for
Financial Assets and Financial Liabilities--including an amendment of FASB
Statement No. 115" ("SFAS 159"). SFAS 159 permits entities to choose to measure
many financial instruments and certain other items at fair value. Unrealized
gains and losses on items for which the fair value option has been elected will
be recognized in earnings at each subsequent reporting date. The provisions of
SFAS 159 are effective for fiscal years beginning after November 15, 2007 (our
year ending February 28, 2009). The adoption of the provisions of SFAS 159 had
no effect on our Company's consolidated financial statements.
In March 2008, the FASB issued SFAS No. 161, "Disclosures about Derivative
Instruments and Hedging Activities, an amendment of FASB Statement No. 133"
("SFAS 161"). SFAS 161 amends and expands the disclosure requirements of FASB
Statement No. 133 with the intent to provide users of financial statement with
an enhanced understanding of (i.) how and why an entity uses derivative
instruments, (ii.) how derivative instruments and the related hedged items are
accounted for under FASB Statement No. 133 and its related interpretations, and
(iii.) how derivative instruments and related hedged items affect an entity's
financial position, financial performance and cash flows. SFAS 161 is effective
for financial statements issued for years and interim periods beginning after
November 15, 2008 (our year ended February 27, 2010). The effect of adopting
SFAS 161 is not expected to have a significant effect on our reported financial
position or earnings.
In April 2008, the FASB issued FSP 142-3, "Determining the Useful Life of
Intangible Assets" ("FSP FAS 142-3"). FSP FAS 142-3 amends the factors to be
considered in determining the useful life of intangible assets. Its intent is to
improve the consistency between the useful life of an intangible asset and the
period of expected cash flows used to measure its fair value. FSP FAS 142-3 is
effective for fiscal years beginning after December 15, 2008 (our year ended
February 27, 2010). Our Company is currently assessing the impact of FSP FAS
142-3 on our consolidated financial statements.
In May 2008, the FASB issued SFAS No. 162, "The Hierarchy of Generally Accepted
Accounting Principles" ("SFAS 162"). The new standard is intended to improve
financial reporting by identifying a consistent framework, or hierarchy, for
selecting accounting principles to be used in preparing financial statements
that are presented in conformity with U.S. generally accepted accounting
principles ("GAAP") for nongovernmental entities. Prior to the issuance of SFAS
162, GAAP hierarchy was defined in the American Institute of Certified Public
Accountants ("AICPA") Statement on Auditing Standards (SAS) No.
7
69, The Meaning of Present Fairly in Conformity With Generally Accepted
Accounting Principles. SAS 69 has been criticized because it is directed to the
auditor rather than the entity. SFAS 162 addresses these issues by establishing
that the GAAP hierarchy should be directed to entities because it is the entity,
not its auditor, that is responsible for selecting accounting principles for
financial statements that are presented in conformity with GAAP. SFAS 162 is
effective 60 days following the SEC's approval of the Public Company Accounting
Oversight Board Auditing amendments to AU Section 411, The Meaning of Present
Fairly in Conformity with Generally Accepted Accounting Principles. It is only
effective for nongovernmental entities; therefore, the GAAP hierarchy will
remain in SAS 69 for state and local governmental entities and federal
governmental entities. We have evaluated the provisions of SFAS 162 and the
guidance will not have an impact on our Company's financial condition or results
of operations.
In May 2008, the FASB issued FSP No. APB 14-1, Accounting for Convertible Debt
Instruments that May be Settled in Cash Upon Conversion ("FSP APB 14-1"). FSP
APB 14-1 requires that the liability and equity components of convertible debt
that may be settled in cash upon conversion (including potential cash
settlement) be separately accounted for in a manner that reflects an issuer's
nonconvertible debt borrowing rate. FSP APB 14-1 is effective for financial
statements issued for fiscal years beginning after December 15, 2008 (our year
ended February 27, 2010), and interim periods within those fiscal years. Early
adoption is not permitted. Retrospective application to all periods presented is
required, except for instruments that were not outstanding during any of the
periods that will be presented in the annual financial statements for the period
of adoption but were outstanding during an earlier period. Once adopted, we
expect an increase in our non-cash interest expense associated with our $255
million 6.75% Convertible Senior Notes that were issued in December 2007,
including non-cash interest expense for prior periods as a result of its
retrospective application. We believe the additional annual non-cash interest
expense we may recognize for the year ended February 28, 2009 under FSP APB 14-1
would increase interest expense classified in our consolidated statements of
operations by approximately $3 million, as our estimated nonconvertible debt
borrowing rate of 12.00% is higher than the current contractual rate of 6.75% on
our $255 million convertible senior notes. FSP APB 14-1, once adopted, would
also increase our non-cash interest expense in fiscal 2009 and future periods
during which our convertible notes remain outstanding.
3. Acquisition of Pathmark Stores, Inc.
On December 3, 2007, our Company completed the acquisition of 100% of Pathmark
for $1.4 billion in cash, stock, assumed or retired debt, warrants and options,
in a transaction accounted for under SFAS No. 141 "Business Combinations" ("SFAS
141"). Pathmark is a regional supermarket chain with supermarkets in the New
York, New Jersey and Philadelphia metropolitan areas.
Consent Agreement
-----------------
On November 27, 2007, our Company announced that the Federal Trade Commission
("FTC") accepted a proposed consent agreement relating to our acquisition of
Pathmark. The terms of the consent agreement required the divestiture of six
stores located in the state of New York, which were subsequently sold for a gain
of $19.4 million in fiscal 2007.
Included in the Consolidated Statements of Operations for the 12 and 40 weeks
ended December 1, 2007 are the sales and operating results of the five A&P
stores that were divested. The sixth divested store was a Pathmark location and,
accordingly, the results of operations of that store were not included in our
results of
8
operations. There were no such results for the 12 and 40 weeks ended November
29, 2008. The results of the five A&P store operations are as follows:
12 weeks ended 40 weeks ended
--------------- --------------
Dec. 1, 2007 Dec. 1, 2007
--------------- --------------
Sales $ 25,696 $ 85,055
=============== ==============
Income from operations $ 228 $ 704
=============== ==============
Purchase Price Allocation
-------------------------
The application of purchase accounting under SFAS 141 requires that the purchase
price paid is allocated to the tangible and identifiable intangible assets
acquired and liabilities assumed on the basis of their fair values on the
transaction date. Identified intangible assets, which are included in the
consolidated balance sheets, consisted of the following:
At November 29, 2008 At Feb. 23, 2008
Weighted -------------------------------------- ----------------
Average Gross
Amortization Carrying Accumulated Accumulated
Period (years) Amount Amortization Amortization
-------------- ------------- -------------- ---------------
Loyalty card customer relationships 7 $ 19,200 $ 2,743 $ 633
In-store advertiser relationships 20 14,720 736 170
Pharmacy payor relationships 13 75,000 5,769 1,331
Pathmark trade name Indefinite 127,300 -- --
------------- --------------- ---------------
Total $ 236,220 $ 9,248 $ 2,134
============= =============== ===============
Amortization of intangible assets for the 12 and 40 weeks ended November 29,
2008 was approximately $2.1 million and $7.1 million, respectively.
The following table summarizes the estimated future amortization expense:
2008 $ 2,134
2009 9,248
2010 9,248
2011 9,248
2012 9,248
Thereafter 60,546
We have determined that the Pathmark trade name has an indefinite life and,
accordingly, is not subject to amortization.
Under the purchase method of accounting, the assets and liabilities of Pathmark
were recorded at their respective fair values at the date of acquisition.
Simultaneously, we recorded a preliminary amount to goodwill of $380.0 million.
During the 40 weeks ended November 29, 2008, we increased our amount of goodwill
from $380.0 million to $475.9 million at November 29, 2008. This increase
primarily related to 1) an approximate $63.3 million adjustment for a Pathmark
transportation agreement, which is unfavorable to market based upon information
which existed as of the acquisition and 2) a $24.7 million adjustment for
Pathmark's opening balance sheet liabilities for self-insurance reserves based
on information we obtained regarding facts and circumstances that existed as of
the acquisition date that, if known, would have affected the measurement of the
amounts recognized as of that date. Recognition of the unfavorable Pathmark
9
transportation agreement resulted in a reduction of operating expense of nil and
$2.3 million during the 12 and 40 weeks ended November 29, 2008, respectively,
relating to the prior year and the adjustment related to self-insurance reserves
resulted in an insignificant adjustment to interest expense during the 12 and 40
weeks ended November 29, 2008, relating to the prior year.
The following table summarizes the fair values of the Pathmark assets acquired
and liabilities assumed at the date of acquisition:
Current assets $ 347,376
Goodwill 475,923
Intangible assets 236,220
Property, net* 1,195,524
Other assets 150,575
-----------
Total assets acquired $ 2,405,618
Current liabilities (339,856)
Long-term debt (1,194)
Long-term obligations under capital leases (130,488)
Long-term financing liabilities (64,138)
Deferred taxes** (58,594)
Other non-current liabilities (398,849)
-----------
Total liabilities assumed $ (993,119)
-----------
Net assets acquired $ 1,412,499
===========
* In fiscal 2007, we acquired net favorable lease rights relating to the
acquisition of Pathmark in the amount of $444.6 million which is included
in Property, net and other non-current liabilities in our Consolidated
Balance Sheet at November 29, 2008. The Company's net favorable lease
rights are amortized on a straight-line basis until the end of the lease
options but not more than 25 years. The weighted average life remaining of
the net favorable lease rights at November 29, 2008 is 18.4 years.
Amortization expense related to the net favorable lease rights was $4.5
million and $15.6 million for the 12 and 40 weeks ended November 29, 2008,
respectively.
** The fair values reflect recognition of a significant portion of A&P's net
deferred tax assets, including net operating loss carry forwards, which
existed at the date of acquisition.
The amount of goodwill and intangibles are $475.9 million and $236.2 million,
respectively, resulting from the Pathmark acquisition. The goodwill is not
deductible for tax purposes. We allocate goodwill to reporting units based on
the reporting units expected to benefit from our acquisition of Pathmark. We
will evaluate our reporting units on an annual basis and, if necessary, reassign
goodwill using a fair value allocation approach. The following table summarizes
the allocation of goodwill to our reportable segments:
At
Nov. 29, 2008
--------------
Fresh $ 121,708
Price Impact 337,139
Gourmet 12,720
Other 4,356
--------------
Total Goodwill $ 475,923
==============
The current economic environment has led to an overall decline in the stock
market which has negatively impacted our stock price. We do not believe the
decline in our stock price reflects changes in the fundamentals of our business.
Our current expectations are that projected future results of our reporting
units would not indicate an impairment of our goodwill or intangibles. However,
there can be no assurance that there is not an impairment until a full analysis
is completed. Our annual impairment test is performed in the fourth quarter of
our fiscal year and it is possible that the estimated fair value of one or more
of our reporting units may be less than their carrying amounts. If so, we may be
required to record a non-cash impairment charge during our fourth quarter of
fiscal 2008.
10
4. Earnings Per Share
Basic (loss) earnings per share is computed by dividing net (loss) income by the
weighted average shares outstanding for the reporting period. Diluted (loss)
earnings per share reflects the potential dilution, using the treasury stock
method, and assumes that the convertible debt, stock options, restricted stock,
warrants, and other potentially dilutive financial instruments were converted
into common stock upon issuance, if dilutive.
Weighted average common shares of 1,749,675 and 1,738,053 for the 12 and 40
weeks ended November 29, 2008, respectively, and 94,199 and 78,257 for the 12
and 40 weeks ended December 1, 2007, respectively, related to options
outstanding under our Company's stock award plan and were excluded from the
computation of diluted earnings per share as the effect would be antidilutive.
Weighted average common shares of 524,843 for both the 12 and 40 weeks ended
November 29, 2008 related to restricted stock units outstanding under our
Company's stock option plans and were excluded from the computation of diluted
earnings per share as the effect would be antidilutive.
Weighted average common shares of 686,277 for both the 12 and 40 weeks ended
November 29, 2008 related to warrants outstanding under our Company's stock
award plan and were excluded from the computation of diluted earnings per share
as the effect would be antidilutive.
Weighted average common shares of 11,278,988 for both the 12 and 40 weeks ended
November 29, 2008 related to the financing warrants outstanding and were
excluded from the computation of diluted earnings per share as the effect would
be antidilutive.
On September 15, 2008, Lehman Brothers Holdings Inc. ("Lehman") and certain of
its subsidiaries, including Lehman Brothers International (Europe) ("Lehman
Europe"), filed a petition under Chapter 11 of the U.S Bankruptcy Code with the
United States Bankruptcy Court. Lehman Europe is party to a 3,206,058 share
lending agreement with our Company. Due to the circumstances of the Lehman
bankruptcy, we recorded these shares loaned under our share lending agreement as
issued and outstanding effective September 15, 2008 for purposes of
computing and reporting our Company's basic and diluted weighted average shares
and earnings per share.
11
The following table sets forth the calculation of basic and diluted earnings per
share:
12 Weeks Ended 12 Weeks Ended
Nov. 29, 2008 Dec. 1, 2007
-------------- ---------------
(Loss) income from continuing operations $ (2,993) $ 73,082
Adjustments on Convertible Debt (30,230) --
Adjustments on Convertible Warrants (22,777) --
-------------- ---------------
(Loss) income from continuing operations--diluted $ (56,000) $ 73,082
============== ===============
Weighted average common shares outstanding 57,663,398 41,961,253
Share lending agreement (5,271,450) --
-------------- ---------------
Weighted average common shares outstanding -- basic 52,391,948 41,961,253
============== ===============
Effect of dilutive securities:
Options to purchase common stock -- 402,650
Convertible debt 11,278,988 --
Convertible warrants (22,208,241) --
-------------- ---------------
Weighted average common shares outstanding--diluted 41,462,695 42,363,903
============== ===============
40 Weeks Ended 40 Weeks Ended
Nov. 29, 2008 Dec. 1, 2007
-------------- ---------------
(Loss) income from continuing operations $ (2,782) $ 131,549
Adjustments on Convertible Debt (29,376) --
Adjustments on Convertible Warrants (98,742) --
-------------- ---------------
(Loss) income from continuing operations--diluted $ (130,900) $ 131,549
============== ===============
Weighted average common shares outstanding 57,638,111 41,888,969
Share lending agreement (7,275,236) --
-------------- ---------------
Weighted average common shares outstanding -- basic 50,362,875 41,888,969
============== ===============
Effect of dilutive securities:
Options to purchase common stock -- 417,379
Convertible debt 11,278,988 --
Convertible warrants (5,451,204) --
-------------- ---------------
Weighted average common shares outstanding--diluted 56,190,659 42,306,348
============== ===============
5. Cash, Cash Equivalents, Restricted Cash and Available-for-sale Securities
At November 29, 2008 and February 23, 2008, we had $2.7 million and $3.7
million, respectively, in restricted cash which represented monies held in
escrow for services which our Company is required to perform in connection with
the sale of our real estate properties.
At November 29, 2008 and February 23, 2008, our restricted marketable securities
of $8.2 million and $19.4 million, respectively, were held by Bank of America in
the Columbia Fund. On December 6, 2007, Bank of America froze the Columbia Fund
as a result of the increased risk in subprime asset backed securities. During
the 12 and 40 weeks ended November 29, 2008, we received distributions from the
Columbia Fund in the amount of $2.8 million and $9.9 million, respectively, at
an amount less than 100%
12
of the net asset value of the fund resulting in realized losses on these
distributions of $0.2 million and $0.4 million for the 12 and 40 weeks ended
November 29, 2008, respectively.
For the 12 and 40 weeks ended November 29, 2008, we realized losses of $0.7
million and $0.8 million, respectively, based on the ending net asset value of
the Columbia Fund as the decline in net asset value is considered other than
temporary at November 29, 2008 and will not be recovered in future distributions
from the fund.
The following is a summary of cash, cash equivalents, restricted cash, and
restricted marketable securities as of November 29, 2008 and February 23, 2008:
At November 29, 2008
---------------------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Costs Gains Losses Value
----------- ----------- ----------- -----------
Classified as:
--------------
Cash $ 157,872 $ -- $ -- $ 157,872
Cash equivalents:
Money market funds 2,991 -- -- 2,991
----------- ----------- ----------- -----------
Total cash and cash equivalents 160,863 -- -- 160,863
----------- ----------- ----------- -----------
Restricted cash 2,662 -- -- 2,662
Restricted marketable securities 2,059 -- -- 2,059
Restricted marketable securities
included in other assets 6,177 -- -- 6,177
----------- ----------- ----------- -----------
Total cash, cash equivalents, restricted cash and
restricted marketable securities $ 171,761 $ -- $ -- $ 171,761
=========== =========== =========== ===========
Securities available-for-sale:
------------------------------
Maturing within one year $ 2,059 $ 2,059
=========== ===========
Maturing greater than one year $ 6,177 $ 6,177
=========== ===========
At February 23, 2008
---------------------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Costs Gains Losses Value
----------- ----------- ----------- -----------
Classified as:
--------------
Cash $ 98,382 $ -- $ -- $ 98,382
Cash equivalents:
Money market funds 2,351 -- -- 2,351
----------- ----------- ----------- -----------
Total cash and cash equivalents 100,733 -- -- 100,733
----------- ----------- ----------- -----------
Restricted cash 3,713 -- -- 3,713
Restricted marketable securities 6,796 -- -- 6,796
Restricted marketable securities
included in other assets 12,622 -- -- 12,622
----------- ----------- ----------- -----------
Total cash, cash equivalents, restricted cash and
restricted marketable securities $ 123,864 $ -- $ -- $ 123,864
=========== =========== =========== ===========
Securities available-for-sale:
------------------------------
Maturing within one year $ 6,796 $ 6,796
=========== ===========
Maturing greater than one year $ 12,622 $ 12,622
=========== ===========
13
Gross realized losses on sales of investments were $0.2 million and $0.4 million
for the 12 and 40 weeks ended November 29, 2008, respectively, and gross
realized gains on sales of investments were $103.6 million and $182.1 million
for the 12 and 40 weeks ended December 1, 2007, respectively.
6. Fair Value Measurements
SFAS 157 defines and establishes a framework for measuring fair value and
expands related disclosures. This Statement applies to all assets and
liabilities that are being measured and reported on a fair value basis. Our
Company adopted SFAS 157 for our financial assets and financial liabilities
beginning in fiscal 2008. As discussed in Note 2 -- Impact of New Accounting
Pronouncements, SFAS 157-2 deferred the effective date of SFAS 157 for all
nonfinancial assets and nonfinancial liabilities recorded at fair value on a
nonrecurring basis to fiscal years beginning after November 15, 2008 (our year
ended February 27, 2010).
SFAS 157 establishes a three-tier fair value hierarchy, which classifies the
inputs used in measuring fair value. These tiers include:
Level 1 -- Quoted prices in active markets for identical assets or liabilities.
Our Company's Level 1 assets and liabilities include cash equivalents that are
traded in an active exchange market.
Level 2 -- Observable inputs other than Level 1 prices, such as quoted prices
for similar assets or liabilities; or other inputs that are observable or can be
corroborated by observable market data for substantially the full term of the
assets or liabilities. Our Company's Level 2 liabilities include warrants whose
value is determined using the Black Scholes pricing model with inputs that are
observable in the market or can be derived principally from or corroborated by
observable market data.
Level 3 -- Unobservable inputs that are supported by little or no market
activity and that are financial instruments whose value is determined using
pricing models, discounted cash flows, or similar methodologies, as well as
instruments for which the determination of fair value requires significant
judgment or estimation. Our Company's Level 3 assets include restricted
marketable securities for which there is limited market activity.
A financial asset or liability's classification within the hierarchy is
determined based on the lowest level input that is significant to the fair value
measurement.
The following table provides the assets and liabilities carried at fair value
measured on a recurring basis as of November 29, 2008:
Fair Value Measurements at Nov. 29, 2008 Using
------------------------------------------------
Quoted Prices Significant Other Significant
Total Carrying in Active Observable Unobservable
Value at Markets Inputs Inputs
Nov. 29, 2008 (Level 1) (Level 2) (Level 3)
-------------- ------------- ----------------- ------------
Assets:
-------
Cash equivalents $ 2,991 $ 2,991 $ -- $ --
Restricted marketable securities 8,236 -- -- 8,236
----------- ---------- ---------- ----------
Total $11,227 $2,991 $ -- $8,236
=========== ========== ========== ==========
Liabilities:
------------
Warrant Series B $ 7,360 $ -- $ 7,360 $ --
=========== ========== ========== ==========
14
Level 3 Valuation Techniques:
-----------------------------
Financial assets are considered Level 3 when their fair values are determined
using pricing models, discounted cash flows or similar techniques and at least
one significant model assumption or input is unobservable. Level 3 financial
assets include our restricted marketable securities for which there is limited
market activity such that the determination of fair value requires significant
judgment or estimation. At November 29, 2008, these securities were valued
primarily using broker pricing models that incorporate transaction details such
as contractual terms, maturity, timing and amount of future cash inflows, as
well as assumptions about liquidity.
The table below provides a summary of the changes in fair value, including net
transfers in and/or out, of all financial assets measured at fair value on a
recurring basis using significant unobservable inputs (Level 3) for the period
February 24, 2008 to November 29, 2008:
Fair Value Measurements Using
Significant Unobservable Inputs
(Level 3)
-------------------------------
Restricted
Marketable
Securities
----------
Beginning Balance $ 19,418
Total realized and unrealized losses included in:
Losses (1) (1,275)
Comprehensive income --
Settlements (9,907)
Transfers in and/or out of Level 3 --
----------
Ending Balance $ 8,236
==========
Losses recorded in Earnings attributable to the change in unrealized losses
relating to Level 3 assets still held at November 29, 2008 $ (840)
==========
(1) Amounts are recorded in Store operating, general and administrative expense
in the Consolidated Statements of Operations.
As discussed in Note 5 -- Cash, Cash Equivalents, Restricted Cash and Restricted
Marketable Securities, on November 29, 2008, we had $8.2 million invested in a
short-term fixed income fund held by Bank of America (the "Columbia Fund"). Due
to market liquidity conditions, cash redemptions from the Columbia Fund were
restricted. As a result of this restriction on cash redemptions, we did not
consider the Columbia Fund to be traded in an active market with observable
pricing on February 24, 2008 and these amounts were categorized as Level 3.
7. Valuation of Long-Lived Assets
In accordance with SFAS No. 144 "Accounting for the Impairment or Disposal of
Long-Lived Assets" ("SFAS 144"), we review the carrying values of our long-lived
assets for possible impairment whenever events or changes in circumstances
indicate that the carrying amount of assets may not be recoverable. Such review
is primarily based upon groups of assets and the undiscounted estimated future
cash flows from such assets to determine if the carrying value of such assets is
recoverable from their respective cash flows. If
15
such review indicates an impairment exists, we measure such impairment on a
discounted basis using a probability-weighted approach and a 7 year U.S.
Treasury risk-free rate.
During the 12 and 40 weeks ended November 29, 2008, we recorded impairment
losses on long-lived assets of $0.9 million and $2.7 million, respectively.
During the 12 and 40 weeks ended December 1, 2007, we recorded impairment losses
on long-lived assets of $4.7 million and $57.8 million, respectively.
Impairments due to closure or conversion in the normal course of business
-------------------------------------------------------------------------
We review assets in stores planned for closure or conversion for impairment upon
determination that such assets will not be used for their intended useful life.
During the 12 and 40 weeks ended November 29, 2008, we recorded impairment
losses on property of $0.9 million and $2.7 million, respectively, related to
stores that were or will be closed or converted in the normal course of
business, as compared to $2.5 million and $3.6 million in impairment losses on
property related to stores that were closed or converted in the normal course of
business during the 12 and 40 weeks ended December 1, 2007, respectively. These
amounts were included in "Store operating, general and administrative expense"
in our Consolidated Statements of Operations.
Impairments related to our discontinued operations
--------------------------------------------------
During the 12 and 40 weeks ended December 1, 2007, we recorded impairment losses
of $2.2 million and $54.2 million, respectively, related to our discontinued
operations as a result of our exit of the Greater New Orleans and Midwest
markets as discussed in Note 8 - Discontinued Operations. These amounts were
included in our Consolidated Statements of Operations under the caption "Gain
(loss) on disposal of discontinued businesses, net of tax" for the 12 and 40
weeks ended December 1, 2007. There were no such charges for the 12 and 40 weeks
ended November 29, 2008.
The effects of changes in estimates of useful lives were not material to ongoing
depreciation expense.
8. Discontinued Operations
We have had multiple transactions throughout the years which met the criteria
for discontinued operations. These events are described based on the year the
transaction was initiated.
2007 Events
-----------
On May 30, 2007, our Company announced advanced negotiations for the sale of our
non-core stores located within the Greater New Orleans area, including inventory
related to these stores. Our Company ceased sales operations in all stores not
sold as of November 1, 2007. Planned sale transactions for these stores have
been completed resulting in a loss on disposal of $16.5 million during fiscal
2007.
On April 24, 2007, based upon unsatisfactory operating trends and the need to
devote resources to our expanding Northeast core business, our Company announced
negotiations for the sale of our non-core stores within our Midwest operations,
including inventory related to these stores. Our Company ceased sales operations
in all stores not sold as of July 7, 2007. Planned sale transactions for these
stores have been completed, resulting in a loss on disposal of $34.3 million
during fiscal 2007.
16
2005 Event
----------
During the first quarter of fiscal 2005, we announced plans for a major
strategic restructuring that would consolidate efforts in the Midwest. Thus, we
initiated efforts to close a total of 35 stores in the Midwest, all of which
were closed as of February 25, 2006.
2003 Events
-----------
During fiscal 2003, we adopted a formal plan to exit the Wisconsin markets
through the sale and/or disposal of these assets. In February 2003, we announced
the sale of a portion of our non-core assets, including seven stores in Madison,
Wisconsin and 23 stores in Milwaukee, Wisconsin. Also in fiscal 2003, we
announced an initiative to close 6 stores and convert 13 stores to our Food
Basics banner in the Detroit, Michigan and Toledo, Ohio markets.
Summarized below are the operating results for these discontinued businesses,
which are included in our Consolidated Statements of Operations, under the
captions "Loss from operations of discontinued businesses, net of tax" and "Gain
(loss) on disposal of discontinued businesses, net of tax" for the 12 and 40
weeks ended November 29, 2008 and December 1, 2007.
For the 12 weeks ended For the 40 weeks ended
------------------------------- -------------------------------
Nov. 29, 2008 Dec. 1, 2007 Nov. 29, 2008 Dec. 1, 2007
------------- ------------ ------------- ------------
Loss from operations of
discontinued businesses
Sales $ -- $ 35,135 $ -- $ 562,654
============= ============ ============= ============
Loss from operations of
discontinued businesses, before tax (12,466) (13,540) (30,624) (179,667)
Tax benefit -- -- -- --
------------- ------------ ------------- ------------
Loss from operations of
discontinued businesses, net of tax $ (12,466) $ (13,540) $ (30,624) $ (179,667)
============= ============ ============= ============
Gain (loss) on disposal of
discontinued operations
Property impairments $ -- $ (2,235) $ -- $ (54,249)
Gain on sale of fixed assets 1,831 -- 4,653 3,210
------------- ------------ ------------- ------------
Gain (loss) on disposal of
discontinued businesses, before tax 1,831 (2,235) 4,653 (51,039)
Tax benefit -- -- -- --
------------- ------------ ------------- ------------
Gain (loss) on disposal of
discontinued businesses, net of tax $ 1,831 $ (2,235) $ 4,653 $ (51,039)
============= ============ ============= ============
17
Summarized below is a reconciliation of the liabilities related to restructuring
obligations resulting from these activities, pursuant to SFAS No. 146,
"Accounting for Costs Associated with Exit or Disposal Activities" ("SFAS 146")
and SFAS No. 112, "Employers' Accounting for Postemployment Benefits" ("SFAS
112").
For the 40 weeks ended November 29, 2008
--------------------------------------------------------------------------------
Balance at Interest Balance at
2/23/2008 Accretion (1) Adjustments(2) Utilization(3) 11/29/2008
---------- ------------- ------------- -------------- ----------
2007 Events
-----------
Occupancy $ 62,873 $ 7,244 $ 7,936 $ (22,959) $ 55,094
Severance and pension withdrawal
payments 58,520 1,157 3,730 (3,251) 60,156
---------- ----------- ------------ ------------ ----------
2007 events total 121,393 8,401 11,666 (26,210) 115,250
2005 Event
----------
Occupancy 66,882 2,564 (79) (7,881) 61,486
2003 Events
-----------
Occupancy 21,579 961 (691) (2,564) 19,285
---------- ----------- ------------ ------------ ----------
Fiscal 2008 total $ 209,854 $ 11,926 $ 10,896 $ (36,655) $ 196,021
========== =========== ============ ============ ==========
Fiscal 2007
--------------------------------------------------------------------------------
Balance at Interest Balance at
2/24/2007 Accretion (1) Adjustments(2) Utilization(3) 2/23/2008
---------- ------------- ------------- -------------- ---------
2007 Events
-----------
Occupancy $ -- $2,865 $ 81,234 $ (21,226) $ 62,873
Severance and pension withdrawal
payments -- -- 81,642 (23,122) 58,520
---------- ----------- ------------ ------------ ----------
2007 events total -- 2,865 162,876 (44,348) 121,393
2005 Event
----------
Occupancy 83,111 3,457 (7,117) (12,569) 66,882
2003 Events
-----------
Occupancy 22,262 1,269 1,141 (3,093) 21,579
---------- ----------- ------------ ------------ ----------
Fiscal 2007 total $ 105,373 $ 7,591 $ 156,900 $ (60,010) $ 209,854
========== =========== ============ ============ ==========
(1) The additions to occupancy and severance represents the interest accretion
on future occupancy costs and future obligations for early withdrawal from
multi-employer union pension plans which were recorded at present value at
the time of the original charge. Interest accretion is recorded as a
component of "Loss from operations of discontinued businesses" on the
Consolidated Statements of Operations.
(2) At each balance sheet date, we assess the adequacy of the balance of the
remaining liability to determine if any adjustments are required as a
result of changes in circumstances and/or estimates. Adjustments are
recorded as a component of "Loss from operations of discontinued
businesses" on the Consolidated Statements of Operations.
For the 40 weeks ended November 29, 2008
----------------------------------------
The charge to occupancy for the 2007 events represent adjustments for
additional occupancy related costs for our properties of $7.9 million
due to changes in our estimation of such future costs. The charge to
severance for the 2007
18
events represents an adjustment of $3.7 million for future obligations for
early withdrawal from multi-employer union pension plans. We also recorded
adjustments for a reduction in occupancy related costs of $0.1 million and
$0.7 million for the 2005 event and the 2003 events, respectively, due to
changes in our estimation of such future costs.
Fiscal 2007
-----------
The charge to occupancy for the 2007 events represents charges related
to the closures of 39 stores in fiscal 2007 in conjunction with our
decision to close and/or sell stores in the Midwest and the Greater New
Orleans area. The charge to severance and benefits of $81.6 million for
the 2007 events related to (i.) individual severings and retention
incentives that were accrued as earned of $24.6 million as a result of
the sale or closing of these facilities and (ii.) future obligations
for early withdrawal from multi-employer union pension plans of $57.0
million. During fiscal 2007, we also recorded adjustments for the 2005
event for a reduction in occupancy related costs for our properties of
$7.1 million due to (i.) changes in our estimation of such future costs
of $6.4 million and (ii.) a new sublease agreement for one property of
$0.7 million. We recorded adjustments for the 2003 events for
additional occupancy related costs for our properties of $1.1 million
due to changes in our estimation of such future costs.
(3) Occupancy utilization represents payments made during those periods for
rent, common area maintenance and real estate taxes. Severance and pension
withdrawal payments utilization represents payments made to terminated
employees during the period.
Summarized below are the payments made to date from the time of the original
charge and expected future payments related to these events:
2007 2005 2003
Events Event Events
-------- -------- -------
Total severance payments made to date $ 26,373 $ 2,650 $22,528
Expected future severance and pension withdrawal payments 60,156 -- --
-------- -------- -------
Total severance payments expected to be incurred 86,529 2,650 $22,528
-------- -------- -------
Total occupancy payments made to date 44,185 44,053 28,890
Expected future occupancy payments,
excluding interest accretion 55,094 61,486 19,285
-------- -------- -------
Total occupancy payments expected to be incurred,
excluding interest accretion 99,279 105,539 48,175
-------- -------- -------
Total severance and occupancy payments made to date 70,558 46,703 51,418
Expected future severance, pension withdrawal and
occupancy payments, excluding interest accretion 115,250 61,486 19,285
-------- -------- -------
Total severance, pension withdrawal and occupancy
payments expected to be incurred, excluding interest
accretion $185,808 $108,189 $70,703
======== ======== =======
Payments to date were primarily for occupancy related costs such as rent, common
area maintenance, real estate taxes, lease termination costs, severance, and
benefits. The remaining obligation relates to expected future payments under
long term leases and expected future payments for early withdrawal from
multi-employer union pension plans. The expected completion dates for the 2007,
2005, and 2003 events are 2028, 2022, and 2022, respectively.
19
Summarized below are the amounts included in our balance sheet captions on our
Company's Consolidated Balance Sheets related to these events:
November 29, 2008
---------------------------------------------------------
2007 2005 2003
Events Event Events Total
---------- --------- ---------- -----------
Accrued salaries, wages and benefits $ 43 $ -- $ -- $ 43
Other accruals $ 20,858 $ 10,568 $ 3,243 $ 34,669
Other non-current liabilities $ 94,349 $ 50,918 $ 16,042 $ 161,309
February 23, 2008
---------------------------------------------------------
2007 2005 2003
Events Event Events Total
---------- --------- ---------- -----------
Accrued salaries, wages and benefits $ 1,513 $ -- $ -- $ 1,513
Other accruals $ 24,733 $ 10,985 $ 3,241 $ 38,959
Other non-current liabilities $ 95,147 $ 55,897 $ 18,338 $ 169,382
We evaluated the reserve balances as of November 29, 2008 based on current
information and have concluded that they are adequate to cover future costs. We
will continue to monitor the status of the vacant and subsidized properties,
severance and benefits, and pension withdrawal liabilities. Adjustments to the
reserve balances may be recorded in the future, if necessary.
9. Asset Disposition Initiatives
In addition to the events described in Note 8 -- Discontinued Operations there
were restructuring transactions which were not primarily related to our
discontinued operations. These events are referred to based on the year the
transaction was initiated, as described below.
Restructuring charges relate principally to employee severance and occupancy
costs resulting from the closure of facilities and other workforce reductions
attributable to our efforts to reduce costs. The costs of these reductions have
been and will be funded through cash from operations. Occupancy costs represent
facility consolidation and lease termination costs associated with our decision
to consolidate and close duplicative or excess warehouse and office facilities,
unproductive and excess facilities and the continued softening of real estate
markets, which resulted in lower than expected sublease income.
2005 Event
----------
During fiscal 2005, our Company sold our U.S. distribution operations and some
warehouse facilities and related assets to C&S Wholesale Grocers, Inc. The Asset
Purchase Agreement included the assignment of our leases in Central Islip, New
York and Baltimore, Maryland, and a warranty deed for our owned facilities in
Dunmore, Pennsylvania.
2001 Event
----------
During the third quarter of fiscal 2001, our Company determined that certain
underperforming operations, including 39 stores (30 in the United States and 9
in Canada) and 3 warehouses (2 in the United States and 1 in Canada) should be
closed and/or sold, and certain administrative streamlining should take place.
20
1998 Event
----------
In May 1998, we initiated an assessment of our business operations in order to
identify the factors that were impacting our performance. As a result of this
assessment, in fiscal 1998 and 1999, we announced a plan to close two warehouse
facilities and a coffee plant in the U.S., a bakery plant in Canada and 166
stores (156 in the United States and 10 in Canada) including the exit of the
Richmond, Virginia and Atlanta, Georgia markets.
Summarized below is a reconciliation of the liabilities related to restructuring
obligations resulting from these activities, pursuant to SFAS 146 and SFAS 112.
For the 40 weeks ended November 29, 2008
--------------------------------------------------------------------------------------
Balance at Interest Balance at
2/23/2008 Accretion (1) Adjustments(2) Utilization(3) 11/29/2008
---------- ------------- -------------- --------------- ----------
2005 Event
----------
Continuing Operations
Occupancy $ 1,231 $ 37 $ (91) $ (64) $ 1,113
Severance 1,686 -- -- (631) 1,055
------- ------ ----- ------- -------
2005 event total 2,917 37 (91) (695) 2,168
2001 Event
----------
Continuing Operations
Occupancy 6,755 271 988 (1,201) 6,813
Discontinued Operations
Occupancy 12,281 535 (166) (1,162) 11,488
------- ------ ----- ------- -------
2001 event total 19,036 806 822 (2,363) 18,301
1998 Event
----------
Continuing Operations
Occupancy 6,958 252 268 (2,013) 5,465
Severance 1,000 -- -- (133) 867
Discontinued Operations
Occupancy 1,093 40 (8) (455) 670
------- ------ ----- ------- -------
1998 event total 9,051 292 260 (2,601) 7,002
------- ------ ----- ------- -------
Fiscal 2008 total $31,004 $1,135 $ 991 $(5,659) $27,471
======= ====== ===== ======= =======
21
Fiscal 2007
-------------------------------------------------------------------------------------
Balance at Interest Balance at
2/24/2007 Accretion (1) Adjustments(2) Utilization(3) 2/23/2008
---------- ------------- -------------- --------------- ----------
2005 Event
----------
Continuing Operations
Occupancy $ 1,453 $ 51 $ 200 $ (473) $ 1,231
Severance 876 -- 2,366 (1,556) 1,686
Discontinued Operations
Occupancy 3,997 92 (3,197) (892) --
------- ------ ------- ------- -------
2005 event total 6,326 143 (631) (2,921) 2,917
2001 Event
----------
Continuing Operations
Occupancy 7,338 401 10 (994) 6,755
Discontinued Operations
Occupancy 13,248 747 -- (1,714) 12,281
------- ------ ------- ------- -------
2001 event total 20,586 1,148 10 (2,708) 19,036
1998 Event
----------
Continuing Operations
Occupancy 9,438 429 (351) (2,558) 6,958
Severance 1,210 -- -- (210) 1,000
Discontinued Operations
Occupancy 1,598 79 -- (584) 1,093
------- ------ ------- ------- -------
1998 event total 12,246 508 (351) (3,352) 9,051
------- ------ ------- ------- -------
Fiscal 2007 total $39,158 $1,799 $ (972) $(8,981) $31,004
======= ====== ======= ======= =======
(1) Represents the interest accretion on future occupancy costs which were
recorded at present value at the time of the original charge. These
adjustments are recorded to "Store operating, general and administrative
expense" for continuing operations and "Loss from operations of
discontinued businesses" for discontinued businesses on our Consolidated
Statements of Operations.
(2) At each balance sheet date, we assess the adequacy of the balance to
determine if any adjustments are required as a result of changes in
circumstances and/or estimates. These adjustments are recorded to "Store
operating, general and administrative expense" for continuing operations
and "Loss from operations of discontinued businesses" as noted for
discontinued operations on our Consolidated Statements of Operations.
For the 40 weeks ended November 29, 2008
----------------------------------------
For the 40 weeks ended November 29, 2008, we recorded an adjustment for
a reduction in occupancy related costs of $0.1 million for the 2005
event due to changes in our estimation of such future costs. We also
recorded adjustments for additional occupancy related costs of $0.8
million and $0.3 million, respectively, for the 2001 and 1998 events
due to changes in our estimation of such future costs.
Fiscal 2007
-----------
During fiscal 2007, adjustments to occupancy costs related to changes
in our estimation of such future costs. We recorded additions to
severance of $2.4 million for the 2005 event for health and welfare
benefits for warehouse retirees of $1.7 million and pension withdrawal
costs of $0.7 million.
22
(3) Occupancy utilization represents payments made during those periods for
rent, common area maintenance and real estate taxes. Severance and benefits
utilization represents payments made to terminated employees during the
period.
Summarized below are the payments made to date from the time of the original
charge and expected future payments related to these events:
2005 2001 1998
Event Event Event Total
------- -------- -------- --------
Total severance payments made to date $48,564 $ 28,205 $ 30,597 $107,366
Expected future severance payments 1,055 -- 867 1,922
Total severance payments expected ------- -------- -------- --------
to be incurred 49,619 28,205 31,464 109,288
------- -------- -------- --------
Total occupancy payments made to date 13,841 61,383 114,413 189,637
Expected future occupancy payments,
excluding interest accretion 1,113 18,301 6,135 25,549
Total occupancy payments expected ------- -------- -------- --------
to be incurred, excluding interest 14,954 79,684 120,548 215,186
accretion ------- -------- -------- --------
Total severance and occupancy
payments made to date $62,405 $ 89,588 $145,010 $297,003
Expected future severance and
occupancy payments, excluding
interest accretion 2,168 18,301 7,002 27,471
Total severance and occupancy ------- -------- -------- --------
payments expected to be incurred, $64,573 $107,889 $152,012 $324,474
excluding interest accretion ======= ======== ======== ========
Payments to date were primarily for occupancy related costs such as rent, common
area maintenance, real estate taxes, lease termination costs, severance, and
benefits. The remaining obligation relates to expected future payments under
long-term leases and expected future payments for early withdrawal from
multi-employer union pension plans. The expected completion dates for the 2005,
2001 and 1998 events are 2021, 2022 and 2020, respectively.
Summarized below are the amounts included in our balance sheet captions on our
Company's Consolidated Balance Sheets related to these events:
November 29, 2008
-----------------------------------------------------------
2005 2001 1998
Event Event Event Total
--------- --------- --------- ---------
Other accruals $ 451 $ 2,771 $ 2,773 $ 5,995
Other non-current liabilities $ 1,717 $ 15,530 $ 4,229 $ 21,476
February 23, 2008
-----------------------------------------------------------
2005 2001 1998
Event Event Event Total
--------- --------- --------- ---------
Other accruals $ 434 $ 2,754 $ 2,827 $ 6,015
Other non-current liabilities $ 2,483 $ 16,282 $ 6,224 $ 24,989
23
We evaluated the reserve balances as of November 29, 2008 based on current
information and have concluded that they are adequate to cover future costs. We
will continue to monitor the status of the vacant and subsidized properties,
severance and benefits, and pension withdrawal liabilities. Adjustments to the
reserve balances may be recorded in the future, if necessary.
10. Indebtedness and Other Financial Liabilities
Series A and B Warrants
-----------------------
As part of the acquisition of Pathmark on December 3, 2007, we issued 4,657,378
and 6,965,858 roll-over stock warrants in exchange for Pathmark's 2005 Series A
and Series B warrants, respectively. The number of warrants issued was computed
based on a conversion factor of 0.46296. The Series A warrants were exercisable
at $18.36 and expired on June 9, 2008 and the Series B warrants are exercisable
at $32.40 and expire on June 9, 2015. These warrants were originally valued
using the price of A&P common stock of $30.05 per common share, the quoted
market price of A&P common stock on November 30, 2007, the last trading day
before the transaction closing date. The Tengelmann stockholders have the right
to approve any issuance of common stock under these warrants upon exercise
(assuming Tengelmann's outstanding interest is at least 25% and subject to
liquidity impairments defined within the Tengelmann Stockholder Agreement). In
addition, Tengelmann has the ability to exercise a "Put Right" whereby it has
the ability to require A&P to purchase A&P stock held by Tengelmann to settle
these warrants. Based on the rights provided to Tengelmann, A&P does not have
sole discretion to determine whether the payment upon exercise of these warrants
will be settled in cash or through issuance of an equivalent portion of A&P
shares. Therefore, these warrants are recorded as liabilities and
marked-to-market each reporting period based on A&P's current stock price.
On May 7, 2008, the 4,657,378 Series A warrants were exercised by Yucaipa
Corporate Initiatives Fund I, L.P., Yucaipa American Alliance Fund I, L.P. and
Yucaipa American Alliance (Parallel) Fund I, L.P. We opted to settle the Series
A warrants in cash totaling $45.7 million rather than issuing additional common
shares.
Included in "Nonoperating Income" on our Consolidated Statements of Operations
for the 12 and 40 weeks ended November 29, 2008, is a loss of nil and $1.2
million, respectively, for the Series A warrants through the settlement date of
May 7, 2008 and a gain of $22.8 million and $98.7 million, respectively, for the
Series B warrants market value adjustment. The value of the Series B warrants
were $7.4 million as of November 29, 2008 and is included in "Other financial
liabilities" on our Consolidated Balance Sheets. The following assumptions and
estimates were used in the Black-Scholes model for the Series B warrants:
For the 40 weeks
ended
November 29, 2008
-----------------
Expected life 6.5 years
Volatility 59.9%
Dividend yield 0%
Risk-free interest rate 2.35%
24
Public Debt Obligations
-----------------------
On December 18, 2007, we completed a public offering and issued $165 million
5.125% convertible senior notes due 2011 and $255 million 6.75% convertible
senior notes due 2012. The 2011 notes are not redeemable at our option at any
time. The 2012 notes are redeemable at our option on or after December 15, 2010,
at a redemption price of 102.70% and on or after December 15, 2011, at a
redemption price of 101.35%. The initial conversion price of the 2011 notes is
$36.40 representing a 30.0% premium to the offering price of $28.00 and the
initial conversion price of the 2012 notes is $37.80 representing a 35.0%
premium to the offering price of $28.00 at maturity, and at our option, the
notes are convertible into shares of our stock, cash, or a combination of stock
and cash.
Concurrent with this offering, we entered into call options and financing
warrant transactions with financial institutions that are affiliates of the
underwriters of the notes to effectively increase the conversion price of these
notes and to reduce the potential dilution upon future conversion. Conversion
prices were effectively increased to $46.20 or a 65% premium and $49.00 or a 75%
premium for the 2011 and 2012 notes, respectively. We understand that on or
about October 3, 2008, Lehman Brothers OTC Derivatives, Inc. or "LBOTC" who
accounts for 50% of the call option and financing warrant transactions filed for
bankruptcy protection, which is an event of default under such transactions. We
are carefully monitoring the developments affecting LBOTC, noting the impact of
the LBOTC bankruptcy effectively reduced conversion prices for 50% of our Notes
to their stated prices of $36.40 for the 2011 notes and $37.80 for the 2012
notes.
As of December 18, 2007, our Company did not have sufficient authorized shares
to provide for all potential issuances of common stock. Therefore, in accordance
with SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities," our Company accounted for the conversion features as freestanding
instruments. The notes were recorded with a discount equal to the value of the
conversion features at the transaction date and will be accreted to the par
value of the notes over the life of the notes. The value of the conversion
features were determined utilizing the Black-Scholes option pricing model and
recorded as a long term liability. The portion of the conversion features for
which there was not shares available for settlement of conversions were marked
to market each balance sheet date. On June 26, 2008, at a special meeting of
shareholders, the number of shares of common stock we have the authority to
issue was increased to 160,000,000 based on a majority vote by our shareholders.
During the 12 and 40 weeks ended November 29, 2008, we recorded a gain of nil
and $9.4 million, respectively, in "Nonoperating Income" on our Consolidated
Statements of Operations for the conversion features of the 5.125% convertible
senior notes. During the 12 and 40 weeks ended November 29, 2008, the gain that
was recorded in "Nonoperating Income" on our Consolidated Statements of
Operations for the conversion features of the 6.75% convertible senior notes was
nil and $5.1 million, respectively. Based on an increase in available shares
primarily due to the exercise of our Series A warrants during the first quarter
of fiscal 2008 and the increase in authorized shares during the second quarter
of fiscal 2008, the fair value of the conversion features of the 5.125% and
6.75% convertible senior notes of $13.8 million and $14.7 million as of June 26,
2008, respectively, were reclassified to "Additional paid-in-capital" on our
Consolidated Statements of Stockholder's Equity and Comprehensive (Loss) Income.
Thus, the fair value of the conversion features for the 5.125% and 6.75%
convertible notes are no longer classified as a liability at November 29, 2008.
The following assumptions and estimates were used in the Black-Scholes model:
25
As of
June 26, 2008
-------------
Expected life 3.0 years
Volatility 33.4%
Dividend yield 0%
Risk-free interest rate 3.11%
Financing Warrants
------------------
Concurrent with the issuance of the convertible senior notes, our Company issued
financing warrants in conjunction with the call options recorded as equity in
the Consolidated Balance Sheet to effectively increase the conversion price of
these notes and reduce the potential dilution upon future conversion. The
financing warrants allow holders to purchase common shares at $46.20 with
respect to the 5.125% notes and $49.00 with respect to the 6.75% notes. The
financing warrants were valued at $36.8 million at the issuance date. At the
issuance date, we did not have sufficient authorized shares to provide all
potential issuances of common stock. Therefore, the financing warrants were
accounted for as freestanding derivatives, required to be settled in cash until
sufficient shares were available and were recorded as a long-term liability in
the Consolidated Balance Sheet. On June 26, 2008, at a special meeting of
shareholders, the number of shares of common stock we have the authority to
issue was increased to 160,000,000 based on a majority vote by our shareholders.
Thus, the financing warrants were marked to market through June 26, 2008
utilizing the Black-Scholes option pricing model and $28.9 million was
reclassified to "Additional paid-in-capital" on our Consolidated Statements of
Stockholder's Equity and Comprehensive (Loss) Income as of June 26, 2008. These
financing warrants are no longer classified as a liability at November 29, 2008.
During the 12 and 40 weeks ended November 29, 2008, we recorded a gain of nil
and $2.3 million, respectively, relating to these warrants, which is included in
"Nonoperating income" on our Consolidated Statements of Operations. The
following assumptions and estimates were used in the Black-Scholes model:
As of
June 26, 2008
-------------
Expected life 3.3 years - 4.8 years
Volatility 33.4%
Dividend yield 0%
Risk-free interest rate range 3.11% - 3.54%
26
11. Interest Expense
Interest expense is comprised of the following:
For the 12 weeks ended For the 40 weeks ended
------------------------------ -----------------------------
Nov. 29, 2008 Dec. 1, 2007 Nov. 29, 2008 Dec. 1, 2007
------------- ------------ ------------- ------------
$675 million Credit Agreement $ 4,404 $ 45 $ 11,338 $ 1,231
7.75% Notes, due April 15, 2007 -- -- -- 342
9.125% Senior Notes, due December 15, 2011 270 270 900 900
5.125% Convertible Senior Notes,
due June 15, 2011 1,946 -- 6,487 --
6.750% Convertible Senior Notes,
due December 15, 2012 3,961 -- 13,204 --
9.375% Notes, due August 1, 2039 4,315 4,315 14,383 14,383
Capital Lease Obligations and
Real Estate Liabilities 12,699 8,158 40,753 26,372
Amortization of Deferred Financing Fees
and Discounts 4,443 173 14,873 602
Other 4,689 1,538 14,683 4,976
------- ------- -------- -------
Total $36,727 $14,499 $116,621 $48,806
======= ======= ======== =======
12. Other Accruals
Other accruals are comprised of the following:
At At
Nov. 29, 2008 Feb. 23, 2008
------------- -------------
Self-insurance Reserves $ 61,241 $ 68,314
Closed Store and Warehouse Reserves 50,184 58,576
Pension Withdrawal Liabilities 1,835 519
Accrued Occupancy Related Costs for Open Stores 28,324 31,614
Deferred Income 35,766 22,784
Deferred Real Estate Income 2,553 2,553
Accrued Audit, Legal and Other 15,672 24,466
Accrued Interest 15,368 9,580
Pension Plan Benefits 3,333 3,333
Other Postemployment Benefits 1,932 1,932
Accrued Advertising 2,047 3,307
Other 4,328 2,355
-------- --------
Total $222,583 $229,333
======== ========
27
13. Other Non-Current Liabilities
Other non-current liabilities are comprised of the following:
At At
Nov. 29, 2008 Feb. 23, 2008
------------- -------------
Unrecognized Tax Benefits $156,255 $156,267
Self-insurance Reserves 167,217 149,235
Closed Store and Warehouse Reserves 127,646 141,000
Pension Withdrawal Liabilities 85,292 82,309
GHI Contract Liability for Employee Benefits 80,506 76,569
Pension Plan Benefits 68,785 66,863
Other Postemployment Benefits 50,162 48,281
Corporate Owned Life Insurance Liability 59,529 54,640
Deferred Rent Liabilities 54,413 52,512
Deferred Income 83,703 44,874
Unfavorable Lease Liabilities 31,659 34,421
Other 20,828 23,141
-------- --------
Total $985,995 $930,112
======== ========
14. Retirement Plans and Benefits
Defined Benefit Plans
We provide retirement benefits to certain non-union and union employees under
various defined benefit plans. Our defined benefit pension plans are
non-contributory and benefits under these plans are generally determined based
upon years of service and, for salaried employees, compensation. We fund these
plans in amounts consistent with the statutory funding requirements.
On August 29, 2008, the Grocery Haulers, Inc. ("GHI"), the Local 863 Union
Multiemployer Pension Plan (the "Fund") and our Company entered into a series of
agreements which collectively provided that: a) GHI would withdraw from the
Fund; b) our Pathmark Pension Plan would be amended to a multiple employer plan
to provide for the participation in the plan by GHI employees servicing Pathmark
stores; and c) the Fund liabilities allocable to GHI and a portion of the Fund
assets would be transferred to the Pathmark Pension Plan. We anticipate that the
Pathmark Pension Plan will be amended in the fourth quarter of fiscal 2008.
During the third quarter of fiscal 2008, we incurred expense of approximately
$3.9 million related to these employees, prior to their transfer to the Pathmark
Pension Plan which is expected to maintain its over funded status upon inclusion
of this obligation. Our Company currently has an obligation recorded in "Other
non-current liabilities" on our Consolidated Balance Sheets at November 29, 2008
and February 23, 2008 of $80.5 million and $76.6 million, respectively, for the
net obligation expected to be transferred to the Pathmark Pension Plan.
In the third quarter of fiscal 2007, we recorded a curtailment gain of $0.2
million reflecting a reduction in the estimated future costs of previously
recorded pension benefits as a result of the closure of stores in the Midwest.
This amount was included in "(Loss) income from operations of discontinued
businesses, net of tax" on our Consolidated Statements of Operations. In
addition, we recorded a settlement gain of $1.0 million resulting from lump sum
payments of benefits in excess of our recorded liabilities for both former
employees in the Midwest and the Northeast. Of this amount $0.9 million was
included in "(Loss) income from operations of discontinued businesses, net of
tax" and $0.1 million was included in "Store operating,
28
general and administrative expense" on our Consolidated Statements of Operations
for the 12 and 40 weeks ended December 1, 2007.
The components of net pension cost were as follows:
For the 12 Weeks Ended
----------------------------
November 29, December 1,
2008 2007
------------ ----------
Service cost $ 1,861 $ 1,137
Interest cost 5,944 2,800
Expected return on plan assets (7,097) (3,031)
Amortization of unrecognized net prior service cost 65 58
Amortization of unrecognized net loss 27 23
Curtailment gain -- (167)
Settlement gain -- (1,047)
Special termination benefits 300 --
------- -------
Net pension cost $ 1,100 $ (227)
======= =======
For the 40 weeks Ended
-----------------------------
November 29, December 1,
2008 2007
------------ ----------
Service cost $ 5,355 $ 3,789
Interest cost 19,813 9,334
Expected return on plan assets (23,659) (10,103)
Amortization of unrecognized net prior service cost 202 196
Amortization of unrecognized net loss 90 76
Curtailment gain -- (167)
Settlement gain -- (1,047)
Special termination benefits 300 --
-------- --------
Net pension cost $ 2,101 $ 2,078
======== ========
Contributions
We previously disclosed in our consolidated financial statements for the year
ended February 23, 2008, that we expected to contribute $4.5 million in cash to
our defined benefit plans in fiscal 2008. As of November 29, 2008, we
contributed approximately $5.5 million to our defined benefit plans. We have
revised our expected contributions to our defined benefit plans in fiscal 2008
to $7.2 million and plan to contribute approximately $1.7 million to our plans
during the remainder of fiscal 2008.
Postretirement Benefits
We provide postretirement health care and life benefits to certain union and
non-union employees. We recognize the cost of providing postretirement benefits
during employees' active service periods. We use a February 23 measurement date
for our postretirement benefits. The components of net postretirement benefits
cost (income) were as follows:
For the 12 Weeks Ended
----------------------------
November 29, December 1,
2008 2007
------------ -----------
Service cost $ 234 $ 75
Interest cost 529 243
Amortization of gain -- (105)
Prior service gain (311) (311)
Curtailment change in estimate -- 3,000
----- -------
Net postretirement benefits cost $ 452 $ 2,902
===== =======
29
For the 40 weeks Ended
------------------------------
November 29, December 1,
2008 2007
------------ -----------
Service cost $ 780 $ 251
Interest cost 1,763 809
Amortization of gain -- (350)
Prior service gain (1,036) (1,036)
------- -------
Net postretirement benefits cost (income) $ 1,507 $ (326)
======= =======
During the third quarter of fiscal 2007, we recorded a change in estimate of
$3.0 million based on our revised actuarial estimate that originally reflected a
reduction in the estimated future costs of previously recorded postretirement
benefits.
15. Stock Based Compensation
During the 12 and 40 weeks ended November 29, 2008, compensation expense related
to share-based incentive plans was income due to a reversal of $3.3 million and
expense of $3.7 million, after tax, respectively, compared to an expense of $2.0
million and $7.3 million, after tax, during the 12 and 40 weeks ended December
1, 2007, respectively. Included in share-based compensation expense recorded
during the 12 and 40 weeks ended November 29, 2008 was $0.3 million and $1.1
million, respectively, related to expensing of stock options, a net reversal of
expense of $3.8 million and expense of $2.1 million, respectively, relating to
expensing of restricted stock, and $0.2 million and $0.5 million, respectively,
relating to expensing of common stock granted to our Board of Directors at the
Annual Meeting of Stockholders. Included in share-based compensation expense
recorded during the 12 and 40 weeks ended December 1, 2007 was $0.1 million and
$0.4 million, respectively, related to expensing of stock options, $1.8 million
and $6.5 million, respectively, relating to expensing of restricted stock, and
$0.1 million and $0.4 million, respectively, relating to expensing of common
stock granted to our Board of Directors at the Annual Meeting of Stockholders.
At November 29, 2008, we had stock awards outstanding under two stock-based
compensation plans, the 1998 Long Term Incentive and Share Award Plan ("1998
Plan") and the 2004 Non-Employee Director Compensation Plan. The general terms
of each plan are reported in our Fiscal 2007 Annual Report on Form 10-K. The
1998 Plan expired on July 14, 2008. On June 26, 2008, at a special meeting of
shareholders, our shareholders approved our Company's 2008 Long Term Incentive
and Share Award Plan ("2008 Plan".) The 2008 Plan provides for the same types of
awards and is otherwise similar to the 1998 Plan and replaced the 1998 Plan.
30
Stock options
-------------
The following is a summary of the stock option activity during the 40 weeks
ended November 29, 2008:
Weighted
Weighted Average
Average Remaining Aggregate
Exercise Contractual Intrinsic
Shares Price Term (years) Value
------------- ------------- ------------ -------------
Outstanding at February 23, 2008 1,827,529 $ 24.21
Granted 128,434 26.07
Canceled or expired (167,881) 32.50
Exercised (106,626) 20.66
-------------- --------
Outstanding at November 29, 2008 1,681,456 $ 23.75 3.3 $ 0.1
============= ======== ============= =============
Exercisable at November 29, 2008 1,454,643 $ 23.08 2.5 $ 0.1
============= =============
Nonvested at November 29, 2008 226,813 $ 28.06 8.7 $ --
============= =============
Fair values for each stock option grant were estimated using a Black-Scholes
valuation model which utilized assumptions as detailed in the following table
for expected life based upon historical option exercise patterns, historical
volatility for a period equal to the stock option's expected life, and risk-free
rate based on the U.S. Treasury constant maturities in effect at the time of
grant. Our stock options have a contractual term of 10 years. The following
assumptions were in place for grants that occurred during the 40 weeks ended
November 29, 2008 and December 1, 2007:
40 weeks ended 40 weeks ended
Nov. 29, 2008 Dec. 1, 2007
-------------- --------------
Expected life 7 years 7 years
Volatility 52% 54% - 55%
Risk-free interest rate 2.96% 4.46% - 4.57%
The weighted average grant date fair value of stock options granted during the
40 weeks ended November 29, 2008 and December 1, 2007 was $14.64 and $19.47,
respectively.
As of November 29, 2008, approximately $2.4 million, after tax, of total
unrecognized compensation expense related to unvested stock option awards will
be recognized over a weighted average period of 2.7 years.
The total intrinsic value of options exercised during the 40 weeks ended
November 29, 2008 and December 1, 2007 was $0.5 million and $5.7 million,
respectively.
The amount of cash received from the exercise of stock options during the 40
weeks ended November 29, 2008 was approximately $2.2 million.
31
Performance Restricted Stock Units
----------------------------------
The following is a summary of the performance restricted stock units activity
during the 40 weeks ended November 29, 2008:
Weighted
Average
Grant Date
Shares Fair Value
------------- -------------
Nonvested at February 23, 2008 1,905,427 $ 22.60
Granted 471,731 26.60
Canceled or expired (89,110) 23.09
Vested (435,600) 12.47
------------- -------------
Nonvested at November 29, 2008 1,852,448 $ 25.98
============= =============
Performance restricted stock units are granted at the fair market value of the
Company's common stock at the date of grant, adjusted by an estimated forfeiture
rate. Certain performance restricted stock units that include a market condition
are granted at the awards fair market value determined on the date of grant.
During the first quarter of fiscal 2008, one-third of our performance restricted
units granted in fiscal 2005, vested on February 24, 2008 (the first day of our
fiscal year) and one-third will vest on the first day of fiscal 2009, in
accordance with and subject to all other terms, conditions, limitations,
restrictions and eligibility requirements. The remaining one-third of our
performance restricted units granted in fiscal 2005 were forfeited during fiscal
2007. Performance restricted stock units granted during fiscal 2006, 2007 and
2008 are earned based on our Company achieving certain operating targets in
fiscal 2008, 2009 and 2010, respectively, and are 100% vested upon achievement
of such targets. During the third quarter of fiscal 2008, based on changes in
our current year forecast and three year strategic plan, our Company has
determined that the targets as described under the terms of each plan will
probably not be met. Once this determination is made, compensation expense is no
longer recognized and any recognized compensation expense is reversed. As a
result, for the 12 and 40 weeks ended November 29, 2008, we recorded a reversal
of $5.2 million included in "Store operating, general and administrative
expense" in our Consolidated Statements of Operations for compensation expense
related to restricted stock that had been previously recognized. Of this amount,
approximately $4.0 million of this reversal should have been recorded in fiscal
2007 as our performance targets were no longer probable due to dispositions in
advance of our acquisition of Pathmark. Had our Company recorded this reversal
in the prior year, the current quarter reversal for not meeting performance
targets in the current quarter would have been approximately $3.0 million. No
units vested under our 2006, 2007, and 2008 grants during the 40 weeks ended
November 29, 2008.
During the second quarter of fiscal 2008, an additional 46,949 performance
restricted stock units under our non-executive Integration Program were
considered granted as one of the performance targets as described in the plan
was exceeded based on actual performance. These performance restricted stock
units will vest subject to the achievement of certain Company stock price
targets over a performance period comprised of the 24 month period following the
closing of the Pathmark transaction on December 3, 2007 and other terms,
conditions, limitations, restrictions and eligibility requirements as described
in the Integration Program.
The total fair value of shares vested during the 40 weeks ended November 29,
2008 was $12.1 million. No
32
shares vested during the 40 weeks ended December 1, 2007.
During the 40 weeks ended November 29, 2008, our Company granted 471,731 shares
of performance restricted stock units to selected employees for a total grant
date fair value of $12.5 million. Approximately $8.8 million of unrecognized
fair value compensation expense relating to our performance restricted stock
units granted in fiscal 2005 and fiscal 2006, as well as performance restricted
stock units granted under our executive and non-executive Integration Program in
fiscal 2007, are expected to be recognized through fiscal 2011 based on
estimates of attaining vesting criteria.
16. Income Taxes
The income tax provisions recorded for the 12 and 40 weeks ended November 29,
2008 and December 1, 2007 reflects our estimated expected annual tax rates
applied to our respective domestic and foreign financial results.
SFAS No. 109 "Accounting for Income Taxes" ("SFAS 109") provides that a deferred
tax asset is recognized for temporary differences that will result in deductible
amounts in future years and for carryforwards. In addition, SFAS 109 requires
that a valuation allowance be recognized if, based on existing facts and
circumstances, it is more likely than not that some portion or all of the
deferred tax asset will not be realized. Based upon our continued assessment of
the realization of our net deferred tax asset and our historic cumulative
losses, we concluded that it was appropriate to record a valuation allowance in
an amount that would reduce our net deferred tax asset to zero. For the 12 and
40 weeks ended November 29, 2008, the valuation allowance increased by $26.9
million and $106.0 million, respectively, to reflect the increase in deferred
income tax assets recorded relating to the purchase price allocation adjustment
discussed in Note 3 - Acquisition of Pathmark Stores, Inc., as well as
generation of additional net operating losses. For the 12 and 40 weeks ended
December 1, 2007, the valuation allowance was decreased by $4.4 million and
increased by $36.7 million, respectively. To the extent that our operations
generate sufficient taxable income in future periods, we will reverse the income
tax valuation allowance. In future periods, we will continue to record a
valuation allowance against net deferred tax assets that are created by losses
until such time as the certainty of future tax benefits can be reasonably
assured.
As of November 29, 2008, there have been no material changes to the Company's
uncertain tax positions as discussed in Note 11 of the Company's Fiscal 2007
Annual Report on Form 10-K. It is reasonably possible that the amount of
unrecognized tax benefit with respect to certain of the Company's unrecognized
tax positions will significantly decrease within the next 12 months. At this
time, the company estimates that the amount of its gross unrecognized tax
positions may decrease by up to approximately $155 million within the next 12
months primarily due to the settlement of ongoing audits and lapses of statutes
of limitations in certain jurisdictions. Any decrease in the Company's gross
unrecognized tax positions would require a re-evaluation of the Company's
valuation allowance maintained on its net deferred tax asset and therefore will
have no effect on the Company's effective tax rate.
For the 12 and 40 weeks ended November 29, 2008 and December 1, 2007, no amounts
were recorded for interest and penalties within "Provision for income taxes" in
our Consolidated Statements of Operations.
Our Company is subject to U.S. federal income tax, as well as income tax in
multiple state and foreign jurisdictions. As of November 29, 2008, we were
subject to examination in the U.S. federal tax jurisdiction
33
for the 1997 to 2006 tax years and we were also subject to examination in most
state jurisdictions for the 1997 to 2007 tax years.
The effective tax rate on continuing operations of 53.1% for the 12 weeks ended
November 29, 2008 varied from the statutory rate of 35% primarily due to the
recording of state and local income taxes, recording additional valuation
allowance offset by a permanent difference related to nonoperating income from
the fair value adjustments related to the conversion features, financing
warrants and Series B warrants.
The effective tax rate on continuing operations of 2.3% for the 12 weeks ended
December 1, 2007 varied from the statutory rate of 35% primarily due to state
and local income taxes and a decrease to our valuation allowance as a result of
the utilization of loss carryforwards that were not previously tax benefited.
The effective tax rate on continuing operations of 510.3% for the 40 weeks ended
November 29, 2008 varied from the statutory rate of 35% primarily due to the
recording of state and local income taxes, recording additional valuation
allowance offset by a permanent difference related to nonoperating income from
the fair value adjustments related to the conversion features, financing
warrants and Series A and B warrants.
The effective tax rate on continuing operations of 3.2% for the 40 weeks ended
December 1, 2007 varied from the statutory rate of 35% primarily due to state
and local income taxes and a decrease to our valuation allowance as a result of
the utilization of loss carryforwards that were not previously tax benefited.
As of November 29, 2008, we had $540.3 million in federal NOL carryforwards that
expire beginning in 2023, some of which are subject to an annual limitation.
Management believes such limitations will not have a material impact on the
Company's ability to utilize such losses.
At November 29, and February 23, 2008, we had a net current deferred tax asset
which is included in "Prepaid expenses and other current assets" on our
Consolidated Balance Sheets of $36.3 million and $64.8 million, respectively, a
net non-current deferred tax asset, which is included in "Other Assets" on our
Consolidated Balance Sheets of $66.5 million and $38.0 million, respectively,
and a non-current tax liability for uncertain tax positions, which is included
in "Other non-current liabilities" on our Consolidated Balance Sheets of $156.3
million and $156.3 million, respectively.
On July 30, 2008, The Housing Assistance Act of 2008 ("the Act") was signed into
law. The Act contains a provision allowing corporate taxpayers to make an
election to treat certain unused research and AMT credit carryforwards as
refundable in lieu of claiming bonus and accelerated depreciation for "eligible
qualified property." We are currently evaluating the impact of making this
election; however, we do not expect that making such election will have a
material impact on our consolidated financial statements.
17. Operating Segments
Operating segments are defined as components of an enterprise about which
separate financial information is available that is evaluated regularly by the
chief operating decision maker in deciding how to allocate resources and in
assessing performance. Our chief operating decision maker is our President and
Chief Executive Officer.
Through the first quarter ended June 14, 2008, we operated under seven
reportable segments: North, Central, South, Price Impact, Gourmet, Other and our
investment in Metro, Inc. During the second quarter ended September 6, 2008, our
chief operating decision maker changed the manner by which our results are
34
evaluated, therefore, our reportable segments have been revised to be consistent
with the way we currently manage our business. Accordingly, we have revised our
segment reporting to report in five operating segments: Fresh, Price Impact,
Gourmet, Other and our investment in Metro, Inc. The Other segment includes our
Food Basics and Liquor businesses. Our investment in Metro, Inc. represents our
former economic interest in Metro, Inc. and is required to be reported as an
operating segment in accordance with SFAS No. 131, "Disclosure about Segments of
an Enterprise and Related Information" as our investment was greater than 10% of
our Company's combined assets of all operating segments and the investment
generated operating income during the 40 weeks ended December 1, 2007. The
criteria necessary to classify the Midwest and Greater New Orleans areas as
discontinued were satisfied in fiscal 2007 and these operations have been
reclassified as such in our Consolidated Statements of Operations for all
periods presented. Refer to Note 8 -- Discontinued Operations for further
discussion. Prior year information has been restated to conform to current year
presentation.
The accounting policies for these segments are the same as those described in
the summary of significant accounting policies included in our Fiscal 2007
Annual Report. We measure segment performance based upon segment income (loss).
Reconciling amounts between segment income (loss) and income (loss) from
operations include corporate-level activity not specifically attributed to a
segment, which includes 1) the merchandising department (including the design
and production of private label merchandise sold in our retail stores), 2) real
estate management and 3) information technology, finance and other corporate
administrative personnel, as well as, other reconciling items primarily
attributed to nonrecurring activities.
Assets and capital expenditures are not allocated to segments for internal
reporting presentations.
Certain segment reclassifications have been made to segment information
disclosed previously to conform to how our chief operating decision maker
currently manages our business.
Interim information on segments is as follows:
For the 12 weeks ended November 29, 2008
-----------------------------------------------------------------------------------
Grocery (1) Meat (2) Produce (3) Other (4) Total
--------------- -------------- --------------- -------------- -------------
Sales by Category $ 1,506,284 $ 388,577 $ 226,093 $ -- $ 2,120,954
=============== ============== =============== ============== =============
For the 12 weeks ended December 1, 2007
-----------------------------------------------------------------------------------
Grocery (1) Meat (2) Produce (3) Other (4) Total
--------------- -------------- --------------- -------------- -------------
Sales by Category $ 851,860 $ 241,636 $ 157,611 $ 16 $ 1,251,123
=============== ============== =============== ============== =============
35
For the 12 weeks ended
-------------------------------------------------
November 29, 2008 December 1, 2007
---------------------- ----------------------
Sales
Fresh* $ 1,071,370 $ 1,103,409
Price Impact* 924,371 32,587
Gourmet 67,145 62,969
Other 58,068 52,142
Investment in Metro, Inc. -- 16
---------------------- ----------------------
Total sales $ 2,120,954 $ 1,251,123
====================== ======================
Segment income (loss)
Fresh* $ 36,051 $ 9,474
Price Impact* (1,898) (232)
Gourmet 6,735 5,419
Other 548 (672)
---------------------- ----------------------
Total segment income 41,436 13,989
Corporate (24,013) (26,129)
Reconciling items ** (5,514) (8,993)
---------------------- ----------------------
Income (loss) from operations 11,909 (21,133)
Gain on sale of Canadian operations -- 495
Gain on disposition of Metro, Inc. -- 106,063
Nonoperating income 22,777 -
Interest expense (36,727) (14,499)
Interest and dividend income 86 3,910
---------------------- ----------------------
(Loss) income from continuing operations before income taxes $ (1,955) $ 74,836
====================== ======================
For the 12 weeks ended
-------------------------------------------------
November 29, 2008 December 1, 2007
---------------------- ----------------------
Segment depreciation and amortization - continuing operations
Fresh* $ 20,997 $ 23,012
Price Impact* 22,962 513
Gourmet 2,303 2,323
Other 866 1,030
---------------------- ----------------------
Total segment depreciation and amortization 47,128 26,878
Corporate 13,410 5,776
---------------------- ----------------------
Total company depreciation and amortization $ 60,538 $ 32,654
====================== ======================
For the 40 weeks ended November 29, 2008
-----------------------------------------------------------------------------------
Grocery (1) Meat (2) Produce (3) Other (4) Total
--------------- --------------- --------------- -------------- -------------
Sales by Category $ 5,045,012 $ 1,357,820 $ 823,423 $ -- $ 7,226,255
=============== ============== =============== ============== =============
For the 40 weeks ended December 1, 2007
-----------------------------------------------------------------------------------
Grocery (1) Meat (2) Produce (3) Other (4) Total
--------------- --------------- --------------- -------------- -------------
Sales by Category $ 2,811,474 $ 826,217 $ 561,147 $ 5,792 $ 4,204,630
=============== ============== =============== ============== =============
(1) The grocery category includes grocery, frozen foods, dairy, general
merchandise/health and beauty aids, liquor and pharmacy.
(2) The meat category includes meat, deli, bakery and seafood.
(3) The produce category includes produce and floral.
(4) Other includes sales from an information technology services agreement with
Metro, Inc.
36
For the 40 weeks ended
-------------------------------------------------
November 29, 2008 December 1, 2007
---------------------- ----------------------
Sales
Fresh* $ 3,658,229 $ 3,722,685
Price Impact* 3,168,120 110,077
Gourmet 208,890 192,443
Other 191,016 173,633
Investment in Metro, Inc. -- 5,792
---------------------- ----------------------
Total sales $ 7,226,255 $ 4,204,630
====================== ======================
Segment income (loss)
Fresh* $ 100,043 $ 60,864
Price Impact* 16,146 54
Gourmet 16,610 11,005
Other 1,825 (2,287)
---------------------- ----------------------
Total segment income 134,624 69,636
Corporate (94,741) (96,401)
Reconciling items ** (37,406) 6,648
---------------------- ----------------------
Income (loss) from operations 2,477 (20,117)
Gain on sale of Canadian operations -- 209
Gain on disposition of Metro, Inc. -- 184,451
Nonoperating income 114,269 --
Interest expense (116,621) (48,806)
Interest and dividend income 553 12,231
Equity earnings in Metro, Inc. -- 7,869
---------------------- ----------------------
Income from continuing operations before income taxes $ 678 $ 135,837
====================== ======================
For the 40 weeks ended
-------------------------------------------------
November 29, 2008 December 1, 2007
---------------------- ----------------------
Segment depreciation and amortization - continuing operations
Fresh* $ 70,965 $ 76,921
Price Impact* 76,331 1,902
Gourmet 7,873 7,606
Other 2,847 3,318
---------------------- ----------------------
Total segment depreciation and amortization - continuing 158,016 89,747
operations
Corporate 43,346 24,230
---------------------- ----------------------
Total depreciation and amortization - continuing operations 201,362 113,977
Discontinued operations -- 8,637
---------------------- ----------------------
Total depreciation and amortization $ 201,362 $ 122,614
====================== ======================
* Due to store conversions during the third quarter of fiscal 2008, segment
information on a comparable basis has been reclassified from the Fresh
segment to the Price Impact segment.
** Reconciling items which are not included in segment income (loss) include
LIFO reserve adjustment, stock awards expense, restructuring events,
real-estate related activity, integration costs and other nonrecurring
adjustments.
18. Related Party Transaction
On September 2, 2008, our Company issued a three year, unsecured promissory note
in the amount of $10 million to Erivan Karl Haub. Erivan Haub is the father of
Christian W. E. Haub, our Executive Chairman, and is a limited partner of
Tengelmann which owns an interest in our Company's stock. The principal is
37
due in a lump sum payment on August 18, 2011 and will bear interest at a rate of
6% per year, payable in twelve equal payments of $0.15 million over the term of
the note.
19. Investment in Metro, Inc.
On March 13, 2007, in connection with our agreement to acquire Pathmark Stores,
Inc., our Company sold 6,350,000 shares of our holdings in Metro, Inc. for
proceeds of approximately $203.5 million resulting in a net gain of $78.4
million. Of the proceeds received, $190 million was held as restricted cash
collateralizing letters of credit under our Letter of Credit Agreement, which
was terminated on December 3, 2007, and was designated to be used to fund a
portion of our acquisition of Pathmark Stores, Inc.
On November 26, 2007, also in connection with our agreement to acquire Pathmark
Stores, Inc., our Company sold the remaining 11,726,645 shares of our holdings
in Metro, Inc. for proceeds of approximately $345.3 million, resulting in a net
gain of $103.6 million. The proceeds were held to fund a portion of our
acquisition of Pathmark Stores, Inc. As a result of these sales, our Company no
longer holds Class A subordinate shares of Metro, Inc.
Through March 13, 2007, we recorded our pro-rata equity earnings relating to our
equity investment in Metro, Inc. on about a three-month lag period as permitted
by APB 18, "The Equity Method of Accounting for Investments in Common Stock."
Thus, during the 40 weeks ended December 1, 2007, we recorded $7.9 million in
equity earnings relating to our equity investment in Metro, Inc. and included
this amount in "Equity in earnings of Metro, Inc." on our Consolidated
Statements of Operations. In accordance with SFAS 115, we recorded dividend
income of $1.3 million based on Metro, Inc.'s dividend declaration on April 17,
2007 and included this amount in "Interest and dividend income" on our
Consolidated Statements of Operations for the 40 weeks ended December 1, 2007.
Metro, Inc.'s summarized financial information, derived from its unaudited
second quarter ended March 17, 2007 financial statements, is as follows (in
millions):
12 Weeks Ended
March 17, 2007
--------------
Income statement:
Net sales $ 2,096.5
=============
Cost of sales and operating expenses $ 1,967.1
=============
Net income $ 55.0
=============
20. Commitments and Contingencies
Antitrust Class Action Litigation
---------------------------------
In connection with a settlement reached in the VISA/MasterCard antitrust class
action litigation, our Company is entitled to a portion of the settlement fund
that will be distributed to class members. Pursuant to our review of our
historical records as well as estimates provided by the Claims Administrator, we
recorded a pre-tax recovery of $2.2 million as a credit to "Store operating,
general and administrative expense" in our Statements of Consolidated Operations
during the 12 and 40 weeks ended November 29, 2008.
38
Lease Assignment
----------------
On August 14, 2007, Pathmark entered into a leasehold assignment contract for
the sale of its leasehold interests in one of its stores to CPS Operating
Company LLC, a Delaware limited liability company ("CPS"). Pursuant to the terms
of the agreement, Pathmark was to receive $87 million for assigning and
transferring to CPS all of Pathmark's interest in the lease and CPS was to have
assumed all of the duties and obligations of Pathmark under the lease. CPS
deposited $6 million in escrow as a deposit against the purchase price for the
lease, which is non-refundable to CPS, except as otherwise expressly provided in
the agreement. The assignment of the lease was scheduled to close on December
28, 2007. On December 27, 2007, CPS issued a notice terminating the agreement
for reason of a purported breach of the agreement, which, if proven, would
require the return of the escrow. We are disputing the validity of CPS's notice
of termination as we believe CPS's position is without merit. Because we are
challenging the validity of CPS's December 27, 2007 notice of termination, we
issued our own notice to CPS on December 31, 2007, asserting CPS's breach of the
agreement as a result of their failure to close on December 28, 2007. CPS's
breach, if proven, would entitle us to keep the escrow. Both parties have taken
legal action to obtain the $6 million deposit held in escrow.
LaMarca et al v. The Great Atlantic & Pacific Tea Company, Inc ("Defendants")
------------------------------------------------------------------------------
On June 24, 2004, a class action complaint was filed in the Supreme Court of the
State of New York against The Great Atlantic & Pacific Tea Company, Inc., d/b/a
A&P, The Food Emporium, and Waldbaum's alleging violations of the overtime
provisions of the New York Labor Law. Three named plaintiffs, Benedetto Lamarca,
Dolores Guiddy, and Stephen Tedesco, alleged on behalf of a class that our
Company failed to pay overtime wages to full-time hourly employees who were
either required or permitted to work more than 40 hours per week.
In April 2006, the plaintiffs filed a motion for class certification. In July
2007, the Court granted the plaintiffs' motion and certified the class as
follows: All full-time hourly employees of Defendants who were employed in
Defendants' supermarket stores located in the State of New York, for any of the
period from June 24, 1998 through the date of the commencement of the action,
whom Defendants required or permitted to perform work in excess of 40 hours per
week without being paid overtime wages. The Court also ruled that the issue of
whether to include an "opt-in" or "opt-out" provision is premature and can be
decided after discovery.
As the order granting class certification is currently being appealed, and as
discovery on the prospective plaintiffs comprising the class has yet to be
conducted, neither the number of class participants nor the sufficiency of their
respective claims can be determined at this time.
Other
-----
We are subject to various legal proceedings and claims, either asserted or
unasserted, which arise in the ordinary course of business. We are also subject
to certain environmental claims. While the outcome of these claims cannot be
predicted with certainty, Management does not believe that the outcome of any of
these legal matters will have a material adverse effect on our consolidated
results of operations, financial position or cash flows.
39
ITEM 2 - Management's Discussion and Analysis of Financial Condition and Results
of Operations
INTRODUCTION
------------
The following Management's Discussion and Analysis is intended to help the
reader understand the financial position, operating results, and cash flows of
The Great Atlantic and Pacific Tea Company, Inc. It should be read in
conjunction with our consolidated financial statements and the accompanying
notes ("Notes"). It discusses matters that Management considers relevant to
understanding the business environment, financial position, results of
operations and our Company's liquidity and capital resources. These items are
presented as follows:
o Basis of Presentation -- a discussion of our Company's results during the
12 and 40 weeks ended November 29, 2008 and December 1, 2007.
o Overview -- a general description of our business; the value drivers of our
business; measurements; opportunities; challenges and risks; and
initiatives.
o Outlook -- a discussion of certain trends or business initiatives for the
remainder of fiscal 2008 to assist in understanding our business.
o Review of Continuing Operations and Liquidity and Capital Resources -- a
discussion of results for the 12 weeks ended November 29, 2008 compared to
the 12 weeks ended December 1, 2007; results for the 40 weeks ended
November 29, 2008 compared to the 40 weeks ended December 1, 2007; current
and expected future liquidity; and the impact of various market risks on
our Company.
o Critical Accounting Estimates -- a discussion of significant estimates made
by Management.
o Market Risk -- a discussion of the impact of market changes on our
consolidated financial statements.
BASIS OF PRESENTATION
---------------------
The accompanying consolidated financial statements of The Great Atlantic &
Pacific Tea Company, Inc. for the 12 and 40 weeks ended November 29, 2008 and
December 1, 2007 are unaudited and, in the opinion of management, contain all
adjustments that are of a normal and recurring nature necessary for a fair
statement of financial position and results of operations for such periods. The
consolidated financial statements should be read in conjunction with the
consolidated financial statements and related notes contained in our Fiscal 2007
Annual Report on Form 10-K. Interim results are not necessarily indicative of
results for a full year. The consolidated financial statements include the
accounts of our Company and all of our subsidiaries.
OVERVIEW
--------
The Great Atlantic & Pacific Tea Company, Inc., based in Montvale, New Jersey,
operates conventional supermarkets, combination food and drug stores and
discount food stores in eight U.S. states and the District of Columbia. Our
business consists strictly of our retail operations, which totaled 444 stores as
of November 29, 2008.
During the second quarter ended September 6, 2008, our chief operating decision
maker changed the manner by which our results are evaluated, therefore, our
reportable segments have been revised to be consistent with the way we currently
manage our business. Accordingly, we have revised our segment reporting to
report in
40
five operating segments: Fresh, Price Impact, Gourmet, Other and our
investment in Metro, Inc. The Other segment includes our Food Basics and Liquor
businesses. Our investment in Metro, Inc. represents our former economic
interest in Metro, Inc. The criteria necessary to classify the Midwest and
Greater New Orleans area as discontinued were satisfied in fiscal 2007 and these
operations have been reclassified as such in our Consolidated Statements of
Operations for the 12 and 40 weeks ended November 29, 2008 and December 1, 2007.
RECENT ANNOUNCEMENTS
--------------------
On March 7, 2008, our Company entered into a definitive agreement with C&S
Wholesale Grocers, Inc. ("C&S") whereby C&S will provide warehousing, logistics,
procurement and purchasing services (the "Services") in support of the Company's
entire supply chain. This agreement replaces and supersedes three (3) separate
wholesale supply agreements under which the parties have been operating. The
term of the agreement is ten and one-half (10-1/2) years, which includes a
six-month "ramp-up" period during which the parties will transition to the new
contractual terms and conditions. The agreement provides that the actual costs
of performing the services shall be reimbursed to C&S on an "open-book" or
"cost-plus" basis, whereby the parties will negotiate annual budgets that will
be reconciled against actual costs on a periodic basis. The parties will also
annually negotiate services specifications and performance standards that will
govern warehouse operations. The agreement defines the parties' respective
responsibilities for the procurement and purchase of merchandise intended for
use or resale at the Company's stores, as well as the parties' respective
remuneration for warehousing and procurement/purchasing activities. In
consideration for the services it provides under the agreement, C&S will be paid
an annual fee and will have incentive income opportunities based upon A&P's cost
savings and increases in retail sales volume.
On May 7, 2008, the 4,657,378 Series A warrants, scheduled to expire on June 9,
2008, were exercised by Yucaipa Corporate Initiatives Fund I, L.P., Yucaipa
American Alliance Fund I, L.P. and Yucaipa American Alliance (Parallel) Fund I,
L.P. Our Company opted to settle the Series A warrants in cash totaling $45.7
million rather than issuing additional common shares.
On September 27, 2008, our Company agreed to sell C&S all general merchandise,
heath beauty and cosmetics, seasonal grocery and other such merchandise
warehoused at our distribution center located in Edison, New Jersey. The cost of
this inventory was approximately $29.9 million and we have repurchased all of
the inventory at the end of our third quarter of fiscal 2008. No gain, loss or
revenue was recorded on the sale.
OPERATING RESULTS
-----------------
Despite the challenging economic environment, our Company has delivered another
quarter of improved operating performance. Our format strategy continues to
be successful as it allows us to be relevant in every market we serve. The
Pathmark integration has been completed and while there have been some
challenges, we are already realizing many of the synergies from this strategic
acquisition.
At the end of the third quarter, our Company's run rate of synergies was
approximately $140 million since our acquisition of Pathmark, solidifying that
the original target of $150 million will be achieved as anticipated. We realized
approximately $30 million during the third quarter of fiscal 2008, comprised of
reduced administrative costs ($18 million), reduced merchandise costs ($7
million) as well as reductions in store operating and marketing and advertising
costs ($5 million).
41
We maintained all necessary liquidity during the third quarter of fiscal 2008
with availability of $77.6 million under our Credit Agreement and invested cash
available to reduce borrowings and/or for future operations of $46 million as of
November 29, 2008.
Fresh Format
(A&P, Waldbaum's and SuperFresh)
Our Fresh Format continues to deliver strong sales and strong earnings growth
that more than triple the prior year. Our Fresh Team has been working hard to
deliver a superior store experience and our stores and performance illustrates
their effectiveness.
Price Impact
(Pathmark and Pathmark Sav-A-Center)
Our Price Impact format's top line was softer than expected due to
promotional activity during the November holiday. Having acquired Pathmark
almost a year ago, we have experienced some challenges with the integration and
operations of the business. Since the second quarter, we have experienced
significant improvements in our gross margin rate, with the exception of stock
losses in our center store, which have increased with the declining economy. In
addition, we have incurred higher labor costs, both in productive and fringe
costs. We have improved gross margin rates by increasing merchandising income as
a result of the proper people and strategies being in place and improvements to
system and process issues. In-stock positions have also improved dramatically in
the third quarter. We are currently working to reduce stock losses and increase
labor efficiencies by executing strategies that improved results in our other
formats and we are confident that this format is on track to deliver promising
results although there can be no assurance that this will happen.
Gourmet
(The Food Emporium)
Our Gourmet stores located in Manhattan continue to produce significant growth
in sales and segment income despite the crisis driven through Wall Street. This
banner is delivering top line sales growth that exceeds the industry average and
a bottom line that is 24% better than the prior year. We believe the Gourmet
Team's commitment to new product innovation and better store standards is
delivering on customer and financial expectations.
Other
(Food Basics, Best Cellars and A&P Liquors)
Our Discount business operating under the Food Basics banner is realizing growth
in both sales and segment income. This business is doing extremely well as it is
a particularly relevant format during this challenging economic environment. The
Food Basics banner is realizing tremendous growth, with double digit comparable
sales and a bottom line that outpaces the prior year as well as our internal
expectations. We believe this format has much future growth potential.
Additionally we have opened two new A&P Best Cellars stand alone liquor stores
in West Orange, NJ and Riverside, CT and expect to commence more in-store
renovations to come.
42
OUTLOOK
-------
This has been a very turbulent year with an unprecedented challenging economic
environment. Despite this challenge, we continued to deliver solid overall
results in our third quarter of fiscal 2008 with solid sales and improved
earnings year-over-year while at the same time completing the integration of the
Pathmark acquisition. We believe combining with Pathmark has strengthened our
Company and positioned us well to withstand economic challenges. Additionally,
we realized significant synergies from the acquisition which we believe will
continue into 2009 and provide the necessary resources to effectively compete in
this difficult environment.
We expect that in 2009 the US retail market will face one of the most difficult
and challenging years as our customers will have lower disposable income.
However, we believe our Company is preparing for the challenges ahead shifting
our strategy to meet the demands of our customers who have lowered their weekly
shopping budget while, still providing high quality, nutritious foods. Our
comprehensive new private label program is a critical component of our strategy
as well as strategic store conversions.
In 2009, we will celebrate our historic 150th anniversary. We believe that our
strong strategic position in the Northeast, our successful format strategy and
our resolve to implement strategic changes, positions us to effectively manage
the challenging economic environment and remain cautiously optimistic in our
long-term prospects. We recognize that this recession has been projected to
worsen and have consequently been tailoring new merchandising strategies that we
will employ to be more effective offering cost-effective alternatives for our
customers.
We believe that our present cash resources, including invested cash on hand,
available borrowings from our $675 million Credit Agreement and other sources,
are sufficient to meet our needs. Based on information available to us, as of
our filing date, we have no indication that the financial institutions acting as
lenders under our $675 million Credit Agreement would be unable to fulfill their
commitments. However, given the current economic environment and credit risk
market crisis, there is no assurance that this may not change in the foreseeable
future.
Various factors could have a negative effect on our Company's financial position
and results of operations. These include, among others, the following:
o Our retail food business and the grocery retailing industry continues to
experience aggressive competition from mass merchandisers, warehouse clubs,
drug stores, convenience stores, discount merchandisers, dollar stores,
restaurants, other retail chains, nontraditional competitors and emerging
alternative formats in the markets where we have retail operations.
Competition with these outlets is based on price, store location,
advertising and promotion, product mix, quality and service. Some of these
competitors may have greater financial resources, lower merchandise
acquisition costs and lower operating expenses than we do, and we may be
unable to compete successfully in the future. Price-based competition has
also, from time to time, adversely affected our operating margins.
Competitors' greater financial strengths enable them to participate in
aggressive pricing strategies selling inventory below costs to drive
overall increased sales. Our continued success is dependent upon our
ability to effectively compete in this industry and to reduce operating
expenses, including managing health care and pension costs contained in our
collective bargaining agreements. The competitive practices and pricing in
the food industry generally and particularly in our principal markets may
cause us to reduce our prices in order to gain or maintain our market share
of sales, thus reducing margins.
43
o Our in-store pharmacy business is also subject to intense competition. In
particular, an adverse trend for drug retailing has been significant growth
in mail-order and internet-based prescription processors. Pharmacies are
exposed to risks inherent in the packaging and distribution of
pharmaceuticals and other healthcare products. In addition, the conversion
of various prescription drugs to over-the-counter medications, the
withdrawal of certain drugs from the market and changes in third party
reimbursement levels for prescription drugs, including changes in Medicare
Part D or state Medicaid programs, may have a material adverse effect on
our business. Failure to properly adhere to Federal, State and local
government rules and regulations, applicable Medicare and Medicaid
regulations could result in the imposition of civil as well as criminal
penalties.
o The retail food and food distribution industries, and the operation of our
businesses, specifically in the New York -- New Jersey and Philadelphia
regions, are sensitive to a number of economic conditions and other factors
such as (i.) food price deflation or inflation, (ii.) softness in local and
national economies, (iii.) increases in commodity prices, (iv.) the
availability of favorable credit and trade terms, (v.) changes in business
plans, operations, results and prospects, (vi.) potential delays in the
development, construction or start-up of planned projects, and (vii.) other
economic conditions that may affect consumer buying habits. Any one or more
of these economic conditions can affect our retail sales, the demand for
products we distribute to our retail customers, our operating costs and
other aspects of our business.
o Acts of war, threats of terror, acts of terror or other criminal activity
directed at the grocery or drug store industry, the transportation
industry, or computer or communications systems, could increase security
costs, adversely affect our operations, or impact consumer behavior and
spending as well as customer orders. Other events that give rise to actual
or potential food contamination, drug contamination, or food-borne illness
could have an adverse effect on our operating results.
o We could be adversely affected if consumers lose confidence in the safety
and quality of the food supply chain. Adverse publicity about these types
of concerns, whether or not valid, could discourage consumers from buying
products in our stores. The real or perceived sale of contaminated food
products by us could result in a loss of consumer confidence and product
liability claims, which could have a material adverse effect on our sales
and operations.
o Our operations subject us to various laws and regulations relating to the
protection of the environment, including those governing the management and
disposal of hazardous materials and the cleanup of contaminated sites.
Under some environmental laws, such as the Comprehensive Environmental
Response, Compensation, and Liability Act of 1980, also known as CERCLA or
the Superfund law, and similar state statues, responsibility for the entire
cost of cleanup of a contaminated site can be imposed upon any current or
former site owners or operators, or upon any party who sent waste to the
site, regardless of the lawfulness of the original activities that led to
the contamination. From time to time we have been named as one of many
potentially responsible parties at Superfund sites, although our share of
liability has typically been de minimis. Although we believe that we are
currently in substantial compliance with applicable environmental
requirements, future developments such as more aggressive enforcement
policies, new laws or discoveries of unknown conditions may require
expenditures that may have a material adverse effect on our business and
financial condition.
44
o Our capital expenditures could differ from our estimate if development and
remodel costs vary from those budgeted, or if performance varies
significantly from expectations or if we are unsuccessful in acquiring
suitable sites for new stores.
o Our ability to achieve our profit goals will be affected by (i.) our
success in executing category management and purchasing programs that we
have underway, which are designed to improve our gross margins and reduce
product costs while making our product selection more attractive to
consumers, (ii.) our ability to achieve productivity improvements and
reduce shrink in our stores, (iii.) our success in generating efficiencies
in our supporting activities, and (iv.) our ability to eliminate or
maintain a minimum level of supply and/or quality control problems with our
vendors.
o The majority of our employees are members of labor unions. While we believe
that our relationships with union leaderships and our employees are
satisfactory, we operate under collective bargaining agreements which
periodically must be renegotiated. In the coming year, we have some
contracts expiring and under negotiation. In each of these negotiations,
rising health care and pension costs will be an important issue, as will
the nature and structure of work rules. We are hopeful, but cannot be
certain, that we can reach satisfactory agreements without work stoppages
in these markets. However, the actual terms of the renegotiated collective
bargaining agreements, our future relationships with our employees and/or a
prolonged work stoppage affecting a substantial number of stores could have
a material effect on our results.
o The amount of contributions made to our pension and multi-employer plans
will be affected by the performance of investments made by the plans and
the extent to which trustees of the plans reduce the costs of future
service benefits.
o We are currently required to acquire a majority of our saleable inventory
from one supplier, C&S Wholesale Grocers, Inc. Although there are a limited
number of distributors that can supply our stores, we believe that other
suppliers could provide similar product on reasonable terms. However, a
change in suppliers could cause a delay in distribution and a possible loss
of sales, which would affect operating results adversely.
o We have estimated our exposure to claims, administrative proceedings and
litigation and believe we have made adequate provisions for them, where
appropriate. Unexpected outcomes in both the costs and effects of these
matters could result in an adverse effect on our earnings.
o Following the closing of the acquisition of Pathmark, Tengelmann, A&P's
former majority stockholder, owned beneficially and of record a substantial
percentage of our common stock on a fully diluted basis. As a result of
this equity ownership and our stockholder agreement with Tengelmann,
Tengelmann has the power to significantly influence the results of
stockholder votes and the election of our board of directors, as well as
transactions involving a potential change of control of our Company.
Tengelmann may support strategies and directions for our Company which are
in its best interests but which are opposed to other stockholder interests.
o Our substantial indebtedness could impair our financial condition. Our
indebtedness could make it more difficult for us to satisfy our
obligations, which could in turn result in an event of default on our
obligations, require us to dedicate a substantial portion of our cash flow
from operations to debt service payments, thereby reducing the availability
of cash for working capital, capital expenditures,
45
acquisitions, or other general corporate purposes, impair our ability to
obtain additional financing in the future for working capital, capital
expenditures, acquisitions, or other general corporate purposes, diminish
our ability to withstand a downturn in our business, the industry in which
we operate or the economy generally, limit our flexibility in planning for,
or reacting to, changes in the economy, our business and the industry in
which we operate, and place us at a competitive disadvantage compared to
competitors that have proportionately less debt. Our $675 million Credit
Agreement contains restrictive covenants customary for facilities of that
type which limit our ability to incur additional debt, pay dividends, grant
additional liens, make investments and take other actions. These
restrictions may limit our flexibility to undertake future financings and
take other actions. If we are unable to meet our debt service obligations,
we could be forced to repay our indebtedness prior to its scheduled
maturity, restructure or refinance our indebtedness, seek additional equity
capital or sell assets and may force liquidity issues. We may be unable to
obtain debt and/or equity financing or sell assets on satisfactory terms,
or at all. In addition, our Credit Agreement bears interest at a variable
rate. If market interest rates increase, such variable-rate debt will have
higher debt service requirements, which could adversely affect our cash
flow. While we may enter into agreements limiting our exposure to higher
interest rates, any such agreements may not offer complete protection from
this risk.
o We are the primary obligor for a significant number of closed stores and
warehouses under long-term leases primarily located in the Midwest. Our
ability to sublet or assign these leases depends on the economic conditions
of the real estate markets in which these leases are located. We have
estimated our obligation under these leases, net of expected subleases and
we have reserved for them, where appropriate. Unexpected changes in the
marketplace or with individual sublessors could result in an adverse effect
on our cash flow and earnings.
o Fluctuating fuel costs may adversely affect our operating costs since we
incur the cost of fuel in connection with the transportation of goods from
our warehouse and distribution facilities to our stores. In addition,
operations at our stores are sensitive to rising utility fuel costs due to
the amount of electricity and gas required to operate our stores. In the
event of rising fuel costs, we may not be able to recover rising utility
and fuel costs through increased prices charged to our customers. Our
profitability is particularly sensitive to the cost of oil. Oil prices
directly affect our product transportation costs and fuel costs due to the
amount of electricity and gas required to operate our stores as well as our
utility and petroleum-based supply costs; including plastic bags.
o We are subject to federal, state and local laws and regulations relating to
zoning, land use, environmental protection, work place safety, public
health, community right-to-know, beer and wine sales, pharmaceutical sales
and gasoline station operations. A number of states and local jurisdictions
regulate the licensing of supermarkets, including beer and wine license
grants. In addition, under certain local regulations, we are prohibited
from selling beer and wine in certain of our stores. Employers are also
subject to laws governing their relationship with employees, including
minimum wage requirements, overtime, working conditions, disabled access
and work permit requirements. Compliance with these laws could reduce the
revenue and profitability of our supermarkets and could otherwise adversely
affect our business, financial condition or results of operations. In
addition, any changes in these laws or regulations could significantly
increase our compliance costs and adversely affect our results of
operations, financial condition and liquidity.
o We have large, complex information technology systems that are important to
our business operations. We could encounter difficulties developing new
systems and encounter difficulties maintaining, upgrading
46
or securing our existing systems. Such difficulties could lead to
significant expenses or losses due to disruption in our business
operations.
o Our articles of incorporation permit our board of directors to issue
preferred shares without first obtaining stockholder approval. If we issued
preferred shares, these additional securities may have dividend or
liquidation preferences senior to our common stock. If we issue convertible
preferred shares, a subsequent conversion may dilute the current common
stockholders' interest. Issuance of such preferred stock could adversely
affect the price of our common stock.
o Current economic conditions have been, and continue to be volatile. As a
result of concern about the stability of the markets and the strength of
counterparties, many financial institutions have reduced and, in some
cases, ceased to provide funding to borrowers. Based on information
available to us, as of our filing date, we have no indication that the
financial institutions acting as lenders under our Credit Agreement would
be unable to fulfill their commitments. Continued turbulence in the global
credit markets and U.S. economy may adversely affect our results of
operations, financial condition and liquidity.
Other factors and assumptions not identified above could also cause actual
results to differ materially from those set forth in the forward-looking
information. Accordingly, actual events and results may vary significantly from
those included in or contemplated or implied by forward-looking statements made
by us or our representatives.
RESULTS OF CONTINUING OPERATIONS AND LIQUIDITY AND CAPITAL RESOURCES
--------------------------------------------------------------------
Our consolidated financial information presents the results related to our
operations of discontinued businesses separate from the results of our
continuing operations. The discussion and analysis that follows focus on
continuing operations. All amounts are in millions, except share and per share
amounts.
12 WEEKS ENDED NOVEMBER 29, 2008 COMPARED TO THE 12 WEEKS ENDED DECEMBER 1, 2007
--------------------------------------------------------------------------------
OVERALL
-------
Sales for the third quarter of fiscal 2008 were $2,120.9 million compared to
$1,251.1 million for the third quarter of fiscal 2007 due primarily to the
acquisition of Pathmark; comparable store sales, which include stores that have
been in operation for two full fiscal years and replacement stores, increased
1.9%. Loss from continuing operations of $3.0 million for the third quarter of
fiscal 2008 decreased from income from continuing operations of $73.1 million
for the third quarter of fiscal 2007, due primarily to the gain on disposition
of Metro, Inc. of $106.1 million. Loss from discontinued operations of $10.6
million for the third quarter of fiscal 2008 decreased from a loss from
discontinued operations of $15.8 million for the third quarter of fiscal 2007.
Net loss per share -- basic and diluted for the third quarter of fiscal 2008 was
$0.26 and $1.61, respectively, compared to net income per share -- basic and
diluted of $1.36 and $1.35, respectively, for the third quarter of fiscal 2007.
47
12 Weeks 12 Weeks
Ended Ended Favorable /
Nov. 29, 2008 Dec. 1, 2007 (Unfavorable) % Change
------------- ------------ ------------- -----------
Sales $ 2,120.9 $ 1,251.1 $ 869.8 69.5%
Increase in comparable store sales 1.9% 3.1% NA NA
(Loss) income from continuing operations (3.0) 73.1 (76.1) >100.0%
Loss from discontinued operations (10.6) (15.8) 5.2 32.9%
Net (loss) income (13.6) 57.3 (70.9) >100.0%
Net (loss) income per share -- basic (0.26) 1.36 (1.62) >100.0%
Net (loss) income per share -- diluted (1.61) 1.35 (2.96) >100.0%
Average weekly sales per supermarket were approximately $417,800 for the third
quarter of fiscal 2008 versus $348,800 for the corresponding period of the prior
year, an increase of 19.8% primarily due to the acquisition of Pathmark's larger
supermarkets in the fourth quarter of fiscal 2007.
SALES
-----
For the 12 weeks ended
-----------------------------------
Nov. 29, 2008 Dec. 1, 2007
------------- ------------
Fresh $ 1,071.3 $ 1,103.4
Price Impact 924.4 32.6
Gourmet 67.1 63.0
Other 58.1 52.1
Investment in Metro, Inc. -- --
---------- ----------
Total sales $ 2,120.9 $ 1,251.1
========== ==========
Sales increased from $1,251.1 million for the 12 weeks ended December 1, 2007 to
$2,120.9 million for the 12 weeks ended November 29, 2008 primarily due to an
increase in the Price Impact segment of $891.8 million, as a result of the
acquisition of Pathmark in the fourth quarter of fiscal 2007 as well as an
increase in comparable stores sales of $24.3 million, offset by the absence of
sales from store closures of $47.4 million. The decrease in sales in our Fresh
segment of $32.1 million is primarily due to the absence of sales from store
closures of $42.9 million, offset by an increase in comparable store sales of
$10.8 million. The increase in sales in our Gourmet segment of $4.1 million is
primarily due to comparable store sales increases. The sales increase of $6.0
million, or 11.5%, in our Other segment, representing Discount and Liquor, is
primarily due to an increase in comparable store sales driven by our remodel
program and our acquisition of Best Cellars, offset partially by store closures.
GROSS MARGIN
------------
Gross margin of $660.4 million increased 63 basis points as a percentage of
sales to 31.14% for the third quarter of fiscal 2008 from gross margin of $381.7
million or 30.51% for the third quarter of fiscal 2007. Excluding the impact of
the acquisition of Pathmark, which operates on lower gross margins, the increase
is 156 basis points. This increase is primarily driven by the realization of
lower net costs from buying synergies, improved stock loss results and overall
improved margins, especially in the fresh departments.
The following table details the dollar impact of several items affecting the
gross margin dollar increase from the third quarter of fiscal 2007 to the third
quarter of fiscal 2008:
Sales Volume Gross Margin Rate Total
------------- ----------------- -------------
Total Company $ 265.3 $ 13.4 $ 278.7
48
STORE OPERATING, GENERAL AND ADMINISTRATIVE EXPENSE
---------------------------------------------------
Store operating, general and administrative expense ("SG&A") was $648.5 million
or 30.57% as a percentage of sales for the third quarter of fiscal 2008 compared
to $402.8 million or 32.20% as a percentage of sales for the third quarter of
fiscal 2007.
Included in SG&A for the third quarter of fiscal 2008 were certain charges as
follows:
o costs relating to a voluntary labor buyout program of $3.0 million (14
basis points);
o costs relating to our withdrawal of the Grocery Haulers, Inc. employees
servicing Pathmark Stores from the Local 863 Union Multiemployer Pension
Plan to our Company of $2.7 million (13 basis points), as discussed in Note
14 -- Retirement Plans and Benefits;
o net real estate activity of $1.7 million (8 basis points); and
o Pathmark acquisition related costs of $4.2 million (20 basis points).
Partially offset by:
o Recoveries from our VISA/Mastercard antitrust class action litigation as
discussed in Note 20 -- Commitments and Contingencies of $2.2 million (11
basis points); and
o a reversal of $5.2 million (25 basis points) for compensation expense
related to restricted stock that had been previously recognized for
performance targets that are no longer probable of being met, as discussed
in Note 15 -- Stock Based Compensation.
Included in SG&A for the third quarter of fiscal 2007 were certain charges as
follows:
o costs relating to the closing of our owned warehouses in Edison, New Jersey
and Bronx, New York of $0.3 million (2 basis points) that were not sold as
part of the sale of our U.S. distribution operations and some warehouse
facilities and related assets to C&S Wholesale Grocers, Inc. as discussed
in Note 9 -- Asset Disposition Initiatives;
o net real estate activity of $4.3 million (35 basis points); and
o Pathmark acquisition related costs of $4.4 million (35 basis points).
Excluding the items listed above, SG&A as a percentage of sales decreased by 111
basis points during the third quarter of fiscal 2008 as compared to the third
quarter of fiscal 2007 primarily due to the acquisition of Pathmark which
contributed higher sales productivity.
During the 12 weeks ended November 29, 2008 and December 1, 2007, we recorded
impairment losses on long-lived assets due to closure or conversion in the
normal course of business of $0.9 million and $2.5 million, respectively.
The effects of changes in estimates of useful lives were not material to ongoing
depreciation expense. If current operating levels do not continue to improve,
there may be additional future impairments on long-lived assets, including the
potential for impairment of assets that are held and used.
49
SEGMENT INCOME
--------------
For the 12 weeks ended
----------------------------------
Nov. 29, 2008 Dec. 1, 2007
------------- ------------
Fresh $ 36.1 $ 9.5
Price Impact (1.9) (0.2)
Gourmet 6.7 5.4
Other 0.5 (0.7)
------- -------
Total segment income $ 41.4 $ 14.0
======= =======
Segment income increased $27.4 million from $14.0 million for the 12 weeks ended
December 1, 2007 to $41.4 million for the 12 weeks ended November 29, 2008.
Third quarter of fiscal 2008 results include segment loss of $1.9 million from
the Pathmark business acquired in the fourth quarter of fiscal 2007 and the
third quarter conversion of Pathmark Sav-A-Center stores. Our Fresh segment
experienced an increase in segment income of $26.6 million from improved gross
margins as well as decreased store operating, general and administrative costs,
mainly in labor and occupancy related costs. Segment income from our Gourmet
business improved by $1.3 million primarily as a result of an improved gross
margin rate partially offset by an increase in operating costs, mainly in labor.
The increase in segment income of $1.2 million in our Other segment,
representing Discount and Liquor, is primarily due to improving sales and margin
rates in both businesses and our acquisition of Best Cellars. Refer to Note 17
-- Operating Segments for further discussion of our reportable operating
segments.
GAIN ON DISPOSITION OF METRO, INC.
----------------------------------
During the 12 weeks ended December 1, 2007, we sold the remaining shares of our
holdings in Metro, Inc. resulting in a gain of $106.1 million. There were no
such gains during the 12 weeks ended November 29, 2008.
NONOPERATING INCOME
-------------------
During the third quarter of fiscal 2008, we recorded $22.8 million in fair value
adjustments for our Series B warrants acquired in connection with our purchase
of Pathmark. There were no such gains during the third quarter of fiscal 2007.
INTEREST EXPENSE
----------------
Interest expense of $36.7 million for the third quarter of 2008 increased from
the prior year amount of $14.5 million due primarily to the higher level of
indebtedness related to our acquisition of Pathmark, including the issuance of
$165 million 5.125% convertible senior notes due 2011 and $255 million 6.75%
convertible senior notes due 2012 resulting in an increase in interest expense
of $8.7 million ($2.8 million of which were non-cash costs), increased
borrowings on our Line of Credit and Credit Agreement resulting in interest
expense of $6.8 million and an increase in interest expense related to Pathmark
of $5.4 million primarily due to interest on capital leases.
INCOME TAXES
------------
The provision for income taxes from continuing operations for the third quarter
of fiscal 2008 was $1.0 million compared to $1.8 million for the third quarter
of fiscal 2007. Consistent with the prior year, we continue to record a
valuation allowance in an amount that appropriately reduces our net deferred tax
asset to reflect our assessment of its realizability.
50
The effective tax rate on continuing operations of 53.1% for the 12 weeks ended
November 29, 2008 varied from the statutory rate of 35% primarily due to the
recording of state and local income taxes, recording additional valuation
allowance offset by a permanent difference related to nonoperating income from
the fair value adjustments related to the conversion features, financing
warrants and Series B warrants.
The effective tax rate on continuing operations of 2.3% for the 12 weeks ended
December 1, 2007 varied from the statutory rate of 35% primarily due to state
and local income taxes and a decrease to our valuation allowance as a result of
the utilization of loss carryforwards that were not previously tax benefited.
DISCONTINUED OPERATIONS
-----------------------
Beginning in the fourth quarter of fiscal year 2002 and in the early part of the
first quarter of fiscal 2003, we decided to sell our operations located in
Northern New England and Wisconsin, as well as our Eight O'Clock Coffee
business. These asset sales are now complete. However, our Company continues to
pay occupancy costs for operating leases on closed locations.
On April 24, 2007, based upon unsatisfactory operating trends and the need to
devote resources to our expanding Northeast core business, our Company announced
negotiations for the sale of our non-core stores within our Midwest operations,
including inventory related to these stores. Our Company ceased sales operations
in all stores as of July 7, 2007. Planned sale transactions for these stores
have been completed.
On May 30, 2007, our Company announced advanced negotiation for the sale of our
non-core stores located within the Greater New Orleans area, including inventory
related to these stores. Our Company ceased sales operations in all stores not
sold as of November 1, 2007. Planned sale transactions for these stores have
been completed.
The loss from operations of discontinued businesses, net of tax, for the third
quarter of fiscal 2008 of $12.5 million decreased from a loss from operations of
discontinued businesses, net of tax, of $13.5 million for the third quarter of
fiscal 2007 primarily due to changes of estimates in vacancy related costs due
to the closure of stores in the Midwest and the Greater New Orleans area. The
gain on disposal of discontinued operations of $1.8 million for the third
quarter of fiscal 2008 relates to the sale of land in the Greater New Orleans
area and the loss on disposal of discontinued operations in the prior year of
$2.2 million primarily was due to impairment losses recorded on the property,
plant and equipment in the Greater New Orleans area and Midwest as we recorded
the assets' fair market value based upon proceeds received less costs to sell.
40 WEEKS ENDED NOVEMBER 29, 2008 COMPARED TO THE 40 WEEKS ENDED DECEMBER 1, 2007
--------------------------------------------------------------------------------
OVERALL
-------
Sales for the 40 weeks ended November 29, 2008 were $7,226.3 million compared to
$4,204.6 million for the 40 weeks ended December 1, 2007 due primarily to the
acquisition of Pathmark; comparable store sales, which includes stores that have
been in operation for two full fiscal years and replacement stores, increased
2.7%. Loss from continuing operations of $2.8 million for the 40 weeks ended
November 29, 2008 decreased from income from continuing operations of $131.5
million for the 40 weeks ended December 1, 2007 primarily due to the absence of
the gain on disposition of Metro, Inc. Loss from discontinued
51
operations of $230.7 million for the 40 weeks ended December 1, 2007 decreased
to a loss from discontinued operations of $26.0 million for the 40 weeks ended
November 29, 2008, due to the absence of the sale and closure of stores in the
Midwest and the sale of our stores in the Greater New Orleans area. Net loss per
share -- basic for the 40 weeks ended November 29, 2008 was $0.57 compared to
net loss per share -- basic $2.37 for the 40 weeks ended December 1, 2007. Net
loss per share -- diluted for the 40 weeks ended November 29, 2008 was $2.79
compared to a net loss per share -- diluted of $2.34 for the 40 weeks ended
December 1, 2007.
40 weeks 40 weeks
Ended Ended Favorable /
Nov. 29, 2008 Dec. 1, 2007 (Unfavorable) % Change
------------- ------------ ------------- ----------
Sales $ 7,226.3 $ 4,204.6 $ 3,021.7 71.9%
Increase in comparable store sales 2.7% 2.3% NA NA
(Loss) income from continuing operations (2.8) 131.5 (134.3) >100.0%
Loss from discontinued operations (26.0) (230.7) 204.7 88.7%
Net (loss) income (28.8) (99.2) 70.4 71.0%
Net loss per share -- basic (0.57) (2.37) 1.80 75.9%
Net loss per share -- diluted (2.79) (2.34) (0.45) (19.2%)
Average weekly sales per supermarket were approximately $425,700 for the 40
weeks ended November 29, 2008 versus $350,200 for the corresponding period of
the prior year, an increase of 21.6% primarily due to the acquisition of
Pathmark's larger supermarkets in the fourth quarter of fiscal 2007.
SALES
-----
For the 40 weeks ended
--------------------------------
Nov. 29, 2008 Dec. 1, 2007
--------------- --------------
Fresh $ 3,658.3 $ 3,722.7
Price Impact 3,168.1 110.1
Gourmet 208.9 192.4
Other 191.0 173.6
Investment in Metro, Inc. -- 5.8
--------------- --------------
Total sales $ 7,226.3 $ 4,204.6
=============== ==============
Sales increased from $4,204.6 million for the 40 weeks ended December 1, 2007 to
$7,226.3 million for the 40 weeks ended November 29, 2008 primarily due to an
increase in the Price Impact segment of $3,058.0 million, as a result of the
acquisition of Pathmark in the fourth quarter of fiscal 2007 as well as an
increase in comparable stores sales of $118.6 million, offset by the absence of
sales from store closures of $168.3 million. The decrease in sales in our Fresh
segment of $64.4 million is primarily due to the absence of sales from store
closures of $153.8 million, offset by an increase in comparable store sales of
$77.7 million and an increase in sales related to the opening of new stores of
$11.7 million. The increase in sales in our Gourmet segment of $16.5 million is
primarily due to comparable store sales increases. The sales increase of $17.4
million, or 10.0%, in our Other segment, representing Discount and Liquor, is
primarily due to an increase in comparable store sales driven by our remodel
program and our acquisition of Best Cellars, offset partially by store closures.
The decrease in sales of $5.8 million, or 100%, in our Metro segment is due to
the expiration of our information technology agreement with Metro, Inc. during
fiscal 2007.
52
GROSS MARGIN
------------
Gross margin of $2,195.5 million decreased 62 basis points to 30.38% as a
percentage of sales for the 40 weeks ended November 29, 2008 from $1,303.3
million or 31.00% as a percentage of sales for the 40 weeks ended December 1,
2007. Excluding the impact of the acquisition of Pathmark, which operates on
lower gross margins, the gross margin rate increased 66 basis points. This
increase is primarily driven by the realization of lower net costs from buying
synergies as well as overall improved margins, especially in the fresh
departments.
The following table details the dollar impact of several items affecting the
gross margin dollar increase (decrease) from the 40 weeks ended December 1, 2007
to the 40 weeks ended November 29, 2008:
Sales Volume Gross Margin Rate Total
------------- ----------------- --------------
Northeast $ 936.6 $ (44.4) $ 892.2
STORE OPERATING, GENERAL AND ADMINISTRATIVE EXPENSE
---------------------------------------------------
SG&A expense was $2,193.0 million or 30.35% as a percentage of sales for the 40
weeks ended November 29, 2008 as compared to $1,323.4 million or 31.48% as a
percentage of sales for the 40 weeks ended December 1, 2007.
Included in SG&A for the 40 weeks ended November 29, 2008 were certain charges
as follows:
o net losses on restructuring activity of $0.4 million (1 basis point);
o costs relating to a voluntary labor buyout program of $3.0 million (4 basis
points);
o costs relating to our withdrawal of the Grocery Haulers, Inc. employees
servicing Pathmark Stores from the Local 863 Union Multiemployer Pension
Plan to our Company of $2.7 million (4 basis points), as discussed in Note
14 -- Retirement Plans and Benefits;
o net real estate activity of $8.1 million (11 basis points); and
o Pathmark acquisition related costs of $28.9 million (40 basis points).
Partially offset by:
o Recoveries from our VISA/Mastercard antitrust class action litigation as
discussed in Note 20 -- Commitments and Contingencies of $2.2 million (3
basis points); and
o a reversal of $5.2 million (7 basis points) for compensation expense
related to restricted stock that had been previously recognized for
performance targets that are no longer probable of being met, as discussed
in Note 15 -- Stock Based Compensation.
Included in SG&A for the 40 weeks ended December 1, 2007 were certain charges as
follows:
o costs relating to a voluntary retirement buyout program of $0.5 million (1
basis point);
o net real estate activity of $7.3 million (17 basis points); and
o Pathmark acquisition related costs of $6.8 million (16 basis points).
53
Partially offset by:
o reversal of costs relating to the consolidation of our operating offices in
line with our smaller operations of $0.9 million (2 basis points);
o gain on the sale of our owned warehouse in Edison, New Jersey of $13.2
million (31 basis points) that was closed and not sold as part of the sale
of our U.S. distribution operations and some warehouse facilities and
related assets to C&S Wholesale Grocers, Inc. as discussed in Note 9 --
Asset Disposition Initiatives; and
o reversal of occupancy related costs of $1.4 million (3 basis points) due to
changes in our estimates of future costs for stores closed as part of our
asset disposition initiatives as discussed in Note 9 -- Asset Disposition
Initiatives.
Excluding the items listed above, SG&A as a percentage of sales decreased 164
basis points during the 40 weeks ended November 29, 2008 as compared to the 40
weeks ended December 1, 2007 primarily due to the acquisition of Pathmark which
contributed higher sales productivity.
During the 40 weeks ended November 29, 2008 and December 1, 2007, we recorded
impairment losses on long-lived assets for impairments due to expected closure,
closure or conversion of stores in the normal course of business of $2.7 million
and $3.6 million, respectively.
The effects of changes in estimates of useful lives were not material to ongoing
depreciation expense. If current operating levels do not continue to improve,
there may be additional future impairments on long-lived assets, including the
potential for impairment of assets that are held and used.
SEGMENT INCOME
--------------
For the 40 weeks ended
---------------------------------
Nov. 29, 2008 Dec. 1, 2007
--------------- -------------
Fresh $ 100.1 $ 60.9
Price Impact 16.1 --
Gourmet 16.6 11.0
Other 1.8 (2.3)
--------------- -------------
Total segment income $ 134.6 $ 69.6
=============== ==============
Segment income increased $65.0 million from $69.6 million for the 40 weeks ended
December 1, 2007 to $134.6 million for the 40 weeks ended November 29, 2008.
Third quarter of fiscal 2008 results include segment income of $16.1 million
from the Pathmark business acquired in the fourth quarter of fiscal 2007 and the
third quarter conversion of Pathmark Sav-A-Center stores. Our Fresh segment
experienced an increase in segment income of $39.2 million from decreased costs,
mainly in labor and occupancy related costs. Segment income from our Gourmet
business improved by $5.6 million primarily as a result of an improved gross
margin rate partially offset by additional operating costs, mainly in labor and
occupancy related costs. The increase in segment income of $4.1 million in our
Other segment, representing Discount and Liquor, is primarily due to improving
sales and margin rates in both businesses and our acquisition of Best Cellars.
Refer to Note 17 - Operating Segments for further discussion of our reportable
operating segments.
54
GAIN ON DISPOSITION OF METRO, INC.
----------------------------------
During the 40 weeks ended December 1, 2007, we sold all shares of our holdings
in Metro, Inc. resulting in a gain of $184.5 million. There were no such gains
during the 40 weeks ended November 29, 2008.
NONOPERATING INCOME
-------------------
During the 40 weeks ended November 29, 2008, we recorded $114.3 million in fair
value adjustments for (i.) our Series A and Series B warrants acquired in
connection with our purchase of Pathmark, (ii.) our conversion feature of the
5.125% convertible senior notes and the 6.75% convertible senior notes, and
(iii.) our financing warrants issued in connection with the issuance of our
convertible senior notes. There were no such gains during the 40 weeks ended
December 1, 2007.
INTEREST EXPENSE
----------------
Interest expense of $116.6 million for the 40 weeks ended November 29, 2008
increased from the prior year amount of $48.8 million due primarily to the
higher level of indebtedness related to our acquisition of Pathmark, including
the issuance of $165 million 5.125% convertible senior notes due 2011 and $255
million 6.75% convertible senior notes due 2012 resulting in an increase in
interest expense of $28.9 million ($9.3 million of which were non-cash costs),
increased borrowings on our Line of Credit and Credit Agreement resulting in an
increase in interest expense of $18.1 million and an increase in interest
expense related to Pathmark of $16.7 million primarily due to interest on
capital leases.
EQUITY IN EARNINGS OF METRO, INC.
---------------------------------
We used the equity method of accounting to account for our investment in Metro,
Inc., through March 13, 2007, because we exerted significant influence over
substantive operating decisions made by Metro, Inc. through our membership on
Metro, Inc.'s Board of Directors and its committees and through an information
technology services agreement with Metro, Inc. During the 40 weeks ended
December 1, 2007, we recorded $7.9 million in equity earnings relating to our
equity investment in Metro, Inc.
During fiscal 2007, we sold all of our holdings in Metro, Inc. Thus, there were
no such equity earnings during the 40 weeks ended November 29, 2008.
INCOME TAXES
------------
The provision for income taxes from continuing operations for the 40 weeks ended
November 29, 2008 was $3.5 million compared to $4.3 million for the 40 weeks
ended December 1, 2007. Consistent with prior year, we continue to record a
valuation allowance against our net deferred tax assets.
The effective tax rate on continuing operations of 510.3% for the 40 weeks ended
November 29, 2008 varied from the statutory rate of 35% primarily due to the
recording of state and local income taxes, recording additional valuation
allowance offset by a permanent difference related to nonoperating income from
the fair value adjustments related to the conversion features, financing
warrants and Series A and B warrants.
The effective tax rate on continuing operations of 3.2% for the 40 weeks ended
December 1, 2007 varied from the statutory rate of 35% primarily due to state
and local income taxes and a decrease to our valuation allowance as a result of
the utilization of loss carryforwards that were not previously tax benefited.
55
DISCONTINUED OPERATIONS
-----------------------
Beginning in the fourth quarter of fiscal year 2002 and in the early part of the
first quarter of fiscal 2003, we decided to sell our operations located in
Northern New England and Wisconsin, as well as our Eight O'Clock Coffee
business. These asset sales are now complete. However, our Company continues to
pay occupancy costs for operating leases on closed locations.
On April 24, 2007, based upon unsatisfactory operating trends and the need to
devote resources to our expanding Northeast core business, our Company announced
negotiations for the sale of our non-core stores within our Midwest operations,
including inventory related to these stores. Our Company ceased sales operations
in all stores as of July 7, 2007. Planned sale transactions for these stores
have been completed. On May 30, 2007, our Company announced advanced negotiation
for the sale of our non-core stores located within the Greater New Orleans area,
including inventory related to these stores. Our Company ceased sales operations
in all stores not sold as of November 1, 2007. Planned sale transactions for
these stores have been completed.
The loss from operations of discontinued businesses, net of tax, for the 40
weeks ended November 29, 2008 of $30.6 million decreased from a loss from
operations of discontinued businesses, net of tax, of $179.7 million for the 40
weeks ended December 1, 2007 primarily due to a decrease in vacancy related
costs that were recorded during fiscal 2007 due to the closure of stores in the
Midwest and the Greater New Orleans area. The gain on disposal of discontinued
operations of $4.7 million for the 40 weeks ended November 29, 2008 increased
from the loss on disposal of discontinued operations in the prior year of $51.0
million primarily due to the absence of impairment losses recorded on the
property, plant and equipment in the Greater New Orleans area and Midwest as we
recorded the assets' fair market value based upon proceeds received and expected
proceeds less costs to sell.
LIQUIDITY AND CAPITAL RESOURCES
-------------------------------
CASH FLOWS
----------
The following table presents excerpts from our Consolidated Statements of Cash
Flows:
40 weeks Ended
-------------------------------------------
Nov. 29, 2008 Dec. 1, 2007
----------------- -----------------
Net cash used in operating activities $ (48,214) $ (25,260)
----------------- -----------------
Net cash (used in) provided by investing activities $ (56,999) $ 84,059
----------------- -----------------
Net cash provided by (used in) financing activities $ 165,427 $ (75,603)
----------------- -----------------
Net cash used in operating activities of $48.2 million for the 40 weeks ended
November 29, 2008 primarily reflected our net loss of $28.8 million, adjusted
for non-cash charges for (i.) depreciation and amortization of $201.4 million,
(ii.) charges related to our asset disposition initiatives of $9.8 million,
(iii.) other share based awards of $3.6 million, partially offset by (iv.) gain
on disposal of discontinued operations of $4.7 million, and (v.) nonoperating
income related to marked to market adjustments for financial instruments of
$114.3 million. Further, cash was provided by an increase in accounts payable of
$21.7 million mainly due to the timing of payments partially offset by an
increase in inventories of $49.1 million, an increase in other assets of $11.8
million, a decrease in accrued salaries, wages, benefits and taxes of $30.3
million and a decrease in other
56
non-current liabilities of $49.0 million primarily due to payments on closed
locations. Refer to Working Capital below for discussion of changes in working
capital items. Net cash used in operating activities of $25.3 million for the 40
weeks ended December 1, 2007 primarily reflected our net loss of $99.2 million,
adjusted for non-cash charges for (i.) depreciation and amortization of $122.6
million, (ii.) asset disposition initiatives of $120.4 million, (iii.) losses on
the disposal of owned property of $2.5 million, (iv.) loss on disposal of
discontinued operations of $51.0 million, (v.) other property impairments of
$3.6 million, (vi.) other share based awards of $7.3 million, partially offset
by (vii.) our equity in earnings of Metro, Inc. of $7.9 million, and (viii.) the
gain on disposition of Metro, Inc. of $184.5 million. Further, cash was provided
by a decrease in accounts receivable of $31.9 million, a decrease in inventories
of $72.7 million primarily due to the sale of our Midwest and the Greater New
Orleans area operations offset by an increase in prepaid expenses and other
current assets of $14.2 million, an increase in other assets of $3.1 million, a
decrease in accrued salaries, wages, benefits and taxes of $52.8 million, a
decrease in other non-current liabilities of $42.6 million and a decrease in
accounts payable of $27.3 million mainly due to the timing of payments.
Net cash used in investing activities of $57.0 million for the 40 weeks ended
November 29, 2008 primarily reflected property expenditures totaling $85.7
million, which included 3 new liquor stores, 1 new Gourmet store, 13 major
remodels, 1 major enlargement, 2 conversions, 7 Pathmark Price Impact remodels
and 3 Starbucks remodels partially offset by proceeds from disposal of property
of $17.7 million and proceeds from maturities of restricted marketable
securities of $9.9 million. For fiscal 2008, we have reduced our planned capital
expenditures from approximately $200 million to an approximate range of $100 to
$125 million mainly due to a shift to lower cost Pathmark Price Impact remodels
as well as our intention to limit capital expenditures in light of the difficult
economic environment. Net cash provided by investing activities of $84.1 million
for the 40 weeks ended December 1, 2007 primarily reflected proceeds from the
sale of assets of $121.6 million ($23.7 million in the Northeast, $53.3 million
in the Midwest and $44.6 million in the Greater New Orleans area), cash received
from the sale of shares of Metro, Inc. of $551.2 million, and net sales of
marketable securities of $20.4 million partially offset by acquisition related
expenditures for the purchase of Pathmark Stores, Inc. of $18.7 million, an
increase in restricted cash of $490.9 million and property expenditures totaling
$98.4 million, which included 4 new supermarkets, 9 major remodels and 2 minor
remodels.
Net cash provided by financing activities of $165.4 million for the 40 weeks
ended November 29, 2008 primarily reflected net proceeds under our revolving
lines of credit of $191.9 million, proceeds from a promissory note of $10.0
million, an increase in book overdrafts of $14.5 million, partially offset by
the settlement of Series A warrants of $45.7 million and principal payments on
capital leases of $5.6 million. Net cash used in financing activities of $75.6
million for the 40 weeks ended December 1, 2007 primarily reflected principal
payments on long-term borrowings of $32.0 million and net principal payments on
revolving lines of credit of $58.7 million offset by net proceeds from long term
real estate liabilities of $6.4 million and proceeds from the exercise of stock
options of $6.2 million.
We operate under an annual operating plan which is reviewed and approved by our
Board of Directors and incorporates the specific operating initiatives we expect
to pursue and our anticipated financial results. We are in the process of
planning for fiscal 2009 and beyond at this time and we believe that our present
cash resources, including invested cash on hand, available borrowings under our
Credit Agreement and other sources, are sufficient to meet our needs. Based on
current information available to us, as of our filing date, we have no
indication that the financial institutions acting as lenders under our $675
million Credit Agreement would be unable to fulfill their commitments as of our
filing date. However, given the current
57
economic environment and credit risk market crisis, we can not assure you that
this may not change in the foreseeable future.
Profitability, cash flow, asset sale proceeds and timing can be impacted by
certain external factors such as unfavorable economic conditions, competition,
labor relations and fuel and utility costs which could have a significant impact
on cash generation. If our profitability and cash flow do not improve in line
with our plans or if they do not otherwise provide sufficient resources to
operate effectively, we anticipate that we would be able to modify the operating
plan, by reducing capital investments and through other contingency actions. We
may also look to raise capital through the issuance of additional debt or equity
in order to ensure that we have appropriate resources. However, there is no
assurance that we will pursue such actions or that they will be successful in
generating resources necessary to operate the business.
WORKING CAPITAL
---------------
We had working capital of $234.2 million at November 29, 2008 compared to
working capital of $112.6 million at February 23, 2008. We had cash and cash
equivalents aggregating $160.9 million at November 29, 2008 compared to $100.7
million at February 23, 2008. The increase in working capital was attributable
primarily to the following:
o An increase in cash and cash equivalents as detailed in the Consolidated
Statements of Cash Flows;
o An increase in inventories due to seasonality;
o A decrease in current portion of other financial liabilities due to the
exercise of Series A warrants by Yucaipa Corporate Initiatives Fund I,
L.P., Yucaipa American Alliance Fund I, L.P. and Yucaipa American Alliance
(Parallel) Fund I, L.P., and
o A decrease in accrued salaries, wages and benefits primarily due to
payments made in connection with our annual incentive programs.
Partially offset by the following:
o A decrease in prepaid expenses and other current assets mainly due to the
timing of payments; and
o An increase in accounts payable (inclusive of book overdrafts) due to the
timing of payments.
LINE OF CREDIT
--------------
On January 16, 2008, we entered into a secured line of credit agreement with
Blue Ridge Investments, L.L.C. This agreement enables us to borrow funds on a
revolving basis subject to invested cash balances. Each borrowing bears interest
at a rate per annum equal to the BBA Libor Daily Floating Rate plus 0.10%. At
November 29, 2008 and February 23, 2008, we had borrowings outstanding under
this line of credit agreement of $7.9 million and $11.6 million, respectively.
This agreement had an original expiration date of December 31, 2008; however, on
November 26, 2008 this agreement was extended to expire on December 31, 2009.
These loans are collateralized by a first priority perfected security interest
in our ownership interest in the Columbia Fund. See Note 5 -- Cash, Cash
Equivalents, Restricted Cash and Restricted Marketable Securities, for further
discussion on the Columbia Fund.
58
CREDIT AGREEMENT
----------------
On December 3, 2007, the 2005 Revolving Credit Agreement and Letter of Credit
Agreement were refinanced pursuant to a new $675 million Credit Agreement. Our
Credit Agreement is syndicated with various financial institutions, with Banc of
America Securities LLC and Bank of America, N.A. as the co-lead arranger.
Subject to borrowing base requirements, the Credit Agreement provides for a
five-year term loan in the aggregate amount of $82.9 million and a five-year
revolving credit facility of $592.1 million enabling us to borrow funds and
issue letters of credit on a revolving basis. The Credit Agreement includes a
$100 million accordion feature which gives us the ability to request increases
in the lending commitments from $675 million to up to $775 million, but such
increases would become effective only if and to the extent that existing and new
lenders agree to provide such increases. Our obligations under the Credit
Agreement are secured by substantially all assets of the company, including, but
not limited to, inventory, certain accounts receivable, pharmacy scripts, owned
real estate and certain Pathmark leaseholds. Borrowings under the Credit
Agreement bear interest based on LIBOR or Prime interest rate pricing. Subject
to certain conditions, we are permitted to pay cumulative cash dividends on
common shares as well as make bond repurchases. At November 29, 2008, there were
$361.8 million of loans and $228.7 million in letters of credit outstanding
under this agreement. As of November 29, 2008, after reducing availability for
borrowing base requirements, we had $77.6 million available under the Credit
Agreement. In addition, we have invested cash available to reduce borrowings
under this Credit Agreement or to use for future operations of $46 million as of
November 29, 2008.
On December 27, 2007, in order to facilitate the syndication of the Credit
Agreement under current market conditions, we entered into an Amended and
Restated Credit Agreement, whereby a portion of the revolving commitment was
converted into a $50 million term loan tranche which was collateralized by
certain real estate assets at an increased margin rate. This agreement expires
on December 3, 2012.
Based on information available to us, as of our filing date, we have no
indication that the financial institutions acting as lenders under our Credit
Agreement would be unable to fulfill their commitments.
PROMISSORY NOTE
---------------
On September 2, 2008, our Company issued a three year, unsecured promissory note
in the amount of $10 million to Erivan Karl Haub. Erivan Haub is the father of
Christian W. E. Haub, our Executive Chairman, and is a limited partner of
Tengelmann which owns an interest in our Company's stock. The principal is due
in a lump sum payment on August 18, 2011 and will bear interest at a rate of 6%
per year, payable in twelve equal payments of $0.15 million over the term of the
note.
SERIES A AND SERIES B WARRANTS
------------------------------
As part of the acquisition of Pathmark on December 3, 2007, we issued 4,657,378
and 6,965,858 roll-over stock warrants in exchange for Pathmark's 2005 Series A
and Series B warrants, respectively. The number of warrants issued was computed
based on the conversion factor of 0.46296. The Series A warrants were
exercisable at $18.36 and expired on June 9, 2008 and the Series B warrants are
exercisable at $32.40 and expire on June 9, 2015. These warrants were originally
valued using the price of A&P common stock of $30.05 per common share, the
quoted market price of A&P common stock on November 30, 2007, the last trading
day before the transaction closing date. The Tengelmann stockholders have the
right to approve any issuance of common stock under these warrants upon exercise
(assuming Tengelmann's outstanding interest is at least 25% and subject to
liquidity impairments defined within the Tengelmann Stockholder Agreement). In
addition, Tengelmann has the ability to exercise a "Put Right" whereby it has
the ability to require A&P to
59
purchase A&P stock held by Tengelmann to settle these warrants. Based on the
rights provided to Tengelmann, A&P does not have sole discretion to determine
whether the payment upon exercise of these warrants will be settled in cash or
through issuance of an equivalent portion of A&P shares. Therefore, these
warrants are recorded as liabilities and marked-to-market each reporting period
based on A&P's current stock price.
On May 7, 2008, the 4,657,378 Series A warrants were exercised by Yucaipa
Corporate Initiatives Fund I, L.P., Yucaipa American Alliance Fund I, L.P. and
Yucaipa American Alliance (Parallel) Fund I, L.P. We opted to settle the Series
A warrants in cash totaling $45.7 million rather than issuing additional common
shares.
Included in "Nonoperating Income" on our Consolidated Statements of Operations
for the 12 and 40 weeks ended November 29, 2008, is a loss of nil and $1.2
million, respectively, for the Series A warrants through the settlement date of
May 7, 2008 and a gain of $22.8 million and $98.7 million, respectively, for the
Series B warrants market value adjustment. The value of the Series B warrants
were $7.4 million as of November 29, 2008 and is included in "Other financial
liabilities" on our Consolidated Balance Sheets. The following assumptions and
estimates were used in the Black-Scholes model for the Series B warrants:
For the 40 weeks
ended
November 29, 2008
-----------------
Expected life 6.5 years
Volatility 59.9%
Dividend yield 0%
Risk-free interest rate 2.35%
PUBLIC DEBT OBLIGATIONS
-----------------------
Outstanding notes totaling $596.0 million at November 29, 2008 consisted of
$12.8 million aggregate principal amount of 9.125% Senior Notes due December 15,
2011, $146.0 million aggregate principal amount of 5.125% Convertible Senior
Notes due June 15, 2011, $237.2 million aggregate principal amount of 6.75%
Convertible Senior Notes due December 15, 2012 and $200.0 million aggregate
principal amount of 9.375% Notes due August 1, 2039. Interest is payable
quarterly on the 9.375% Notes and semi-annually on the 9.125%, 5.125% and 6.75%
Notes. The 9.375% Notes are now callable at par ($25 per bond) and the 9.125%
Notes are callable at a premium to par (103.042%). The 9.375% Notes are
unsecured obligations and were issued under the terms of our senior debt
securities indenture, which contains among other provisions, covenants
restricting the incurrence of secured debt. The 9.375% Notes are effectively
subordinate to the Credit Agreement and do not contain cross default provisions.
All covenants and restrictions for the 9.125% Senior Notes have been eliminated
in connection with the cash tender offer in fiscal 2005. Our notes are not
guaranteed by any of our subsidiaries.
During the 40 weeks ended December 1, 2007, the outstanding principal amount of
our 7.75% Notes of $31.9 million due April 15, 2007 matured and was paid in
full.
On December 18, 2007, we completed a public offering and issued $165 million
5.125% convertible senior notes due 2011 and $255 million 6.75% convertible
senior notes due 2012. The 2011 notes are not redeemable at our option at any
time. The 2012 notes are redeemable at our option on or after December 15, 2010,
at a redemption price of 102.70% and on or after December 15, 2011, at a
redemption price of
60
101.35%. The initial conversion price of the 2011 notes is $36.40 representing a
30.0% premium to the offering price of $28.00 and the initial conversion price
of the 2012 notes is $37.80 representing a 35.0% premium to the offering price
of $28.00 at maturity, and at our option, the notes are convertible into shares
of our stock, cash, or a combination of stock and cash.
Concurrent with this offering, we entered into call options and financing
warrant transactions with financial institutions that are affiliates of the
underwriters of the notes to effectively increase the conversion price of these
notes and to reduce the potential dilution upon future conversion. Conversion
prices were effectively increased to $46.20 or a 65% premium and $49.00 or a 75%
premium for the 2011 and 2012 notes, respectively. We understand that on or
about October 3, 2008, Lehman Brothers OTC Derivatives, Inc. or "LBOTC" who
accounts for 50% of the call option and financing warrant transactions filed for
bankruptcy protection, which is an event of default under such transactions. We
are carefully monitoring the developments affecting LBOTC, noting the impact of
the LBOTC bankruptcy effectively reduced conversion prices for 50% of our Notes
to their stated prices of $36.40 for the 2011 notes and $37.80 for the 2012
notes.
As of December 18, 2007, our Company did not have sufficient authorized shares
to provide for all potential issuances of common stock. Therefore, in accordance
with SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities," our Company accounted for the conversion features as freestanding
instruments. The notes were recorded with a discount equal to the value of the
conversion features at the transaction date and will be accreted to the par
value of the notes over the life of the notes. The value of the conversion
features were determined utilizing the Black-Scholes option pricing model and
recorded as a long term liability. The portion of the conversion features for
which there was not shares available for settlement of conversions were marked
to market each balance sheet date. On June 26, 2008, at a special meeting of
shareholders, the number of shares of common stock we have the authority to
issue was increased to 160,000,000 based on a majority vote by our shareholders.
During the 12 and 40 weeks ended November 29, 2008, we recorded a gain of nil
and $9.4 million, respectively, in "Nonoperating Income" on our Consolidated
Statements of Operations for the conversion features of the 5.125% convertible
senior notes. During the 12 and 40 weeks ended November 29, 2008, the gain that
was recorded in "Nonoperating Income" on our Consolidated Statements of
Operations for the conversion features of the 6.75% convertible senior notes was
nil and $5.1 million, respectively. Based on an increase in available shares
primarily due to the exercise of our Series A warrants during the first quarter
of fiscal 2008 and the increase in authorized shares during the second quarter
of fiscal 2008, the fair value of the conversion features of the 5.125% and
6.75% convertible senior notes of $13.8 million and $14.7 million as of June 26,
2008, respectively, were reclassified to "Additional paid-in-capital" on our
Consolidated Statements of Stockholder's Equity and Comprehensive (Loss) Income.
Thus, the fair value of the conversion features for the 5.125% and 6.75%
convertible notes are no longer classified as a liability at November 29, 2008.
The following assumptions and estimates were used in the Black-Scholes model:
As of
June 26, 2008
-------------
Expected life 3.0 years
Volatility 33.4%
Dividend yield 0%
Risk-free interest rate 3.11%
61
SHARE LENDING AGREEMENTS
------------------------
We have entered into share lending agreements, dated December 12, 2007, with
certain financial institutions, under which we have agreed to loan up to
11,278,988 shares of our common stock (subject to certain adjustments set forth
in the share lending agreements). These borrowed shares must be returned to us
no later than December 15, 2012 or sooner if certain conditions are met. If an
event of default should occur under the stock lending agreement and a legal
obstacle exists that prevents the Borrower from returning the shares, the
Borrower shall, upon written request of our Company, pay our Company, using
available funds, in lieu of the delivery of loaned shares, to settle its
obligation. On June 26, 2008, our shareholders approved to loan up to an
additional 1,577,569 shares of our Company's common stock pursuant to the share
lending agreement.
These financial institutions will sell the "borrowed shares" to investors to
facilitate hedging transactions relating to the issuance of our 5.125% and 6.75%
Convertible Notes. Pursuant to these agreements, we loaned 8,134,002 shares of
our stock of which 6,300,752 shares were sold to the public on December 18, 2007
in a public offering. We did not receive any proceeds from the sale of the
borrowed shares. We received a nominal lending fee from the financial
institutions pursuant to the share lending agreements.
Any shares we loan will be issued and outstanding. Investors that purchase
borrowed shares will be entitled to the same voting and dividend rights as any
other holders of our common stock; however, the financial institutions will not
have such rights pursuant to the share lending agreements. The obligation of the
financial institutions to return the borrowed shares has been accounted for as a
prepaid forward contract and, accordingly, shares underlying this contract,
except as described below, are removed from the computation of basic and
dilutive earnings per share. On a net basis, this transaction will have no
impact on earnings per share.
On September 15, 2008, Lehman and certain of its subsidiaries, including, Lehman
Europe filed a petition under Chapter 11 of the U.S. Bankruptcy Code with the
United States Bankruptcy Court. Lehman Europe is party to a 3,206,058 share
lending agreement with our Company. Due to the circumstances of the Lehman
bankruptcy, we have recorded these loaned shares as issued and outstanding
effective September 15, 2008, for purposes of computing and reporting our
Company's basic and diluted weighted average shares and earnings per share.
CALL OPTION AND FINANCING WARRANT
---------------------------------
Concurrent with the issuance of the convertible senior notes, our Company issued
financing warrants in conjunction with the call options recorded as equity in
the Consolidated Balance Sheet to effectively increase the conversion price of
these notes and reduce the potential dilution upon future conversion. The
financing warrants allow holders to purchase common shares at $46.20 with
respect to the 5.125% notes and $49.00 with respect to the 6.75% notes. The
financing warrants were valued at $36.8 million at the issuance date. At the
issuance date, we did not have sufficient authorized shares to provide all
potential issuances of common stock. Therefore, the financing warrants were
accounted for as freestanding derivatives, required to be settled in cash until
sufficient shares were available and were recorded as a long-term liability in
the Consolidated Balance Sheet. On June 26, 2008, at a special meeting of
shareholders, the number of shares of common stock we have the authority to
issue was increased to 160,000,000 based on a majority vote by our shareholders.
Thus, the financing warrants were marked to market through June 26, 2008
utilizing the Black-Scholes option pricing model and $28.9 million was
reclassified to "Additional paid-in-capital" on our Consolidated Statements of
Stockholder's Equity and Comprehensive (Loss) Income as of June 26, 2008. These
financing warrants are no longer classified as a liability at November 29, 2008.
During the 12 and 40 weeks ended November 29, 2008, we recorded a gain of nil
and $2.3 million, respectively, relating to
62
these warrants, which is included in "Nonoperating income" on our Consolidated
Statements of Operations. The following assumptions and estimates were used in
the Black-Scholes model:
As of
June 26, 2008
---------------------
Expected life 3.3 years - 4.8 years
Volatility 33.4%
Dividend yield 0%
Risk-free interest rate range 3.11% - 3.54%
We understand that on or about October 3, 2008, Lehman Brothers OTC Derivatives,
Inc. or "LBOTC" who accounts for 50% of the call option and financing warrant
transactions filed for bankruptcy protection, which is an event of default under
such transactions. We are carefully monitoring the developments affecting LBOTC.
In the event we terminate these transactions, we would have the right to
monetary damages from LBOTC in an amount equal to the present value of our cost
to replace the transactions with another party for the same period and on the
same terms.
OTHER
-----
We are the guarantor of a loan of $1.1 million related to a shopping center,
which will expire in 2011.
In the normal course of business, we have assigned to third parties various
leases related to former operating stores (the "Assigned Leases"). When the
Assigned Leases were assigned, we generally remained secondarily liable with
respect to these lease obligations. As such, if any of the assignees were to
become unable to continue making payments under the Assigned Leases, we could be
required to assume the lease obligation. As of November 29, 2008, 227 Assigned
Leases remain in place. Assuming that each respective assignee became unable to
continue to make payments under an Assigned Lease, an event we believe to be
remote, we estimate our maximum potential obligation with respect to the
Assigned Leases to be approximately $684.9 million, which could be partially or
totally offset by reassigning or subletting such leases.
Our existing senior debt rating was Caa1 with stable outlook with Moody's
Investors Service ("Moody's") as of November 29, 2008. Our existing senior debt
rating was B with positive outlook with Standard & Poor's Ratings Group ("S&P")
as of November 29, 2008. Also, S&P assigned B- ratings to our $165 million
5.125% convertible senior notes due 2011 and our $255 million 6.75% convertible
senior notes due 2012. Moody's assigned a Caa1 rating to our $165 million 5.125%
convertible senior notes due 2011 and our $255 million 6.75% convertible senior
notes due 2012.
Our liquidity rating was SGL3 with Moody's as of November 29, 2008. Our recovery
rating was 5 with S&P as of November 29, 2008 indicating a modest expectation of
10%-30% recovery of our senior debt to our lenders. Future rating changes could
affect the availability and cost of financing to our Company.
CRITICAL ACCOUNTING ESTIMATES
-----------------------------
Critical accounting estimates are those accounting estimates that we believe are
important to the portrayal of our financial condition and results of operations
and require our most difficult, subjective or complex judgments, often as a
result of the need to make estimates about the effect of matters that are
inherently uncertain.
63
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America ("U.S. GAAP") requires us to
make estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosures of contingent assets and liabilities at the date of
the financial statements, and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates.
Self-Insurance Reserves
Our Consolidated Balance Sheets include liabilities with respect to self-insured
workers' compensation and general liability claims. We estimate the required
liability of such claims on a discounted basis, utilizing an actuarial method,
which is based upon various assumptions, which include, but are not limited to,
our historical loss experience, projected loss development factors, actual
payroll, legal costs and other data. Legal expenses incurred in connection with
workers' compensation and general liability claims are charged to the specific
claim to which costs pertain. The required liability is also subject to
adjustment in the future based upon the changes in claims experience, including
changes in the number of incidents (frequency) and changes in the ultimate cost
per incident (severity).
Long-Lived Assets
We review assets in stores planned for closure or conversion for impairment upon
determination that such assets will not be used for their intended useful life.
The value of the assets is determined based on estimates of future cash flows.
Any impairment amounts are included in SG&A in our Consolidated Statements of
Operations. The effects of changes in estimates of useful lives were not
material to ongoing depreciation expense. If current operating levels do not
improve, there may be a need to take further actions which may result in future
impairments on long-lived assets, including the potential for impairment of
assets that are held and used.
Goodwill and Other Intangible Assets
In accordance with SFAS 142 "Goodwill and Other Intangible Assets," goodwill and
intangibles with indefinite useful lives are no longer required to be amortized,
but tested for impairment at least annually. Our Company tests for impairment in
the fourth quarter of each fiscal year, unless events or changes in
circumstances indicate that impairment may have occurred in an interim period.
The first step of the impairment analysis is performed by comparing the
estimated fair value of each reporting unit to the related carrying value. If
the carrying value exceeds the fair market value, an impairment is indicated.
The estimated fair value of a reporting unit is determined by using discounted
cash flow analyses or by using market multiples, as appropriate. In determining
fair value, we make various assumptions, including projections of future cash
flows. Impairment testing results could differ if actual results are lower than
our expectations or if different methodology was utilized to perform the
impairment analysis.
The current economic environment has led to an overall decline in the stock
market which has negatively impacted our stock price. We do not believe the
decline in our stock price reflects changes in the fundamentals of our business.
Our current expectations are that projected future results of our reporting
units would not indicate an impairment of our goodwill or intangibles. However,
there can be no assurance that there is not an impairment until a full analysis
is completed. Our annual impairment test is performed in the fourth quarter of
our fiscal year and it is possible that the estimated fair value of one or more
of our reporting units may be less than their carrying amounts. If so, we may be
required to record a non-cash impairment charge during our fourth quarter of
fiscal 2008.
Closed Store and Closed Warehouse Reserves
For closed stores and warehouses that are under long-term leases, we adjust the
charges originally accrued for these events for 1) interest accretion, 2)
settlements on leases or sold properties, and 3) changes in estimates in future
sublease rental assumptions. Net adjustments, all of which have been disclosed
in the Notes to the Consolidated Financial Statements, for changes have been
cumulatively approximately 4% from the date of inception, with the most
significant adjustments being made prior to 2000. Adjustments are predominantly
due to fluctuations in the real estate market from the time the original charges
are incurred until the properties are actually settled.
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As of November 29, 2008, we had recorded liabilities for estimated probable
obligations of $178 million. Of this amount, $17 million relates to stores
closed in the normal course of business, $25 million relates to stores and
warehouses closed as part of the asset disposition initiatives (see Note 9 of
our Consolidated Financial Statements), and $136 million relates to stores
closed as part of our discontinued operations (see Note 8 of our Consolidated
Financial Statements). Due to the long-term nature of the lease commitments, it
is possible that current accruals, which are based on estimates of vacancy costs
and sublease income, will change in the future as economic conditions change in
the real estate market; however, we are unable to estimate the impact of such
changes at this time and the existing obligations are management's best estimate
of these obligations at this time.
Warrant Liability
We have warrants which are recorded as liabilities in our financial statements
and marked to market each reporting period using the Black-Scholes option
pricing model. The value of these liabilities may change as a result of changes
in A&P's stock price, the remaining time until maturity, and the current
interest rate.
Employee Benefit Plans
The determination of our obligation and expense for pension and other
postretirement benefits is dependent, in part, on our selection of certain
assumptions used by our actuaries in calculating these amounts. These
assumptions include the weighted average discount rate at which obligations can
be effectively settled, the anticipated rate of future increases in compensation
levels, the expected long-term rate of return on assets, increases or trends in
health care cost, and certain employee related factors, such as turnover,
retirement age and mortality.
The discount rate is determined by taking into account the actual pattern of
maturity of the benefit obligations. To generate the year-end discount rate, a
single rate is developed using a yield curve which is derived from multiple high
quality corporate bonds, discounting each future year's projected cash flow, and
determining the equivalent single discount rate. A discount rate of 5.75% was
selected for the February 23, 2008 disclosures. We use independent actuaries to
assist us in determining the discount rate assumption and measuring our plans'
obligations.
The rate of compensation increase is determined based upon a scale of merit and
promotional increases according to duration plus an economic increase per year.
Our long-term rate of return is developed by taking into account the target
allocations contained in each plan's investment policy, as of the beginning of
the year, and reflecting long term historical data, with greater weight given to
recent years. Under this approach, separate analyses are performed to determine
the expected long-term rate of inflation, real rates of return for each asset
class, and the correlations among the returns for the various asset classes. We
use independent actuaries to assist us in determining our long-term rate of
return assumptions.
We believe that our current assumptions used to estimate plan obligations and
annual expense are appropriate in the current economic environment. However, if
economic conditions change, we may need to change some of our assumptions, and
the resulting changes may materially affect our pension and other postretirement
obligations in the Consolidated Balance Sheets and our future expense in the
Consolidated Statement of Operations. Actual results that differ from our
Company's assumptions are accumulated and amortized over future periods into the
Consolidated Statement of Operations.
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Inventories
We evaluate inventory shrinkage throughout the year based on actual physical
counts and record reserves based on the results of these counts to provide for
estimated shrinkage between the store's last inventory and the balance sheet
date. Physical inventory counts are taken every period for fresh inventory,
approximately twice per fiscal year on a staggered basis for the remaining
merchandise inventory in stores, and annually for inventory in distribution
centers and supplies. The average shrinkage rate resulting from the physical
inventory counts is applied to the ending inventory balance in each store as of
the balance sheet date to provide for estimated shrinkage from the date of the
last physical inventory count for that location. Adjustments to the stock loss
reserve based on physical inventories have not been material.
Income Taxes
As discussed in Note 16 of the Consolidated Financial Statements, we recorded a
valuation allowance for the entire U.S. net deferred tax asset since, in
accordance with SFAS 109, it was more likely than not that the net deferred tax
asset would not be utilized based on historical cumulative losses. Under SFAS
109, this valuation allowance could be reversed in future periods if we
experience improvement in our U.S. operations.
We adopted the provisions of Financial Accounting Standards Board ("FASB")
Interpretation No. 48, Accounting for Uncertainty in Income Taxes--an
Interpretation of FASB Statement 109 ("FIN 48") as of February 25, 2007. The
cumulative effect of the adoption of the recognition and measurement provisions
of FIN 48 resulted in a $24.4 million increase to the February 25, 2007 balance
of retained earnings. Results of prior periods have not been restated. FIN 48
prescribes a recognition threshold and measurement attribute for the financial
statement recognition and measurement of a tax position taken or expected to be
taken in a tax return. FIN 48 requires that we determine whether the benefits of
our tax positions are more likely than not of being sustained upon audit based
on the technical merits of the tax position. For tax positions that are more
likely than not of being sustained upon audit, we recognize the largest amount
of the benefit that is more likely than not of being sustained in our
Consolidated Financial Statements.
For tax positions that are not more likely than not of being sustained upon
audit, we do not recognize any portion of the benefit in our Consolidated
Financial Statements. Our policy for interest and penalties under FIN 48 related
to income tax exposures was not impacted as a result of the adoption of the
recognition and measurement provisions of FIN 48. Therefore, we continue to
recognize interest and penalties as incurred within "(Provision for) benefit
from income taxes" in our Consolidated Statements of Operations.
Our Company makes estimates of the potential liability based on its assessment
of all potential tax exposures. In addition, we use factors such as applicable
tax laws and regulations, current information and past experience with similar
issues to make these adjustments. The increase in our liabilities for
unrecognized tax benefits as of the date of adoption of approximately $165
million was due mostly to our assessment of potential exposure concerning a
deduction taken in the Company's fiscal 2005 federal income tax return. Despite
the Company's belief that its tax return position is supportable, the Company
believes that the position may not be fully sustained upon review by tax
authorities. Such amount was adjusted to approximately $154 million in the
fourth quarter of fiscal 2007 in connection with the Company's fiscal 2006 tax
return to provision reconciliation. As we were in a full valuation allowance
position, the approximate $11 million adjustment had no effect on the Company's
earnings. In addition, the acquisition of Pathmark Stores Inc. increased this
balance to the current $164 million. Our Consolidated Balance Sheet has been
adjusted to reflect the liabilities for uncertain tax positions and deferred tax
assets for net operating losses, since such losses are available to absorb the
taxable income attributable to the unrecognized tax
66
benefits. Thus, there was no impact on the Company's retained earnings resulting
from the increase in the liability for unrecognized tax benefits.
ITEM 3 - Quantitative and Qualitative Disclosures About Market Risk
MARKET RISK
-----------
Market risk represents the risk of loss from adverse market changes that may
impact our consolidated financial position, results of operations or cash flows.
Among other possible market risks, we are exposed to such risk in the areas of
interest rates and foreign currency exchange rates.
From time to time, we may enter hedging agreements in order to manage risks
incurred in the normal course of business including forward exchange contracts
to manage our exposure to fluctuations in foreign exchange rates.
Interest Rates
--------------
Our exposure to market risk for changes in interest rates relates primarily to
our debt obligations. We do not have cash flow exposure due to rate changes on
all of our Notes as of November 29, 2008 of $608.3 million because they are at
fixed interest rates ranging from 2.0% to 9.375%. However, we do have cash flow
exposure on our committed bank lines of credit of $369.7 million due to our
variable floating rate pricing. Accordingly, during the 12 and 40 weeks ended
November 29, 2008, a presumed 1% change in the variable floating rate would have
impacted interest expense by $0.8 million and $2.1 million, respectively. A
presumed 1% change in the variable floating rate during the 12 and 40 weeks
ended December 1, 2007, would have impacted interest expense by $0.06 million
and $0.15 million, respectively.
Foreign Exchange Risk
---------------------
We are exposed to foreign exchange risk to the extent of adverse fluctuations in
the Canadian dollar. As we have approximately $1.0 million in assets denominated
in foreign currency, we do not believe that a change in the Canadian currency of
10% will have a material effect on our Consolidated Statements of Operations or
Cash Flows.
On November 6, 2007, we entered into a currency exchange forward contract to
purchase $380 million United States dollars to hedge the value of our shares in
Metro, Inc. against adverse movements in exchange rates. We measure
ineffectiveness based upon the change in forward exchange rates. In the third
quarter of fiscal 2007 and upon completion of the sale of our shares of Metro,
Inc., this forward contract was settled.
ITEM 4 - Controls and Procedures
We have established and maintained disclosure controls and procedures that are
designed to ensure that information required to be disclosed in our Company's
Exchange Act reports is recorded, processed, summarized and reported within the
time periods specified in the SEC's rules and forms, and that such information
is accumulated and communicated to our Company's management, including our
President and Chief Executive Officer and Senior Vice President, Chief Financial
Officer, as appropriate, to allow timely decisions regarding required
disclosure.
67
We carried out an evaluation, under the supervision and with the participation
of our Company's management, including our Company's President and Chief
Executive Officer along with our Company's Senior Vice President, Chief
Financial Officer, of the effectiveness of the design and operation of our
Company's disclosure controls and procedures pursuant to Exchange Act Rule
13a-15(b). Based upon the foregoing, our Company's President and Chief Executive
Officer along with our Company's Senior Vice President, Chief Financial Officer,
concluded that our Company's disclosure controls and procedures were effective
as of the period covered by this report.
There have been no changes during our Company's fiscal quarter ended November
29, 2008 in our Company's internal control over financial reporting that has
materially affected, or are reasonably likely to materially affect, our
Company's internal control over financial reporting.
CAUTIONARY NOTE
---------------
This presentation may contain forward-looking statements about the future
performance of our Company, and is based on our assumptions and beliefs in light
of information currently available. We assume no obligation to update this
information. These forward-looking statements are subject to uncertainties and
other factors that could cause actual results to differ materially from such
statements including but not limited to: competitive practices and pricing in
the food industry generally and particularly in our principal markets; our
relationships with our employees; the terms of future collective bargaining
agreements; the costs and other effects of lawsuits and administrative
proceedings; the nature and extent of continued consolidation in the food
industry; changes in the financial markets which may affect our cost of capital
or the ability to access capital; supply or quality control problems with our
vendors; and changes in economic conditions, which may affect the buying
patterns of our customers.
PART II. OTHER INFORMATION
ITEM 1 - Legal Proceedings
Refer to Note 20 - Commitments and Contingencies for discussion of our legal
proceedings.
ITEM 1A - Risk Factors
Refer to Item 1A - Risk Factors in our Fiscal 2007 Form 10-K. In addition to the
risk factors disclosed in our Fiscal 2007 Form 10-K, the following risk factors
have been added to update current year events that could have a negative effect
on our Company's financial position and results of operations.
o Current economic conditions have been, and continue to be volatile. As a
result of concern about the stability of the markets and the strength of
counterparties, many financial institutions have reduced and, in some
cases, ceased to provide funding to borrowers. Based on information
available to us, as of our filing date, we have no indication that the
financial institutions acting as lenders under our Credit Agreement would
be unable to fulfill their commitments. Continued turbulence in the global
credit markets and U.S. economy may adversely affect our results of
operations, financial condition and liquidity.
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ITEM 2 - Unregistered Sales of Equity Securities and Use of Proceeds
None
ITEM 3 - Defaults Upon Senior Securities
None
ITEM 4 - Submission of Matters to a Vote of Security Holders
None
ITEM 5 - Other Information
None
ITEM 6 - Exhibits
(a) Exhibits required by Item 601 of Regulation S-K
EXHIBIT NO. DESCRIPTION
10.50 Warehousing, Distribution and Related Services Agreement
dated March 7, 2008 by and between our Company and C&S
Wholesale Grocers, Inc. (incorporated herein by reference to
Exhibit 10.50 to Form 10-Q filed on July 21, 2008)
31.1* Certification of the Chief Executive Officer Pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002
31.2* Certification of the Chief Financial Officer Pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002
32* Certification Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
* Filed with this 10-Q
69
The Great Atlantic & Pacific Tea Company, Inc.
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.
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
Dated: January 8, 2009 By: /s/ Melissa E. Sungela
-----------------------------------------------
Melissa E. Sungela, Vice President,
Corporate Controller (Chief Accounting Officer)
70