UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
-----------------------
FORM 10-Q/A
AMENDMENT NO. 2
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended April 30, 2006 Commission File Number 000-50421
CONN'S, INC.
(Exact name of registrant as specified in its charter)
A Delaware Corporation 06-1672840
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
3295 College Street
Beaumont, Texas 77701
(409) 832-1696
(Address, including zip code, and telephone
number, including area code, of registrant's
principal executive offices)
NONE
(Former name, former address and former
fiscal year, if changed since last report)
Indicate by check mark whether the registrant (l) has filed all reports required
to be filed by Section l3 or l5(d) of the Securities Exchange Act of l934 during
the preceding l2 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, or a non-accelerated filer. See definition of "accelerated
filer and large accelerated filer" in Rule 12b-2 of the Exchange Act. (Check
One):
Large accelerated filer [ ] Accelerated filer [x] Non-accelerated filer [ ]
Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Act). Yes [ ] No [x]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of May 30, 2006:
Class Outstanding
- -------------------------------------- -----------------
Common stock, $.01 par value per share 23,665,335
EXPLANATORY NOTE
Correction of Consolidated Financial Statements
We are amending our Quarterly Report on Form 10-Q/A (the "Original Filing")
for the quarter ended April 30, 2006, to correct a mistake in our consolidated
balance sheet as of April 30, 2006 filed with our Quarterly Report on Form
10-Q/A for the quarter ended April 30, 2006, filed with the Securities and
Exchange Commission on September 15, 2006. This amendment and correction are
necessitated by a typographical error in the consolidated balance sheets,
specifically in the line entitled "Accrued compensation and related expenses"
and the resulting total lines.
All of the information in this Form 10-Q/A is as of April 30, 2006 and does
not reflect any subsequent information or events other than the correction
indicated above. Only the following items have been amended as a result of the
correction:
Part I - Item 1 - Financial Statements, Consolidated Balance Sheets, Page 1
Other than as discussed above, this Form 10-Q/A does not reflect events
occurring after the filing of the Original Filing or modify or update
disclosures (including the exhibits to the Original Filing) affected by
subsequent events. Accordingly, this Form 10-Q/A should be read in conjunction
with our periodic filings made with the Securities and Exchange Commission
subsequent to the date of the Original Filing, including any amendments to those
filings. In addition, this Form 10-Q/A includes updated certifications from our
Chief Executive Officer and Chief Financial Officer as Exhibits 31.1, 31.2, and
32.1.
i
TABLE OF CONTENTS
-----------------
PART I. FINANCIAL INFORMATION Page No.
--------------------- --------
Item 1. Financial Statements...........................................................................1
- --------
Consolidated Balance Sheets as of January 31, 2006 and April 30, 2006..........................1
Consolidated Statements of Operations for the three months ended
April 30, 2005 and 2006....................................................................2
Consolidated Statement of Stockholders' Equity for the three months ended
April 30, 2006.............................................................................3
Consolidated Statements of Cash Flows for the three months ended
April 30, 2005 and 2006....................................................................4
Notes to Consolidated Financial Statements.....................................................5
Item 2. Management's Discussion and Analysis of Financial Condition
- -------- and Results of Operations.................................................................15
Item 3. Quantitative and Qualitative Disclosures About Market Risk....................................28
- --------
Item 4. Controls and Procedures.......................................................................29
- --------
PART II. OTHER INFORMATION
-----------------
Item 1. Legal Proceedings.............................................................................30
- --------
Item 1A. Risk Factors..................................................................................30
- --------
Item 5. Other Information.............................................................................30
- --------
Item 6. Exhibits......................................................................................30
- --------
SIGNATURE ..........................................................................................31
ii
Part I. FINANCIAL INFORMATION
Item 1. Financial Statements
Conn's, Inc.
CONSOLIDATED BALANCE SHEETS
(in thousands, except share data)
(As Adjusted, See Note 1 and As Restated, See Note 9)
January 31, April 30,
2006 2006
----------- -----------
Assets (unaudited)
Current assets
Cash and cash equivalents $ 45,176 $ 30,924
Accounts receivable, net 23,542 26,882
Interests in securitized assets 139,282 139,022
Inventories 73,987 80,527
Prepaid expenses and other assets 4,004 4,510
----------- -----------
Total current assets 285,991 281,865
Non-current deferred income tax asset 2,464 2,881
Property and equipment
Land 6,671 6,671
Buildings 7,084 12,946
Equipment and fixtures 9,612 10,198
Transportation equipment 3,284 3,105
Leasehold improvements 65,507 66,057
----------- -----------
Subtotal 92,158 98,977
Less accumulated depreciation (37,332) (40,149)
----------- -----------
Total property and equipment, net 54,826 58,828
Goodwill, net 9,617 9,617
Debt issuance costs and other assets, net 260 268
----------- -----------
Total assets $ 353,158 $ 353,459
=========== ===========
Liabilities and Stockholders' Equity
Current liabilities
Current portion of long-term debt $ 136 $ -
Accounts payable 40,920 36,884
Accrued compensation and related expenses 18,847 10,645
Accrued expenses 17,380 17,062
Income taxes payable 8,794 5,602
Deferred income taxes 1,343 3,334
Deferred revenues and allowances 8,498 8,693
----------- -----------
Total current liabilities 95,918 82,220
Long-term debt - -
Non-current deferred income tax liability 903 960
Deferred gain on sale of property 476 435
Stockholders' equity
Preferred stock ($0.01 par value, 1,000,000
shares authorized; none issued or
outstanding) - -
Common stock ($0.01 par value, 40,000,000
shares authorized; 23,571,564 and
23,665,335 shares issued and outstanding
at January 31, 2006 and April 30, 2006,
respectively) 236 237
Additional paid-in capital 89,027 90,551
Accumulated other comprehensive income 10,492 11,001
Retained earnings 156,106 168,055
----------- -----------
Total stockholders' equity 255,861 269,844
----------- -----------
Total liabilities and stockholders'
equity $ 353,158 $ 353,459
=========== ===========
See notes to consolidated financial statements.
1
Conn's, Inc.
CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited)
(in thousands, except earnings per share)
(As Adjusted, See Note 1 and As Restated, See Note 9)
Three Months Ended
April 30,
---------------------------
2005 2006
------------- -------------
Revenues
Product sales $ 127,275 $ 158,509
Service maintenance agreement commissions, net 6,884 7,967
Service revenues 4,775 5,229
------------- -------------
Total net sales 138,934 171,705
Finance charges and other 18,985 20,483
------------- -------------
Total revenues 157,919 192,188
Cost and expenses
Cost of goods sold, including warehousing and occupancy
costs 100,917 125,729
Cost of parts sold, including warehousing and occupancy
costs 1,225 1,565
Selling, general and administrative expense 39,739 46,664
Provision for bad debts 468 43
------------- -------------
Total cost and expenses 142,349 174,001
------------- -------------
Operating income 15,570 18,187
Interest (income) expense, net 355 (184)
Other (income) expense, net 6 (33)
------------- -------------
Income before income taxes 15,209 18,404
Provision for income taxes
Current 7,543 5,086
Deferred (2,202) 1,369
------------- -------------
Total provision for income taxes 5,341 6,455
------------- -------------
Net income $ 9,868 $ 11,949
============= =============
Earnings per share
Basic $ 0.42 $ 0.51
Diluted $ 0.42 $ 0.49
Average common shares outstanding
Basic 23,307 23,596
Diluted 23,775 24,448
See notes to consolidated financial statements.
2
Conn's, Inc.
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
Three Months Ended April 30, 2006
(unaudited)
(in thousands except descriptive shares)
(As Adjusted, see Note 1, and As Restated, see Note 9)
Accum.
Other
Common Stock Compre- Additional
------------------ hensive Paid-in Retained
Shares Amount Income Capital Earnings Total
-------- --------- ---------- ----------- ----------- ------------
Balance January 31, 2006 23,572 $ 236 $ 10,492 $ 89,027 $ 156,106 $ 255,861
Exercise of options to acquire
91,698 shares of common stock 92 1 938 939
Issuance of 2,073 shares of common
stock under Employee Stock
Purchase Plan 2 60 60
Stock-based compensation 393 393
Tax benefit from options exercised 133 133
Net income 11,949 11,949
Adjustment of fair value of
securitized assets (net of tax of
$264), net of reclassification
adjustments of $3,330 (net of tax
of $1,801) 509 509
------------
Total comprehensive income 12,458
-------- --------- ---------- ----------- ----------- ------------
Balance April 30, 2006 23,666 $ 237 $ 11,001 $ 90,551 $ 168,055 $ 269,844
======== ========= ========== =========== =========== ============
See notes to consolidated financial statements.
3
Conn's, Inc.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
(in thousands)
(As Adjusted, See Note 1 and As Restated, See Note 9)
Three Months Ended
April 30,
-------------------------
2005 2006
------------ ------------
Cash flows from operating activities
Net income $ 9,868 $ 11,949
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation 2,645 3,006
Amortization (59) (97)
Provision for bad debts 521 43
Stock-based compensation 263 393
Excess tax benefits from stock-based compensation - (133)
Discounts on promotional credit 111 217
Accretion from interests in securitized assets (4,897) (5,131)
Provision for deferred income taxes (2,202) 1,369
Loss (Gain) from sale of property and equipment 6 (33)
Loss from derivatives 69 -
Changes in operating assets and liabilities:
Accounts receivable 3,376 2,563
Inventory (7,048) (6,541)
Prepaid expenses and other assets 251 (506)
Accounts payable 2,593 (4,036)
Accrued expenses (536) (8,520)
Income taxes payable 6,584 (3,192)
Deferred revenue and allowances 111 265
------------ ------------
Net cash provided by (used in) operating activities 11,656 (8,384)
------------ ------------
Cash flows from investing activities
Purchase of property and equipment (3,273) (7,023)
Proceeds from sale of property 11 48
------------ ------------
Net cash used in investing activities (3,262) (6,975)
------------ ------------
Cash flows from financing activities
Proceeds from stock issued under employee benefit
plans 755 1,132
Excess tax benefits from stock-based compensation - 133
Borrowings under lines of credit 25,800 3,200
Payments on lines of credit (36,300) (3,200)
Increase in debt issuance costs - (22)
Payment of promissory notes (7) (136)
------------ ------------
Net cash provided by (used in) financing activities (9,752) 1,107
------------ ------------
Net change in cash (1,358) (14,252)
Cash and cash equivalents
Beginning of the year 7,027 45,176
------------ ------------
End of period $ 5,669 $ 30,924
============ ============
See notes to consolidated financial statements.
4
Conn's , Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
April 30, 2006
(Restated)
1. Summary of Significant Accounting Policies
Basis of Presentation. The accompanying unaudited, condensed consolidated
financial statements have been prepared in accordance with accounting principles
generally accepted in the United States for interim financial information and
with the instructions to Form 10-Q and Article 10 of Regulation S-X.
Accordingly, they do not include all of the information and footnotes required
by accounting principles generally accepted in the United States for complete
financial statements. The accompanying financial statements reflect all
adjustments that are, in the opinion of management, necessary for a fair
statement of the results for the interim periods presented. All such adjustments
are of a normal recurring nature. Operating results for the three month period
ended April 30, 2006 are not necessarily indicative of the results that may be
expected for the year ending January 31, 2007. The financial statements should
be read in conjunction with the Company's (as defined below) audited
consolidated financial statements and the notes thereto included in the
Company's Annual Report on Form 10-K/A filed on September 15, 2006.
The Company's balance sheet at January 31, 2006, as adjusted for Statement
of Financial Accounting Standards No. 123R, has been derived from the audited
financial statements at that date but does not include all of the information
and footnotes required by accounting principles generally accepted in the United
States for complete financial presentation. Please see the Company's Form 10-K/A
for the fiscal year ended January 31, 2006 for a complete presentation of the
audited financial statements at that date, together with all required footnotes,
and for a complete presentation and explanation of the components and
presentations of the financial statements.
Principles of Consolidation. The consolidated financial statements include
the accounts of Conn's, Inc. and its subsidiaries, limited liability companies
and limited partnerships, all of which are wholly-owned (the "Company"). All
material intercompany transactions and balances have been eliminated in
consolidation.
The Company enters into securitization transactions to sell its retail
installment and revolving customer receivables. These securitization
transactions are accounted for as sales in accordance with Statement of
Financial Accounting Standards ("SFAS") No. 140, Accounting for Transfers and
Servicing of Financial Assets and Extinguishment of Liabilities because the
Company has relinquished control of the receivables. Additionally, the Company
has transferred such receivables to a qualifying special purpose entity
("QSPE"). Accordingly, neither the transferred receivables nor the accounts of
the QSPE are included in the consolidated financial statements of the Company.
The Company's retained interest in the transferred receivables are valued on a
revolving pool basis.
Use of Estimates. The preparation of financial statements in conformity
with generally accepted accounting principles requires management to make
estimates and assumptions that affect the amounts reported in the financial
statements and accompanying notes. Actual results could differ from those
estimates.
5
Conn's, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - continued
Earnings Per Share. In accordance with SFAS No. 128, Earnings per Share,
the Company calculates basic earnings per share by dividing net income by the
weighted average number of common shares outstanding. Diluted earnings per share
include the dilutive effects of any stock options granted calculated under the
treasury method. The following table sets forth the shares outstanding for the
earnings per share calculations:
Three Months Ended
April 30,
-----------------------
2005 2006
----------- -----------
Common stock outstanding, beginning of period 23,267,596 23,571,564
Weighted average common stock issued in stock
option exercises 38,893 24,095
Weighted average common stock issued to
employee stock purchase plan 985 722
----------- -----------
Shares used in computing basic earnings per
share 23,307,474 23,596,381
Dilutive effect of stock options, net of
assumed repurchase of treasury stock 548,093 851,192
----------- -----------
Shares used in computing diluted earnings per
share 23,855,567 24,447,573
=========== ===========
Goodwill. Goodwill represents the excess of purchase price over the fair
market value of net assets acquired. The Company assesses the potential future
impairment of goodwill on an annual basis, or at any other time when impairment
indicators exist. The Company concluded at January 31, 2006 and April 30, 2006
that no impairment of goodwill existed.
Stock-Based Compensation. On February 1, 2006, the Company adopted SFAS No.
123R, Stock-Based Payment, using the modified retrospective application
transition. Under the modified retrospective application transition, all prior
period financial statements have been adjusted to give effect to the
fair-value-based method of accounting for stock-based compensation. The adoption
of this statement impacted the financial statements presented as follows:
o For the three months ended April 30, 2005 and 2006, Income before
income taxes was reduced by $262.7 thousand and $393.1 thousand,
respectively.
o For the three months ended April 30, 2005 and 2006, Net income was
reduced by $220.3 thousand and $323.9 thousand, respectively.
o For the three months ended April 30, 2005 and 2006, Basic earnings per
share was reduced by $.01 and $.01, respectively.
o For the three months ended April 30, 2005 and 2006, Diluted earnings
per share was reduced by $.01 and $.01, respectively.
o For the three months ended April 30, 2005 and 2006, Cash flows from
operating activities were reduced by, and Cash flows from investing
activities were increased by, $0.0 and $133.3 thousand, respectively.
o As of January 31, 2006, the Current deferred income tax asset
increased $301.1 thousand, Additional paid-in capital increased $2.0
million and Retained earnings decreased $1.7 million.
For post-IPO stock option grants, the Company has used the Black-Scholes
model to determine fair value. Stock-based compensation expense is recorded, net
of estimated forfeitures, on a straight-line basis over the vesting period of
the applicable grant. Prior to the IPO, the value of the options issued was
estimated using the minimum valuation option-pricing model. Since the minimum
valuation option-pricing model does not qualify as a fair value pricing model
under FAS 123R, the Company follows the intrinsic value method of accounting for
stock-based compensation to employees for these grants, as prescribed by
Accounting Principles Board ("APB") Opinion No. 25, Accounting for Stock Issued
to Employees, and related interpretations. If compensation expense for the
Company's stock options granted prior to the IPO had been recognized using the
fair value method of accounting under SFAS No. 123, net income available for
common stockholders for the three months ended April 30, 2005 and 2006 would
have decreased by 1.1% and 0.4 %, respectively. The following table presents the
impact to earnings per share as if the Company had adopted the fair value
recognition provisions of SFAS No. 123 (dollars in thousands except per share
data):
6
Conn's, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - continued
Three Months Ended
April 30,
---------------------
2005 2006
---------- ----------
Net income available for common stockholders as
reported $ 9,868 $ 11,949
Add: Stock-based compensation recorded, net of
tax 220 324
Less: Stock-based compensation, net of tax
for all awards (324) (372)
---------- ----------
Pro forma net income $ 9,764 $ 11,901
========== ==========
Earnings per share-as reported:
Basic $ 0.42 $ 0.51
Diluted $ 0.42 $ 0.49
Pro forma earnings per share:
Basic $ 0.42 $ 0.50
Diluted $ 0.41 $ 0.49
As of April 30, 2006, the total compensation cost related to non-vested
awards not yet recognized totaled $5.5 million and is expected to be recognized
over a weighted average period of 3.6 years.
Application of APB 21 to Promotional Credit Programs that Exceed One Year
in Duration: The Company offers promotional credit payment plans, on certain
products, that extend beyond one year. In accordance with APB 21, Interest on
Receivables and Payables, such sales are discounted to their fair value
resulting in a reduction in sales and receivables and the amortization of the
discount amount over the term of the deferred interest payment plan. The
difference between the gross sale and the discounted amount is reflected as a
reduction of Product sales in the consolidated statements of operations and the
amount of the discount being amortized in the current period is recorded in
Finance charges and other. For the three months ended April 30, 2005 and 2006,
Product sales were reduced by $595,000 and $947,000, respectively, and Finance
charges and other was increased by $484,000 and $730,000, respectively, to
effect the adjustment to fair value and to reflect the appropriate amortization
of the discount.
Recent Accounting Pronouncements. In October 2005, FASB Staff Position
(FSP) No. 13-1, Accounting for Rental Costs Incurred during a Construction
Period, was issued. This FSP addresses the accounting for rental costs
associated with operating leases that are incurred during a construction period.
It requires that those costs be recognized as rental expense and included in
income from continuing operations. The guidance in this FSP is to be applied to
the first reporting period beginning after December 15, 2005 and states that a
lessee shall cease capitalizing rental costs as of the effective date of the FSP
for operating lease arrangements entered into prior to the effective date of the
FSP. The Company implemented the guidance in this FSP as of February 1, 2006,
and it did not have a material impact on its financial condition or results of
operations.
Reclassifications. Certain reclassifications have been made in the prior
year's financial statements to conform to current year's presentation.
Specifically, the impact of the cancellation of insurance policies on
charged-off receivables, which were previously included in the Provision for bad
debts on the consolidated statements of operations, are now reported as a
reduction of Insurance commissions, which is included in Finance charges and
other.
7
Conn's, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - continued
2. Supplemental Disclosure of Revenue and Comprehensive Income
The following is a summary of the classification of the amounts included as
Finance charges and other for the three months ended April 30, 2005 and 2006 (in
thousands):
Three Months Ended
April 30,
---------------------
2005 2006
---------- ----------
Securitization income $ 13,305 $ 15,237
Income from receivables not sold 280 335
Insurance commissions 4,155 4,266
Other 1,245 645
---------- ----------
Finance charges and other $ 18,985 $ 20,483
========== ==========
The components of total comprehensive income for the three months ended
April 30, 2005 and 2006 are presented in the table below (in thousands):
Three Months Ended
April 30,
---------------------
2005 2006
---------- ----------
Net income $ 9,868 $ 11,949
Unrealized gain on derivative
instruments 246 -
Taxes on unrealized gain on
derivatives (86) -
Adjustment of fair value of
securitized assets (1,409) 773
Taxes on adjustment of fair value 494 (264)
---------- ----------
Total comprehensive income $ 9,113 $ 12,458
========== ==========
3. Supplemental Disclosure Regarding Managed Receivables
The following tables present quantitative information about the receivables
portfolios managed by the Company (in thousands):
Total Principal Amount Principal Amount 60 Days
of Receivables or More Past Due(1)
----------------------- ------------------------
January 31, April 30, January 31, April 30,
2006 2006 2006 2006
----------- ----------- ------------ -----------
Primary portfolio:
Installment $ 380,603 $ 367,774 $ 24,934 $ 21,914
Revolving 41,046 43,677 1,095 1,178
----------- ----------- ------------ -----------
Subtotal 421,649 411,451 26,029 23,092
Secondary portfolio:
Installment 98,072 110,081 9,508 7,798
----------- ----------- ------------ -----------
Total receivables managed 519,721 521,532 35,537 30,890
Less receivables sold 509,681 510,944 33,483 29,076
----------- ----------- ------------ -----------
Receivables not sold 10,040 10,588 $ 2,054 $ 1,814
============ ===========
Non-customer receivables 13,502 16,294
----------- -----------
Total accounts
receivable, net $ 23,542 $ 26,882
=========== ===========
(1) Amounts are based on end of period balances. The principal amount 60 days or
more past due relative to total receivables managed is not necessarily
indicative of relative balances expected at other times during the year due to
seasonal fluctuations in delinquency.
8
Conn's, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - continued
Average Balances Credit Charge-offs
--------------------- ---------------------
Three Months Ended Three Months Ended
April 30, April 30, (1)
--------------------- ---------------------
2005 2006 2005 2006
---------- ---------- ---------- ----------
Primary portfolio:
Installment $ 331,285 $ 373,072
Revolving 30,452 42,553
---------- ----------
Subtotal 361,737 415,625 $ 2,570 $ 3,650
Secondary portfolio:
Installment 74,823 104,610 408 1,028
---------- ---------- ---------- ----------
Total receivables managed 436,560 520,235 2,978 4,678
Less receivables sold 427,129 509,809 2,731 4,525
---------- ---------- ---------- ----------
Receivables not sold $ 9,431 $ 10,426 $ 247 $ 153
========== ========== ========== ==========
(1) Amounts represent total loan charge-offs, net of recoveries, on total receivables.
4. Fair Value of Derivatives
The Company held interest rate swaps and collars with notional amounts
totaling $20.0 million, which expired on April 15, 2005, and were held for the
purpose of hedging against variable interest rate risk, primarily related to
cash flows from the Company's interest-only strip as well as variable rate debt.
In fiscal 2004, hedge accounting was discontinued for the $20.0 million of
swaps. In accordance with SFAS No. 133, Accounting for Derivative Instruments
and Hedging Activities, at the time hedge accounting was discontinued, the
Company began to recognize changes in fair value of the swaps as a reduction to
interest expense and to amortize the amount of accumulated other comprehensive
loss related to those derivatives as interest expense over the period that the
forecasted transactions affected the consolidated statements of operations.
During the three months ended April 30, 2005 and 2006, the Company reclassified
$246,000 and $0, respectively, of losses previously recorded in accumulated
other comprehensive income into the consolidated statements of operations and
recorded $177,000 and $0, respectively, of interest reductions in the
consolidated statements of operations because of the change in fair value of the
swaps.
5. Debt and Letters of Credit
At April 30, 2006, the Company had $48.0 million of its $50 million
revolving credit facility available for borrowings. The amounts utilized under
the revolving credit facility reflected $2.0 million related to letters of
credit issued. The letters of credit were issued under a $5.0 million sublimit
provided under the facility for standby letters of credit. Additionally, there
were no amounts outstanding under a short-term revolving bank agreement that
provides up to $8.0 million of availability on an unsecured basis. This
unsecured facility matures in May 2006 and has a floating rate of interest,
based on Prime, which equaled 7.25% at April 30, 2006. The Company anticipates
that it will renew this facility, with a new maturity date one year from the
current maturity.
9
Conn's, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - continued
The Company utilizes unsecured letters of credit to secure a portion of the
QSPE's asset-backed securitization program, deductibles under the Company's
insurance programs and international product purchases. At January 31, 2006 and
April 30, 2006, the Company had outstanding unsecured letters of credit of $13.0
million and $12.3 million, respectively. These letters of credit were issued
under the three following facilities:
o The Company has a $5.0 million sublimit provided under its revolving
line of credit for stand-by and import letters of credit. At April 30,
2006, $2.0 million of letters of credit were outstanding and callable
at the option of the Company's insurance carrier if the Company does
not honor its requirement to fund deductible amounts as billed under
its insurance program.
o The Company has arranged for a $10.0 million stand-by letter of credit
to provide assurance to the trustee of the asset-backed securitization
program that funds collected by the Company, as the servicer, would be
remitted as required under the base indenture and other related
documents. The letter of credit has a term of one year and expires in
August 2006.
o The Company obtained a $1.5 million commitment for trade letters of
credit to secure product purchases under an international arrangement.
At April 30, 2006, there was $269,000 outstanding under this
commitment. The letter of credit commitment has a term of one year and
expires in May 2006. The Company currently anticipates renewing this
commitment.
The maximum potential amount of future payments under these letter of
credit facilities is considered to be the aggregate face amount of each letter
of credit commitment, which total $16.5 million as of April 30, 2006.
6. Stock-Based Compensation
The Company approved an Incentive Stock Option Plan that provides for a
pool of up to 3.5 million options to purchase shares of the Company's common
stock. Such options are to be granted to various officers and employees at
prices equal to the market value on the date of the grant. The options vest over
three or five year periods (depending on the grant) and expire ten years after
the date of grant. As part of the completion of the IPO, the Company amended the
Incentive Stock Option Plan to provide for a total available pool of 2,559,767
options, adopted a Non-Employee Director Stock Option Plan that included 300,000
options, and adopted an Employee Stock Purchase Plan that reserved up to
1,267,085 shares of the Company's common stock to be issued. On November 24,
2003, the Company issued six non-employee directors 240,000 total options to
acquire the Company's stock at $14.00 per share. On June 3, 2004, the Company
issued 40,000 options to acquire the Company's stock at $17.34 per share to a
seventh non-employee director. At April 30, 2006, the Company had 20,000 options
remaining in the Non-Employee Director Stock Option Plan.
The Employee Stock Purchase Plan is available to a majority of the
employees of the Company and its subsidiaries, subject to minimum employment
conditions and maximum compensation limitations. At the end of each calendar
quarter, employee contributions are used to acquire shares of common stock at
85% of the lower of the fair market value of the common stock on the first or
last day of the calendar quarter. During the three month periods ended April 30,
2005 and 2006, the Company issued 2,829 and 2,073 shares of common stock,
respectively, to employees participating in the plan, leaving 1,245,852 shares
remaining reserved for future issuance under the plan as of April 30, 2006.
10
Conn's, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - continued
A summary of the status of the Company's Incentive Stock Option Plan and
the activity during the three months ended April 30, 2005 and 2006 is presented
below (shares in thousands):
Three Months Ended April 30,
-------------------------------------------------------
2005 2006
--------------------------- ---------------------------
Weighted Weighted
Average Average
Exercise Exercise
Shares Price Shares Price
------------- ------------- ------------- -------------
Outstanding, beginning of period 1,666 $ 11.50 1,626 $ 16.31
Granted - - - -
Exercised (81) $ (8.85) (85) $ (9.92)
Forfeited (19) $ (12.36) (1) $ (16.28)
------------- -------------
Outstanding, end of period 1,566 $ 11.62 1,540 $ 16.67
============= =============
Options exercisable at end of period 631 659
Options available for grant 703 454
Intrinsic value of options exercised during the period $0.7 million $2.2 million
Options Outstanding Options Exercisable
----------------------------------- ---------------------
Weighted
Average
Shares Remaining Weighted Shares Weighted
Outstanding Contractual Average Exercisable Average
April 30, Life in Exercise April 30, Exercise
Range of Exercise Prices 2006 Years Price 2006 Price
- -------------------------------------- ------------- ----------- --------- ----------- ---------
$4.29-$4.29 9 3.7 $ 4.29 9 $ 4.29
$8.21-$10.83 630 5.1 $ 8.55 504 $ 8.40
$14.00 -$16.49 294 7.7 $ 14.32 97 $ 14.13
$17.73-$17.73 280 8.6 $ 17.73 49 $ 17.73
$33.88-$33.88 327 9.6 $ 33.88 - $ -
------------- -----------
Total 1,540 7.2 $ 16.67 659 $ 9.88
============= ===========
Aggregate intrinsic value of
exercisable options at April 30, 2006 $16.0 million
7. Contingencies
Legal Proceedings. The Company is involved in routine litigation incidental
to its business from time to time. Currently, the Company does not expect the
outcome of any of this routine litigation to have a material effect on its
financial condition or results of operations. However, the results of these
proceedings cannot be predicted with certainty, and changes in facts and
circumstances could impact the Company's estimate of reserves for litigation.
Service Maintenance Agreement Obligations. The Company sells service
maintenance agreements under which it is the obligor for payment of qualifying
claims. The Company is responsible for administering the program, including
setting the pricing of the agreements sold and paying the claims. The typical
term for these agreements is between 12 and 36 months. The pricing is set based
on historical claims experience and expectations about future claims. While the
Company is unable to estimate maximum potential claim exposure, it has a history
of overall profitability upon the ultimate resolution of agreements sold. The
revenues related to the agreements sold are deferred at the time of sale and
recorded in revenues in the statement of operations over the life of the
agreements. The revenues deferred related to these agreements totaled $3.6
million and $3.9 million, respectively, as of January 31, 2006 and April 30,
2006, and are included on the face of the balance sheet in Deferred revenues and
allowances.
11
Conn's, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - continued
8. Subsequent Events
Stock Option Plan Amendments. At the Company's annual shareholder's meeting
on May 31, 2006, the shareholders approved an amendment to the Amended and
Restated 2003 Incentive Stock Option Plan to increase the number of shares of
common stock that may be issued under the plan from 2,559,767 to 3,859,767. If
this amendment had taken place on April 30, 2006, there would have been
1,754,129 shares available for issuance under this plan as of April 30, 2006.
At the annual shareholder's meeting, the shareholders also approved an
amendment to the 2003 Non-Employee Directors Stock Option Plan to increase the
number of shares of common stock that may be issued under the plan from 300,000
to 600,000. If this amendment had taken place on April 30, 2006, there would
have been 320,000 shares available for issuance under this plan as of April 30,
2006.
Texas Tax Law Changes. On May 18, 2006, the Governor of Texas signed a tax
bill that modifies the existing franchise tax, with the most significant change
being the replacement of the existing base with a tax based on margin. Taxable
margin is generally defined as total federal tax revenues minus the greater of
(a) cost of goods sold or (b) compensation. The tax rate to be paid by retailers
and wholesalers is 0.5% on taxable margin. This will result in an increase in
taxes paid by the Company, as franchise taxes paid have totaled less than
$50,000 per year for the last several years. Partially offsetting this increase
is a reduction in property tax rates that will be phased in during the 2006 and
2007 property tax years.
The tax changes will impact reported earnings beginning during the second
quarter of the current fiscal year. The Company is currently analyzing the
impact these changes will have on its financial condition and results of
operations.
9. Restatement of Financial Statements
The Company has restated its consolidated financial statements for the
quarters ended April 30, 2006, and 2005 to correct for errors in recording
interests in securitized assets, securitization income and related income tax
impacts that were incorrectly accounted for under U.S. generally accepted
accounting principles, specifically covered by Statement of Financial Accounting
Standards ("SFAS") No. 140, Accounting for Transfers and Servicing of Financial
Assets and Extinguishment of Liabilities and Emerging Issues Task Force ("EITF")
No. 99-20, Recognition of Interest Income and Impairment on Purchased and
Retained Beneficial Interest in Securitized Financial Assets.
In addition to the restatement adjustments discussed above, as a result of
the review, the Company also refined certain of the assumptions used in the
valuation of its interests in securitized assets at fair value. While these
refinements did not result in a change in total securitization income reported,
it did impact the amounts reported for the components of securitization income
in the footnotes to the annual financial statements. Additionally, the changes
resulted in an increase in the total fair value of the interests in securitized
assets reflected on the balance sheet and a related increase in accumulated
other comprehensive income, net of tax.
The information contained in the financial statements and notes thereto
reflect the adjustments described herein and the modified retrospective
application transition of the adoption of SFAS No. 123R (see Note 1) and does
not reflect events occurring after June 1, 2006, the date of the original filing
of our Quarterly Report on Form 10-Q for the quarter ended April 30, 2006, or
modify or update those disclosures that have been affected by subsequent events.
12
Conn's, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - continued
The following table sets forth the effects of the adjustments on Net Income
for the quarters ended April 30, 2005 and 2006.
Increase in Net Income
Quarters ended April 30,
--------------------------
(Dollars in thousands) 2005 2006
------------ ------------
As Previously Reported net income $ 9,582 $ 11,378
Securitization income 387 1,100
Selling, general and administrative expense - (220)
Provision for bad debts 53 -
Income tax provision (154) (309)
------------ ------------
Total adjustment 286 571
------------ ------------
Restated net income $ 9,868 $ 11,949
============ ============
Percent change 3.0% 5.0%
The following tables set forth the effects of the restatement adjustments
on affected line items within our previously reported Consolidated Statement of
Operations for the quarters ended April 30, 2005 and 2006, Consolidated Balance
Sheets as of January 31, 2006 and April 30, 2006, and Consolidated Statements of
Cash Flows for the quarters ended April 30, 2005 and 2006.
Conn's, Inc.
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except share data)
Quarters ended April 30,
---------------------------------------------------
2005 2006
------------------------- -------------------------
As As
Previously Previously
Reported Restated Reported Restated
------------ ------------ ------------ ------------
Finance charges and other $ 19,229 $ 18,985 $ 20,410 $ 20,483
Total revenues 158,163 157,919 192,115 192,188
Provision for bad debts 1,152 468 1,070 43
Total cost and expenses 142,039 142,349 174,808 174,001
Operating income 15,124 15,570 17,307 18,187
Income before income taxes 14,769 15,209 17,524 18,404
Total provision for income taxes 5,187 5,341 6,146 6,455
Net Income 9,582 9,868 11,378 11,949
Earnings per share
Basic $ 0.41 $ 0.42 $ 0.48 $ 0.51
Diluted $ 0.40 $ 0.42 $ 0.47 $ 0.49
13
Conn's, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - continued
Conn's, Inc.
CONSOLIDATED BALANCE SHEETS
(in thousands, except share data)
January 31, 2006 April 30, 2006
----------------------- -----------------------
As As
Previously Previously
Reported Restated Reported Restated
----------- ----------- ----------- -----------
Interests in securitized assets $ 123,449 $ 139,282 $ 122,056 $ 139,022
Deferred income taxes 4,971 - 3,518 -
Total current assets 275,129 285,991 268,417 281,865
Total assets 342,296 353,158 340,011 353,459
Accrued expenses 17,380 17,380 16,842 17,062
Income taxes payable 8,794 8,794 5,679 5,602
Deferred income taxes 757 1,343 906 3,334
Total current liabilities 95,332 95,918 79,649 82,220
Accumulated other comprehensive income 8,004 10,492 8,483 11,001
Retained earnings 148,318 156,106 159,696 168,055
Total stockholders' equity 245,585 255,861 258,967 269,844
Total liabilities and stockholders'
equity $ 342,296 $ 353,158 $ 340,011 $ 353,459
Conn's, Inc.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
Quarters Ended April 30,
----------------------------------------------------
2005 2006
------------------------- -------------------------
As As
Previously Previously
Reported Restated Reported Restated
------------ ------------ ------------ ------------
Cash flows from operating activities
Net income $ 9,582 $ 9,868 $ 11,378 $ 11,949
Adjustments to reconcile net income to
net cash provided by operating activities:
Provision for bad debts 1,152 521 1,070 43
Accretion from interests in securitized assets (3,606) (4,897) (3,407) (5,131)
Provision for deferred income taxes (2,355) (2,202) 983 1,369
Change in operating assets and liabilities:
Accounts receivable 1,894 3,376 912 2,563
In addition, the restatement also resulted in changes to the Consolidated
Statements of Stockholders' Equity and Notes 1, 2 and 3.
14
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations (Restated)
Forward-Looking Statements
This report contains forward-looking statements. We sometimes use words
such as "believe," "may," "will," "estimate," "continue," "anticipate,"
"intend," "expect," "project" and similar expressions, as they relate to us, our
management and our industry, to identify forward-looking statements.
Forward-looking statements relate to our expectations, beliefs, plans,
strategies, prospects, future performance, anticipated trends and other future
events. We have based our forward-looking statements largely on our current
expectations and projections about future events and financial trends affecting
our business. Actual results may differ materially. Some of the risks,
uncertainties and assumptions about us that may cause actual results to differ
from these forward-looking statements include, but are not limited to:
o the success of our growth strategy and plans regarding opening new
stores and entering adjacent and new markets, including our plans to
continue expanding into the Dallas/Fort Worth Metroplex, and South
Texas;
o our intention to update or expand existing stores;
o our ability to obtain capital for required capital expenditures and
costs related to the opening of new stores or to update or expand
existing stores;
o our cash flows from operations, borrowings from our revolving line of
credit and proceeds from securitizations to fund our operations, debt
repayment and expansion;
o the ability of the QSPE to obtain additional funding for the purpose
of purchasing our receivables;
o rising interest rates may increase our cost of borrowing or reduce
securitization income;
o the potential for deterioration in the delinquency status of the sold
or owned credit portfolios or higher than historical charge-offs in
the portfolios could adversely impact earnings;
o the potential for greater than expected losses in the sold or owned
credit portfolios due to the impact of Hurricane Rita on our credit
operations;
o technological and market developments, growth trends and projected
sales in the home appliance and consumer electronics industry,
including with respect to digital products like DVD players, HDTV,
digital audio, home networking devices and other new products, and our
ability to capitalize on such growth;
o the potential for price erosion or lower unit sales points that could
result in declines in revenues;
o increasing oil and gas prices could adversely affect our customers'
shopping decisions and patterns, as well as the cost of our delivery
and service operations and our cost of products if vendors pass on
their additional fuel costs through increased pricing for products;
o both short-term and long-term impact of adverse weather conditions
(e.g. hurricanes) that could result in volatility in our revenues and
increased expenses and casualty losses;
o changes in laws and regulations and/or interest, premium and
commission rates allowed by regulators on our credit, credit insurance
and service maintenance agreements as allowed by those laws and
regulations;
o our relationships with key suppliers;
15
o the adequacy of our distribution and information systems and
management experience to support our expansion plans;
o the accuracy of our expectations regarding competition and our
competitive advantages;
o the potential for market share erosion that could result in reduced
revenues;
o the accuracy of our expectations regarding the similarity or
dissimilarity of our existing markets as compared to new markets we
enter; and
o the outcome of litigation affecting our business.
Additional important factors that could cause our actual results to differ
materially from our expectations are discussed under "Risk Factors" in our Form
10-K filed with the Securities Exchange Commission on March 30, 2006. In light
of these risks, uncertainties and assumptions, the forward-looking events and
circumstances discussed in this report might not happen.
The forward-looking statements in this report reflect our views and
assumptions only as of the date of this report. We undertake no obligation to
update publicly or revise any forward-looking statements, whether as a result of
new information, future events or otherwise, except as required by law.
All forward-looking statements attributable to us, or to persons acting on
our behalf, are expressly qualified in their entirety by these cautionary
statements.
General
We intend the following discussion and analysis to provide you with a
better understanding of our financial condition and performance in the indicated
periods, including an analysis of those key factors that contributed to our
financial condition and performance and that are, or are expected to be, the key
"drivers" of our business.
On September 8, 2006, we concluded that our consolidated financial
statements for the years ended January 31, 2006, 2005 and 2004 as well as the
selected financial data for the years ended January 31, 2006, 2005, 2004, 2003,
and July 31, 2001, the six months ended January 31, 2002 and the twelve months
ended January 31, 2002, and for the quarters ended April 30, 2006 and 2005
should be restated to correct for errors in recording interests in securitized
assets, securitization income and related income tax impacts that were
incorrectly accounted for under U.S. generally accepted accounting principles,
specifically covered by Statement of Financial Accounting Standards ("SFAS") No.
140, Accounting for Transfers and Servicing of Financial Assets and
Extinguishment of Liabilities and Emerging Issues Task Force ("EITF") No. 99-20,
Recognition of Interest Income and Impairment on Purchased and Retained
Beneficial Interest in Securitized Financial Assets. The following discussion
has been updated, as appropriate, to reflect the changes to our financial
statements. See Note 9 to the financial statements for discussion of the impacts
on the financial statements.
On February 1, 2006, we were required to adopt Statement of Financial
Accounting Standard No. 123R, Stock-Based Compensation. We elected to use the
modified retrospective application transition, which results in the
retrospective adjustment of all prior period financial statements using the
fair-value-based method of accounting for stock-based compensation. As
applicable, all amounts disclosed in the financial statements and in
Management's Discussion and Analysis of Financial Condition and Results of
Operations have been adjusted accordingly. See Note 1 to the financial
statements for discussion of the impacts on the financial statements.
We are a specialty retailer that sells major home appliances, including
refrigerators, freezers, washers, dryers and ranges, a variety of consumer
electronics, including projection, plasma, DLP and LCD televisions, camcorders,
VCRs, DVD players, portable audio and home theater products, lawn and garden
products, mattresses and furniture. We also sell home office equipment,
including computers and computer accessories and continue to introduce
additional product categories for the consumer and home to help increase same
store sales and to respond to our customers' product needs. We require all our
16
sales associates to be knowledgeable of all of our products, but to specialize
in certain specific product categories.
We currently operate 58 retail locations in Texas and Louisiana, and have
several other stores under development.
Unlike many of our competitors, we provide flexible in-house credit options
for our customers. In the last three years, we financed, on average,
approximately 57% of our retail sales through our internal credit programs. We
finance a large portion of our customer receivables through an asset-backed
securitization facility, and we derive servicing fee income and interest income
from these assets. As part of our asset-backed securitization facility, we have
created a qualifying special purpose entity, which we refer to as the QSPE or
the issuer, to purchase customer receivables from us and to issue asset-backed
and variable funding notes to third parties. We transfer receivables, consisting
of retail installment and revolving account receivables, extended to our
customers, to the issuer in exchange for cash and subordinated securities. To
finance its acquisition of these receivables, the issuer has issued notes to
third parties.
We also derive revenues from repair services on the products we sell and
from product delivery and installation services we provide to our customers.
Additionally, acting as an agent for unaffiliated companies, we sell credit
insurance and service maintenance agreements to protect our customers from
credit losses due to death, disability, involuntary unemployment and property
damage and product failure not covered by a manufacturers' warranty. We also
derive revenues from the sale of extended service maintenance agreements, under
which we are the primary obligor, to protect the customers after the original
manufacturer's warranty or service maintenance agreement has expired.
Our business is somewhat seasonal, with a greater portion of our revenues,
pretax and net income realized during the quarter ending January 31, due to the
holiday selling season, the major collegiate bowl season and the National
Football League playoffs and Super Bowl.
Executive Overview
This narrative is intended to provide an executive level overview of our
operations for the three months ended April 30, 2006. A detailed explanation of
the changes in our operations for these periods as compared to the prior year is
included in Results of Operations. As explained in that section, our pretax
income for the quarter ended April 30, 2006 increased approximately 21.0%,
primarily as a result of higher revenues and gross margin dollars, lower
selling, general and administrative expenses as a percentage of revenues and
lower interest (income) expense. Some of the more specific issues that impacted
our operating and pretax income are:
o Same store sales for the quarter grew 16.1% over the same period for the
prior year. The improvement in same store sales growth was due primarily to
improved execution at the store level and effective sales promotions. While
we do not have sufficient information to determine what long-term impact
Hurricanes Rita and Katrina will have on sales in the impacted markets,
excluding the Southeast Texas and Louisiana markets, the same store sales
increase was 11.6% in the other markets we serve. These other markets
accounted for 78.7% of same store Product sales and Service maintenance
agreement commissions during the three months ended April 30, 2006. It is
our strategy to continue emphasizing our primary product categories and
focusing on specialty product categories throughout the balance of fiscal
2007.
o Our entry into the Dallas/Fort Worth and the South Texas markets and the
addition of stores in our existing Houston and San Antonio markets had a
positive impact on our revenues. Approximately $11.7 million of our product
sales increase for the quarter ended April 30, 2006 resulted from the
opening of new stores in these markets. Our plans provide for the opening
of additional stores in existing markets during fiscal 2007 as we focus on
opportunities in markets in which we have existing infrastructure.
o While deferred interest and "same as cash" plans continue to be an
important part of our sales promotion plans, our improved execution and
effective use of a variety of sales promotions, enabled us to reduce the
17
level of deferred interest and "same as cash" plans. For the three months
ended April 30, 2006, $35.4 million, or 22.3%, in gross product sales were
financed by deferred interest and "same as cash" plans. For the comparable
period in the prior year gross product sales financed by deferred interest
and "same as cash" sales were $40.7 million, or 32.0%. We expect to
continue to offer this type of extended term promotional credit in the
future.
o Our gross margin for the quarter decreased from 35.3% to 33.8% for the
three months ended April 30, 2006 when compared to the same period in the
prior year. This occurred primarily as a result of a change in our revenue
mix as Product sales, which yielded a 20.7% gross margin in both periods,
grew faster than higher margin Service revenues and Finance charges and
other.
o Finance charges and other grew 7.9%, which is a slower pace than Product
sales as:
o service maintenance agreement retrospective commissions decreased $0.7
million, due to a change in the commission structure resulting in
higher front-end commissions, which are included in Net sales,
o insurance commission growth of 2.7% was impacted by reduced insurance
sales penetration, and
o securitization income growth of 14.5% was impacted by a 65.7% increase
in net credit losses due to higher than expected losses primarily as a
result of the impact of Hurricane Rita on our credit operations. We
recorded a portion of the losses against the special reserves which
were provided in the quarter ended October 31, 2005. As of April 30,
2006, $0.3 million remains in the special reserve for our estimate of
the remaining expected losses caused by the impact of Hurricane Rita.
o Operating margin also decreased from 9.9% to 9.5% for the three months
ended April 30, 2006 when compared to the same period in the prior year due
to reduced gross margin that was partially offset by our ability to reduce
Selling, general and administrative (SG&A) expenses as a percent of
revenues. During the three months ended April 30, 2006, we decreased SG&A
expense as a percent of revenues to 24.3% from 25.1% when compared to the
prior year, primarily from decreases in payroll and payroll related
expenses and net advertising expense as a percent of revenues.
o We adopted SFAS No. 123R, Share-Based Payment, during the quarter ended
April 30, 2006. The adoption resulted in expenses totaling $0.4 million
being recorded to SG&A during the quarter ended April 30, 2006 as compared
to $0.3 million being recorded in the quarter ended April 30, 2005.
Operational Changes and Resulting Outlook
During the quarter, we opened a new store in Baytown, Texas. Additionally,
we opened another new store in the Houston market during May 2006. We have
several other locations in Texas that we believe are promising and, along with
new stores in existing markets, are in various stages of development for opening
in fiscal year 2007. We also continue to look at other markets, including
neighboring states for opportunities.
Our credit portfolio delinquency and charge-off statistics were negatively
impacted by the effects of the hurricanes that hit the Gulf Coast during August
and September of 2005, and the bankruptcy law change in October 2005. Non-storm
factors that may have affected delinquencies and charge-offs include the impact
of higher gasoline prices or higher interest rates on our customers and our
internal collection efforts. However, as predicted, the delinquency performance
of the credit portfolio continues to improve and is currently performing within
the range of our historical results during the past four years. See detail
information regarding the delinquency status of the credit portfolio in Note 3
to the financial statements.
On May 18, 2006, the Governor of Texas signed a tax bill that modifies the
existing franchise tax, with the most significant change being the replacement
of the existing base with a tax based on margin. Taxable margin is generally
defined as total federal tax revenues minus the greater of (a) cost of goods
sold or (b) compensation. The tax rate to be paid by retailers and wholesalers
is 0.5% on taxable margin. This will result in an increase in taxes paid by us,
as franchise taxes paid have totaled less than $50,000 per year for the last
several years. Partially offsetting this increase is a reduction in property tax
rates that will be phased in during the 2006 and 2007 property tax years. The
18
tax changes will impact reported earnings beginning during the second quarter of
the current fiscal year. We are currently analyzing the impact these changes
will have on our financial condition and results of operations.
The consumer electronics industry depends on new products to drive same
store sales increases. Typically, these new products, such as digital
televisions, DVD players, digital cameras and MP3 players are introduced at
relatively high price points that are then gradually reduced as the product
becomes more mainstream. To sustain positive same store sales growth, unit sales
must increase at a rate greater than the decline in product prices. The
affordability of the product helps drive the unit sales growth. However, as a
result of relatively short product life cycles in the consumer electronics
industry, which limit the amount of time available for sales volume to increase,
combined with rapid price erosion in the industry, retailers are challenged to
maintain overall gross margin levels and positive same store sales. This has
historically been our experience, and we continue to adjust our marketing
strategies to address this challenge through the introduction of new product
categories and new products within our existing categories.
Application of Critical Accounting Policies
In applying the accounting policies that we use to prepare our consolidated
financial statements, we necessarily make accounting estimates that affect our
reported amounts of assets, liabilities, revenues and expenses. Some of these
accounting estimates require us to make assumptions about matters that are
highly uncertain at the time we make the accounting estimates. We base these
assumptions and the resulting estimates on authoritative pronouncements,
historical information and other factors that we believe to be reasonable under
the circumstances, and we evaluate these assumptions and estimates on an ongoing
basis. We could reasonably use different accounting estimates, and changes in
our accounting estimates could occur from period to period, with the result in
each case being a material change in the financial statement presentation of our
financial condition or results of operations. We refer to accounting estimates
of this type as "critical accounting estimates." We believe that the critical
accounting estimates discussed below are among those most important to an
understanding of our consolidated financial statements as of April 30, 2006.
Transfers of Financial Assets. We transfer customer receivables to the QSPE
that issues asset-backed securities to third party lenders using these accounts
as collateral, and we continue to service these accounts after the transfer. We
recognize the sale of these accounts when we relinquish control of the
transferred financial asset in accordance with SFAS No. 140, Accounting for
Transfers and Servicing of Financial Assets and Extinguishment of Liabilities.
As we transfer the accounts, we record an asset representing the interest only
strip which is the difference between the interest earned on customer accounts
and the cost associated with financing and servicing the transferred accounts,
including a provision for bad debts associated with the transferred accounts (on
a revolving pool basis) discounted to a market rate of interest. The gain or
loss recognized on these transactions is based on our best estimates of key
assumptions, including forecasted credit losses based on actual portfolio
experience over the past twelve months, payment rates, forward yield curves,
costs of servicing the accounts and appropriate discount rates. The use of
different estimates or assumptions could produce different financial results.
For example, if we had assumed a 10.0% reduction in net interest spread (which
might be caused by rising interest rates or reductions in rates charged on the
accounts transferred), our interest in securitized assets would have been
reduced by $5.6 million as of April 30, 2006, which may have an adverse effect
on earnings. We recognize income from our interest in these transferred accounts
as gains on the transfer of the asset, interest income and servicing fees. This
income is recorded as Finance charges and other in our consolidated statements
of operations. If the assumption used for estimating credit losses were changed
by 0.5% from 3.0% to 3.5%, the impact to recorded Finance charges and other
would have been a reduction in revenues and pretax income of $2.1 million.
Deferred Taxes. We have net deferred tax liabilities (approximately $1.4
million as of April, 2006). If we had assumed that the future tax rate at which
these deferred items would reverse was 50 basis points higher than currently
anticipated, we would have increased the net deferred tax liability and
decreased net income by approximately $20,000.
Intangible Assets. We have significant intangible assets related primarily
to goodwill. The determination of related estimated useful lives and whether or
not these assets are impaired involves significant judgments. Effective with the
implementation of SFAS 142, we ceased amortizing goodwill and began testing
19
potential impairment of this asset annually based on judgments regarding ongoing
profitability and cash flow of the underlying assets. Changes in strategy or
market conditions could significantly impact these judgments and require
adjustments to recorded asset balances. For example, if we had reason to believe
that our recorded goodwill had become impaired due to decreases in the fair
market value of the underlying business, we would have to take a charge to
income for that portion of goodwill that we believe is impaired. Our goodwill
balance at April 30, 2006 was $9.6 million.
Property and Equipment. Our accounting policies regarding land, buildings,
equipment and leasehold improvements include judgments regarding the estimated
useful lives of such assets, the estimated residual values to which the assets
are depreciated, and the determination as to what constitutes increasing the
life of existing assets. These judgments and estimates may produce materially
different amounts of depreciation and amortization expense that would be
reported if different assumptions were used. These judgments may also impact the
need to recognize an impairment charge on the carrying amount of these assets as
the cash flows associated with the assets are realized. In addition, the actual
life of the asset and residual value may be different from the estimates used to
prepare financial statements in prior periods.
Revenue Recognition. Revenues from the sale of retail products are
recognized at the time the product is delivered to the customer. Such revenues
are recognized net of any adjustments for sales incentive offers such as
discounts, coupons, rebates, or other free products or services and discounts of
promotional credit sales that will extend beyond one year. We sell service
maintenance agreements and credit insurance contracts on behalf of unrelated
third parties. For contracts where the third parties are the obligors on the
contract, commissions are recognized in revenues at the time of sale, and in the
case of retrospective commissions, at the time that they are earned. Where we
sell service maintenance renewal agreements in which we are deemed to be the
obligor on the contract at the time of sale, revenue is recognized ratably, on a
straight-line basis, over the term of the service maintenance agreement. These
service maintenance agreements are renewal contracts that provide our customers
protection against product repair costs arising after the expiration of the
manufacturer's warranty and the third party obligor contracts. These agreements
typically range from 12 months to 36 months. These agreements are separate units
of accounting under Emerging Issues Task Force No. 00-21, Revenue Arrangements
with Multiple Deliverables. The amount of service maintenance agreement revenue
deferred at April 30, 2006 and January 31, 2006 was $3.9 million and $3.6
million, respectively, and is included in Deferred revenues and allowances in
the accompanying balance sheets.
Vendor Allowances. We receive funds from vendors for price protection,
product rebates, marketing and training and promotion programs which are
recorded on the accrual basis as a reduction to the related product cost or
advertising expense according to the nature of the program. We accrue rebates
based on the satisfaction of terms of the program and sales of qualifying
products even though funds may not be received until the end of a quarter or
year. If the programs are related to product purchases, the allowances, credits
or payments are recorded as a reduction of product cost; if the programs are
related to promotion or marketing of the product, the allowances, credits, or
payments are recorded as a reduction of advertising expense in the period in
which the expense is incurred.
Accounting for Stock-Based Compensation. We adopted Statement of Financial
Accounting Standards No. 123R, Share-Based Payment, effective February 1, 2006,
using the modified retrospective application transition. This statement
establishes standards for accounting for transactions in which an entity
exchanges its equity instruments for goods or services, focusing primarily on
accounting for transactions in which an entity obtains an employee's services.
The statement requires a public entity to measure the cost of employee services
received in exchange for an award of equity instruments, based on the grant-date
fair value of the award, and record that cost over the period during which the
employee is required to provide service in exchange for the award. As a result
of the adoption of this pronouncement, we retrospectively adjusted prior
financial statements to record compensation expense, as previously reported in
the notes to our financial statements, for all awards valued using fair-value
based methods. The impact of the adoption of this pronouncement is discussed in
more detail in Note 1 to our financial statements.
Accounting for Leases. The accounting for leases is governed primarily by
SFAS No. 13, Accounting for Leases. As required by the standard, we analyze each
lease, at its inception, to determine whether it should be accounted for as an
operating lease or a capital lease. Additionally, monthly lease expense for each
operating lease is calculated as the average of all payments required under the
20
minimum lease term, including rent escalations. Generally, the minimum lease
term begins with the date we take possession of the property and ends on the
last day of the minimum lease term, and includes all rent holidays, but excludes
renewal terms that are at our option. Any tenant improvement allowances received
are deferred and amortized into income as a reduction of lease expense on a
straight line basis over the minimum lease term. The amortization of leasehold
improvements is computed on a straight line basis over the shorter of the
remaining lease term or the estimated useful life of the improvements. Effective
February 1, 2006 we implemented the requirements of FASB Staff Position No.
13-1, which addresses the accounting for rental costs associated with operating
leases that are incurred during a construction period. As required by that
guidance, we recognize as rental expense all rental costs associated with ground
or building operating leases that are incurred during a construction period.
That rental expense is included in income from continuing operations and is not
capitalized.
Results of Operations
The following table sets forth certain statement of operations information
as a percentage of total revenues for the periods indicated:
Three Months Ended
April 30,
---------------------
2005 2006
---------- ----------
Revenues:
Product sales 80.6 % 82.5 %
Service maintenance agreement commissions (net) 4.4 4.1
Service revenues 3.0 2.7
---------- ----------
Total net sales 88.0 89.3
Finance charges and other 12.0 10.7
---------- ----------
Total revenues 100.0 100.0
Costs and expenses:
Cost of goods sold, including warehousing and occupancy cost 63.9 65.4
Cost of parts sold, including warehousing and occupancy cost 0.8 0.8
Selling, general and administrative expense 25.1 24.3
Provision for bad debts 0.3 0.0
---------- ----------
Total costs and expenses 90.1 90.5
---------- ----------
Operating income 9.9 9.5
Interest (income) expense, net 0.3 (0.1)
Other (income) expense, net 0.0 0.0
---------- ----------
Income before income taxes 9.6 9.6
Provision for income taxes 3.4 3.4
---------- ----------
Net income 6.2 % 6.2 %
========== ==========
The table above identifies several changes in our operations for the
current quarter, including changes in revenue and expense categories expressed
as a percentage of revenues. These changes are discussed in the Executive
Overview and in more detail in the discussion of operating results beginning in
the analysis below.
Same store sales growth is calculated by comparing the reported sales by
store for all stores that were open throughout a period to reported sales by
store for all stores that were open throughout the prior year period. Sales from
closed stores have been removed from each period. Sales from relocated stores
have been included in each period because each store was relocated within the
same general geographic market. Sales from expanded stores have been included in
each period.
The presentation of gross margins may not be comparable to other retailers
since we include the cost of our in-home delivery service as part of Selling,
general and administrative expense. Similarly, we include the cost related to
operating our purchasing function in Selling, general and administrative
expense. It is our understanding that other retailers may include such costs as
part of their cost of goods sold.
21
Three Months Ended April 30, 2006 Compared to Three Months Ended April 30, 2005
Revenues. Total revenues increased by $34.3 million, or 21.7%, from $157.9
million for the three months ended April 30, 2005 to $192.2 million for the
three months ended April 30, 2006. The increase was attributable to increases in
net sales of $32.8 million, or 23.6%, and $1.5 million, or 7.9%, in finance
charges and other revenue.
The $32.8 million increase in net sales was made up of the following:
o a $21.8 million same store sales increase of 16.1%. While we do not
have sufficient information to determine what long-term impact
Hurricanes Rita and Katrina will have on sales in the impacted
markets, excluding the Southeast Texas and Louisiana markets, the same
store sales increase was 11.6% in the other markets we serve. These
other markets accounted for 78.7% of same store Product sales and
Service maintenance agreement commissions during the three months
ended April 30, 2006. Additionally, as a result of changes in the
commission structure on our third-party service maintenance agreement
(SMA) contracts, beginning July 2005, we began realizing the benefit
of increased front-end commissions on SMA sales, which increased net
sales by approximately $650,000, (offsetting this increase is a
decrease in retrospective commissions which is reflected in Finance
charges and other);
o a $10.9 million increase generated by seven retail locations that were
not open for three consecutive months in each period;
o a $352,000 decrease resulted from an increase in discounts on
extended-term promotional credit sales (those with terms longer than
12 months); and
o a $454,000 increase resulted from an increase in service revenues.
The components of the $32.8 million increase in net sales, were a $31.2
million increase in product sales and a $1.6 million net increase in service
maintenance agreement commissions and service revenues. The $31.2 million
increase in product sales resulted from the following:
o approximately $18.2 million was attributable to increases in unit
sales, due to increased appliances, consumer electronics, and
furniture sales, and
o approximately $13.0 million was attributable to increases in unit
price points. The price point impact was driven by consumers selecting
higher priced appliance products, including high-efficiency washers
and dryers and stainless kitchen appliances.
22
The following table presents the makeup of net sales by product category in
each quarter, including service maintenance agreement commissions and service
revenues, expressed both in dollar amounts and as a percent of total net sales.
Classification of sales has been adjusted from previous filings to ensure
comparability between the categories.
Three Months Ended April,
-------------------------------------------
2005 2006
--------------------- --------------------- Percent
Category Amount Percent Amount Percent Increase
----------- --------- ----------- --------- ----------
Major home appliances $ 46,601 33.4 % $ 61,864 36.0 % 32.8 % (1)
Consumer electronics 43,654 31.4 53,636 31.2 22.9 (2)
Track 22,741 16.4 23,206 13.5 2.0 (3)
Delivery 2,023 1.5 2,872 1.7 42.0 (4)
Lawn and garden 5,283 3.8 5,116 3.0 (3.2) (5)
Mattresses 2,907 2.1 5,096 3.0 75.3 (6)
Furniture 2,996 2.2 5,405 3.2 80.4 (7)
Other 1,070 0.8 1,314 0.8 22.8 (2)
----------- --------- ----------- ---------
Total product sales 127,275 91.6 158,509 92.4 24.5
Service maintenance agreement
commissions 6,884 5.0 7,967 4.6 15.7
Service revenues 4,775 3.4 5,229 3.0 9.5
----------- --------- ----------- ---------
Total net sales $ 138,934 100.0 % $ 171,705 100.0 % 23.6 %
=========== ========= =========== =========
- --------------------------------------------------------------------------------
(1) In addition to strong overall sales growth, appliance sales benefited
from increases in unit price points driven by consumers selecting
higher priced appliance products, including high-efficiency washers
and dryers and stainless kitchen appliances.
(2) These increases are consistent with overall increase in product sales
and improved unit prices.
(3) The smaller level of track sales (consisting largely of computers,
computer peripherals, portable electronics and small appliances)
growth is due primarily to reduced unit prices and reduced sales of
computers.
(4) This increase is due primarily to the increase in total product sales
as well as an increase in the fees charged for deliveries.
(5) A delayed selling season due to dry weather contributed to this
decrease.
(6) This increase is due to increased emphasis on bedding and improved
execution at our stores in the sale of this category.
(7) This increase is due to the increased emphasis on the sales of
furniture, primarily sofas, recliners and entertainment centers, and
new product lines added to this category.
Revenue from Finance charges and other increased by approximately $1.5
million, or 7.9%, from $19.0 million for the three months ended April 30, 2005
to $20.5 million for the three months ended April 30, 2006. It grew at a slower
pace than the 24.5% increase in product sales due primarily to a $0.7 million
decrease in service maintenance agreement retrospective commissions, an increase
in insurance commissions of 2.7% and an increase in securitization income of
$1.9 million, or 14.5%. Securitization income was impacted primarily by a 65.7%
increase in net credit losses in the quarter ended April 30, 2006 as compared to
the quarter ended April 30, 2005. The increased net credit losses were due to
higher than expected losses primarily as a result of the impact of Hurricane
Rita on our credit operations. We recorded a portion of the losses against the
special reserves that were provided in the quarter ended October 31, 2005. As of
April 30, 2006, $0.3 million remains in the special reserves for our estimate of
the remaining expected losses caused by the impact of Hurricane Rita. The
securitization income increases are attributable to higher product sales and
increases in our retained interest in assets transferred to the QSPE, due
primarily to increases in the transferred balances.
Cost of Goods Sold. Cost of goods sold, including warehousing and occupancy
cost, increased by $24.8 million, or 24.6%, from $100.9 million for the three
months ended April 30, 2005 to $125.7 million for the three months ended April
30, 2006. This increase was generally consistent with the 24.5% increase in net
product sales during the three months ended April 30, 2006. Cost of products
sold was 79.3% of net product sales in the quarter ended April 30, 2006 and
79.3% in the quarter ended April 30, 2005.
23
Cost of Parts Sold. Cost of parts sold, including warehousing and occupancy
cost, increased approximately $340,000, or 27.8%, for the three months ended
April 30, 2006 as compared to the three months ended April 30, 2005, due to
increases in parts sales. While service revenues increased by 9.5% in the
quarter ended April 30, 2006 as compared to the quarter ended April 30, 2005,
the cost of parts sold increased at a faster rate due to reduced margins on
parts sold through our service maintenance agreement program.
Selling, General and Administrative Expense. While Selling, general and
administrative expense increased by $6.9 million, or 17.4%, from $39.7 million
for the three months ended April 30, 2005 to $46.6 million for the three months
ended April 30, 2006, it decreased as a percentage of total revenue from 25.1%
to 24.3%. The decrease in expense as a percentage of total revenues resulted
primarily from decreased payroll and payroll related expenses and net
advertising expense, as a percent of revenues. We adopted SFAS No. 123R,
Share-Based Payment, during the quarter ended April 30, 2006. The adoption
resulted in expenses totaling $0.4 million being recorded to SG&A during the
quarter ended April 30, 2006 as compared to $0.3 million being recorded in the
quarter ended April 30, 2005.
Provision for Bad Debts. The provision for bad debts on non-credit
portfolio receivables and credit portfolio receivables retained by the Company
and not transferred to the QSPE decreased by $425,000, or 90.8%, during the
three months ended April 30, 2006 as compared to the three months ended April
30, 2005, primarily as a result of changes in the loss history and provision
adjustments, based on favorable loss experience during the last twelve months.
See Note 3 to the financial statements for information regarding the performance
of the credit portfolio.
Interest (Income) Expense, net. Net interest (income) expense decreased by
$539,000, or 151.8%, from net interest expense of $355,000 for the three months
ended April 30, 2005 to net interest income of $184,000 for the three months
ended April 30, 2006. The net decrease in interest expense was attributable to
the following factors:
o expiration of $20.0 million in our interest rate hedges and the
discontinuation of hedge accounting for derivatives resulted in a net
decrease in interest expense of approximately $244,000; and
o increase in interest income from invested funds of approximately
$213,000;
The remaining decrease in interest expense of $82,000 resulted from lower
average outstanding debt balances and capitalization of interest expense on
construction in progress.
Provision for Income Taxes. The provision for income taxes increased by
$1.1 million, or 20.8%, from $5.3 million for the three months ended April 30,
2005 to $6.4 million for the three months ended April 30, 2006, consistent with
the increase in pretax income of 21.0%. Due to the implementation of SFAS 123R,
we expect our effective tax rate to increase to between 35.5% and 36.0%.
Net Income. As a result of the above factors, Net income increased $2.0
million, or 21.1%, from $9.9 million for the three months ended April 30, 2005
to $11.9 million for the three months ended April 30, 2006.
Liquidity and Capital Resources
Current Activities
Historically we have financed our operations through a combination of cash
flow generated from operations, and external borrowings, including primarily
bank debt, extended terms provided by our vendors for inventory purchases,
acquisition of inventory under consignment arrangements and transfers of
receivables to our asset-backed securitization facilities.
As of April 30, 2006, we had approximately $22.2 million in excess cash,
the majority of which was generated through the operations of the Company. In
addition to the excess cash, we had $48.0 million under the revolving line of
credit, net of standby letters of credit issued, and $8.0 million under our
unsecured bank line of credit available to us for general corporate purposes,
24
$18.5 million under extended vendor terms for purchases of inventory and $61.0
million in commitments available for the transfer of receivables to our QSPE.
A summary of the significant financial covenants that govern our bank
credit facility compared to our actual D][GRAPHIC OMITTED][GRAPHIC OMITTED]
compliance status at April 30, 2006, is presented below:
Required
Minimum/
Actual Maximum
------------------ ------------------
Debt service coverage ratio must exceed required minimum 4.50 to 1.00 2.00 to 1.00
Total adjusted leverage ratio must be lower than required maximum 1.45 to 1.00 3.00 to 1.00
Consolidated net worth must exceed required minimum $258.8 million $154.8 million
Charge-off ratio must be lower than required maximum 0.03 to 1.00 0.06 to 1.00
Extension ratio must be lower than required maximum 0.02 to 1.00 0.05 to 1.00
Thirty-day delinquency ratio must be lower than required maximum 0.08 to 1.00 0.13 to 1.00
Note: All terms in the above table are defined by the bank credit facility
and may or may not agree directly to the financial statement captions in
this document.
We will continue to finance our operations and future growth through a
combination of cash flow generated from operations and external borrowings,
including primarily bank debt, extended vendor terms for purchases of inventory,
acquisition of inventory under consignment arrangements and the QSPE's
asset-backed securitization facilities. Based on our current operating plans, we
believe that cash generated from operations, available borrowings under our bank
credit facility and unsecured credit line, extended vendor terms for purchases
of inventory, acquisition of inventory under consignment arrangements and access
to the unfunded portion of the variable funding portion of the QSPE's
asset-backed securitization program will be sufficient to fund our operations,
store expansion and updating activities and capital programs through at least
January 31, 2007. However, there are several factors that could decrease cash
provided by operating activities, including:
o reduced demand for our products;
o more stringent vendor terms on our inventory purchases;
o loss of ability to acquire inventory on consignment;
o increases in product cost that we may not be able to pass on to our
customers;
o reductions in product pricing due to competitor promotional
activities;
o changes in inventory requirements based on longer delivery times of
the manufacturers or other requirements which would negatively impact
our delivery and distribution capabilities;
o increases in the retained portion of our receivables portfolio under
our current QSPE's asset-backed securitization program as a result of
changes in performance or types of receivables transferred
(promotional versus non-promotional);
o inability to expand our capacity for financing our receivables
portfolio under new or replacement QSPE asset-backed securitization
programs or a requirement that we retain a higher percentage of the
credit portfolio under such new programs;
o increases in program costs (interest and administrative fees relative
to our receivables portfolio associated with the funding of our
receivables); and
o increases in personnel costs required for us to stay competitive in
our markets.
During the three months ended April 30, 2006, net cash provided by
operating activities decreased $20.1 million from $11.7 million provided in the
2005 period to $8.4 million used in the 2006 period. The net decrease in cash
provided from operations resulted primarily from the timing of payments of
25
accounts payable and federal income and employment tax payments. We had obtained
extended payment terms from several of our vendors due to the impact of
hurricanes in the prior fiscal year. Federal income and employment tax payment
deadlines after Hurricane Rita were also deferred until February 28, 2006. Those
extended terms ended and deadlines were reached in the quarter ended April 30,
2006 and we were required to satisfy those obligations, which negatively
impacted our operating cash flows by approximately $18.9 million.
As noted above, we offer promotional credit programs to certain customers
that provide for "same as cash" interest free periods of varying terms,
generally three, six, or 12 months; in fiscal year 2005 we increased these terms
to include 18 or 24 months that are eligible to be partially funded through our
asset-backed securitization program. In the second quarter of fiscal 2005, we
began offering deferred interest programs with 36-month terms. In the second
quarter of fiscal 2006, we began offering deferred interest programs with
24-month terms. The three, six, 12, 18, 24 and 36 month "same as cash"
promotional accounts and deferred interest program accounts are eligible for
securitization up to the limits provided for in our securitization agreements.
This limit is currently 30.0% of eligible securitized receivables. If we exceed
this 30.0% limit, we would be required to use some of our other capital
resources to carry the unfunded balances of the receivables for the promotional
period. The percentage of eligible securitized receivables represented by
promotional receivables was 17.9% as of April 30, 2006. At April 30, 2005, this
percentage, computed on a consistent basis with the April 30, 2006 calculation,
would have been 24.1%. The weighted average promotional period was 12.6 months
and 11.7 months for promotional receivables outstanding as of April 30, 2005 and
2006, respectively. The weighted average remaining term on those same
promotional receivables was 8.7 months and 7.3 months, respectively. While
overall these promotional receivables have a much shorter weighted average term
than non-promotional receivables, we receive less income as a result of a
reduced net interest margin used in the calculation of the gain on the sale of
receivables. As a result, the existence of the interest free extended payment
terms negatively impacts the gains as compared to other receivables.
Net cash used by investing activities increased by $3.7 million, from $3.3
million for the three months ended April 30, 2005 to $7.0 million for the three
months ended April 30, 2006. The increase in cash used in investing activities
resulted primarily from an increase of $3.7 million for purchases of property
and equipment. The cash expended for property and equipment was used primarily
for construction of new stores and the reformatting of existing stores to better
support our current product mix. Based on current plans, we expect to increase
expenditures for property and equipment in fiscal 2007 as we open additional
stores, as compared to fiscal 2006.
Net cash from financing activities increased by $10.9 million from $9.8
million used during the three months ended April 30, 2005 to $1.1 million
provided during the three months ended April 30, 2006. The increase in cash
provided by financing activities resulted primarily from decreases in payments
on various debt instruments of $10.4 million. Also benefiting cash flow from
financing activities was increased proceeds from stock issued under employee
benefit plans.
Off-Balance Sheet Financing Arrangements
Since we extend credit in connection with a large portion of our retail,
service maintenance and credit insurance sales, we have created a qualified
special purpose entity, which we refer to as the QSPE or the issuer, to purchase
customer receivables from us and to issue asset-backed and variable funding
notes to third parties to obtain cash for these purchases. We transfer
receivables, consisting of retail installment contracts and revolving accounts
extended to our customers, to the issuer in exchange for cash and unsecured
promissory notes. To finance its acquisition of these receivables, the issuer
has issued the notes and bonds described below to third parties. The unsecured
promissory notes issued to us are subordinate to these third party notes and
bonds.
At April 30, 2006, the issuer had issued two series of notes and bonds: a
Series A variable funding note in the amount of $250 million purchased by Three
Pillars Funding LLC and three classes of Series B bonds in the aggregate amount
of $200 million, of which $8.0 million was required to be placed in a restricted
cash account for the benefit of the bondholders. If the net portfolio yield, as
defined by the Series B agreements, falls below 5.0%, then the issuer may be
required to fund a cash reserve in addition to the $8.0 million restricted cash
account. At April 30, 2006, the net portfolio yield was in compliance with this
requirement. Private institutional investors, primarily insurance companies,
purchased the Series B bonds at a weighted fixed rate of 5.25%. The issuer is
26
currently in the process of marketing an additional $150 million dollars of
fixed rate bonds, but no assurance can be given that a transaction can be
completed on terms favorable to it. It is currently anticipated that the
transaction will be completed in the second quarter of the current fiscal year.
The proceeds of the new issuance will provide the issuer additional capacity for
the purchase of our receivables. If the issuer is unable to complete the new
bond issuance, then, after its current funding sources are exhausted, we may
have to fund growth in the receivables portfolio until the issuer can obtain
additional funding.
We continue to service the transferred accounts for the QSPE, and we
receive a monthly servicing fee, so long as we act as servicer, in an amount
equal to .0025% multiplied by the average aggregate principal amount of
receivables serviced plus the amount of average aggregate defaulted receivables.
The issuer records revenues equal to the interest charged to the customer on the
receivables less losses, the cost of funds, the program administration fees paid
in connection with either Three Pillars Funding LLC or the Series B bond
holders, the servicing fee and additional earnings to the extent they are
available.
The Series A variable funding note permits the issuer to borrow funds up to
$250 million to purchase receivables from us, thereby functioning as a "basket"
to accumulate receivables. As issuer borrowings under the Series A variable
funding note approach $250 million, the issuer intends to request an increase in
the Series A amount or issue a new series of bonds and use the proceeds to pay
down the then outstanding balance of the Series A variable funding note, so that
the basket will once again become available to accumulate new receivables. As of
April 30, 2006, borrowings under the Series A variable funding note were $189.0
million.
We are not directly liable to the lenders under the asset-backed
securitization facility. If the issuer is unable to repay the Series A note and
Series B bonds due to its inability to collect the transferred customer
accounts, the issuer could not pay the subordinated notes it has issued to us in
partial payment for transferred customer accounts, and the Series B bond holders
could claim the balance in its $8.0 million restricted cash account. We are also
contingently liable under a $10.0 million letter of credit that secures our
performance of our obligations or services under the servicing agreement as it
relates to the transferred assets that are part of the asset-backed
securitization facility.
The issuer is subject to certain affirmative and negative covenants
contained in the transaction documents governing the Series A variable funding
note and the Series B bonds, including covenants that restrict, subject to
specified exceptions: the incurrence of non-permitted indebtedness and other
obligations and the granting of additional liens; mergers, acquisitions,
investments and disposition of assets; and the use of proceeds of the program.
The issuer also makes representations and warranties relating to compliance with
certain laws, payment of taxes, maintenance of its separate legal entity,
preservation of its existence, protection of collateral and financial reporting.
In addition, the program requires the issuer to maintain a minimum net worth.
A summary of the significant financial covenants that govern the Series A
variable funding note compared to actual compliance status at April 30, 2006, is
presented below:
Required
Minimum/
As reported Maximum
-------------- ---------------
Issuer interest must exceed required minimum $43.1 million $45.6 million
Gross loss rate must be lower than required maximum 4.4% 10.0%
Net portfolio yield must exceed required minimum 8.1% 2.0%
Payment rate must exceed required minimum 7.1% 3.0%
Note: All terms in the above table are defined by the asset backed credit
facility and may or may not agree directly to the financial statement
captions in this document.
As indicated in the table above, the minimum issuer interest requirement
was not satisfied as of April 30, 2006. The minimum issuer interest requirement
is based on information that is not available until after the end of the month.
Upon determining the new minimum issuer interest requirement, the Issuer
deposited the amount necessary to satisfy the required minimum. This temporary
27
deficiency does not in anyway limit the Issuer's ability to function, including
funding the transfer of future receivables created by us. Additionally, it did
not result in any unscheduled amortization requirements for either the Series A
or Series B Notes.
Events of default under the Series A variable funding note and the Series B
bonds, subject to grace periods and notice provisions in some circumstances,
include, among others: failure of the issuer to pay principal, interest or fees;
violation by the issuer of any of its covenants or agreements; inaccuracy of any
representation or warranty made by the issuer; certain servicer defaults;
failure of the trustee to have a valid and perfected first priority security
interest in the collateral; default under or acceleration of certain other
indebtedness; bankruptcy and insolvency events; failure to maintain certain loss
ratios and portfolio yield; change of control provisions and certain other
events pertaining to us. The issuer's obligations under the program are secured
by the receivables and proceeds.
Securitization Facilities
We finance most of our customer receivables through asset-backed
securitization facilities
--------------------------
Series A Note
-----> $250 million
- Credit Rating: P1/A2
Customer Receivables - Three Pillars Funding LLC
- ---------- --------------------> ---------------- - --------------------------
Qualifying -
Retail Special Purpose <-----
Sales Entity -
Entity ("QSPE") -
- ---------- <-------------------- ---------------- - --------------------------
1. Cash Proceeds - Series B Bonds
2. Subordinated Securities - $200 million
3. Right to Receive Cash Flows - Private Institutional
Equal to Interest Rate Spread -----> Investors
Class A: $120 mm (Aaa)
Class B: $57.8 mm (A2)
Class C: $22.2 mm (Baa2)
--------------------------
Both the bank credit facility and the asset-backed securitization program
are significant factors relative to our ongoing liquidity and our ability to
meet the cash needs associated with the growth of our business. Our inability to
use either of these programs because of a failure to comply with their covenants
would adversely affect our continued growth. Funding of current and future
receivables under the QSPE's asset-backed securitization program can be
adversely affected if we exceed certain predetermined levels of re-aged
receivables, size of the secondary portfolio, the amount of promotional
receivables, write-offs, bankruptcies or other ineligible receivable amounts. If
the funding under the QSPE's asset-backed securitization program was reduced or
terminated, we would have to draw down our bank credit facility more quickly
than we have estimated.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Interest rates under our bank credit facility (as executed October 31,
2005) are variable and are determined, at our option, as the base rate, which is
the greater of prime rate or federal funds rate plus 0.50% plus the base rate
margin, which ranges from 0.00% to 0.50%, or LIBOR plus the LIBOR margin, which
ranges from 0.75% to 1.75%. Accordingly, changes in the prime rate, the federal
funds rate or LIBOR, which are affected by changes in interest rates generally,
will affect the interest rate on, and therefore our costs under, our bank credit
facility. We are also exposed to interest rate risk associated with our interest
only strip and the subordinated securities we receive from our sales of
receivables to the QSPE.
28
We held interest rate swaps and collars with notional amounts totaling
$20.0 million which expired on April, 15 2005. The swaps and collars were held
for the purpose of hedging against variable interest rate risk, primarily
related to cash flows from our interest-only strip as well as our variable rate
debt. There have been no material changes in our interest rate risks since
January 31, 2006.
Item 4. Controls and Procedures
An evaluation was performed under the supervision and with the
participation of our management, including our Chief Executive Officer and Chief
Financial Officer, regarding the effectiveness of our disclosure controls and
procedures (as defined in 15d-15(e) of the Securities Exchange Act of 1934 (the
"Exchange Act") as of the end of the period covered by this quarterly report.
Based on that evaluation, in our Quarterly Report on Form 10-Q filed on June 1,
2006, our management, including our Chief Executive Officer and our Chief
Financial Officer, concluded that our disclosure controls and procedures are
effective in timely alerting them to material information relating to our
Company (including its consolidated subsidiaries) required to be included in our
periodic filings with the Securities and Exchange Commission. Subsequently,
management identified a material weakness in internal control over financial
reporting that led to a restatement of the consolidated financial statements, as
discussed below.
During the preparation of our consolidated financial statements for the
quarter ended July 31, 2006, we identified an issue related to the recording of
securitization income. Based on our discovery and the results of discussions
with our independent accountants and the Audit Committee of the Board of
Directors, it was determined that a review of our accounting under SFAS No. 140
should be completed before the statements for the quarter ended July 31, 2006
were issued. The internal review revealed that we had incorrectly reduced
securitization income and the value of our interests in securitized assets by
the amount of future expected loan losses recorded on the books of the
qualifying special purpose entity that owns the receivables.
As a result of the error discussed above and the resulting restatement,
management has concluded that a material weakness in its internal controls over
financial reporting existed as of April 30, 2006. Specifically, controls were
not operating effectively to ensure that the proper accounting and corresponding
consolidated financial statement presentation of securitization income and the
fair value of interests in securitized assets was consistent with SFAS No. 140.
As a result of this material weakness, our Chief Executive Officer and Chief
Financial Officer concluded that our disclosure controls and procedures were not
effective at April 30, 2006.
As of the date of this filing, we believe we have taken the appropriate
action to remediate the material weakness in our internal control over financial
reporting with respect to accounting for securitization transactions, based on
the following actions taken:
o improved education and enhanced accounting analysis and reviews
designed to ensure that all relevant personnel involved in the
securitization accounting understand and account for securitization
transactions in compliance with SFAS No. 140; and
o a review of our internal financial controls with respect to accounting
for securitization transactions to ensure compliance with SFAS No.
140.
While we believe we have taken the steps necessary to remediate this
material weakness relating to our accounting under SFAS No. 140 and related
processes, procedures, and controls, we cannot confirm the effectiveness of our
enhanced internal controls with respect to our accounting under SFAS No. 140
until we and our independent auditors have conducted sufficient tests.
Accordingly, we will continue to monitor the effectiveness of the processes,
procedures, and controls we have implemented and will make any further changes
management determines appropriate.
As previously reported, there were no changes in internal controls over
financial reporting during the quarter ended April 30, 2006, that materially
affected, or are reasonably likely to materially affect, our internal control
over financial reporting. However, subsequent to April 30, 2006, we discovered
the material weakness described above and took the remedial actions described.
29
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
We are involved in routine litigation incidental to our business from time
to time. Currently, we do not expect the outcome of any of this routine
litigation to have a material effect on our financial condition or results of
operation. However, the results of these proceedings cannot be predicted with
certainty, and changes in facts and circumstances could impact our estimate of
reserves for litigation.
Item 1A. Risk Factors
In addition to the other information set forth in this report, you should
carefully consider the factors discussed in Part I, "Item 1A. Risk Factors" in
our Annual Report on Form 10-K for the year ended January 31, 2006, which could
materially affect our business, financial condition or future results. The risks
described in our Annual Report on Form 10-K are not the only risks facing our
Company. Additional risks and uncertainties not currently known to us or that we
currently deem to be immaterial also may materially adversely affect our
business, financial condition and/or operating results.
Item 5. Other Information
There have been no material changes to the procedures by which security
holders may recommend nominees to our board of directors since we last provided
disclosure in response to the requirements of Item 7(d)(2)(ii)(G) of Schedule
14A.
Item 6. Exhibits
The exhibits required to be furnished pursuant to Item 6 of Form 10-Q are
listed in the Exhibit Index filed herewith, which Exhibit Index is incorporated
herein by reference.
30
SIGNATURE
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.
CONN'S, INC.
By: /s/ David L. Rogers
------------------------------------
David L. Rogers
Chief Financial Officer
(Principal Financial Officer and
duly authorized to sign this report
on behalf of the registrant)
Date: October 4, 2006
31
INDEX TO EXHIBITS
Exhibit Description
Number -----------
- -------
2 Agreement and Plan of Merger dated January 15, 2003, by and among
Conn's, Inc., Conn Appliances, Inc. and Conn's Merger Sub, Inc.
(incorporated herein by reference to Exhibit 2 to Conn's, Inc.
registration statement on Form S-1 (file no. 333-109046) as filed with
the Securities and Exchange Commission on September 23, 2003).
3.1 Certificate of Incorporation of Conn's, Inc. (incorporated herein by
reference to Exhibit 3.1 to Conn's, Inc. registration statement on
Form S-1 (file no. 333-109046) as filed with the Securities and
Exchange Commission on September 23, 2003).
3.1.1 Certificate of Amendment to the Certificate of Incorporation of
Conn's, Inc. dated June 3, 2004 (incorporated herein by reference to
Exhibit 3.1.1 to Conn's, Inc. Form 10-Q for the quarterly period ended
April 30, 2004 (File No. 000-50421) as filed with the Securities and
Exchange Commission on June 7, 2004).
3.2 Bylaws of Conn's, Inc. (incorporated herein by reference to Exhibit
3.2 to Conn's, Inc. registration statement on Form S-1 (file no.
333-109046) as filed with the Securities and Exchange Commission on
September 23, 2003).
3.2.1 Amendment to the Bylaws of Conn's, Inc. (incorporated herein by
reference to Exhibit 3.2.1 to Conn's Form 10-Q for the quarterly
period ended April 30, 2004 (File No. 000-50421) as filed with the
Securities and Exchange Commission on June 7, 2004).
4.1 Specimen of certificate for shares of Conn's, Inc.'s common stock
(incorporated herein by reference to Exhibit 4.1 to Conn's, Inc.
registration statement on Form S-1 (file no. 333-109046) as filed with
the Securities and Exchange Commission on October 29, 2003).
10.1 Amended and Restated 2003 Incentive Stock Option Plan (incorporated
herein by reference to Exhibit 10.1 to Conn's, Inc. registration
statement on Form S-1 (file no. 333-109046) as filed with the
Securities and Exchange Commission on September 23, 2003).(t)
10.1.1 Amendment to the Conn's, Inc. Amended and Restated 2003 Incentive
Stock Option Plan (incorporated herein by reference to Exhibit 10.1.1
to Conn's Form 10-Q for the quarterly period ended April 30, 2004
(File No. 000-50421) as filed with the Securities and Exchange
Commission on June 7, 2004).(t)
10.1.2 Form of Stock Option Agreement (incorporated herein by reference to
Exhibit 10.1.2 to Conn's, Inc. Form 10-K for the annual period ended
January 31, 2005 (File No. 000-50421) as filed with the Securities and
Exchange Commission on April 5, 2005).(t)
10.2 2003 Non-Employee Director Stock Option Plan (incorporated herein by
reference to Exhibit 10.2 to Conn's, Inc. registration statement on
Form S-1 (file no. 333-109046)as filed with the Securities and
Exchange Commission on September 23, 2003).(t)
10.2.1 Form of Stock Option Agreement (incorporated herein by reference to
Exhibit 10.2.1 to Conn's, Inc. Form 10-K for the annual period ended
January 31, 2005 (File No. 000-50421) as filed with the Securities and
Exchange Commission on April 5, 2005).(t)
10.3 Employee Stock Purchase Plan (incorporated herein by reference to
Exhibit 10.3 to Conn's, Inc. registration statement on Form S-1 (file
no. 333-109046) as filed with the Securities and Exchange Commission
on September 23, 2003).(t)
10.4 Conn's 401(k) Retirement Savings Plan (incorporated herein by
reference to Exhibit 10.4 to Conn's, Inc. registration statement on
32
Form S-1 (file no. 333-109046) as filed with the Securities and
Exchange Commission on September 23, 2003).(t)
10.5 Shopping Center Lease Agreement dated May 3, 2000, by and between
Beaumont Development Group, L.P., f/k/a Fiesta Mart, Inc., as Lessor,
and CAI, L.P., as Lessee, for the property located at 3295 College
Street, Suite A, Beaumont, Texas (incorporated herein by reference to
Exhibit 10.5 to Conn's, Inc. registration statement on Form S-1 (file
no. 333-109046) as filed with the Securities and Exchange Commission
on September 23, 2003).
10.5.1 First Amendment to Shopping Center Lease Agreement dated September
11, 2001, by and among Beaumont Development Group, L.P., f/k/a Fiesta
Mart, Inc., as Lessor, and CAI, L.P., as Lessee, for the property
located at 3295 College Street, Suite A, Beaumont, Texas (incorporated
herein by reference to Exhibit 10.5.1 to Conn's, Inc. registration
statement on Form S-1 (file no. 333-109046) as filed with the
Securities and Exchange Commission on September 23, 2003).
10.6 Industrial Real Estate Lease dated June 16, 2000, by and between
American National Insurance Company, as Lessor, and CAI, L.P., as
Lessee, for the property located at 8550-A Market Street, Houston,
Texas (incorporated herein by reference to Exhibit 10.6 to Conn's,
Inc. registration statement on Form S-1 (file no. 333-109046) as filed
with the Securities and Exchange Commission on September 23, 2003).
10.6.1 First Renewal of Lease dated November 24, 2004, by and between
American National Insurance Company, as Lessor, and CAI, L.P., as
Lessee, for the property located at 8550-A Market Street, Houston,
Texas (incorporated herein by reference to Exhibit 10.6.1 to Conn's,
Inc. Form 10-K for the annual period ended January 31, 2005 (File No.
000-50421) as filed with the Securities and Exchange Commission on
April 5, 2005).
10.7 Lease Agreement dated December 5, 2000, by and between Prologis
Development Services, Inc., f/k/a The Northwestern Mutual Life
Insurance Company, as Lessor, and CAI, L.P., as Lessee, for the
property located at 4810 Eisenhauer Road, Suite 240, San Antonio,
Texas (incorporated herein by reference to Exhibit 10.7 to Conn's,
Inc. registration statement on Form S-1 (file no. 333-109046) as filed
with the Securities and Exchange Commission on September 23, 2003).
10.7.1 Lease Amendment No. 1 dated November 2, 2001, by and between
Prologis Development Services, Inc., f/k/a The Northwestern Mutual
Life Insurance Company, as Lessor, and CAI, L.P., as Lessee, for the
property located at 4810 Eisenhauer Road, Suite 240, San Antonio,
Texas (incorporated herein by reference to Exhibit 10.7.1 to Conn's,
Inc. registration statement on Form S-1 (file no. 333-109046) as filed
with the Securities and Exchange Commission on September 23, 2003).
10.8 Lease Agreement dated June 24, 2005, by and between Cabot Properties,
Inc. as Lessor, and CAI, L.P., as Lessee, for the property located at
1132 Valwood Parkway, Carrollton, Texas (incorporated herein by
reference to Exhibit 99.1 to Conn's, Inc. Current Report on Form 8-K
(file no. 000-50421) as filed with the Securities and Exchange
Commission on June 29, 2005).
10.9 Credit Agreement dated October 31, 2005, by and among Conn Appliances,
Inc. and the Borrowers thereunder, the Lenders party thereto, JPMorgan
Chase Bank, National Association, as Administrative Agent, Bank of
America, N.A., as Syndication Agent, and SunTrust Bank, as
Documentation Agent (incorporated herein by reference to Exhibit 10.9
to Conn's, Inc. Quarterly Report on Form 10-Q (file no. 000-50421) as
filed with the Securities and Exchange Commission on December 1,
2005).
10.9.1 Letter of Credit Agreement dated November 12, 2004 by and between
Conn Appliances, Inc. and CAI Credit Insurance Agency, Inc., the
financial institutions listed on the signature pages thereto, and
JPMorgan Chase Bank, as Administrative Agent (incorporated herein by
reference to Exhibit 99.2 to Conn's Inc. Current Report on Form 8-K
(File No. 000-50421) as filed with the Securities and Exchange
Commission on November 17, 2004).
10.10 Receivables Purchase Agreement dated September 1, 2002, by and among
Conn Funding II, L.P., as Purchaser, Conn Appliances, Inc. and CAI,
L.P., collectively as Originator and Seller, and Conn Funding I, L.P.,
33
as Initial Seller (incorporated herein by reference to Exhibit 10.10
to Conn's, Inc. registration statement on Form S-1 (file no.
333-109046) as filed with the Securities and Exchange Commission on
September 23, 2003).
10.11 Base Indenture dated September 1, 2002, by and between Conn Funding
II, L.P., as Issuer, and Wells Fargo Bank Minnesota, National
Association, as Trustee (incorporated herein by reference to Exhibit
10.11 to Conn's, Inc. registration statement on Form S-1 (file no.
333-109046) as filed with the Securities and Exchange Commission on
September 23, 2003).
10.11.1 First Supplemental Indenture dated October 29, 2004 by and between
Conn Funding II, L.P., as Issuer, and Wells Fargo Bank, National
Association, as Trustee (incorporated herein by reference to Exhibit
99.1 to Conn's, Inc. Current Report on Form 8-K (File No. 000-50421)
as filed with the Securities and Exchange Commission on November 4,
2004).
10.12 Series 2002-A Supplement to Base Indenture dated September 1, 2002,
by and between Conn Funding II, L.P., as Issuer, and Wells Fargo Bank
Minnesota, National Association, as Trustee (incorporated herein by
reference to Exhibit 10.12 to Conn's, Inc. registration statement on
Form S-1 (file no. 333-109046) as filed with the Securities and
Exchange Commission on September 23, 2003).
10.12.1 Amendment to Series 2002-A Supplement dated March 28, 2003, by and
between Conn Funding II, L.P. as Issuer, and Wells Fargo Bank
Minnesota, National Association, as Trustee (incorporated herein by
reference to Exhibit 10.12.1 to Conn's, Inc. Form 10-K for the annual
period ended January 31, 2005 (File No. 000-50421) as filed with the
Securities and Exchange Commission on April 5, 2005).
10.12.2 Amendment No. 2 to Series 2002-A Supplement dated July 1, 2004, by
and between Conn Funding II, L.P., as Issuer, and Wells Fargo Bank
Minnesota, National Association, as Trustee (incorporated herein by
reference to Exhibit 10.12.2 to Conn's, Inc. Form 10-K for the annual
period ended January 31, 2005 (File No. 000-50421) as filed with the
Securities and Exchange Commission on April 5, 2005).
10.13 Series 2002-B Supplement to Base Indenture dated September 1, 2002,
by and between Conn Funding II, L.P., as Issuer, and Wells Fargo Bank
Minnesota, National Association, as Trustee (incorporated herein by
reference to Exhibit 10.13 to Conn's, Inc. registration statement on
Form S-1 (file no. 333-109046) as filed with the Securities and
Exchange Commission on September 23, 2003).
10.13.1 Amendment to Series 2002-B Supplement dated March 28, 2003, by and
between Conn Funding II, L.P., as Issuer, and Wells Fargo Bank
Minnesota, National Association, as Trustee (incorporated herein by
reference to Exhibit 10.13.1 to Conn's, Inc. Form 10-K for the annual
period ended January 31, 2005 (File No. 000-50421) as filed with the
Securities and Exchange Commission on April 5, 2005).
10.14 Servicing Agreement dated September 1, 2002, by and among Conn
Funding II, L.P., as Issuer, CAI, L.P., as Servicer, and Wells Fargo
Bank Minnesota, National Association, as Trustee (incorporated herein
by reference to Exhibit 10.14 to Conn's, Inc. registration statement
on Form S-1 (file no. 333-109046) as filed with the Securities and
Exchange Commission on September 23, 2003).
10.14.1 First Amendment to Servicing Agreement dated June 24, 2005, by and
among Conn Funding II, L.P., as Issuer, CAI, L.P., as Servicer, and
Wells Fargo Bank, National Association, as Trustee (incorporated
herein by reference to Exhibit 10.14.1 to Conn's, Inc. Form 10-Q for
the quarterly period ended July 31, 2005 (File No. 000-50421) as filed
with the Securities and Exchange Commission on August 30, 2005).
10.14.2 Second Amendment to Servicing Agreement dated November 28, 2005, by
and among Conn Funding II, L.P., as 10.14.2 Issuer, CAI, L.P., as
Servicer, and Wells Fargo Bank, National Association, as Trustee
(incorporated herein by reference to Exhibit 10.14.2 to Conn's, Inc.
Form 10-Q for the quarterly period ended October 31, 2005 (File No.
34
000-50421) as filed with the Securities and Exchange Commission on
December 1, 2005).
10.15 Form of Executive Employment Agreement (incorporated herein by
reference to Exhibit 10.15 to Conn's, Inc. registration statement on
Form S-1 (file no. 333-109046) as filed with the Securities and
Exchange Commission on October 29, 2003).(t)
10.15.1 First Amendment to Executive Employment Agreement between Conn's, Inc.
and Thomas J. Frank, Sr., Approved by the stockholders May 26, 2005
(incorporated herein by reference to Exhibit 10.15.1 to Conn's, Inc.
Form 10-Q for the quarterly period ended July 31, 2005 (file No.
000-50421) as filed with the Securities and Exchange Commission on
August 30, 2005).(t)
10.16 Form of Indemnification Agreement (incorporated herein by reference to
Exhibit 10.16 to Conn's, Inc. registration statement on Form S-1 (file
no. 333-109046) as filed with the Securities and Exchange Commission
on September 23, 2003).(t)
10.17 2007 Bonus Program (incorporated herein by reference to Form 8-K (file
no. 000-50421) filed with the Securities and Exchange Commission on
March 30, 2006).(t)
10.18 Description of Compensation Payable to Non-Employee Directors
(incorporated herein by reference to Form 8-K (file no. 000-50421)
filed with the Securities and Exchange Commission on June 2, 2005).(t)
10.19 Dealer Agreement between Conn Appliances, Inc. and Voyager Service
Programs, Inc. effective as of January 1, 1998 (incorporated herein by
reference to Exhibit 10.19 to Conn's, Inc. Form 10-K for the annual
period ended January 31, 2006 (File No. 000-50421) as filed with the
Securities and Exchange Commission on March 30, 2006).
10.19.1 Amendment #1 to Dealer Agreement by and among Conn Appliances, Inc.,
CAI, L.P., Federal Warranty Service Corporation and Voyager Service
Programs, Inc. effective as of July 1, 2005 (incorporated herein by
reference to Exhibit 10.19.1 to Conn's, Inc. Form 10-K for the annual
period ended January 31, 2006 (File No. 000-50421) as filed with the
Securities and Exchange Commission on March 30, 2006).
10.19.2 Amendment #2 to Dealer Agreement by and among Conn Appliances, Inc.,
CAI, L.P., Federal Warranty Service Corporation and Voyager Service
Programs, Inc. effective as of July 1, 2005 (incorporated herein by
reference to Exhibit 10.19.2 to Conn's, Inc. Form 10-K for the annual
period ended January 31, 2006 (File No. 000-50421) as filed with the
Securities and Exchange Commission on March 30, 2006).
10.19.3 Amendment #3 to Dealer Agreement by and among Conn Appliances, Inc.,
CAI, L.P., Federal Warranty Service Corporation and Voyager Service
Programs, Inc. effective as of July 1, 2005 (incorporated herein by
reference to Exhibit 10.19.3 to Conn's, Inc. Form 10-K for the annual
period ended January 31, 2006 (File No. 000-50421) as filed with the
Securities and Exchange Commission on March 30, 2006).
10.19.4 Amendment #4 to Dealer Agreement by and among Conn Appliances, Inc.,
CAI, L.P., Federal Warranty Service Corporation and Voyager Service
Programs, Inc. effective as of July 1, 2005 (incorporated herein by
reference to Exhibit 10.19.4 to Conn's, Inc. Form 10-K for the annual
period ended January 31, 2006 (File No. 000-50421) as filed with the
Securities and Exchange Commission on March 30, 2006).
10.20 Service Expense Reimbursement Agreement between Affiliates Insurance
Agency, Inc. and American Bankers Life Assurance Company of Florida,
American Bankers Insurance Company Ranchers & Farmers County Mutual
Insurance Company, Voyager Life Insurance Company and Voyager Property
and Casualty Insurance Company effective July 1, 1998 (incorporated
herein by reference to Exhibit 10.20 to Conn's, Inc. Form 10-K for the
annual period ended January 31, 2006 (File No. 000-50421) as filed
with the Securities and Exchange Commission on March 30, 2006).
35
10.20.1 First Amendment to Service Expense Reimbursement Agreement by and
among CAI, L.P., Affiliates Insurance Agency, Inc., American Bankers
Life Assurance Company of Florida, Voyager Property & Casualty
Insurance Company, American Bankers Life Assurance Company of Florida,
American Bankers Insurance Company of Florida and American Bankers
General Agency, Inc. effective July 1, 2005 (incorporated herein by
reference to Exhibit 10.20.1 to Conn's, Inc. Form 10-K for the annual
period ended January 31, 2006 (File No. 000-50421) as filed with the
Securities and Exchange Commission on March 30, 2006).
10.21 Service Expense Reimbursement Agreement between CAI Credit Insurance
Agency, Inc. and American Bankers Life Assurance Company of Florida,
American Bankers Insurance Company Ranchers & Farmers County Mutual
Insurance Company, Voyager Life Insurance Company and Voyager Property
and Casualty Insurance Company effective July 1, 1998 (incorporated
herein by reference to Exhibit 10.21 to Conn's, Inc. Form 10-K for the
annual period ended January 31, 2006 (File No. 000-50421) as filed
with the Securities and Exchange Commission on March 30, 2006).
10.21.1 First Amendment to Service Expense Reimbursement Agreement by and
among CAI Credit Insurance Agency, Inc., American Bankers Life
Assurance Company of Florida, Voyager Property & Casualty Insurance
Company, American Bankers Life Assurance Company of Florida, American
Bankers Insurance Company of Florida, American Reliable Insurance
Company, and American Bankers General Agency, Inc. effective July 1,
2005 (incorporated herein by reference to Exhibit 10.21.1 to Conn's,
Inc. Form 10-K for the annual period ended January 31, 2006 (File No.
000-50421) as filed with the Securities and Exchange Commission on
March 30, 2006).
10.22 Consolidated Addendum and Amendment to Service Expense Reimbursement
Agreements by and among Certain Member Companies of Assurant
Solutions, CAI Credit Insurance Agency, Inc. and Affiliates Insurance
Agency, Inc. effective April 1, 2004 (incorporated herein by reference
to Exhibit 10.22 to Conn's, Inc. Form 10-K for the annual period ended
January 31, 2006 (File No. 000-50421) as filed with the Securities and
Exchange Commission on March 30, 2006).
11.1 Statement re: computation of earnings per share is included under Note
1 to the financial statements.
21 Subsidiaries of Conn's, Inc. (incorporated herein by reference to
Exhibit 21 to Conn's, Inc. registration statement on Form S-1 (file
no. 333-109046) as filed with the Securities and Exchange Commission
on September 23, 2003).
31.1 Rule 13a-14(a)/15d-14(a) Certification (Chief Executive Officer)
(filed herewith).
31.2 Rule 13a-14(a)/15d-14(a) Certification (Chief Financial Officer)
(filed herewith).
32.1 Section 1350 Certification (Chief Executive Officer and Chief
Financial Officer) (furnished herewith).
99.1 Subcertification by Chief Operating Officer in support of Rule
13a-14(a)/15d-14(a) Certification (Chief Executive Officer) (filed
herewith).
99.2 Subcertification by Treasurer in support of Rule 13a-14(a)/15d-14(a)
Certification (Chief Financial Officer) (filed herewith).
99.3 Subcertification by Secretary in support of Rule 13a-14(a)/15d-14(a)
Certification (Chief Financial Officer) (filed herewith).
99.4 Subcertification of Chief Operating Officer, Treasurer and Secretary
in support of Section 1350 Certifications (Chief Executive Officer and
Chief Financial Officer) (furnished herewith).
(t) Management contract or compensatory plan or arrangement.
36
EXHIBIT 31.1
RULE 13a-14(a)/15d-14(a) CERTIFICATION
(CHIEF EXECUTIVE OFFICER)
I, Thomas J. Frank, Sr., certify that:
1. I have reviewed this quarterly report on Form 10-Q/A of Conn's, Inc.;
2. Based on my knowledge, this report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material respects the
financial condition, results of operations and cash flows of the registrant as
of, and for, the periods presented in this report;
4. The registrant's other certifying officer(s) and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial
reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the
registrant and have:
(a) Designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to the
registrant, including its consolidated subsidiaries, is made known to
us by others within those entities, particularly during the period in
which this report is being prepared;
(b) Designed such internal control over financial reporting, or caused
such internal control over financial reporting to be designed under
our supervision, to provide reasonable assurance regarding the
reliability of financial reporting and the preparation of financial
statements for external purposes in accordance with generally accepted
accounting principles;
(c) Evaluated the effectiveness of the registrant's disclosure controls
and procedures and presented in this report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end
of the period covered by this report based on such evaluation; and
(d) Disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the registrant's
most recent fiscal quarter (the registrant's fourth fiscal quarter in
the case of an annual report) that has materially affected, or is
reasonably likely to materially affect, the registrant's internal
control over financial reporting; and
5. The registrant's other certifying officer(s) and I have disclosed,
based on our most recent evaluation of internal control over financial
reporting, to the registrant's auditors and the audit committee of the
registrant's board of directors (or persons performing the equivalent
functions):
(a) All significant deficiencies and material weaknesses in the design or
operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant's ability to
record, process, summarize and report financial information; and
(b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
control over financial reporting.
/s/ Thomas J. Frank, Sr.
---------------------------
Thomas J. Frank, Sr.
Chairman of the Board
and Chief Executive Officer
Date: October 4, 2006
37
EXHIBIT 31.2
RULE 13a-14(a)/15d-14(a) CERTIFICATION
(CHIEF FINANCIAL OFFICER)
I, David L. Rogers, certify that:
1. I have reviewed this quarterly report on Form 10-Q/A of Conn's, Inc.;
2. Based on my knowledge, this report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material respects the
financial condition, results of operations and cash flows of the registrant as
of, and for, the periods presented in this report;
4. The registrant's other certifying officer(s) and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial
reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the
registrant and have:
(a) Designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to the
registrant, including its consolidated subsidiaries, is made known to
us by others within those entities, particularly during the period in
which this report is being prepared;
(b) Designed such internal control over financial reporting, or caused
such internal control over financial reporting to be designed under
our supervision, to provide reasonable assurance regarding the
reliability of financial reporting and the preparation of financial
statements for external purposes in accordance with generally accepted
accounting principles;
(c) Evaluated the effectiveness of the registrant's disclosure controls
and procedures and presented in this report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end
of the period covered by this report based on such evaluation; and
(d) Disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the registrant's
most recent fiscal quarter (the registrant's fourth fiscal quarter in
the case of an annual report) that has materially affected, or is
reasonably likely to materially affect, the registrant's internal
control over financial reporting; and
5. The registrant's other certifying officer(s) and I have disclosed,
based on our most recent evaluation of internal control over financial
reporting, to the registrant's auditors and the audit committee of the
registrant's board of directors (or persons performing the equivalent
functions):
(a) All significant deficiencies and material weaknesses in the design or
operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant's ability to
record, process, summarize and report financial information; and
(b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
control over financial reporting.
/s/ David L. Rogers
---------------------------
David L. Rogers
Chief Financial Officer
Date: October 4, 2006
38
EXHIBIT 32.1
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Quarterly Report of Conn's, Inc. (the "Company") on
Form 10-Q/A for the period ended April 30, 2006 as filed with the Securities and
Exchange Commission on the date hereof (the "Report"), we, Thomas J. Frank, Sr.,
Chairman of the Board and Chief Executive Officer of the Company and David L.
Rogers, Chief Financial Officer of the Company, hereby certify, pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002, that, to the best of our knowledge:
(1) The Report fully complies with the requirements of Section 13(a) or 15(d)
of the Securities Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all material
respects, the financial condition and results of operations of the Company.
/s/ Thomas J. Frank Sr.
-------------------------
Thomas J. Frank, Sr.
Chairman of the Board and
Chief Executive Officer
/s/ David L. Rogers
-------------------------
David L. Rogers
Chief Financial Officer
Dated: October 4, 2006
A signed original of this written statement required by Section 906 has been
provided to Conn's, Inc. and will be retained by Conn's, Inc. and furnished to
the Securities and Exchange Commission or its staff upon request. The foregoing
certification is being furnished solely pursuant to 18 U.S.C. Section 1350 and
is not being filed as part of the Report or as a separate disclosure document.
39
EXHIBIT 99.1
SUBCERTIFICATION OF CHIEF OPERATING OFFICER IN SUPPORT OF
RULE 13a-14(a)/15d-14(a) CERTIFICATION (CHIEF EXECUTIVE OFFICER)
I, William C. Nylin Jr., certify that:
1. I have reviewed this quarterly report on Form 10-Q/A of Conn's, Inc.;
2. Based on my knowledge, this report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material respects the
financial condition, results of operations and cash flows of the registrant as
of, and for, the periods presented in this report;
4. The registrant's other certifying officer(s) and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial
reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the
registrant and have:
(a) Designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to the
registrant, including its consolidated subsidiaries, is made known to
us by others within those entities, particularly during the period in
which this report is being prepared;
(b) Designed such internal control over financial reporting, or caused
such internal control over financial reporting to be designed under
our supervision, to provide reasonable assurance regarding the
reliability of financial reporting and the preparation of financial
statements for external purposes in accordance with generally accepted
accounting principles;
(c) Evaluated the effectiveness of the registrant's disclosure controls
and procedures and presented in this report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end
of the period covered by this report based on such evaluation; and
(d) Disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the registrant's
most recent fiscal quarter (the registrant's fourth fiscal quarter in
the case of an annual report) that has materially affected, or is
reasonably likely to materially affect, the registrant's internal
control over financial reporting; and
5. The registrant's other certifying officer(s) and I have disclosed,
based on our most recent evaluation of internal control over financial
reporting, to the registrant's auditors and the audit committee of the
registrant's board of directors (or persons performing the equivalent
functions):
(a) All significant deficiencies and material weaknesses in the design or
operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant's ability to
record, process, summarize and report financial information; and
(b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
control over financial reporting.
/s/ William C. Nylin, Jr.
------------------------------------
William C. Nylin, Jr.
Executive Vice-Chairman of the Board
and Chief Operating Officer
Date: October 4, 2006
40
Exhibit 99.2
SUBCERTIFICATION OF TREASURER IN SUPPORT OF RULE 13a-14(a)/15d-14(a)
CERTIFICATION (CHIEF FINANCIAL OFFICER)
I, David R. Atnip, certify that:
1. I have reviewed this quarterly report on Form 10-Q/A of Conn's, Inc.;
2. Based on my knowledge, this report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material respects the
financial condition, results of operations and cash flows of the registrant as
of, and for, the periods presented in this report;
4. The registrant's other certifying officer(s) and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial
reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the
registrant and have:
(a) Designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to the
registrant, including its consolidated subsidiaries, is made known to
us by others within those entities, particularly during the period in
which this report is being prepared;
(b) Designed such internal control over financial reporting, or caused
such internal control over financial reporting to be designed under
our supervision, to provide reasonable assurance regarding the
reliability of financial reporting and the preparation of financial
statements for external purposes in accordance with generally accepted
accounting principles;
(c) Evaluated the effectiveness of the registrant's disclosure controls
and procedures and presented in this report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end
of the period covered by this report based on such evaluation; and
(d) Disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the registrant's
most recent fiscal quarter (the registrant's fourth fiscal quarter in
the case of an annual report) that has materially affected, or is
reasonably likely to materially affect, the registrant's internal
control over financial reporting; and
5. The registrant's other certifying officer(s) and I have disclosed,
based on our most recent evaluation of internal control over financial
reporting, to the registrant's auditors and the audit committee of the
registrant's board of directors (or persons performing the equivalent
functions):
(a) All significant deficiencies and material weaknesses in the design or
operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant's ability to
record, process, summarize and report financial information; and
(b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
control over financial reporting.
/s/ David R. Atnip
-----------------------------------
David R. Atnip
Senior Vice President and Treasurer
Date: October 4, 2006
41
EXHIBIT 99.3
SUBCERTIFICATION OF SECRETARY IN SUPPORT OF RULE 13a-14(a)/15d-14(a)
CERTIFICATION (CHIEF EXECUTIVE OFFICER)
I, Sydney K. Boone, Jr., certify that:
1. I have reviewed this quarterly report on Form 10-Q/A of Conn's, Inc.;
2. Based on my knowledge, this report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material respects the
financial condition, results of operations and cash flows of the registrant as
of, and for, the periods presented in this report;
4. The registrant's other certifying officer(s) and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial
reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the
registrant and have:
(a) Designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to the
registrant, including its consolidated subsidiaries, is made known to
us by others within those entities, particularly during the period in
which this report is being prepared;
(b) Designed such internal control over financial reporting, or caused
such internal control over financial reporting to be designed under
our supervision, to provide reasonable assurance regarding the
reliability of financial reporting and the preparation of financial
statements for external purposes in accordance with generally accepted
accounting principles;
(c) Evaluated the effectiveness of the registrant's disclosure controls
and procedures and presented in this report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end
of the period covered by this report based on such evaluation; and
(d) Disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the registrant's
most recent fiscal quarter (the registrant's fourth fiscal quarter in
the case of an annual report) that has materially affected, or is
reasonably likely to materially affect, the registrant's internal
control over financial reporting; and
5. The registrant's other certifying officer(s) and I have disclosed,
based on our most recent evaluation of internal control over financial
reporting, to the registrant's auditors and the audit committee of the
registrant's board of directors (or persons performing the equivalent
functions):
(a) All significant deficiencies and material weaknesses in the design or
operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant's ability to
record, process, summarize and report financial information; and
(b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
control over financial reporting.
/s/ Sydney K. Boone, Jr.
---------------------------------------
Sydney K. Boone, Jr.
Corporate General Counsel and Secretary
Date: October 4, 2006
42
EXHIBIT 99.4
SUBCERTIFICATION OF CHIEF OPERATING OFFICER,
TREASURER AND SECRETARY IN SUPPORT OF
18 U.S.C. SECTION 1350 CERTIFICATION,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Quarterly Report of Conn's, Inc. (the "Company") on
Form 10-Q/A for the period ended April 30, 2006 as filed with the Securities and
Exchange Commission on the date hereof (the "Report"), we, William C. Nylin,
Jr., President and Chief Operating Officer of the Company, David R. Atnip,
Senior Vice President and Treasurer of the Company, and Sydney K. Boone, Jr.,
Corporate General Counsel and Secretary of the Company, hereby certify, pursuant
to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002, that, to the best of our knowledge:
(1) The Report fully complies with the requirements of Section 13(a) or 15(d)
of the Securities Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all material
respects, the financial condition and results of operations of the Company.
/s/ William C. Nylin, Jr.
----------------------------------------
William C. Nylin, Jr.
Executive Vice-Chairman of the Board and
Chief Operating Officer
/s/ David R. Atnip
----------------------------------------
David R. Atnip
Senior Vice President and Treasurer
/s/ Sydney K. Boone, Jr.
----------------------------------------
Sydney K. Boone, Jr.
Corporate General Counsel and Secretary
Dated: October 4, 2006
A signed original of this written statement has been provided to Conn's, Inc.
and will be retained by Conn's, Inc. The foregoing certification is being
furnished solely to support certifications pursuant to 18 U.S.C. Section 1350
and is not being filed as part of the Report or as a separate disclosure
document.
43