Ollie's Bargain Outlet - 10-Q quarterly report FY2018 Q2

Ollie’s Bargain Outlet Holdings, Inc.

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

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

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. (Check one):

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

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

The number of shares of the registrant’s common stock, $0.001 par value, outstanding as of September 5, 2018 was 62,698,476.

(In thousands, except per share amounts)

(In thousands, except per share amounts)

(Unaudited)

Condensed Consolidated Statements of Stockholders’ Equity

(In thousands)

(Unaudited)

Condensed Consolidated Statements of Cash Flows

(In thousands)

(Unaudited)

This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of the U.S. Private Securities Litigation Reform Act of 1995.  Forward-looking statements can be identified by words such as “could,” “may,” “might,” “will,” “likely,” “anticipates,” “intends,” “plans,” “seeks,” “believes,” “estimates,” “expects,” “continues,” “projects” and similar references to future periods, prospects, financial performance and industry outlook. Forward-looking statements are based on our current expectations and assumptions regarding our business, the economy and other future conditions. Because forward-looking statements relate to the future, by their nature, they are subject to inherent uncertainties, risks and changes in circumstances that are difficult to predict. As a result, our actual results may differ materially from those contemplated by the forward-looking statements. Important factors that could cause actual results to differ materially from those in the forward-looking statements include regional, national or global political, economic, business, competitive, market and regulatory conditions, including recently enacted tax legislation, and the following: our failure to adequately procure and manage our inventory or anticipate consumer demand; changes in consumer confidence and spending; risks associated with intense competition; our failure to open new profitable stores, or successfully enter new markets, on a timely basis or at all; our failure to hire and retain key personnel and other qualified personnel; our inability to obtain favorable lease terms for our properties; the loss of, or disruption in the operations of, our centralized distribution centers; fluctuations in comparable store sales and results of operations, including on a quarterly basis; risks associated with our lack of operations in the growing online retail marketplace; our inability to successfully implement our marketing, advertising and promotional efforts; the seasonal nature of our business; risks associated with the timely and effective deployment and protection of computer networks and other electronic systems; the risks associated with doing business with international manufacturers; changes in government regulations, procedures and requirements; and our ability to service our indebtedness and to comply with our financial covenants, together with the other factors set forth under “Item 1A - Risk Factors” contained herein and in our filings with the SEC, including our Annual Report on Form 10-K. Any forward-looking statement made by us in this Quarterly Report on Form 10-Q speaks only as of the date on which such statement is made. Factors or events that could cause our actual results to differ may emerge from time to time, and it is not possible for us to predict all of them. Ollie’s undertakes no obligation to publicly update or revise any forward-looking statement, whether as a result of new information, future developments or otherwise, except as may be required by law.  You are advised, however, to consult any further disclosures we make on related subjects in our public announcements and SEC filings.

Ollie’s is a highly differentiated and fast-growing, extreme value retailer of brand name merchandise at drastically reduced prices.  Known for our assortment of products offered as “Good Stuff Cheap,” we offer customers a broad selection of brand name products in every department, including housewares, food, books and stationery, bed and bath, floor coverings, toys, health and beauty aids and other categories.  Our differentiated go-to market strategy is characterized by a unique, fun and engaging treasure hunt shopping experience, compelling customer value proposition and witty, humorous in-store signage and advertising campaigns.

Since 1982, when we were founded, we have grown organically by backfilling in existing marketplaces and leveraging our brand awareness, marketing and infrastructure to expand into new markets in contiguous states.  In 2003, Mark Butler, our co-founder, assumed his current role as President and Chief Executive Officer.  Under Mr. Butler’s leadership, we expanded from 28 stores located in three states at the end of fiscal year 2003 to 282 stores located in 22 states as of August 4, 2018.

Our stores are supported by two distribution centers, one in York, PA and one in Commerce, GA, which we believe can support between 350 to 400 stores.  We have invested in our associates, infrastructure, distribution network and information systems to allow us to continue to rapidly grow our store footprint, including:

Our business model has produced consistent and predictable store growth over the past several years, during both strong and weaker economic cycles.  We plan to continue to enhance our competitive positioning and drive growth in sales and profitability by executing on the following strategies:

We have a proven portable, flexible, and highly profitable store model that has produced consistent financial results and returns.  Our new store model targets a store size between 25,000 to 35,000 square feet and an average initial cash investment of approximately $1.0 million, which includes store fixtures and equipment, store-level and distribution center inventory (net of payables) and pre-opening expenses.  We target new stores sales of approximately $3.9 million.

While we are focused on driving comparable store sales and managing our expenses, our revenue and profitability growth will primarily come from opening new stores.  The core elements of our business model are procuring great deals, offering extreme values to our customers and creating consistent, predictable store growth and margins.  In addition, our new stores generally open strong, immediately contributing to the growth in net sales and profitability of our business.  We plan to achieve continued net sales growth, including comparable stores sales, by adding additional stores to our store base and by continuing to provide quality merchandise at a value for our customers as we scale and gain more access to purchase directly from major manufacturers.  We also plan to leverage and expand our Ollie’s Army database marketing strategies.  In addition, we plan to continue to manage our selling, general and administrative expenses by continuing to make process improvements and by maintaining our standard policy of reviewing our operating costs.

Our ability to grow and our results of operations may be impacted by additional factors and uncertainties, such as consumer spending habits, which are subject to macroeconomic conditions and changes in discretionary income.  Our customers’ discretionary income is primarily impacted by gas prices, wages and consumer trends and preferences, which fluctuate depending on the environment. The potential consolidation of our competitors or other changes in our competitive landscape could also impact our results of operations or our ability to grow, even though we compete with a broad range of retailers.

Our key competitive advantage is our direct buying relationships with many major manufacturers, wholesalers, distributors, brokers and retailers for our brand name and closeout products and unbranded goods.  We also augment our product mix with private label brands.  As we continue to grow, we believe our increased scale will provide us with even greater access to brand name and closeout products as major manufacturers seek a single buyer to acquire an entire deal.

We consider a variety of financial and operating measures in assessing the performance of our business.  The key measures we use are number of new stores, net sales, comparable store sales, gross profit and gross margin, selling, general and administrative expenses (“SG&A”), pre-opening expenses, operating income, EBITDA and Adjusted EBITDA.

Number of New Stores

The number of new stores reflects the number of stores opened during a particular reporting period.  Before we open new stores, we incur pre-opening expenses described below under “Pre-Opening Expenses” and we make an initial investment in inventory.  We also make initial capital investments in fixtures and equipment, which we amortize over time.

We opened 14 stores during the twenty-six weeks ended August 4, 2018.  We expect new store growth to be the primary driver of our sales growth.  Our initial lease terms are typically between five to seven years with options to renew for three or four successive five-year periods.  Our portable and predictable real estate model focuses on backfilling existing markets and entering new markets in contiguous states.  Our new stores often open with higher sales levels as a result of greater advertising and promotional spend in connection with grand opening events, but decline shortly thereafter to our new store model levels.

Net Sales

Ollie’s recognizes retail sales in its stores when merchandise is sold and the customer takes possession of merchandise.  Also included in net sales in 2018 is revenue allocated to certain redeemed discounts earned via the Ollie’s Army loyalty program and gift card breakage.  Net sales are presented net of returns and sales tax.  Net sales consist of sales from comparable stores and non-comparable stores, described below under “Comparable Store Sales.”  Growth of our net sales is primarily driven by expansion of our store base in existing and new markets.  As we continue to grow, we believe we will have greater access to brand name and closeout merchandise and an increased deal selection, resulting in more potential offerings for our customers.  Net sales are impacted by product mix, merchandise mix and availability, as well as promotional activities and the spending habits of our customers. Our broad selection of offerings across diverse product categories supports growth in net sales by attracting new customers, which results in higher spending levels and frequency of shopping visits from our customers, including Ollie’s Army members.

The spending habits of our customers are subject to macroeconomic conditions and changes in discretionary income.  Our customers’ discretionary income is primarily impacted by gas prices, wages, and consumer trends and preferences, which fluctuate depending on the environment.  However, because we offer a broad selection of merchandise at extreme values, we believe we are less impacted than other retailers by economic cycles. These cycles correspond with declines in general consumer spending habits and we benefit from periods of increased consumer spending.

Comparable Store Sales

Comparable store sales measure performance of a store during the current reporting period against the performance of the same store in the corresponding period of the previous year.  Comparable store sales consist of net sales from our stores beginning on the first day of the sixteenth full fiscal month following the store’s opening, which is when we believe comparability is achieved.  Comparable store sales are impacted by the same factors that impact net sales.

We define comparable stores to be stores that:

Non-comparable store sales consist of new store sales and sales for stores not open for a full 15 months.  Stores which are closed temporarily, but for more than five days in any fiscal month, are included in non-comparable store sales beginning in the fiscal month in which the temporary closure begins until the first full month of operation once the store re-opens, at which time they are included in comparable store sales.

Opening new stores is the primary component of our growth strategy and as we continue to execute on our growth strategy, we expect a significant portion of our sales growth will be attributable to non-comparable store sales.  Accordingly, comparable store sales are only one measure we use to assess the success of our growth strategy.

Gross Profit and Gross Margin

Gross profit is equal to our net sales less our cost of sales.  Cost of sales includes merchandise costs, inventory markdowns, shrinkage and transportation, distribution and warehousing costs, including depreciation. Gross margin is gross profit as a percentage of our net sales. Gross margin is a measure used by management to indicate whether we are selling merchandise at an appropriate gross profit.

In addition, our gross profit margin is impacted by product mix, as some products generally provide higher gross margins, by our merchandise mix and availability, and by our merchandise cost, which can vary.

Our gross profit is variable in nature and generally follows changes in net sales.  We regularly analyze the components of gross profit, as well as gross margin.  Specifically, our product margin and merchandise mix is reviewed by our merchant team and senior management, ensuring strict adherence to internal margin goals.  Our disciplined buying approach has produced consistent gross margins and we believe helps to mitigate adverse impacts on gross profit and results of operation.

The components of our cost of sales may not be comparable to the components of cost of sales or similar measures of our competitors and other retailers.  As a result, our gross profit and gross margin may not be comparable to similar data made available by our competitors and other retailers.

Selling, General and Administrative Expenses

SG&A are comprised of payroll and benefits for store, field support and support center associates.  SG&A also include marketing and advertising, occupancy, utilities, supplies, credit card processing fees, insurance and professional services. The components of our SG&A remain relatively consistent per store and for each new store opening. The components of our SG&A may not be comparable to the components of similar measures of other retailers.  Consolidated SG&A generally increase as we grow our store base and as our net sales increase. A significant portion of our expenses is primarily fixed in nature, and we expect to continue to maintain strict discipline while carefully monitoring SG&A as a percentage of net sales.  We expect that our SG&A will continue to increase in future periods with future growth.

Pre-Opening Expenses

Pre-opening expenses consist of expenses of opening new stores and distribution centers.  For new stores, pre-opening expenses include grand opening advertising costs, payroll expenses, travel expenses, employee training costs, rent expenses and store setup costs, as well as store closing costs.  Pre-opening expenses for new stores are expensed as they are incurred, which is typically within 30 to 45 days of opening a new store. For distribution centers, pre-opening expenses primarily include inventory transportation costs, employee travel expenses and occupancy costs.

Operating Income

Operating income is gross profit less SG&A, depreciation and amortization and pre-opening expenses.  Operating income excludes interest expense, net, and income tax expense.  We use operating income as an indicator of the productivity of our business and our ability to manage expenses.

EBITDA and Adjusted EBITDA

EBITDA and Adjusted EBITDA are key metrics used by management and our Board to assess our financial performance.  EBITDA and Adjusted EBITDA are also frequently used by analysts, investors and other interested parties to evaluate companies in our industry.  We use Adjusted EBITDA to supplement GAAP measures of performance to evaluate the effectiveness of our business strategies, to make budgeting decisions, to evaluate our performance in connection with compensation decisions and to compare our performance against that of other peer companies using similar measures.  Management believes it is useful to investors and analysts to evaluate these non-GAAP measures on the same basis as management uses to evaluate the Company’s operating results.  We believe that excluding items from operating income, net income and net income per diluted share that may not be indicative of, or are unrelated to, our core operating results, and that may vary in frequency or magnitude, enhances the comparability of our results and provides a better baseline for analyzing trends in our business.

We define EBITDA as net income before net interest expense, loss on extinguishment of debt, depreciation and amortization expenses and income taxes.  Adjusted EBITDA represents EBITDA as further adjusted for non-cash stock-based compensation expense, non-cash purchase accounting items, transaction related expenses and debt financing expenses, which we do not consider representative of our ongoing operating performance.  EBITDA and Adjusted EBITDA are non-GAAP measures and may not be comparable to similar measures reported by other companies.  EBITDA and Adjusted EBITDA have limitations as analytical tools, and you should not consider them in isolation or as a substitute for analysis of our results as reported under GAAP. In the future we may incur expenses or charges such as those added back to calculate Adjusted EBITDA. Our presentation of Adjusted EBITDA should not be construed as an inference that our future results will be unaffected by these items. For further discussion of EBITDA and Adjusted EBITDA and for reconciliations of EBITDA and Adjusted EBITDA to net income, the most directly comparable GAAP measure, see “Results of Operations.”

Our results over the past two years have been affected by the following events, which must be understood in order to assess the comparability of our period-to-period financial performance and condition.

Historical Results

Historical results are not necessarily indicative of the results to be expected for any future period.

Financing Transactions

On January 29, 2016, we completed a transaction (“Refinancing”) in which we refinanced the existing senior secured credit facilities with the proceeds of the new Credit Facilities (as defined below).  The new credit facilities consist of a $200.0 million term loan (“Term Loan Facility”) and a $100.0 million revolving credit facility (“Revolving Credit Facility,” and together with the Term Loan, the “Credit Facilities”), which includes a $25.0 million sub-facility for letters of credit and a $25.0 million sub-facility for swingline loans.

We made voluntary prepayments under the Term Loan Facility totaling $25.0 million and $65.0 million during the twenty-six weeks ended August 4, 2018 and July 29, 2017, respectively.  In connection with these prepayments, $0.1 million and $0.3 million of debt issuance cost and $7,000 and $0.1 million of original issue discount were accelerated and included in loss on extinguishment of debt for the twenty-six weeks ended August 4, 2018 and July 29, 2017, respectively.  In accordance with the terms of the Term Loan Facility, the prepayments were applied against the remaining scheduled installment payments of principal due under the Term Loan Facility in direct order of maturity.  As a result, we are no longer obligated to make the scheduled installment payments of principal; however, we currently intend to continue to make these payments and therefore have classified such payments as current portion of long-term debt in the condensed consolidated balance sheet.

Store Openings

We opened six and 11 new stores in the thirteen weeks ended August 4, 2018 and July 29, 2017, respectively. In connection with these store openings, we incurred pre-opening expenses of $1.9 million and $2.3 million for the thirteen weeks ended August 4, 2018 and July 29, 2017, respectively. We opened 14 and 16 new stores in the twenty-six weeks ended August 4, 2018 and July 29, 2017, respectively.  In connection with these store openings, we incurred pre-opening expenses of $3.7 million and $3.9 million for the twenty-six weeks ended August 4, 2018 and July 29, 2017, respectively.

Seasonality

Our business is seasonal in nature and demand is generally the highest in our fourth fiscal quarter due to the holiday sales season.  To prepare for the holiday sales season, we must order and keep in stock more merchandise than we carry during other times of the year and generally engage in additional marketing efforts.  We expect inventory levels, along with accounts payable and accrued expenses, to reach their highest levels in our third and fourth fiscal quarters in anticipation of increased net sales during the holiday sales season.  As a result of this seasonality, and generally because of variation in consumer spending habits, we experience fluctuations in net sales and working capital requirements during the year.  Because we offer a broad selection of merchandise at extreme values, we believe we are less impacted than other retailers by economic cycles which correspond with declines in general consumer spending habits and we believe we still benefit from periods of increased consumer spending.

The following tables summarize key components of our results of operations for the periods indicated, both in dollars and as a percentage of our net sales.

We derived the condensed consolidated statements of income for the thirteen and twenty-six weeks ended August 4, 2018 and July 29, 2017 from our unaudited condensed consolidated financial statements and related notes.  Our historical results are not necessarily indicative of the results that may be expected in the future.

The following table provides a reconciliation of our net income to Adjusted EBITDA for the periods presented:

Net Sales

Net sales increased to $288.1 million in the thirteen weeks ended August 4, 2018 from $254.6 million in the thirteen weeks ended July 29, 2017, an increase of $33.5 million, or 13.1%.  The increase was the result of a comparable store sales increase of $10.4 million, or 4.4%, and a non-comparable store sales increase of $23.1 million.  The increase in non-comparable store sales was driven by sales from stores that have not been open for a full 15 months.

Comparable store sales increased 4.4% for the thirteen weeks ended August 4, 2018 compared to a 4.5% increase for the thirteen weeks ended July 29, 2017.  The increase in comparable store sales for the thirteen weeks ended August 4, 2018 was driven by strong sales in our electronics, housewares, lawn and garden and automotive departments, partially offset by decreases in our toys and summer furniture departments.

Cost of Sales

Cost of sales increased to $175.5 million in the thirteen weeks ended August 4, 2018 from $154.4 million in the thirteen weeks ended July 29, 2017, an increase of $21.1 million, or 13.6%.  The increase in cost of sales was primarily the result of increased net sales.

Gross Profit and Gross Margin

Gross profit increased to $112.6 million in the thirteen weeks ended August 4, 2018 from $100.2 million in the thirteen weeks ended July 29, 2017, an increase of $12.4 million, or 12.4%. Gross margin decreased to 39.1% in the thirteen weeks ended August 4, 2018 from 39.4% in the thirteen weeks ended July 29, 2017 due to increased supply chain costs as a percentage of net sales, partially offset by an increased merchandise margin.

Selling, General and Administrative Expenses

SG&A increased to $73.0 million in the thirteen weeks ended August 4, 2018 from $65.8 million in the thirteen weeks ended July 29, 2017, an increase of $7.2 million, or 11.0%. As a percentage of net sales, SG&A decreased 50 basis points to 25.3% in the thirteen weeks ended August 4, 2018 from 25.8% in the thirteen weeks ended July 29, 2017.  The dollar increase in SG&A was primarily driven by increased selling expenses related to new store growth and increased sales volume. These increased expenses consisted primarily of store payroll and benefits, store occupancy costs and other store-related expenses.

Pre-Opening Expenses

Pre-opening expenses decreased to $1.9 million in the thirteen weeks ended August 4, 2018 from $2.3 million in the thirteen weeks ended July 29, 2017, a reduction of $0.3 million. The decrease in pre-opening expenses during the thirteen weeks ended August 4, 2018 was due to the timing and number of new store openings.

Interest Expense, Net

Net interest expense decreased to $0.3 million in the thirteen weeks ended August 4, 2018 from $1.1 million in the thirteen weeks ended July 29, 2017, a decrease of $0.8 million, or 75.3%.  The decrease was primarily due to prepayments on the Term Loan Facility that reduced our average outstanding loan balance and resulted in a lower interest expense for the thirteen weeks ended August 4, 2018.

Income Tax Expense

Income tax expense for the thirteen weeks ended August 4, 2018 was $4.7 million compared to $9.0 million for the thirteen weeks ended July 29, 2017, a decrease of $4.2 million, or 47.3%.  The decrease in income tax expense was the result of a lower effective tax rate due to the provisions of the 2017 Tax Cuts and Jobs Act (the “2017 Tax Act”), which, among other things, permanently lowered the federal corporate tax rate to 21% from the prior maximum rate of 35%.  In addition, the thirteen weeks ended August 4, 2018 and July 29, 2017 included a discrete tax benefit of $3.8 million and $1.9 million, respectively, due to excess tax benefits related to stock-based compensation.

Net Income

As a result of the foregoing, net income increased to $29.8 million in the thirteen weeks ended August 4, 2018 from $19.7 million in the thirteen weeks ended July 29, 2017, an increase of $10.1 million or 51.4%.

Adjusted EBITDA

Adjusted EBITDA increased to $40.3 million in the thirteen weeks ended August 4, 2018 from $34.9 million in the thirteen weeks ended July 29, 2017, an increase of $5.4 million, or 15.4%.  Factors contributing to this growth included increased gross profit due to the higher sales volume and a 50-basis-point reduction of SG&A as a percentage of net sales.

Net Sales

Net sales increased to $563.8 million in the twenty-six weeks ended August 4, 2018 from $482.2 million in the twenty-six weeks ended July 29, 2017, an increase of $81.6 million, or 16.9%.  The increase was the result of a comparable store sales increase of $14.6 million, or 3.2%, and a non-comparable store sales increase of $67.0 million.  The increase in non-comparable store sales was driven by sales from stores that have not been open for a full 15 months.

Comparable store sales increased 3.2% for the twenty-six weeks ended August 4, 2018 compared to a 3.2% increase for the twenty-six weeks ended July 29, 2017.  The increase in comparable store sales for the twenty-six weeks ended August 4, 2018 was driven by strong sales in our housewares, automotive and floor coverings departments, partially offset by decreases in our toys and books departments.

Cost of Sales

Cost of sales increased to $338.3 million in the twenty-six weeks ended August 4, 2018 from $289.1 million in the twenty-six weeks ended July 29, 2017, an increase of $49.3 million, or 17.0%.  The increase in cost of sales was primarily the result of increased net sales.

Gross Profit and Gross Margin

Gross profit increased to $225.5 million in the twenty-six weeks ended August 4, 2018 from $193.2 million in the twenty-six weeks ended July 29, 2017, an increase of $32.3 million, or 16.7%. Gross margin decreased to 40.0% in the twenty-six weeks ended August 4, 2018 from 40.1% in the twenty-six weeks ended July 29, 2017 due to increased supply chain costs as a percentage of net sales, partially offset by an increased merchandise margin.

Selling, General and Administrative Expenses

SG&A increased to $145.4 million in the twenty-six weeks ended August 4, 2018 from $127.5 million in the twenty-six weeks ended July 29, 2017, an increase of $17.8 million, or 14.0%. As a percentage of net sales, SG&A decreased 60 basis points to 25.8% in the twenty-six weeks ended August 4, 2018 from 26.4% in the twenty-six weeks ended July 29, 2017.  The dollar increase in SG&A was primarily driven by increased selling expenses related to new store growth and increased sales volume. These increased expenses consisted primarily of store payroll and benefits, store occupancy costs and other store-related expenses.

Pre-Opening Expenses

Pre-opening expenses decreased to $3.7 million in the twenty-six weeks ended August 4, 2018 from $3.9 million in the twenty-six weeks ended July 29, 2017, a reduction of $0.2 million. The decrease in pre-opening expenses during the twenty-six weeks ended August 4, 2018 was due to the timing and number of new store openings.

Interest Expense, Net

Net interest expense decreased to $0.8 million in the twenty-six weeks ended August 4, 2018 from $2.5 million in the twenty-six weeks ended July 29, 2017, a reduction of $1.6 million, or 66.8%.  The decrease was primarily due to prepayments on the Term Loan Facility that reduced our average outstanding loan balance and resulted in a lower interest expense for the twenty-six weeks ended August 4, 2018.

Income Tax Expense

Income tax expense in the twenty-six weeks ended August 4, 2018 was $9.6 million compared to $15.6 million in the twenty-six weeks ended July 29, 2017, a decrease of $6.0 million, or 38.3%.  The decrease in income tax expense was the result of a lower effective tax rate due to the provisions of the 2017 Tax Act, which, among other things, permanently lowered the federal corporate tax rate to 21% from the prior maximum rate of 35%.  In addition, the twenty-six weeks ended August 4, 2018 and July 29, 2017 included a discrete tax benefit of $7.7 million and $5.1 million, respectively, due to excess tax benefits related to stock-based compensation.

Net Income

As a result of the foregoing, net income increased to $60.3 million in the twenty-six weeks ended August 4, 2018 from $38.7 million in the twenty-six weeks ended July 29, 2017, an increase of $21.6 million or 55.9%.

Adjusted EBITDA

Adjusted EBITDA increased to $81.2 million in the twenty-six weeks ended August 4, 2018 from $67.0 million in the twenty-six weeks ended July 29, 2017, an increase of $14.3 million, or 21.3%.  Factors contributing to this growth included increased gross profit due to the higher sales volume and a 60-basis-point reduction of SG&A as a percentage of net sales.

Overview

Our primary sources of liquidity are net cash provided by operating activities and borrowings under our Revolving Credit Facility.  Our primary cash needs are for capital expenditures and working capital.  As of August 4, 2018, we had $95.4 million of available borrowings under our Revolving Credit Facility, $29.4 million of cash and cash equivalents on hand, and $21.3 million of outstanding borrowings under our Term Loan Facility.

Our capital expenditures are primarily related to new store openings, store resets, which consist of improvements to stores as they are needed, expenditures related to our distribution centers and infrastructure-related investments, including investments related to upgrading and maintaining our information technology systems.  We spent $5.5 million and $5.7 million for capital expenditures during the thirteen weeks ended August 4, 2018 and July 29, 2017, respectively.  For the twenty-six weeks ended August 4, 2018, we spent $10.2 million for capital expenditures compared to $8.7 million for the twenty-six weeks ended July 29, 2017. We expect to fund capital expenditures from net cash provided by operating activities. We opened 14 stores during the twenty-six weeks ended August 4, 2018 and expect to open between 36 and 38 stores during 2018. We also expect to invest in our distribution centers, store resets and general corporate capital expenditures, including information technology, in 2018.

Historically, we have funded our capital expenditures and working capital requirements during the fiscal year with cash on hand and borrowings under our Revolving Credit Facility.  When we have used our Revolving Credit Facility, the amount of indebtedness outstanding under it has tended to be the highest in the beginning of our fourth fiscal quarter.

Our primary working capital requirements are for the purchase of inventory, payroll, rent, other store operating costs, distribution costs and general and administrative costs.  Our working capital requirements fluctuate during the year, rising in our third fiscal quarter as we increase quantities of inventory in anticipation of our peak holiday sales season in our fourth fiscal quarter.  Fluctuations in working capital are also driven by the timing of new store openings.

Based on our new store growth plans, we believe our cash position, net cash provided by operating activities and availability under our Revolving Credit Facility will be adequate to finance our planned capital expenditures, working capital requirements and debt service over the next 12 months.  If cash provided by operating activities and borrowings under our Revolving Credit Facility are not sufficient or available to meet our capital requirements, we will then be required to obtain additional equity or debt financing in the future.  There can be no assurance equity or debt financing will be available to us when needed or, if available, the terms will be satisfactory to us and not dilutive to our then-current stockholders.

Summary of Cash Flows

A summary of our cash flows from operating, investing and financing activities is presented in the following table:

Net cash provided by operating activities was $22.5 million for the twenty-six weeks ended August 4, 2018 compared to net cash used in operating activities of $2.7 million for the twenty-six weeks ended July 29, 2017.  The increase in net cash provided by operating activities for the twenty-six weeks ended August 4, 2018 was primarily due to increases in net income due to new store openings and increased profitability at existing stores.

Cash Used in Investing Activities

Net cash used in investing activities for the twenty-six weeks ended August 4, 2018 and July 29, 2017 was $10.2 million and $8.7 million, respectively.  The increase in cash used in investing activities primarily relates to capital expenditures for our two distribution centers and ongoing investments in existing stores and information technology.

Cash Used in Financing Activities

Net cash used in financing activities was $22.2 million and $62.5 million for the twenty-six weeks ended August 4, 2018 and July 29, 2017, respectively. The decrease in cash outflows for the twenty-six weeks ended August 4, 2018 was primarily related to the $40.0 million reduction in voluntary term loan prepayments in the twenty-six weeks ended August 4, 2018 compared to the twenty-six weeks ended July 29, 2017.

We enter into long-term contractual obligations and commitments in the normal course of business, primarily operating leases. Except as set forth below, there have been no material changes to our contractual obligations as disclosed in our Annual Report on Form 10-K, other than those which occur in the ordinary course of business.

During the twenty-six weeks ended August 4, 2018, 21 new store leases commenced.  The fully executed leases have initial terms of approximately seven years with options to renew for three or four successive five-year periods and have future minimum lease payments that total approximately $27.4 million.

Except for operating leases entered into in the normal course of business, we do not have any off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that is material to investors.

The preparation of financial statements in conformity with GAAP requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, expenses and related disclosures. There have been no significant changes in the significant accounting policies and estimates, except for what is described in Note 2 of this Quarterly Report on Form 10-Q, as we adopted Accounting Standards Update 2014-09, Revenue from Contracts with Customers, on February 4, 2018.

During the thirteen weeks ended August 4, 2018, we had no critical accounting policies and estimates.

Recently issued accounting pronouncements are discussed in Note 1(f) to the condensed consolidated financial statements.

We are subject to interest rate risk in connection with borrowings under our credit facilities, which bear interest at variable rates. As of August 4, 2018, we had no outstanding borrowings under our Revolving Credit Facility and $21.3 million of outstanding indebtedness under the Term Loan Facility. The impact of a 1.0% rate change on the outstanding balance of the Term Loan Facility as of August 4, 2018 would be approximately $0.2 million.

As of August 4, 2018, there were no other material changes in the market risks described in the “Quantitative and Qualitative Disclosure of Market Risks” section of our Annual Report on Form 10-K filed with the SEC on April 4, 2018.

Our results of operations and financial condition are presented based on historical cost. While it is difficult to accurately measure the impact of inflation due to the imprecise nature of the estimates required, we believe the effects of inflation, if any, on our historical results of operations and financial condition have been immaterial. We cannot be assured that our results of operations and financial condition will not be materially impacted by inflation in the future.

Our management has evaluated, under the supervision and with the participation of our Chief Executive Officer and Chief Financial Officer, the effectiveness of our disclosure controls and procedures, as defined in Rule 13(a)-15(e) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), as of the end of the period covered by this Quarterly Report on Form 10-Q pursuant to Rule 13a-15(b) of the Exchange Act. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures as of the end of the period covered by this Quarterly Report on Form 10-Q are effective at a reasonable assurance level in ensuring that information required to be disclosed in our Exchange Act reports is: (1) recorded, processed, summarized and reported in a timely manner, and (2) accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure. Our management, including our Chief Executive Officer and Chief Financial Officer, does not expect that our disclosure controls and procedures will prevent or detect all errors and all fraud. While our disclosure controls and procedures are designed to provide reasonable assurance of their effectiveness, because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Company have been detected.

There were no changes to our internal control over financial reporting during the thirteen weeks ended August 4, 2018 that have materially affected, or that are reasonably likely to materially affect, our internal control over financial reporting.

See Item 1A in our Annual Report on Form 10-K for the year ended February 3, 2018 for a detailed description of risk factors affecting the Company.  There have been no significant changes from the risk factors previously disclosed in those filings.

Not applicable.

Not applicable.

Not applicable.

None.

* Filed herewith.

** Submitted electronically with this Report.

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.