The Gymboree Corporation
GYMBOREE CORP (Form: 10-KT, Received: 10/28/2016 15:53:26)
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

 

FORM 10-K

 

 

 

¨

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

FOR THE FISCAL YEAR ENDED

OR

 

x

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

FOR THE TRANSITION PERIOD FROM January 31, 2016 TO July 30, 2016

COMMISSION FILE NUMBER 000-21250

 

 

THE GYMBOREE CORPORATION

(Exact name of registrant as specified in its charter)

 

 

 

DELAWARE   94-2615258

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

500 Howard Street,

San Francisco, California

  94105
(Address of principal executive offices)   (Zip Code)

Registrant’s telephone number, including area code: (415) 278-7000

SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: NONE

SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: NONE

 

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    Yes   ¨     No   x

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.    Yes   x     No   ¨

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

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

 

*

The Registrant has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934, as amended, but is not required to file such reports under such sections.

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§ 229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.   x

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

 

Large accelerated filer   ¨    Accelerated filer   ¨
Non-accelerated filer   x   (Do not check if a smaller reporting company)    Smaller reporting company   ¨

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

As of October 28, 2016, the registrant had 1,000 shares of common stock outstanding, par value $0.001 per share, all of which are owned by Giraffe Holding, Inc., the registrant’s indirect parent holding company, and are not publicly traded.

DOCUMENTS INCORPORATED BY REFERENCE

None.

 

 

 


Table of Contents

THE GYMBOREE CORPORATION

TABLE OF CONTENTS

 

   PART I   

Item 1.

   Business    3

Item 1A.

   Risk Factors    5

Item 1B.

   Unresolved Staff Comments    13

Item 2.

   Properties    14

Item 3.

   Legal Proceedings    14

Item 4.

   Mine Safety Disclosures    14
   PART II   

Item 5.

   Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities    14

Item 6.

   Selected Financial Data    14

Item 7.

   Management’s Discussion and Analysis of Financial Condition and Results of Operations    17

Item 7A.

   Quantitative and Qualitative Disclosures About Market Risk    33

Item 8.

   Financial Statements and Supplementary Data    34

Item 9.

   Changes in and Disagreements with Accountants on Accounting and Financial Disclosure    87

Item 9A.

   Controls and Procedures    87

Item 9B.

   Other Information    87
   PART III   

Item 10.

   Directors, Executive Officers and Corporate Governance    87

Item 11.

   Executive Compensation    90

Item 12.

   Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters    99

Item 13.

   Certain Relationships and Related Transactions, and Director Independence    101

Item 14.

   Principal Accounting Fees and Services    103
   PART IV   

Item 15.

   Exhibits, Financial Statement Schedules    104

 

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CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

This transition report contains forward-looking statements. You can generally identify forward-looking statements because they contain words such as “believe,” “expect,” “may,” “will,” “should,” “could,” “seek,” “intend,” “plan,” “estimate,” or “anticipate” or other similar expressions. All statements we make relating to: future sales, the number of stores we expect to open or close, including through franchisees, costs and expenses, including our estimates and plans for capital expenditures in fiscal 2017, and gross profit percentages; the continuation of historical trends; our ability to operate our business under our capital and operating structure; and the sufficiency of our cash balances and cash generated from operating and financing activities for future liquidity and capital resource needs are forward-looking statements. Each forward-looking statement contained in this transition report is subject to risks and uncertainties that could cause our actual results to differ materially from those expressed or implied by such forward-looking statements. Applicable risks and uncertainties include, among others, those identified under “Item 1A, Risk Factors” and elsewhere in this transition report. We encourage you to carefully read these risk factor disclosures. We caution investors not to place considerable reliance on the forward-looking statements contained in this transition report. These statements, like all statements in this transition report, speak only as of the date of this transition report (unless another date is indicated), and we undertake no obligation to update or revise the statements in light of future developments, except as otherwise required by law.

PART I

Item 1. Business

General

The Gymboree Corporation (“we,” “us,” “our,” “Gymboree” and “Company”) was organized in October 1979 as a California corporation and re-incorporated as a Delaware corporation in June 1992. Effective June 28, 2016, we changed our fiscal year-end from the Saturday closest to January 31st of each year to the Saturday closest to July 31st of each year. As a result of this change, our fiscal year 2016 is comprised of a 26-week transition period from January 31, 2016 through July 30, 3016. Our fiscal years 2015, 2014, and 2013 ended on January 30, 2016, January 31, 2015, and February 1, 2014, respectively. Fiscal years 2015, 2014, and 2013 include 52 weeks. References to years in the Consolidated Financial Statements relate to fiscal years rather than calendar years.

We are one of the largest children’s apparel specialty retailers in North America, offering collections of high-quality apparel and accessories under the Gymboree®, Janie and Jack® and Crazy 8® brands. Our brands operate in retail store locations, including outlets, online and franchise channels and are in multiple geographies in the global retail marketplace.

Through July 15, 2016, we also offered directed parent-child developmental play programs at franchised and Company-operated Gymboree Play & Music® centers in the United States and other countries. Gymboree (Tianjin) Educational Information Consultation Co. Ltd. (“Gymboree Tianjin”) was Gymboree Play & Music’s master franchisee in China, while Gymboree (China) Commercial and Trading Co. Ltd. (“Gymboree China”) was an operator of Gymboree retail stores in China. Gymboree Tianjin and Gymboree China were collectively referred to as variable interest entities (“VIEs”).

On July 15, 2016, we sold the Gymboree Play & Music business to Zeavion Holding Pte. Ltd. (“Zeavion”). Concurrent with the sale of Gymboree Play & Music, Gymboree Investment Holdings L.P. sold the VIEs to Zeavion. For further information refer to Note 2 in the consolidated financial statements included in Part II, Item 8, of this Transition Report on Form 10-K.

Gymboree : Gymboree celebrates childhood with fun, age-appropriate apparel and accessories for boys and girls. One-of-a-kind collections feature mix-and-match colors, patterns and graphics, detailed embellishments, comfort, and durability in sizes newborn through 12. Gymboree Outlet stores provide similar high-quality, mix-and-match children’s apparel and accessories in the same size ranges but at outlet prices.

Janie and Jack : Janie and Jack shops offer distinctive, finely crafted clothing and accessories for boys and girls in sizes newborn through 12. Fine fabrics, handmade quality and details such as hand-embroidery and classic prints are utilized to create timeless looks. Shops have a European style reminiscent of a small Parisian boutique.

Crazy 8 : Crazy 8 offers fashionable outfits at an exceptional value for girls and boys without sacrificing quality in sizes 6 months through 14 years. Styles are designed for kids who like to wear clothes their own way and for parents who want ease and affordability.

 

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As of July 30, 2016, we operated a total of 1,299 retail stores, as follows:

 

     United States      Canada      Puerto Rico      Total  

Gymboree® stores

     541         48         1         590   

Gymboree Outlet stores

     174         —           1         175   

Janie and Jack® shops (including Janie and Jack outlets)

     148         —           1         149   

Crazy 8® stores (including Crazy 8 outlets)

     385         —           —           385   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

     1,248         48         3         1,299   
  

 

 

    

 

 

    

 

 

    

 

 

 

We also operate 3 online stores at www.gymboree.com, www.janieandjack.com and www.crazy8.com. Our online stores offer the entire Gymboree, Janie and Jack and Crazy 8 product offerings, respectively. Each of our brands serves customers through its store and online channels, allowing us to execute on our omnichannel strategy where customers can shop in retail stores and online through desktop or mobile devices. Our omnichannel experience offers our customers the capability to shop for substantially the same products regardless of where they shop. We also have a policy whereby retail stores order merchandise for customers from the online stores and ship the merchandise directly to the customers. In addition, customers can return merchandise purchased online at traditional retail stores.

Overseas franchisees operated 56 retail stores in the Middle East, South Korea and Latin America as follows as of July 30, 2016:

 

     Number of
Franchised
Stores
 

Gymboree® stores

     51   

Janie and Jack® shops

     2   

Crazy 8® stores

     3   
  

 

 

 

Total

     56   
  

 

 

 

Suppliers

The majority of our apparel is manufactured to our specifications by 80 independent manufacturers located primarily in Asia (principally China (24%), Vietnam (20%), Bangladesh (18%), and India (13%) for the 26 weeks ended July 30, 2016). All product purchases are denominated in U.S. dollars. One buying agent manages a substantial portion of our inventory purchases (approximately 93% for the 26 weeks ended July 30, 2016). We have no long-term contracts with suppliers and typically transact business on an order-by-order basis. Factories typically undergo annual audits for social accountability by independent third parties. In addition, all of our products undergo a quality audit performed by our main buying agent or other third parties.

Seasonality and Competition

Our operations are seasonal in nature, with sales from retail operations peaking during the quarter ending in January, primarily during the holiday season in November and December. During fiscal 2015, 2014, and 2013, the fourth quarter accounted for approximately 32%, 31%, and 28%, respectively, of net sales from retail operations respectively.

Trademark and Service Marks

In the United States, we are the owner of a number of trademarks and service marks, including the trademarks and service marks “ Gymboree ,” “ Janie and Jack, ” and “ Crazy 8, ” and the trademark “ Gymbucks .” These marks and certain other of our marks are registered with the United States Patent and Trademark Office. The mark “ Gymboree ” is also registered, or is the subject of pending applications, in approximately 106 foreign countries. All other trademarks or service marks appearing in this transition report that are not identified as marks owned by us are the property of their respective owners. Each federal registration is renewable indefinitely if the mark is still in use at the time of renewal. The Company’s rights in the “ Gymboree ,” “ Janie and Jack ” and “ Crazy 8 ” marks and other marks are a significant part of its business. Accordingly, we intend to maintain the marks and the related registrations. We are not aware of any material claims of infringement or other material challenges to our right to use the “ Gymboree ,” “ Janie and Jack ” and “ Crazy 8 ” marks in the United States.

We use a number of other trademarks, certain of which have been registered with the U.S. Patent and Trademark Office and in certain foreign countries. We believe that our registered and common-law trademarks have significant value to our business and that some of our trademarks are instrumental to our ability to both market our products and create and sustain demand for our products.

 

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Employees

As of July 30, 2016, we had approximately 5,090 full-time equivalents made up of 11,999 full and part-time employees. A significant number of seasonal employees are hired during each holiday selling season. None of our employees are represented by a labor union.

Segment and International Financial Information

Certain financial information about our reportable segments is included in Note 18 “Segment Information” to the consolidated financial statements included elsewhere in this transition report.

Available Information

We currently make available on our website at www.gymboree.com, under “Company Information—Financial Resources & SEC filings,” free of charge, our transition reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to such documents as soon as reasonably practicable after we electronically file or furnish such materials to the U.S. Securities and Exchange Commission (“SEC”). The public may read and copy any materials filed with the SEC by calling the SEC at 1-800-SEC-0330. We also currently make available under “Company Information—Corporate Governance” our code of ethics as well as other documents and materials relating to corporate governance. References to the Company’s website address do not constitute incorporation by reference of the information contained on the website, and the information contained on the website is not part of this transition report.

Item 1A. Risk Factors

Our financial performance is subject to various risks and uncertainties. The risks described below are those that we believe are the material risks we face. Any of the risk factors described below could significantly and adversely affect our business, prospects, sales, revenues, gross profit, cash flows, financial condition and results of operations. Furthermore, these risk factors represent risks and uncertainties that could cause actual results to differ materially from those expressed or implied by the forward-looking statements contained in this transition report. See “Cautionary Note Regarding Forward-Looking Statements.”

Risks Related to Our Indebtedness and Certain Other Obligations

Our substantial leverage and weaker than expected operating performance could adversely affect our ability to raise additional capital to fund our operations, limit our ability to react to changes in the economy or our industry, expose us to interest rate risk to the extent of our variable rate debt and prevent us from meeting our obligations.

On November 23, 2010 (the “Transaction Date”), The Gymboree Corporation completed a merger (the “Merger”) with Giraffe Acquisition Corporation (“Acquisition Sub”) in accordance with an Agreement and Plan of Merger (the “Merger Agreement”) with Giraffe Holding, Inc. (“Parent”), and Acquisition Sub, a wholly owned subsidiary of Parent, with the Merger funded through a combination of debt and equity financing (collectively, the “Transactions”). The Company is continuing as the surviving corporation and a 100%-owned indirect subsidiary of the Parent. At the Transaction Date, investment funds sponsored by Bain Capital indirectly owned a controlling interest in Parent.

As a result of the Transactions discussed above, we are highly leveraged. The following chart shows our indebtedness as of July 30, 2016 (in millions):

 

     July 30, 2016  
     ($ in millions)  

ABL Facility (1)

   $ 42.0   

ABL Term loan (1)

     50.0   

Term Loan due February 2018 (1)

     769.1   

9.125% senior notes due December 2018 (“Notes”)

     171.0   
  

 

 

 

Total indebtedness

   $ 1,032.1   
  

 

 

 

 

(1)

As of July 30, 2016, the Company’s senior credit facilities (collectively, the “Senior Credit Facilities”) were comprised of an $820 million secured term loan agreement (the “Term Loan”) and a $225 million asset backed revolving credit facility (“ABL Revolving Facility”) and includes a senior secured asset backed term loan (the “ABL Term Loan”) of $50.0 million. Amounts available under the ABL Revolving Facility are subject to customary borrowing base limitations and are reduced by letter of credit utilization. The Term Loan matures on February 23, 2018, and the ABL Term Loan and the ABL revolving commitments mature the earlier of (i) September 24, 2020 and (ii) the date that is 60 days before the scheduled final maturity date of any tranche of the Term Loan or the Notes (which mature in December 2018), unless such indebtedness is cumulatively equal to or less than $25.0 million in the aggregate and a reserve against the borrowing base is imposed equal to the amount of such indebtedness.

 

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The Senior Credit Facilities also allow an aggregate of $200 million in uncommitted incremental facilities, the availability of which is subject to our meeting certain conditions and will be reduced by the amount of any additional commitments incurred under the ABL Facility since the closing date of the Term Loan (including the ABL Term Loans).

Our high degree of leverage could have important consequences. For example, it could:

 

   

make it more difficult for us to make payments on our indebtedness;

 

   

increase our vulnerability to general economic and industry conditions;

 

   

require a substantial portion of cash flow from operations to be dedicated to the payment of principal and interest on our indebtedness, thereby reducing our ability to use our cash flow to fund our operations, capital expenditures and future business opportunities;

 

   

expose us to the risk of increased interest rates as the borrowings under our Senior Credit Facilities will be at variable rates of interest;

 

   

restrict us from making strategic acquisitions or cause us to make non-strategic divestitures;

 

   

limit our ability to obtain additional financing for working capital, capital expenditures, research and development, debt service requirements, acquisitions and general corporate or other purposes; and

 

   

limit our ability to adjust to changing market conditions and place us at a competitive disadvantage compared to our competitors who are less highly leveraged.

Despite current indebtedness levels and restrictive covenants, we and our subsidiaries may incur additional indebtedness in the future. This could further exacerbate the risks associated with our substantial financial leverage.

The terms of the indenture governing the Notes and the Senior Credit Facilities permit us to incur a substantial amount of additional debt, including secured debt. Any additional borrowings under the Senior Credit Facilities, and any other secured debt, would be effectively senior to the Notes and any guarantees thereof to the extent of the value of the assets securing such secured debt. If new debt is added to our current debt levels, the risks that we now face as a result of our leverage would intensify.

Our debt agreements contain restrictions that limit our flexibility in operating our business.

Our Senior Credit Facilities and the indenture governing the Notes contain various covenants that limit our ability to engage in specified types of transactions. These covenants provide certain limits on, but do not prohibit, our ability to, among other things, incur or guarantee additional indebtedness, pay dividends on, or redeem or repurchase, our capital stock, make certain acquisitions or investments, enter into sale-leaseback transactions, materially change our business, incur or permit to exist certain liens, enter into transactions with affiliates or sell our assets to, or merge or consolidate with or into, another company. In addition to the foregoing covenants, the ABL Facility contains covenants requiring us to maintain a certain minimum amount of availability under the ABL Facility and, if the ABL Term Loan is no longer outstanding, the ABL Revolving Facility under certain circumstances would require us to satisfy a financial test. Our ability to satisfy these tests may be affected by events outside of our control.

Upon the occurrence of an event of default under the Senior Credit Facilities, the lenders could elect to declare all amounts outstanding under the Senior Credit Facilities to be immediately due and payable and terminate all commitments to extend further credit. If we were unable to repay those amounts, the lenders under the Senior Credit Facilities could proceed against the collateral granted to them to secure that indebtedness. We have pledged substantially all of our assets as collateral under the Senior Credit Facilities. If the lenders under the Senior Credit Facilities accelerate the repayment of borrowings, we cannot assure you that we will have sufficient assets to repay the Senior Credit Facilities, as well as our other secured and unsecured indebtedness, including the Notes.

We require a significant amount of cash to service our indebtedness and fund our other liquidity needs, and our ability to generate sufficient cash depends on many factors beyond our control.

Our ability to make cash payments on and to refinance our indebtedness and to fund planned capital expenditures depends on our ability to generate significant operating cash flow in the future. This ability is, to a significant extent, subject to general economic, financial, competitive, legislative, regulatory and other factors that are beyond our control.

 

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Our business has not been generating sufficient cash flow from operations, and future borrowings may not be available under our Senior Credit Facilities, in an amount sufficient to enable us to pay our indebtedness, including the Notes, or to fund our other liquidity needs. As a result, we expect we will need to refinance all or a portion of our indebtedness on or before maturity. However, we may not be able to refinance any of our indebtedness, including the Senior Credit Facilities and the Notes, on commercially reasonable terms or at all, particularly given that our recent results have been weaker than anticipated. If we cannot service our indebtedness, we may have to take actions such as selling assets, seeking additional equity or reducing or delaying capital expenditures, strategic acquisitions and investments. Any such action, if necessary, may not be effected on commercially reasonable terms or at all. Our Senior Credit Facilities and the indenture governing the Notes restrict our ability to sell assets and use the proceeds from such sales.

In addition, if availability under our ABL Facility falls below a specified minimum threshold, the agent for the ABL lenders will be permitted, subject to certain exceptions, to take control of our bank accounts and apply the funds in such accounts to pay down our obligations under the ABL Facility. Since availability under our ABL Facility is calculated based on a borrowing base consisting of certain of our short term assets, we could fall below the minimum availability threshold if certain factors beyond our control were to occur.

If we are unable to generate sufficient cash flow or are otherwise unable to obtain funds necessary to meet required payments of principal, premium, if any, and interest on our indebtedness, or if we otherwise fail to comply with the various covenants in the instruments governing our indebtedness (including availability covenants in our ABL Facility and other covenants in our Senior Credit Facilities and the indenture governing the Notes), we could be in default under the terms of the agreements governing such indebtedness. In addition, if our independent registered public accounting firm includes a qualification or exception regarding our ability to continue as a going concern in its audit report and opinion regarding our financial statements, an event of default would be triggered under our Senior Credit Facilities. In the event of such a default, the holders of such indebtedness could elect to declare all the funds borrowed thereunder to be due and payable, together with accrued and unpaid interest, the lenders under our Senior Credit Facilities could elect to terminate their commitments thereunder, cease making further loans and institute foreclosure proceedings against our assets, and we could be forced into bankruptcy or liquidation. If our operating performance declines, we may in the future need to obtain waivers from the required lenders under our Senior Credit Facilities to avoid being in default. If we breach our covenants under our Senior Credit Facilities and seek such a waiver, we may not be able to obtain a waiver from the required lenders. If this occurs, we would be in default under our Senior Credit Facilities, the lenders could exercise their rights, as described above, and we could be forced into bankruptcy or liquidation.

Risks Related to the Business

Global economic conditions may adversely affect our financial performance.

During the recent economic recession, global financial markets experienced extreme volatility, disruption and credit contraction. The volatility and disruption to the capital markets significantly and adversely affected global economic conditions, resulting in additional significant recessionary pressures and declines in employment levels, consumer and business confidence, disposable income and actual and perceived wealth. Demand for children’s apparel, specifically brand name apparel products, is impacted by the overall level of consumer spending. Although there have been some improvements since the economic recession, continuing or worsened adverse economic conditions, including higher unemployment, gasoline, energy and health care costs, taxes and tighter credit, could continue to affect consumer confidence and discretionary consumer spending adversely and may adversely affect our sales, cash flows and results of operations. Additionally, renewed turmoil in the financial and credit markets could adversely affect our costs of capital and the sources of liquidity available to us.

Further, we work with a large number of small vendors, some of whom have been or may be significantly impacted by any of the factors described above. If a number of these vendors fail, the delays and costs that we would likely incur in replacing them and in finding replacement goods and services could have a material adverse effect on our business, financial condition and operating results.

Our results may be adversely affected by our failure to anticipate and respond to changes in consumer preferences in a timely manner.

Our sales and profitability depend upon the continued demand by customers for our apparel and accessories. We believe that our success depends in large part upon our ability to anticipate, gauge and respond in a timely manner to changing consumer demands and preferences and upon the appeal of our products. Further, current economic conditions and levels of discretionary spending also affect consumer preferences. We may not be able to anticipate, gauge and respond effectively to changes in consumer preferences, and, as a result, the demand for our apparel or accessories may decline. In addition, since much of our inventory is sourced from vendors located outside the United States, we usually must order merchandise and enter into contracts for the purchase and manufacture of such merchandise, up to nine months in advance of the applicable selling season and frequently before trends are known. A decline in demand for our apparel and accessories or a misjudgment could, among other things, lead to lower sales, excess inventories and higher markdowns, each of which could have a material adverse effect on our business, financial condition and operating results.

 

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Changes in seasonal consumer spending patterns that are beyond our control could harm our business.

Historically, a significant portion of our retail sales have been realized during the holiday season in the months of November and December. We are dependent on the holiday season, particularly the month of December, to sell a significant portion of our existing inventory, which may be affected by weather, spending patterns, promotional activity, terrorist activity or other security threats or perceived threats impacting store traffic. We have also experienced periods of increased sales activity in the early spring, during the period leading up to the Easter holiday, and in the early fall, in connection with back-to-school sales. Changes in seasonal consumer spending patterns could result in lower-than-expected sales during these periods. Such circumstances could cause us to have excess inventory, necessitating markdowns to dispose of these excess inventories, which would reduce our profitability. Any failure by us to meet our business plan for, in particular, the quarters ending in October and January of any fiscal year could have a material adverse effect on our earnings, which in all likelihood would not be offset by satisfactory results achieved in other quarters of the same fiscal year in which sales are less concentrated. Also, because we typically spend more in labor costs during the holiday season to hire temporary store employees in anticipation of increased holiday business volume, a shortfall in expected sales during that period could result in a disproportionate decrease in our earnings.

If we are unable to manage our inventory effectively, our gross margins could be adversely affected.

We normally order merchandise and enter into contracts for the purchase and manufacture of inventory, up to nine months in advance of the applicable selling season and frequently before trends are known. In addition, our business requires us to carry a significant amount of inventory especially prior to the peak holiday selling season. As a result, we are vulnerable to demand and pricing shifts and to suboptimal selection and timing of merchandise purchases. If sales do not meet expectations, too much inventory may cause excessive markdowns and, therefore, lower than planned margins. Conversely, if we underestimate consumer demand for our merchandise, particularly higher volume styles, or if our manufacturers fail to supply quality products in a timely manner, we may experience inventory shortages, which might result in lost sales, a negative impact on our customer relationships and/or diminished brand loyalty.

Our business may be negatively impacted by consumer product safety laws, regulations or related legal actions.

Our products are subject to consumer product safety laws, as well as regulations and standards with respect to product quality and safety set by various U.S., state and international government regulatory authorities, including the U.S. Consumer Product Safety Commission. New consumer product safety laws or changes to existing laws and regulations may make certain products unsalable or require us to incur significant compliance costs, which could have a material adverse effect on our earnings. Our inability, or that of our vendors or manufacturers, to comply on a timely basis with such laws and regulatory requirements could result in significant fines or penalties, which could adversely affect our reputation and earnings.

Increased production costs may adversely affect our results.

We are affected by inflation and changing prices primarily through purchasing products from our global suppliers, increased operating costs and expenses, fluctuations in interest rates, and fluctuating commodity prices. For example, when prices of raw materials such as cotton increase, the costs to produce many of our products also increase. In addition, increases in energy costs, which can be volatile, may also result in an increase in our transportation costs for distribution, utility costs for our stores, and costs to purchase our products from suppliers. If our customers are resistant to paying higher prices for our products, and if we are unable to absorb increased costs of goods by reducing our manufacturing or supply chain costs or lowering our overall cost structure, our profitability may be materially adversely affected.

Competition and the strength of our competitors may impair our ability to maintain or grow our sales and adversely affect our operating results.

The apparel segment of the specialty retail industry is highly competitive, and retailers are constantly adjusting their promotional activity and pricing strategies in response to changing conditions. E-commerce, including online flash sale sites and mobile applications, is rapidly evolving and, if we do not keep pace, our business, prospects and results of operations could be adversely affected. The principal factors of competition for retail sales are product design, product quality, brand image, customer service and pricing. Our Gymboree, Janie and Jack and Crazy 8 brands compete on a national level with Carter’s, The Children’s Place, BabyGap and GapKids (divisions of Gap Inc.), department stores operating in malls, outlet centers or street locations, discount retail chains such as Old Navy (a division of Gap Inc.), Wal-Mart and Target, as well as a wide variety of local and regional specialty stores, other retail chains, and children’s retailers that sell their products by mail order, online or through outlet malls. Many of these competitors are larger than us and have substantially greater financial, marketing and other resources. As a result, these competitors may be able to adapt to changes in customer preferences more quickly, take advantage of acquisition and other opportunities more readily, devote greater resources to the marketing and sale of their products and adopt more aggressive pricing strategies than we can. Increased competition may put deflationary pressure on our sales prices, reduce sales and gross margins, and increase operating expenses, each of which could have a material adverse effect on our operating results.

 

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Because we purchase our products abroad, our business is subject to heightened risks associated with international business.

Our products are currently manufactured to our specifications by independent factories located primarily in Asia. As a result, our business is subject to the risks generally associated with doing business abroad, currency fluctuations, adverse conditions such as epidemics, natural disasters, wars, acts of terrorism, social or political unrest, disruptions or delays in transportation or customs clearance, local business practices and changes in economic conditions in countries in which our suppliers are located. We cannot predict the effect of such factors on our business relationships with foreign suppliers or on our ability to deliver products into our stores in a timely manner. If even a small portion of our current foreign manufacturing sources or textile mills were disrupted or were to cease doing business with us for any reason, such actions could have a material adverse effect on our operating results and financial position. If we experience significant increases in demand or need to replace an existing vendor, there can be no assurance that additional manufacturing capacity will be available when required on terms that are acceptable to us, or at all, or that any vendor would allocate sufficient capacity to us in order to meet our requirements.

In addition, even if we are able to expand existing or find new manufacturing sources, we may encounter delays in production and added costs as a result of the time it takes to train our vendors in our methods, products, quality control standards, and environmental, labor, health, and safety standards. Moreover, in the event of a significant disruption in the supply of the fabrics or raw materials used by our vendors in the manufacture of our products, our vendors might not be able to locate alternative suppliers of materials of comparable quality at an acceptable price, or at all. Any delays, interruption, or increased costs in the manufacture of our products could have an adverse effect on our ability to meet consumer demand for our products and result in lower sales and net income or higher net loss. In addition, we are currently pursuing strategies to reduce product costs. These strategies may result in sourcing products from factories from which we have not previously purchased products and which may be in countries in which we have not done business before and may subject us to additional risk.

Furthermore, our business is subject to risks associated with foreign governmental regulations, including without limitation exposure to potential liabilities under anti-corruption and anti-money laundering laws, including the U.S. Foreign Corrupt Practices Act, compliance with laws and regulations regarding consumer and data protection, privacy, network security, encryption, payments, restrictions on pricing or discounts and similar laws and regulations in other jurisdictions. Although we have implemented policies and procedures to facilitate our compliance with U.S. and foreign laws and regulations relating to doing business in foreign markets and importing merchandise from various countries, there can be no assurance that our policies and procedures will be effective or that foreign vendors and other third parties with whom we do business will not violate such laws and regulations or our policies. If our policies and procedures are not effective or if there is significant or continuing noncompliance with such standards and laws by one or more vendors, U.S and foreign governmental regulations could have a negative impact on our reputation, could subject us to liability and could have an adverse effect on our results of operations.

Labor disputes at ports can disrupt shipping and transportation channels, leading us to incur significantly higher freight costs and delay us getting products to market.

The majority of our products are manufactured outside of our principal sales markets. As a result, our products must be transported by third parties over large geographical distances. Shortages in ocean or air freight capacity and volatile fuel costs can result in rapidly changing transportation costs. We may not be able to pass all or any portion of these higher costs on to our customers or adjust our pricing structure in a timely manner in order to remain competitive, either of which could have a material adverse effect on our results of operations. For example, even though we do not have any containers directly booked on Hanjin vessels, there has been a disruption in the shipping industry as a result of the recently announced bankruptcy of Hanjin, one of the largest ocean freight carriers in the world, including increased shipping charges, capacity constraints and surcharges for priority loading. We expect this disruption in the shipping industry will have a modest negative impact on our results, which could be further impacted by a worsening disruption. Furthermore, shipping disruptions and delays could also negatively impact sales as each of our brands has significant elements that are seasonal in nature, especially the Gymboree brand.

We must timely and effectively deliver merchandise to our stores and customers.

We cannot control all of the various factors that might affect our fulfillment rates for online sales and timely and effective merchandise delivery to our stores. We rely upon third-party carriers for our merchandise shipments to and from stores and reliable data regarding the timing of those shipments. In addition, we are heavily dependent upon three carriers for the delivery of our merchandise to online customers. Labor disputes, union organizing activity, inclement weather, natural disasters and acts of terrorism could affect those carriers’ ability to provide delivery services to meet our shipping needs. Failure to deliver merchandise in a timely and effective manner could damage our reputation and reduce sales.

Our business may be harmed by additional U.S. regulation of foreign trade or delays caused by additional U.S. customs requirements.

Our business is subject to the risk that the U.S. may adopt additional regulations relating to imported apparel products, including duties, taxes and other charges or restrictions on imported apparel. We cannot predict whether additional U.S. quotas, duties, taxes or other charges or restrictions will be imposed upon the importation of our products in the future, or what effect any such

 

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actions would have on our business, financial position and operating results. If the U.S. government imposes any such charges or restrictions, our supply of products could be disrupted and their cost could substantially increase, either of which could have a material adverse effect on our operating results. Unforeseen delays in customs clearance of any goods could have a material adverse effect on our ability to deliver complete shipments to our stores in a timely manner, which in turn could have a material adverse effect on our business and operating results.

Unauthorized access to proprietary, confidential or personal information, including but not limited to through a compromise of our computer network security, could harm our reputation and business, which could have a material adverse effect on our results of operations.

We collect, store and transmit proprietary and confidential information regarding our business and personal information regarding our customers, employees, job applicants, and others, including credit card information and personal identification information. Despite the steps that we and our vendors may have taken to mitigate risks associated with the collection, storage and transmission of such information, there can be no assurance that such information will be protected against unauthorized access, use or disclosure. As with many other companies, we may be subject to attempts to compromise our data security, and we, or a third party with which we share such information, could suffer a cyber attack. Advances in computer capabilities, new technological discoveries, and the increasing sophistication of cyber thieves may increase the risk of such an attack being successful, in which case proprietary and confidential information regarding our business and/or personal information could be misappropriated, or system disruptions could occur. In addition, unauthorized disclosure of proprietary and confidential information regarding our business or of personal information could result from non-technical issues, including intentional or inadvertent disclosure by our employees or by persons with whom we have commercial relationships. A compromise of our computer network security, or of the network security of third parties with which we do business, or other unauthorized disclosure of the proprietary, confidential or personal information that we collect, store, or transmit, could disrupt our operations, result in significant response costs, damage our reputation, impact our ability to retain and attract customers, and expose us to claims from customers, financial institutions, regulators, payment card brands, business partners, employees, and other persons, all of which could adversely impact our results of operations.

We are dependent on a single facility for distribution of our merchandise.

We handle merchandise distribution for all of our stores, including our online stores, from a single facility in Dixon, California. If we are not able to distribute merchandise to our stores or customers due to exceeding our capacity at the distribution facility (such as due to a high level of demand during peak periods), natural disasters, accidents, system failures, disruptions or other events, our sales could decline which may have a materially adverse effect on our earnings, financial position and our reputation. In addition, we use an automated unit sortation system to manage the order processing for our Crazy 8 and Janie and Jack direct-to-consumer businesses. In the event that this unit sortation system becomes inoperable for any reason, we would not be able to ship all direct-to-consumer orders in the timely manner that our customers expect. As a result, we could experience a reduction in our direct-to-consumer business, which could negatively impact sales and profitability.

For the last several years, we have fulfilled online customer orders for www.gymboree.com through a third-party fulfillment center in Ohio, which was operated through an outsourced arrangement. The arrangement provided us with warehousing, fulfillment and logistics services for these online orders. On February 25, 2016, the Company terminated the third-party fulfillment arrangement and in May 2016 transferred the warehousing, logistics and fulfillment of our www.gymboree.com online customer orders to our distribution center in Dixon, California. This transfer increases the risk that capacity constraints, natural disasters, accidents, system failures, disruptions or other events experienced at the Dixon, California distribution facility could have a material adverse effect on our earnings, financial position and reputation.

Damage to our computer systems could severely impair our ability to manage our business.

Our operations depend on our ability to maintain and protect the computer systems we use to manage our purchase orders, store inventory levels, web applications, accounting functions and other critical aspects of our business. Our systems are vulnerable to damage from fire, floods, earthquakes, power loss, telecommunications failures and similar events. We have computer systems in each of our stores, with the main corporate and retail database servers for our systems located in San Francisco, California, our logistics system located in Dixon, California, and additional web site support systems located in Redwood City, California, which are located on or near known earthquake fault zones. An earthquake or other disaster could have a material adverse impact on our business and operating results not only by damaging our stores or corporate headquarters, but also by damaging our main servers, which could disrupt our business for an indeterminate length of time. Our applications and systems are fully redundant, however our disaster recovery planning may not be sufficient. In addition, we may have inadequate insurance coverage to compensate for any related losses and expenses. Any of these events could damage our reputation, disrupt our business and be expensive to remedy.

 

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We may be subject to negative publicity or legal action if our manufacturers violate labor laws or engage in practices that our customers believe are unethical.

We require our independent manufacturers to operate their businesses in compliance with the laws and regulations that apply to them. Our sourcing personnel periodically visit and monitor the operations of our independent manufacturers, but we cannot control their business or labor practices. We also rely on independent third parties to audit factories annually for compliance with safety and labor laws. If one of our independent manufacturers violates or is suspected of violating labor laws or other applicable regulations, or if such manufacturer engages in labor or other practices that diverge from those typically acceptable in the U.S. or any of the other countries in which we operate, we could in turn experience negative publicity or be subject to legal action. Negative publicity or legal actions regarding our manufacturers or the production of our products could have a material adverse effect on our reputation, sales, business, financial position and operating results.

We are dependent on third parties for operational and critical business functions, and their failure to provide services to us, or our inability to timely replace them when necessary, could have a material adverse effect on our business and operating results.

We outsource certain operational functions such as customer service to third-party service providers. If we fail to successfully deploy, manage, or oversee our operations, our business could be adversely affected. We also rely on third parties for critical functions involving credit card processing and store communications. These third parties may experience financial difficulties or business disruptions that could adversely affect their ability to perform their contractual obligations to us, including their obligations to comply with Payment Card Industry (“PCI”) data security standards. Any such failure to provide services to us or to comply with PCI security requirements could negatively affect our reputation and impact our internal communications systems, including our ability to accept payment cards, which could have an adverse impact on business operations and lead to lower sales. Although we believe that other vendors could be identified and retained to provide these services, we may not timely find an adequate replacement, which could result in a material adverse effect on our business and operating results and adverse publicity.

Our online businesses face distinct operating risks.

The successful operation of our online businesses depends on efficient and uninterrupted operation of our order-taking and fulfillment operations. Disruptions or slowdowns in these areas could result from disruptions in telephone service or power outages, loss of internet connectivity, inadequate system capacity, system issues, computer viruses, human error, changes in programming, credit card fraud, natural disasters or adverse weather conditions. Our online businesses are generally vulnerable to additional risks and uncertainties associated with the Internet, including changes in required technology and other technical failures, as well as changes in applicable federal and state regulations, security breaches, and consumer privacy concerns. Problems in any of these areas, especially if such problems occur during the holiday season, could result in a reduction in sales, increased costs and damage to our reputation and brands.

Our ability to successfully implement significant information technology systems is critical to our business.

We rely on our existing management information systems, including software programs, in operating and monitoring all major aspects of our business, including omnichannel, sales, distribution, purchasing, inventory control, merchandising planning and replenishment, as well as various financial systems.

Our information technology infrastructure is in regular need of upgrades, which we plan to continue to implement. Such technology systems changes are complex and could cause disruptions that may adversely affect our business, such as when our new or upgraded systems fail to perform adequately. While we strive to ensure the orderly implementation of various information technology systems, we may not be able to successfully execute these changes without incurring a significant disruption to our business. Even if we are successful with implementation, we may not achieve the expected benefits from these initiatives, despite having expended significant capital. We may also determine that additional investment is required to bring our systems to their desired state, which could result in a significant investment of additional time and money and increased implementation risk. Furthermore, we intend to rely on third parties to fulfill contractual obligations related to some of these system upgrades. Failure of these third parties to fulfill their contractual obligations could lead to significant expenses or losses due to a disruption in business operations.

Fluctuations in comparative store sales and results of operations could cause our business performance to decline substantially.

Our results of operations for our individual stores have fluctuated in the past and can be expected to continue to fluctuate in the future. Numerous factors affect our comparable store sales, including, among others, merchandise assortment, retail prices, fashion trends, weather conditions, mall traffic, the retail sales environment, calendar shifts of holidays or seasonal periods, timing of promotional events, macro-economic conditions, fuel costs and our success in executing our business strategies.

Our ability to deliver strong comparable sales results and margins depends in large part on accurately forecasting demand and fashion trends, selecting effective marketing techniques, providing an appropriate mix of merchandise for our customer base, managing inventory effectively, using effective pricing strategies, optimizing store performance, and retaining our store associates. Failure to meet the expectations of investors, securities analysts, or credit rating agencies in one or more future periods could cause our credit ratings to decline.

 

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We may not be able to successfully operate if we lose key personnel, are unable to hire qualified additional personnel, or experience turnover of our management team.

We have recently had a number of changes to our executive management team. Our continued success is largely dependent on the individual efforts and abilities of our senior management team and certain other key personnel and on our ability to retain current management and to attract and retain qualified key personnel in the future. The loss of certain key employees or our inability to continue to attract and retain other qualified key employees could have a material adverse effect on our growth, operations and financial position.

Our performance is dependent on attracting and retaining a large and growing number of qualified team members.

Many of our team members are in entry-level or part-time positions with historically high rates of turnover. Our ability to meet our labor needs while controlling our costs is subject to external factors such as unemployment levels, minimum wage legislation, health care legislation and changing demographics. In addition, our labor costs are influenced by health care and workers’ compensation costs, both of which have been rising in recent years. Legislative and private sector initiatives regarding healthcare reform could also result in significant changes to the U.S. healthcare system. Any increase in labor costs may adversely impact our profitability, or, if we fail to pay such higher wages, we could suffer increased employee turnover. Excessive store employee turnover could result in higher employee costs associated with finding, hiring and training new store employees. If we cannot hire enough qualified employees, or if there is a disruption in the supply of personnel we hire from third-party providers, especially during our peak season or certain high-volume events, our customer service levels and our operations could be negatively impacted.

We may experience fluctuations in our tax obligations and effective tax rate.

We are subject to income taxes in federal and applicable state and local tax jurisdictions in the United States, Canada, Australia, Puerto Rico, Kuwait and South Korea. We record tax expense based on our estimates of future payments, which include reserves for estimates of uncertain tax positions. At any time, many tax years are subject to audit by various taxing jurisdictions. The results of these audits and negotiations with taxing authorities may impact the ultimate settlement of these tax positions. As a result, we expect that there could be ongoing variability in our quarterly tax rates as taxable events occur and exposures are re-evaluated. Further, our effective tax rate in a given financial statement period may be materially impacted by changes in the mix and level of earnings.

We are also subject to sales and use taxes, as well as other local taxes, in applicable jurisdictions in the United States, Canada, Puerto Rico and South Korea. At any time, many tax years are subject to audit by various taxing jurisdictions. The results of these audits and negotiations with taxing authorities may adversely impact the ultimate settlement of these tax positions and our financial results.

Currency exchange rate fluctuations may adversely affect our business and operating results.

There has been significant volatility in the value of the U.S. dollar against other foreign currencies in the recent past. While our business is primarily conducted in U.S. dollars, we purchase substantially all of our products overseas (primarily from China, Vietnam, Bangladesh, Indonesia, and India). Cost increases caused by currency exchange rate fluctuations could make our products less competitive or have an adverse effect on our profitability. Currency exchange rate fluctuations could also disrupt the business of the third-party manufacturers that produce our apparel by making their purchases of raw materials more expensive and more difficult to finance. Such fluctuations could have a material adverse effect on our business and earnings.

The loss of our key buying agent or one or more of our suppliers could disrupt our ability to deliver our inventory supply in a timely fashion, impacting its value.

One buying agent manages a substantial portion of our inventory purchases (approximately 93% in fiscal year 2016). The loss of this buying agent could result in delays in procuring inventory, which could result in a material adverse effect on our business and operating results. In addition, we have no long-term contracts with suppliers and typically transact business on an order-by-order basis, which provides us little pricing protection and could make it easier for a supplier to stop supplying us.

We are, and may continue to be in the future, a party to legal proceedings that could result in unexpected adverse outcomes.

From time to time, we are a party to legal proceedings, including matters involving personnel and employment issues, personal injury, and other proceedings arising in the ordinary course of business. In addition, there are an increasing number of cases being filed in the retail industry generally that contain class action allegations, such as such those relating to privacy and wage and hour laws. We evaluate our exposure to these legal proceedings and establish reserves for the estimated liabilities in accordance with generally accepted accounting principles. Assessing and predicting the outcome of these matters involves substantial uncertainties. Although not currently anticipated by management, unexpected outcomes in these legal proceedings, or changes in management’s evaluations or predictions and accompanying changes in established reserves, could have a material adverse impact on our financial results.

 

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Our growth could be hampered if we are unable to identify new store locations and relocate existing stores in appropriate retail venues and shopping areas.

Our stores must be located in appropriate retail spaces in areas with demographic characteristics consistent with our customer base. These locations tend to be limited to malls and similar venues where the market for available space has historically been very competitive. The location of acceptable store sites and the negotiation of acceptable lease arrangements require considerable time, effort and expense. Our ability to lease desirable retail space for expansion and relocation of stores, and to renew our existing store leases, on favorable economic terms is essential to our revenue and earnings growth. There can be no assurance that we will be able to achieve our store expansion goals, effectively manage our growth, successfully integrate the planned new stores into our operations, or profitably operate our new and remodeled stores. Failure to obtain and renew leases for a sufficient number of stores on acceptable terms could have a material adverse effect on our revenues and operating results.

The lease for our corporate offices is scheduled to expire in April 2018, and we may not be able to secure a new lease on commercially favorable terms.

We lease approximately 162,400 square feet of office space in San Francisco, California, for our corporate office space. Approximately 34,300 square feet of this office space is subleased to a third party. Our office lease and sublease agreements expire in April 2018. Due to the competitive commercial real estate market in the San Francisco Bay Area, we may not be able to negotiate a new lease for our existing corporate headquarters on commercially favorable terms. If we are unable to enter into a new lease at our existing location, our ability to lease a suitable alternative location on favorable terms will depend on many factors which are not within our control, such as conditions in the local real estate market and competition for desirable properties, and any relocation of our current corporate officers could be disruptive to our business operations and result in increased expenses.

Our efforts to expand internationally through franchising and similar arrangements may not be successful and could impair the value of our brands.

We have entered into franchise agreements with unaffiliated third parties to operate stores in certain countries in the Middle East, South Korea and Latin America. Under these agreements, third parties operate stores that sell apparel, purchased from us, primarily under the Gymboree name. We have limited experience managing apparel retail franchise relationships and these arrangements may ultimately not be successful. While we expect that this will be a small part of our business in the near future, we plan to continue to increase these types of arrangements over time as part of our international expansion efforts. The effect of these arrangements on our business and operating results is uncertain and will depend upon various factors, including the demand for our products in new markets and our ability to successfully identify appropriate third parties to act as franchisees, distributors, or in a similar capacity. In addition, certain aspects of these arrangements are not directly within our control. Other risks that may affect these third parties include general economic conditions in specific countries or markets, changes in diplomatic and trade relationships, and political instability. Moreover, while the agreements we have entered into and plan to enter into in the future provide us with certain termination rights, to the extent that these parties do not operate their stores in a manner consistent with our requirements regarding our Gymboree brand identity and customer experience standards, or with laws and regulations regarding consumer and data protection and privacy, the value of our brands could be impaired. A failure to protect the value of our brands or any other harmful acts or omissions by a franchisee could have an adverse effect on our operating results and our reputation.

We may be unable to protect our trademarks and other intellectual property rights.

We believe that our trademarks and service marks are important to our success and our competitive position due to their name recognition with our customers. We devote substantial resources to the establishment and protection of our trademarks and service marks on a worldwide basis. We are not aware of any material claims of infringement or material challenges to our right to use any of our trademarks and service marks in the U.S. or abroad. Nevertheless, the actions we have taken to establish and protect our trademarks and service marks may not be adequate to prevent imitation of our products by others or to prevent others from seeking to block sales of our products as a violation of the trademarks, service marks and proprietary rights of others, particularly as we continue to expand our business outside the U.S. Also, others may assert rights in, or ownership of, trademarks and other proprietary rights of ours and we may not be able to successfully resolve these types of conflicts to our satisfaction. In addition, the laws of certain foreign countries may not protect proprietary rights to the same extent as do the laws of the U.S.

Item 1B. Unresolved Staff Comments

None.

 

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Item 2. Properties

We lease approximately 162,400 square feet of office space in a building in San Francisco, California, for our corporate offices. Approximately 34,300 square feet of this office space is subleased to a third party. Our office lease and sublease agreements expire in April 2018.

We lease an approximately 444,000 square-foot distribution center on approximately 31 acres in Dixon, California, which we use to distribute our products. Our lease agreement of the distribution center expires in May 2030.

As of July 30, 2016, our 1,299 stores included an aggregate of approximately 2,696,000 square feet of leased space. Store leases typically have 10-year terms and typically include a termination clause if minimum revenue levels are not achieved during a specified 12-month period during the lease term. Some leases are structured with a minimum rent component plus a percentage rent based on the store’s net sales in excess of a certain threshold. Substantially all of the leases require us to pay insurance, utilities, real estate taxes, and common area repair and maintenance expenses. Approximately 175, 195, and 188 store leases will come up for renewal during fiscal 2017, 2018 and 2019, respectively. We are also in the process of negotiating lease terms for approximately 11 stores currently operating under month-to-month terms. See Note 11 to the consolidated financial statements included elsewhere in this transition report.

Item 3. Legal Proceedings

The Company is subject to various legal proceedings and claims arising in the ordinary course of business. Our management does not expect that the results of any of these legal proceedings, either individually or in the aggregate, would have a material effect on our financial position, results of operations or cash flows.

Item 4. Mine Safety Disclosures

None.

PART II

Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

Gymboree Holding, Ltd., domiciled in the Cayman Islands, through Giraffe Holding, Inc. (“Parent”) and other direct and indirect subsidiaries, indirectly owns all of our outstanding equity interests. Shares of our common stock are not registered on any national securities exchange or otherwise publicly traded, there is no established public trading market for our common stock and none of the shares of our common stock are convertible into shares of any other class of stock or other securities.

We did not pay any cash dividends on our common stock to Parent during the 26 weeks ended July 30, 2016. We do not have an established annual dividend policy. We may issue dividends to our shareholders from time to time, but are under no obligation to do so, and would do so only to the extent permitted under financing documents and approved by our Board of Directors.

Item 6. Selected Financial Data

The following table sets forth selected historical consolidated financial data at the dates and for the periods indicated below and has been derived from our historical audited consolidated financial statements.

The following information should be read in conjunction with “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and notes thereto contained in this transition report.

 

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    26 Weeks Ended     Fiscal Year Ended  
    July 30,
2016
    August 1,
2015
    January 30,
2016
    January 31,
2015
    February 1,
2014
    February 2,
2013
    January 28,
2012
 

Statement of operations data (in thousands) (a) :

             

Net sales:

             

Retail

  $ 515,593      $ 518,723      $ 1,184,606      $ 1,178,476      $ 1,197,176      $ 1,234,993      $ 1,164,171   

Retail Franchise

    7,594        10,496        21,533        19,356        21,708        16,730        10,232   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total net sales

    523,187        529,219        1,206,139        1,197,832        1,218,884        1,251,723        1,174,403   

Cost of goods sold, including buying and occupancy expenses

    (327,406     (339,569     (752,758     (753,861     (762,877     (790,298     (725,251
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Gross profit

    195,781        189,650        453,381        443,971        456,007        461,425        449,152   

Selling, general and administrative expenses

    (209,925     (200,215     (427,638     (435,093     (431,116     (398,354     (363,634

Goodwill and intangible asset impairment

    (2,600     —          —          (591,396     (157,189     —          (28,300
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating (loss) income

    (16,744     (10,565     25,743        (582,518     (132,298     63,071        57,218   

Interest income

    19        20        41        228        100        133        168   

Interest expense

    (39,581     (42,707     (85,990     (82,378     (81,558     (85,640     (89,807

Gain (loss) on extinguishment of debt

    66,853        —          41,522        —          (834     (214     (19,563

Other (expense) income, net

    (2,500     36        (590     (535     (684     (78     (102
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income (loss) from continuing operations, before income taxes

    8,047        (53,216     (19,274     (665,203     (215,274     (22,728     (52,086

Income tax benefit (expense)

    610        (1,484     (2,503     76,334        1,880        8,545        6,101   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income (loss) from continuing operations

    8,657        (54,700     (21,777     (588,869     (213,394     (14,183     (45,985

Income (loss) from discontinued operations, including gain on sale of Gymboree Play & Music, net of tax

    63,039        6,826        13,013        8,758        7,043        3,780        (5,199
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income (loss)

    71,696        (47,874     (8,764     (580,111     (206,351     (10,403     (51,184

Net (income) loss attributable to noncontrolling interest

    (1,008     (1,713     (1,412     6,006        3,324        2,561        5,839   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income (loss) attributable to The Gymboree Corporation

  $ 70,688      $ (49,587   $ (10,176   $ (574,105   $ (203,027   $ (7,842   $ (45,345
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Cash flows (in thousands):

             

Net cash (used in) provided by operating activities

  $ (25,713   $ (41,966   $ 29,140      $ (21,758   $ 74,871      $ 73,794      $ 91,545   

Net cash provided by (used in) investing activities

    10,005        (15,270     (22,600     (31,942     (53,126     (48,693     (38,212

Net cash provided by (used in) financing activities

    9,454        62,305        (5,846     33,336        (16,634     (69,926     (7,723

Capital expenditures

    (11,792     (7,506     (21,413     (31,992     (52,632     (47,851     (36,565

Balance sheet data (in thousands):

             

Cash and cash equivalents (a)

  $ 12,636      $ 13,881      $ 9,774      $ 11,091      $ 34,397      $ 27,635      $ 76,946   

Accounts receivable, net (a)

    12,290        20,876        21,107        21,827        18,768        23,582        20,118   

Working capital

    4,419        32,685        29,403        42,960        68,275        129,856        169,879   

Property and equipment, net (a)

    143,751        167,538        155,550        179,127        204,413        204,273        201,404   

Total assets (b)

    1,178,512        1,222,607        1,140,476        1,164,850        1,811,345        2,008,036        2,071,936   

Total debt and line of credit borrowings (b)

    1,012,902        1,164,107        1,059,506        1,123,955        1,084,983        1,103,278        1,150,320   

Total (deficit) equity

    (273,273     (377,996     (337,888     (332,265     249,142        441,637        448,639   

Operating data (c) :

             

Number of stores at end of period

    1,299        1,317        1,306        1,326        1,323        1,262        1,149   

Net sales per gross square foot at period-end (d)

  $ 190      $ 188      $ 433      $ 425      $ 434      $ 476      $ 499   

Net sales per store (e)

  $ 393,947      $ 395,157      $ 897,768      $ 882,915      $ 899,489      $ 975,734      $ 1,011,940   

Comparable store net sales (c) (f) :

             

Including comparable online sales

    1     1     1     -3     -6     -2     4

Excluding comparable online sales

    1     2     1     -4     -8     -4     3

Other financial data (in thousands):

             

Adjusted EBITDA (a) (g)

  $ 27,078      $ 22,775      $ 94,775      $ 83,938      $ 113,174      $ 156,550      $ 194,647   

 

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(a)

Financial data for the 26 weeks ended August 1, 2015 and the fiscal years 2011 through 2015 have been revised to reflect the impact of the disposition of the Gymboree Play & Music business and the VIEs. See Note 2 to the consolidated financial statements included elsewhere in this transition report.

(b)

Certain reclassifications have been made to the consolidated balance sheets for the fiscal years 2011 through 2015 as a result of our adoption of the Financial Accounting Standards Board (“FASB”) Accounting Standards Update (“ASU”) No. 2015-03, Interest-Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs effective during the 13-week period ended July 30, 2016. See Note 1 to the consolidated financial statements included elsewhere in this transition report.

(c)

Operating data and comparable store net sales excludes retail stores operated by overseas franchisees.

(d)

Equals net sales from the Company’s retail stores and online stores, divided by total square feet of store space as of each date presented.

(e)

Equals net sales from the Company’s retail stores and online stores, divided by stores open as of each date presented.

(f)

A comparable store is one that has been open for a full 14 months. Stores that are relocated or expanded by more than 15% of their original square footage become comparable 14 months after final relocation or the completion of the expansion project. Comparable store net sales were calculated on 53-week basis for fiscal 2012 and a 52-week basis for all other fiscal years presented.

(g)

Refer to the table in the section titled “Earnings before Interest, Taxes, Depreciation and Amortization (“EBITDA”) (Non-GAAP Measure)” set forth in “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations” of this transition report and the reconciliation information provided therein.

 

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Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

You should read the following discussion and analysis in conjunction with our consolidated financial statements and related notes included elsewhere in this transition report. The following discussion contains forward-looking statements. Our actual results could differ materially from results that may be expressed or implied by such forward-looking statements. See “Cautionary Note Regarding Forward-Looking Statements.” The principal factors that could cause or contribute to such differences include, but are not limited to, those discussed in “Item 1A. Risk Factors” and those discussed elsewhere in this report. We undertake no obligation to update or revise forward-looking statements in order to reflect events or circumstances that may subsequently arise or otherwise, except as may be required by law.

Overview

We are one of the largest children’s apparel specialty retailers in North America, offering collections of high-quality apparel and accessories. As of July 30, 2016, we operated a total of 1,299 retail stores, as follows:

 

     United States      Canada      Puerto Rico      Total  

Gymboree® stores

     541         48         1         590   

Gymboree Outlet stores

     174         —           1         175   

Janie and Jack® shops (including Janie and Jack outlets)

     148         —           1         149   

Crazy 8® stores (including Crazy 8 outlets)

     385         —           —           385   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

     1,248         48         3         1,299   
  

 

 

    

 

 

    

 

 

    

 

 

 

As of July 30, 2016, we also operated online stores at www.gymboree.com, www.janieandjack.com and www.crazy8.com. Overseas franchisees operated 56 retail stores in the Middle East, South Korea and Latin America as follows as of July 30, 2016:

 

     Number of
Franchised
Stores
 

Gymboree® stores

     51   

Janie and Jack® shops

     2   

Crazy 8® stores

     3   
  

 

 

 

Total

     56   
  

 

 

 

On June 28, 2016, our Board of Directors approved a change in our fiscal year-end from the Saturday closest to January 31 to the Saturday closest to July 31 effective beginning with our fiscal year 2016. As a result of this change, our fiscal year 2016 is comprised of a 26-week transition period beginning January 31, 2016 through July 30, 3016. Our fiscal years 2015 and 2014, which included 52 weeks each, ended on January 30, 2016 and January 31, 2015, respectively.

On July 15, 2016, we sold the Gymboree Play & Music business to Zeavion Holding Pte. Ltd. (“Zeavion”). Concurrent with the sale of Gymboree Play & Music, Gymboree Investment Holdings L.P. sold Gymboree (Tianjin) Educational Information Consultation Co. Ltd. (“Gymboree Tianjin”) and Gymboree (China) Commercial and Trading Co. Ltd. (“Gymboree China”), master franchisee of Gymboree Play & Music and operator of Gymboree retail stores in China, respectively, to Zeavion. Gymboree China’s retail locations were closed prior to being sold to Zeavion.

The sale of Gymboree Play & Music and Gymboree Tianjin was determined to represent a strategic shift to the Company’s business, and therefore, their financial results during the 26 weeks ended July 30, 2016 are presented as discontinued operations (see Note 2 to the consolidated financial statements included elsewhere in this transition report). Gymboree China was deconsolidated as of July 15, 2016, the date of sale.

26-Week Transition Period Ended July 30, 2016 Highlights

Total net sales decreased to $523.2 million for the 26 weeks ended July 30, 2016 from $529.2 million for the 26 weeks ended August 1, 2015, or 1.1%, driven primarily by a decrease in retail sales of $3.1 million and a decrease in retail franchise sales of $2.9 million.

 

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Comparable store sales (including online sales) for the 26 weeks ended July 30, 2016 increased 1% compared to the 26 weeks ended August 1, 2015. Below are the comparable store sales (including online sales) by brand for the 26 weeks ended July 30, 2016 and August 1, 2015.

 

     26 Weeks Ended  
     July 30, 2016      August 1, 2015  

Gymboree

     2 %         (1) %   

Janie and Jack

     5 %         8 %   

Crazy 8

     (3) %         4 %   

Total comparable store sales (including online sales)

     1 %         1 %   

Our Adjusted EBITDA increased to $27.1 million for the 26 weeks ended July 30, 2016 from $22.8 million for the 26 weeks ended August 1, 2015, an increase of $4.3 million or 18.9%, primarily due to a comparable store sales increase and gross profit expansion. Gross profit was negatively impacted during the 26 weeks ended August 1, 2015 by the negative impact from the west coast port slowdown in our retail business during the first two quarters of fiscal 2015.

The following table summarizes store openings and closures by brand and country for the 26-week transition period ended July 30, 2016. Note that (i) all Crazy 8 stores are in the U.S. and (ii) retail stores operated by overseas franchisees and the VIE-operated Gymboree retail stores in China are excluded.

 

     Store Count as of      Store      Store      Store Count as of  
     January 30, 2016      Openings      Closures      July 30, 2016  

Gymboree US

     546         1         (6      541   

Gymboree Canada

     48         —           —           48   

Gymboree Puerto Rico

     1         —           —           1   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total Gymboree

     595         1         (6      590   
  

 

 

    

 

 

    

 

 

    

 

 

 

Gymboree Outlet

     174         —           —           174   

Gymboree Outlet Puerto Rico

     1         —           —           1   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total Gymboree Outlet

     175         —           —           175   
  

 

 

    

 

 

    

 

 

    

 

 

 

Janie and Jack (including Janie and Jack outlets)

     148         —           —           148   

Janie and Jack Puerto Rico

     1         —           —           1   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total Janie and Jack

     149         —           —           149   
  

 

 

    

 

 

    

 

 

    

 

 

 

Crazy 8 (including Crazy 8 outlets)

     387         —           (2      385   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

     1,306         1         (8      1,299   
  

 

 

    

 

 

    

 

 

    

 

 

 

Results of Operations

26 Weeks Ended July 30, 2016 compared to 26 weeks ended August 1, 2015

As a result of the change in the Company’s fiscal year-end from the Saturday closest to January 31st of each year to the Saturday closest to July 31st of each year, our 2016 fiscal year is comprised of the 26 week period ended July 30, 2016. We have included below the unaudited consolidated statement of operations data for the comparative 26 weeks ended August 1, 2015 to supplement Management’s Discussion and Analysis for the 26-week transition period ended July 30, 2016.

Consolidated statements of operations data for the 26 weeks ended July 30, 2016 and August 1, 2015 as a percentage of total net sales are presented below (amounts in thousands). The consolidated statement of operations for the 26 weeks ended August 1, 2015 (unaudited) was revised to present the results of Gymboree Play & Music and Gymboree Tianjin as discontinued operations.

 

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     26 Weeks Ended  
     July 30, 2016     August 1, 2015  
     Amount      % of Total
Net Sales
    Amount      % of Total
Net Sales
 

Net sales:

          

Retail

   $ 515,593         98.5    $ 518,723         98.0 

Retail Franchise

     7,594         1.5      10,496         2.0 
  

 

 

      

 

 

    

Total net sales

     523,187         100.0      529,219         100.0 

Cost of goods sold, including buying and occupancy expenses

     (327,406      (62.6 )%      (339,569      (64.2 )% 
  

 

 

      

 

 

    

Gross profit

     195,781         37.4      189,650         35.8 

Selling, general and administrative expenses

     (209,925      (40.1 )%      (200,215      (37.8 )% 

Intangible asset impairment

     (2,600      (0.5 )%      —           —     
  

 

 

      

 

 

    

Operating loss

     (16,744      (3.2 )%      (10,565      (2.0 )% 

Interest income

     19         —          20      

Interest expense

     (39,581      (7.6 )%      (42,707      (8.1 )% 

Gain on extinguishment of debt

     66,853         12.8      —           —     

Other (expense) income, net

     (2,500      (0.5 )%      36         —     
  

 

 

      

 

 

    

Income (loss) from continuing operations before taxes

     8,047         1.5     (53,216      (10.1 )% 

Income tax benefit (expense)

     610         0.1     (1,484      (0.3 )% 
  

 

 

      

 

 

    

Income (loss) from continuing operations, net of tax

     8,657         1.7     (54,700      (10.3 )% 

Income from discontinued operations, including gain on sale of Gymboree Play & Music, net of tax

     63,039         12.0      6,826         1.3 
  

 

 

      

 

 

    

Net income (loss)

     71,696         13.7      (47,874      (9.0 )% 

Net income attributable to noncontrolling interest

     (1,008      (0.2 )%      (1,713      (0.3 )% 
  

 

 

      

 

 

    

Net income (loss) attributable to The Gymboree Corporation

   $ 70,688         13.5    $ (49,587      (9.4 )% 
  

 

 

      

 

 

    

Net Sales

Total net sales decreased to $523.2 million for the 26 weeks ended July 30, 2016 from $529.2 million for the 26 weeks ended August 1, 2015, or 1.1%, driven primarily by a decrease in retail sales of $3.1 million and a decrease in retail franchise sales of $2.9 million.

Net retail sales for the 26 weeks ended July 30, 2016 decreased to $515.6 million from $518.7 million for the 26 weeks ended August 1, 2015, a decrease of $3.1 million, or 0.6%, primarily due to store closures, partially offset by an increase in comparable store sales (including online sales) of 1%. Comparable store sales (excluding online sales) increased by 1% for the 26 weeks ended July 30, 2016 compared to the same period in the prior year. Total net stores decreased to 1,299 as of the year ended July 30, 2016 from 1,317 as of August 1, 2015. Total square footage was approximately 2.7 million square feet as of the year ended July 30, 2016 and as of August 1, 2015.

Retail franchise net sales for the 26 weeks ended July 30, 2016 decreased to $7.6 million from $10.5 million in the same period last year, a decrease of $2.9 million or 27.6%, primarily due to lower sales to our franchisee in the Middle East region and the wind-down and sale of Gymboree China during the 26-week transition period ended July 30, 2016. As of July 30, 2016, our overseas franchisees operated 56 stores compared to 89 stores (including 30 in China) as of the end of the same period last year.

Gross Profit

Gross profit for the 26 weeks ended July 30, 2016 increased to $195.8 million from $189.7 million for the 26 weeks ended August 1, 2015, primarily as a result of gross profit expansion. As a percentage of net sales, gross profit for the 26 weeks ended July 30, 2016 increased by 160 basis points to 37.4% from 35.8% in the same period last year. The 160 basis points increase was driven primarily by the negative impact from the west coast port slowdown in our retail business during the first two quarters of fiscal 2015 and lower buying and occupancy costs as a percentage of sales, partially offset by weak traffic trends during the second quarter ended July 30, 2016. The port slowdown impacted our business in the prior year by disrupting the flow of inventory to our stores resulting in lower sales. As we record certain distribution costs as a component of selling, general and administrative expenses (“SG&A”) and do not include such costs in COGS, our COGS and gross profit may not be comparable to those of other companies. Our distribution costs recorded in SG&A expenses represent primarily outbound shipping and handling expenses to our stores, and amounted to $24.0 million and $21.3 million during the 26 weeks ended July 30, 2016 and August 1, 2015, respectively.

 

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Selling, General and Administrative (“SG&A”) Expenses

SG&A principally consists of non-occupancy store expenses, corporate overhead, and certain distribution expenses. SG&A increased to $209.9 million for the 26 weeks ended July 30, 2016 compared to $200.2 million in the same period last year. As a percentage of net sales, SG&A expenses increased 230 basis points to 40.1% for fiscal 2015 from 37.8% in the same period last year.

The $9.7 million and 230 basis points increase for the 26 weeks ended July 30, 2016 compared to the same prior year period are primarily due to a $5.7 million net expense related to the termination of an operating service agreement with a third party fulfillment center (see Note 11 to the consolidated financial statements included elsewhere in this transition report), a $4.1 million share based compensation expense related to the Company’s 2013 Gymboree China Phantom Equity Incentive Plan (see Note 12 to the consolidated financial statements included elsewhere in this transition report), and an increase in marketing expenses, partially offset by a decrease in expense resulting from combined store closures and fewer store openings.

Intangible Asset Impairment

In connection with the softening of the retail environment and performance that did not meet expectations during the 13- week period ended July 30, 2016, we revised our growth assumptions based on actual results and estimates of future operations. The updated assumptions resulted in a plan that reflects slower growth in revenues in certain reporting units, specifically Gymboree Retail and Crazy 8. We considered this to be a triggering event and tested our indefinite-lived intangible assets for impairment during the 13 weeks ended July 30, 2016. As a result, we recorded a $2.6 million impairment charge during the 13 weeks ended July 30, 2016 related to the Crazy 8 trade name, which is included as a component of goodwill and intangible asset impairment. There was no impairment related to the Gymboree Retail trade name.

The impairment charge did not have an effect on our business operations, liquidity or financial covenants.

Interest Expense

Interest expense decreased to $39.6 million for the 26 weeks ended July 30, 2016 compared to $42.7 million during the 26 weeks ended August 1, 2015. The decrease of $3.1 million was primarily related to the decrease in our Notes due to repurchases during the 26 weeks ended July 30, 2016 and in the fourth quarter of fiscal 2015, partially offset by an increase in ABL borrowings.

Gain on Extinguishment of Debt

During the 26-week transition period ended July 30, 2016, we repurchased Notes (see Note 7 to the consolidated financial statements included elsewhere in this transition report) with an aggregate principal amount of $116.6 million for $46.8 million in cash through privately negotiated transactions and through a cash tender offer (“Tender Offer”) announced on April 26, 2016 which expired on May 23, 2016 (the “2016 Repurchase”). We recorded a $66.9 million gain on extinguishment of debt, net of a $2.9 million charge related to the write-off of deferred financing costs associated with the extinguished debt. The 2016 Repurchase includes $39.6 million aggregate principal amount of Notes repurchased for $20.6 million through the Tender Offer. We did not repurchase any Notes during the 26 weeks ended August 1, 2015

Income Taxes

The effective tax rate during the 26 weeks ended July 30, 2016 and August 1, 2015 was -7.6% (benefit) and -2.8% (expense), respectively. The change in effective tax rate as of July 30, 2016 was related to our ability to benefit deferred tax attributes that had a full valuation allowance.

We consider all available positive and negative evidence in evaluating whether a valuation allowance is required, including prior earnings history, actual earnings over the previous 12 quarters on a cumulative basis, carryback and carryforward periods, and tax planning strategies that could potentially enhance the likelihood of realization of a deferred tax asset. As a result of weighing the available objective evidence as of July 30, 2016, January 30, 2016 and January 31, 2015, our valuation allowance against deferred tax assets was $30.6 million, $63.2 million, and $58.6 million, respectively. The valuation allowance as of July 30, 2016 represents a valuation allowance against all net deferred tax assets in U.S. federal and unitary state jurisdictions, excluding indefinite-lived deferred tax assets and liabilities. We intend to maintain a valuation allowance until sufficient positive evidence exists to support its reversal.

Fiscal 2015 compared to Fiscal 2014 and Fiscal 2014 compared to Fiscal 2013

Consolidated statements of operations data for fiscal 2015, 2014 and 2013 as a percentage of total net sales, which were revised to present the results of Gymboree Play & Music and Gymboree Tianjin as discontinued operations, are presented below (amounts in thousands).

 

 

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     Year Ended  
     January 30, 2016     January 31, 2015     February 1, 2014  
     Amount     % of Total
Net Sales
    Amount     % of Total
Net Sales
    Amount     % of Total
Net Sales
 

Net sales:

            

Retail

   $ 1,184,606        98.2    $ 1,178,476        98.4    $ 1,197,176        98.2 

Retail Franchise

     21,533        1.8      19,356        1.6     21,708        1.8 
  

 

 

     

 

 

     

 

 

   

Total net sales

     1,206,139        100.0      1,197,832        100.0      1,218,884        100.0 

Cost of goods sold, including buying and occupancy expenses

     (752,758     (62.4 )%      (753,861     (62.9 )%      (762,877     (62.6 )% 
  

 

 

     

 

 

     

 

 

   

Gross profit

     453,381        37.6      443,971        37.1     456,007        37.4 

Selling, general and administrative expenses

     (427,638     (35.5 )%      (435,093     (36.3 )%      (431,116     (35.4 )% 

Goodwill and intangible asset impairment

     —          —          (591,396     (49.4 )%      (157,189     (12.9 )% 
  

 

 

     

 

 

     

 

 

   

Operating income (loss)

     25,743        2.1     (582,518     (48.6 )%      (132,298     (10.9 )% 

Interest income

     41        —          228        —          100        —     

Interest expense

     (85,990     (7.1 )%      (82,378     (6.9 )%      (81,558     (6.7 )% 

Gain (loss) on extinguishment of debt

     41,522        3.4     —          —          (834     (0.1 )% 

Other expense, net

     (590     —          (535     —          (684     (0.1 )% 
  

 

 

     

 

 

     

 

 

   

Loss from continuing operations before taxes

     (19,274     (1.6 )%      (665,203     (55.5 )%      (215,274     (17.7 )% 

Income tax (expense) benefit

     (2,503     (0.2 )%      76,334        6.4     1,880        0.2 
  

 

 

     

 

 

     

 

 

   

Loss from continuing operations, net of tax

     (21,777     (1.8 )%      (588,869     (49.2 )%      (213,394     (17.5 )% 

Income from discontinued operations, net of tax

     13,013        1.1     8,758        0.7     7,043        0.6
  

 

 

     

 

 

     

 

 

   

Net loss

     (8,764     (0.7 )%      (580,111     (48.4 )%      (206,351     (16.9 )% 

Net (income) loss attributable to noncontrolling interest

     (1,412     (0.1 )%      6,006        0.5     3,324        0.3 
  

 

 

     

 

 

     

 

 

   

Net loss attributable to The Gymboree Corporation

   $ (10,176     (0.8 )%    $ (574,105     (47.9 )%    $ (203,027     (16.7 )% 
  

 

 

     

 

 

     

 

 

   

Fiscal 2015 compared to Fiscal 2014

Net Sales

Total net sales increased to $1.21 billion for fiscal 2015 from $1.20 billion in fiscal 2014, or 0.7%, driven primarily by increases in our retail sales of $6.1 million and retail franchise sales of $2.1 million.

Net retail sales for fiscal 2015 increased to $1.185 billion from $1.178 billion compared to fiscal 2014, an increase of $6.1 million, or 0.5%, primarily due to an increase in comparable store sales (including online sales) of 1%. Comparable store sales (excluding online sales) increased by 1% in fiscal 2015 compared to fiscal 2014. Total net stores decreased to 1,306 as of fiscal year-end 2015 from 1,326 as of fiscal year-end 2014. Total square footage decreased to approximately 2.7 million square feet as of fiscal year-end 2015 from approximately 2.8 million square feet as of fiscal year-end 2014.

Retail franchise net sales for fiscal 2015 increased to $21.5 million from $19.4 million in fiscal 2014, an increase of $2.1 million or 11.2%, primarily due to higher sales to our franchisee in the Middle East region. As of fiscal year-end 2015, our overseas franchisees and Gymboree China operated 84 stores compared to 89 stores as of the end of fiscal year-end 2014.

Gross Profit

Gross profit for fiscal 2015 increased to $453.4 million from $444.0 million in fiscal 2014, primarily as a result of gross profit expansion. As a percentage of net sales, gross profit for fiscal 2015 increased by 50 basis points to 37.6% from 37.1% in fiscal 2014. The 50 basis points increase was driven primarily by lower cost of goods sold (“COGS”) as a percentage of sales due to the mix of merchandise inventories sold, lower buying and occupancy costs as a percentage of sales, and an increased mix of retail franchise sales, partially offset by the negative impact from the west coast port slowdown in our retail business during the first two quarters of fiscal 2015. As we record certain distribution costs as a component of selling, general and administrative expenses (“SG&A”) and do not include such costs in COGS, our COGS and gross profit may not be comparable to those of other companies. Our distribution costs recorded in SG&A expenses represent primarily outbound shipping and handling expenses to our stores, and amounted to $45.5 million and $43.1 million during fiscal 2015 and 2014, respectively.

Selling, General and Administrative Expenses

SG&A principally consists of non-occupancy store expenses, corporate overhead, and certain distribution expenses. SG&A decreased to $427.6 million for fiscal 2015 compared to $435.1 million in fiscal 2014. As a percentage of net sales, SG&A expenses decreased 80 basis points to 35.5% for fiscal 2015 from 36.3% in the same period last year.

 

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The $7.5 million and 80 basis points decrease for fiscal 2015 compared to fiscal 2014 are primarily due to a decrease in expenses resulting from combined store closures and fewer store openings in the current year, and a $4.7 million reduction in store asset impairment charges for under-performing stores, partially offset by an increase in marketing expenses.

Goodwill and Intangible Asset Impairment

During fiscal 2015 we did not record any impairment for goodwill and intangible assets.

In connection with our long-range planning process in the third quarter of fiscal 2014, we revised our growth assumptions based on estimates of future operations. The updated assumptions resulted in a plan that reflected slower growth in revenues and margins in the reporting units of our retail stores segment. As a result, we recorded non-cash goodwill impairment charges of $252.3 million, $67.2 million and $59.3 million related to the Gymboree Retail, Gymboree Outlet and Crazy 8 reporting units, respectively, during the third quarter of fiscal 2014. In addition, we recorded a non-cash impairment charge of $212.6 million related to trade names in our retail stores segment during the third quarter of fiscal 2014.

These impairment charges did not have an effect on our business operations, liquidity or financial covenants.

Interest Expense

Interest expense increased to $86.0 million during fiscal 2015 compared to $82.4 million during fiscal 2014. The increase of $3.6 million was primarily related to amortization of our interest rate caps (which mature in December 2016), interest paid on the sale-leaseback financing liability for our Dixon distribution center, and an increase in ABL line of credit borrowings in fiscal 2015. Our average ABL line of credit borrowings increased to $51.9 million during fiscal 2015 compared to $32.0 million during fiscal 2014.

Gain on Extinguishment of Debt

During fiscal 2015, we repurchased Notes with an aggregate principal amount of $58.4 million for $15.3 million in cash through open market transactions. We recorded a $41.5 million gain on extinguishment of debt, net of a $1.6 million charge related to the write-off of deferred financing costs associated with the extinguished debt. We did not repurchase any Notes during fiscal 2014. The Notes payable balance as of January 30, 2016 was $287.6 million.

Income Taxes

The effective tax rate for fiscal 2015 and 2014 was -13.0% (expense) and 11.6% (benefit), respectively. The change in effective tax rate in fiscal 2015 as compared to fiscal 2014 was due to a non-recurring tax benefit in fiscal 2014 related to the impairment of indefinite lived intangible assets offset by the impact of tax liabilities and reserves in fiscal 2015 within certain foreign and state jurisdictions. These liabilities and reserves as a percentage of our fiscal 2015 pre-tax book loss of $19.3 million resulted in a large negative effective tax rate in fiscal 2015.

We consider all available positive and negative evidence in evaluating whether a valuation allowance is required, including prior earnings history, actual earnings over the previous 12 quarters on a cumulative basis, carryback and carryforward periods, and tax planning strategies that could potentially enhance the likelihood of realization of a deferred tax asset. As a result of weighing the available objective evidence as of January 30, 2016 and January 31, 2015, our valuation allowance against deferred tax assets was $63.2 million and $58.6 million, respectively. The valuation allowance as of January 30, 2016 represents a valuation allowance against all net deferred tax assets in U.S. federal, unitary U.S. state, and Australian jurisdictions, excluding indefinite-lived deferred tax assets and liabilities, and against the tax benefit on losses from our VIEs. We intend to maintain a valuation allowance until sufficient positive evidence exists to support its reversal.

Fiscal 2014 compared to Fiscal 2013

Net Sales

Total net sales decreased $21.1 million or 1.7% during fiscal 2014 compared to fiscal 2013. This decline was primarily driven by a decrease in net retail sales.

Net retail sales for fiscal 2014 decreased to $1.18 billion from $1.20 billion compared to fiscal 2013, a decrease of $18.7 million, or 1.6%, primarily due to a decrease in comparable store sales (including online sales) of 3%, partially offset by net new door growth of $23.1 million. Comparable store sales (excluding online sales) decreased by 4% in fiscal 2014 compared to the same period in the prior year. Total net stores increased to 1,326 as of fiscal year-end 2014 from 1,323 as of fiscal year-end 2013. Total square footage increased to approximately 2.8 million square feet as of fiscal year-end 2014 from approximately 2.7 million square feet as of fiscal year-end 2013.

 

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Retail franchise net sales for fiscal 2014 decreased to $19.4 million from $21.7 million during fiscal 2013, a decrease of $2.4 million or 10.8%, primarily due to lower sales to our franchisee in the Middle East region. As of fiscal year-end 2014, our overseas franchisees and Gymboree China operated 89 stores compared to 71 stores as of fiscal year-end 2013.

Gross Profit

Gross profit for fiscal 2014 decreased to $444.0 million from $456.0 million during fiscal 2013, primarily as a result of the net sales decrease described above. As a percentage of net sales, gross profit for fiscal 2014 decreased by 30 basis points to 37.1% from 37.4% during fiscal 2013 primarily due to increased promotional activity. As we record certain distribution costs as a component of SG&A and do not include such costs in COGS, our COGS and gross profit may not be comparable to those of other companies. Our distribution costs recorded in SG&A expenses represent primarily outbound shipping and handling expenses to our stores, and amounted to $43.1 million and $37.9 million during fiscal 2014 and 2013, respectively.

Selling, General and Administrative Expenses

SG&A principally consists of non-occupancy store expenses, corporate overhead, and certain distribution expenses. SG&A increased to $435.1 million for fiscal 2014 compared to $431.1 million during fiscal 2013. As a percentage of net sales, SG&A expenses increased 90 basis points to 36.3% for fiscal 2014 from 35.4% during fiscal 2013 primarily due to a deleveraging of expenses on lower comparable store sales, increased expenses related to our third-party fulfillment center which commenced operations during the third quarter of fiscal 2013, and incremental marketing expenses.

Goodwill and Intangible Asset Impairment

In connection with our long-range planning process in the third quarter of fiscal 2014, we revised our growth assumptions based on estimates of future operations. The updated assumptions resulted in a plan that reflected slower growth in revenues and margins in the reporting units of our retail stores segment. As a result, we recorded non-cash goodwill impairment charges of $252.3 million, $67.2 million and $59.3 million related to the Gymboree Retail, Gymboree Outlet and Crazy 8 reporting units, respectively, during the third quarter of fiscal 2014. In addition, we recorded a non-cash impairment charge of $212.6 million related to trade names in our retail stores segment during the third quarter of fiscal 2014.

During fiscal 2013, we recorded non-cash goodwill impairment charges of $85.3 million, $38.8 million, and $16.1 million related to the Crazy 8, Gymboree Retail, and Gymboree Outlet reporting units, respectively. The impairment of goodwill was primarily driven by weak results in fiscal 2013, particularly in the fourth quarter. During fiscal 2013, we also recorded a non-cash impairment charge of $17.0 million related to trade names in our retail stores segment.

These impairment charges did not have an effect on our business operations, liquidity or financial covenants.

Interest Expense

Interest expense increased to $82.4 million during fiscal 2014 compared to $81.6 million during fiscal 2013. The increase of $0.8 million was primarily related to our interest rate caps.

Loss on Extinguishment of Debt

During fiscal 2013, we repurchased Notes with an aggregate principal amount of $25.0 million for $24.8 million in cash, which resulted in a $0.2 million gain on extinguishment of debt and a $1.0 million charge related to the write-off of deferred financing costs. We did not repurchase any Notes during fiscal 2014.

Income Taxes

The effective tax rate for fiscal 2014 and 2013 was 11.6% (benefit) and 0.9% (benefit), respectively. The change in effective tax rate as of fiscal year-end 2014 was related to goodwill and trade name impairment charges. The change in effective tax rate as of fiscal year-end 2013 was due to recording a valuation allowance against net deferred tax assets in jurisdictions where it is more likely than not that these assets will not be realized (see Note 13 to the consolidated financial statements included elsewhere in this transition report).

We consider all available positive and negative evidence in evaluating whether a valuation allowance is required, including prior earnings history, actual earnings over the previous 12 quarters on a cumulative basis, carryback and carryforward periods, and tax planning strategies that could potentially enhance the likelihood of realization of a deferred tax asset. As a result of weighing the available objective evidence as of January 31, 2015 and February 1, 2014, our valuation allowance against deferred tax assets was $58.6 million and $31.9 million, respectively. The valuation allowance as of January 31, 2015 represents a valuation allowance against all net deferred tax assets in U.S. federal, unitary U.S. state and Australian jurisdictions, excluding indefinite-lived deferred tax assets and liabilities, and against the tax benefit on losses from our VIEs. We intend to maintain a valuation allowance until sufficient positive evidence exists to support its reversal.

 

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Liquidity and Capital Resources

Overview

We finance our business with existing cash, cash from operations and the funds available under our Senior Credit Facilities, which were comprised of an $820 million secured term loan agreement (“Term Loan”), a $225 million asset-backed revolving credit facility (“ABL Facility”), and $50 million ABL Term loan (see Note 7 to the consolidated financial statements included elsewhere in this transition report). We had cash and cash equivalents of $12.6 million, $9.8 million, and $11.1 million as of July 30, 2016, January 30, 2016 and January 31, 2015, respectively.

Net working capital as of July 30, 2016, August 1, 2015, January 30, 2016 and January 31, 2015 totaled $4.4 million, $32.7 million, $29.4 million and $43.0 million. Net working capital as of July 30, 2016 includes $33.5 million of restricted cash which is expected to be used to pay estimated income taxes associated with the gain on the sale of GPPI. Our operations are seasonal in nature, with sales from retail operations peaking during the quarter ending in January, primarily during the holiday season in November and December.

Approximately $109.9 million of the net proceeds received from the sale of Gymboree Play & Music are restricted to reduce the Term Loan, fund capital expenditures or investments in other assets with respect to which the Term Loan lenders would have a first priority security interest or pay income taxes associated with the gain on the sale of GPPI. See Note 2 to the consolidated financial statements included elsewhere in this transition report. As of July 30, 2016, the Company had a restricted cash balances remaining of $107.1 million.

We and our subsidiaries, and our affiliates may from time to time seek to retire or purchase our outstanding debt through cash purchases and/or exchanges, in open market purchases, privately negotiated transactions, by tender offer or otherwise. Such repurchases or exchanges, if any, will depend on prevailing market conditions, liquidity requirements, contractual restrictions and other factors. The amounts involved may be material.

We believe that cash generated by operations, the remaining funds available under our Senior Credit Facilities and existing cash and cash equivalents will be sufficient to meet working capital requirements, service our debt, and finance capital expenditures over the next twelve months. However, if we face unanticipated cash needs such as the funding of a capital investment, or if our suppliers request one or more letters of credit, our existing cash and cash equivalents and available borrowings may be insufficient. In addition, we cannot assure that our business will generate sufficient cash flow from operations or that future borrowings will be available to us under the Senior Credit Facilities in amounts sufficient to enable us to repay our indebtedness when due, including the Notes, or to fund other liquidity needs. We also regularly evaluate market conditions, our liquidity profile, and various financing alternatives for opportunities to enhance our capital structure. We are continuing to actively pursue various financing alternatives, including refinancing and/or repurchasing our outstanding Notes, divestitures of certain of our assets and operations, as well as other opportunities to improve our capital structure. If opportunities are favorable, we may consummate one or more of these initiatives and the amounts involved may be material.

Cash and Cash Equivalents

Changes in our cash and cash equivalents for the 26 weeks ended July 30, 2016, 26 weeks ended August 1,2015, fiscal years 2016, 2015 and 2014 were as follows (in thousands):

 

     26 Weeks Ended     Year Ended  
     July 30,
2016
    August 1,
2015
    January 30,
2016
    January 31,
2015
    February 1,
2014
 

Cash (used in) provided by operating activities

   $ (25,713   $ (41,966   $ 29,140      $ (21,758   $ 74,871   

Cash provided by (used in) investing activities

     10,005        (15,270     (22,600     (31,942     (53,126

Cash provided by (used in) financing activities

     9,454        62,305        (5,846     33,336        (16,634

Effect of exchange rate fluctuations on cash and cash equivalents

     726        (92     (1,050     (545     990   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net (decrease) increase in cash and cash equivalents

   $ (5,528   $ 4,977      $ (356   $ (20,909   $ 6,101   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Cash flows (used in) provided by operating activities

Net cash used in operating activities during the 26 weeks ended July 30, 2016 was $25.7 million compared to $42.0 million during the 26 weeks ended August 1, 2015. The change in cash flows from operating activities during the 26 weeks ended July 30, 2016 was primarily due to gross profit expansion, the timing of purchases of merchandise inventories, and the timing of payment of accounts payable and accrued liabilities.

 

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Net cash provided by operating activities during fiscal 2015 was $29.1 million compared to net cash used in operating activities of $21.8 million during fiscal 2014. The change in cash flows from operating activities during fiscal 2015 was primarily due to gross profit expansion, the timing of purchases of merchandise inventories, and the timing of payment of accounts payable and accrued liabilities.

Net cash used in operating activities for fiscal 2014 was $21.8 million compared to net cash provided by operating activities of $74.9 million in fiscal 2013. The decrease in cash attributable to changes in assets and liabilities was primarily due to an increase in merchandise inventory and a reduction in accounts payable. These increases were partially offset by reduced prepaid rent. The increase in merchandise inventory was primarily due to earlier receipt of Spring goods compared to fiscal 2013 and investments in Winter products in our Gymboree brand.

Cash flows provided by (used in) investing activities

Net cash provided by investing activities during the 26 weeks ended July 30, 2016 was $10.0 million compared to net cash used in investing activities of $15.3 million during the 26 weeks ended August 1, 2015. The net change during the 26 weeks ended July 30, 2016 was primarily due to proceeds of $127.1 million from the sale of the Gymboree Play & Music business, offset by an increase in restricted cash of $109.9 million and capital expenditures of $11.8 million. Pursuant to the terms of our Term Loan agreement (see Note 2 to the consolidated financial statements included elsewhere in this transition report), $17.2 million of the proceeds received from the sale of Gymboree Play & Music were unencumbered. The remaining proceeds of $109.9 million are restricted to reducing the Term Loan balance, funding of capital expenditures or investments in other assets with respect to which the Term Loan lenders would have a first priority security interest or for the payment of the income tax liabilities associated with the gain on sale of Gymboree Play & Music.

Net cash used in investing activities during fiscal 2015 was $22.6 million compared to $31.9 million during fiscal 2014. The net change during fiscal 2015 was primarily due to lower capital expenditures, which decreased by $10.6 million to $21.4 million compared to $32.0 million in fiscal 2014. The decrease was due to fewer store openings and an increase in related party loan receivable of $1.7 million.

Net cash used in investing activities during fiscal 2014 was $31.9 million compared to $53.1 million during fiscal 2013 and was primarily due to capital expenditures, which decreased to $32.0 million during fiscal 2014 compared to $52.6 million during fiscal 2013 due to fewer store openings.

Cash flows provided by (used in) financing activities

Net cash provided by financing activities during the 26 weeks ended July 30, 2016 was $9.5 million compared to $62.3 million in the same prior year period. The net change during the 26 weeks ended July 30, 2016 was due primarily to a $50.0 million ABL Term Loan that we entered into in April 2016 (see Note 7 to the consolidated financial statements included elsewhere in this transition report) and $23.0 million of line of credit borrowings from our ABL Facility. Partially offsetting net cash provided by financing activities were repurchases of our Notes with an aggregate principal amount of $116.6 million for $46.8 million, dividends paid from the VIE to its parent totaling $5.1 million and payments of $3.8 million related to deferred financing costs.

Net cash used in financing activities during fiscal 2015 was $5.8 million compared to net cash provided by financing activities of $33.3 million during fiscal 2014. In fiscal 2015, we repurchased Notes with an aggregate principal amount of $58.4 million for $15.3 million in cash through open market transactions (see Note 7 to the consolidated financial statements included elsewhere in this transition report). In addition, we made a $14.0 million of net payments on our ABL Revolving Facility and a $1.7 million payment for deferred financing costs related to the amendment of ABL Revolving Facility, partially offset by gross proceeds of $26.8 million related to the sale of the Company’s distribution center in Dixon, California (reduced by $0.9 million payment for deferred financing costs (see Note 7 to the consolidated financial statements included elsewhere in this transition report).

Net cash provided by financing activities during fiscal 2014 was $33.3 million compared to net cash used in financing activities of $16.6 million during fiscal 2013. Net cash provided by financing activities for fiscal 2014 was primarily due to net proceeds of $33.0 million from our ABL Revolving Facility.

 

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Credit Facilities

Our indebtedness as of July 30, 2016 consists of (in millions):

 

     July 30, 2016  
     ($ in millions)  

ABL Facility

   $ 42.0   

ABL Term loan

     50.0   

Term Loan due February 2018

     769.1   

9.125% senior notes due December 2018 (“Notes”)

     171.0   
  

 

 

 

Total indebtedness

   $ 1,032.1   
  

 

 

 

ABL Facility

In September 2015, we entered into the first amendment (the “First Amendment”) to our senior secured asset-based revolving credit facility (“ABL Revolving Facility”) to extend the maturity date of the ABL revolving commitments from March 2017 to the earlier of (i) September 24, 2020 and (ii) the date that is 60 days before the scheduled final maturity date of any tranche of the Term Loan (which is currently due to mature in February 2018) or the Notes (which are currently due to mature in December 2018), unless such indebtedness is cumulatively equal to or less than $25.0 million in the aggregate and a reserve against the borrowing base is imposed equal to the amount of such indebtedness. The ABL revolving commitment will therefore mature in December 2017 unless the Term Loan and the Notes (other than an aggregate amount of Term Loans and Notes that is equal to or less than $25.0 million) are refinanced with indebtedness having a final maturity date later than February 2018.

On April 22, 2016, we entered into a second amendment (the “Second Amendment”) to the ABL Revolving Facility. The Second Amendment provides for a senior secured term loan (the “ABL Term Loan” and together with the ABL Revolving Facility, the “ABL Facility”) of $50.0 million, subject to a borrowing base, the proceeds of which may be used to finance the acquisition of working capital assets, including the purchase of inventory and equipment, in each case in the ordinary course of business, to finance capital expenditures, to finance permitted acquisitions and for general corporate purposes, including repurchases of the Notes. The maturity date of the ABL Term Loan is the same as the maturity date of the ABL Revolving Facility.

In June 2016, we entered into an amendment of the ABL Facility to make certain technical changes in order to effect the change in the Company’s fiscal year as described above.

The ABL Revolving Facility, as amended by the First Amendment, provides financing of up to $225 million in a revolving line of credit. Line of credit availability under the ABL Revolving Facility is subject to a borrowing base consisting of certain assets of the Company, any subsidiary co-borrowers and any subsidiary guarantors that are available to collateralize the borrowings thereunder, and is reduced by the level of outstanding letters of credit and the outstanding amount of the ABL Term Loans. The line of credit available under the ABL Revolving Facility was reduced by letter of credit utilization totaling $27.0 million as of July 30, 2016. Undrawn line of credit availability under the ABL Revolving Facility, after being reduced by outstanding line of credit borrowings, letter of credit utilization and $50 million of ABL Term Loan, was $117.2 million as of July 30, 2016. Average line of credit borrowings during the 26 weeks ended July 30, 2016 under the ABL Revolving Facility amounted to $50.1 million. We anticipate utilizing our line of credit under the ABL Revolving Facility throughout the course of fiscal 2017 to support seasonal working capital needs.

Line of credit borrowings under the ABL Revolving Facility bear interest at a rate per annum equal to, at our option, either (a) a base rate determined by reference to the highest of (1) the prime rate of Bank of America, N.A., (2) the federal funds effective rate plus 0.50%, and (3) a LIBOR rate determined by reference to the costs of funds for U.S. dollar deposits for an interest period of one month adjusted for certain additional costs, plus 1.00%, or (b) a LIBOR rate determined by reference to the costs of funds for U.S. dollar deposits for the interest period relevant to such borrowing adjusted for certain additional costs (“Adjusted LIBOR”), in each case plus an applicable margin. As of July 30, 2016, the weighted average interest rate on our line of credit borrowings outstanding under the ABL Revolving Facility was 3.5%. In addition to paying interest on outstanding line of credit borrowings under the ABL Revolving Facility, we are required to pay a commitment fee on unutilized commitments thereunder, which is between 0.250% and 0.375% per annum under the ABL Revolving Facility.

The ABL Facility contains covenants that, among other things, restrict our ability to incur additional indebtedness and pay dividends. The ABL Facility also contains a financial covenant (i.e., minimum consolidated fixed charge coverage ratio), but such financial covenant is not required to be tested as long as the Company’s ABL Term Loan remains outstanding. As of July 30, 2016, we were not required to test compliance with this covenant.

 

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ABL Term Loan

The ABL Term Loan of $50.0 million may be used to repurchase Notes, to finance the acquisition of working capital assets, for capital expenditures and permitted acquisitions and for other general corporate purposes.

The ABL Term Loan bears interest (computed on the basis of the actual number of days elapsed over a year of 360 days) at a 90-day LIBOR contract rate as determined by the agent for the ABL Term Loan monthly on the first day of each calendar month, plus 10.25% per annum, or, in certain circumstances, at the prime rate, plus 9.25% per annum. Interest is payable monthly. As of July 30, 2016, the interest rate under our ABL Term Loan was 10.9%. Interest is payable monthly. As of July 30, 2016, the interest rate under our ABL Term Loan was 10.9%. The ABL Term Loan also requires us to make quarterly payments equal to $0.6 million, with the balance due on the maturity date of the ABL Term Loan.

The ABL Term Loan requires us to make quarterly payments equal to $0.6 million, with the balance due on the maturity of the ABL Term Loan, which is the same as the maturity date of the ABL line of credit commitment.

The ABL Facility contains covenants that, among other things, restrict our ability to incur additional indebtedness and pay dividends. The Second Amendment also provided for a new availability covenant, which requires the Company and its restricted subsidiaries to maintain a minimum amount of “Combined Availability” and “Availability” for as long as the ABL Term Loan remains outstanding. “Combined Availability” is equal to (a) the ABL Term Loan borrowing base minus (b) the sum of the aggregate outstanding principal amount under the ABL Facility (including the ABL Term Loan, revolving line of credit borrowings and letter of credit utilization). “Availability” is equal to the lesser of (A) (I) the revolving credit ceiling (which as of July 30, 2016 was $225.0 million) minus (II) the aggregate principal amount outstanding under the revolving line of credit and letter of credit utilization and (B) (I) the revolving line of credit borrowing base minus (II) the aggregate principal amount outstanding under the revolving line of credit and letter of credit utilization. Under the new availability covenant, the Company and its restricted subsidiaries must maintain (i) Combined Availability in excess of the greater of (x) $17.5 million and (y) 10% of the ABL Term Loan borrowing base; and (ii) Availability in excess of the greater of (X) $17.5 million and (Y) 10% of the lesser of (1) the applicable revolving line of credit borrowing base and (2) the revolving credit ceiling. The ABL Facility also contains a financial covenant (i.e., minimum consolidated fixed charge coverage ratio), but such financial covenant is not required to be tested as long as the Company’s ABL Term Loan remains outstanding. As of July 30, 2016, we were not required to test compliance with this covenant. The Second Amendment also provided the agent for the ABL Term Loan and the ABL Term Loan lenders with certain consent rights to amendments relating to, among other terms and provisions, the borrowing bases, the availability covenant and certain negative covenants. Apart from the new availability covenant and the change to the financial covenant described above, the other material affirmative and negative covenants and events of default under the ABL Facility were substantially unchanged by the Second Amendment. Failure to maintain the minimum levels of Combined Availability and Availability required by this covenant would result in an event of default under the ABL Facility.

In addition, the ABL Facility provides that if the lesser of (i) Combined Availability and (ii) Availability falls below the greater of (x) $22.5 million and (y) 12.5% of the lesser of (A) the applicable revolving line of credit borrowing base and (B) the revolving credit ceiling (the “Cash Dominion Threshold”) for 5 consecutive business days, the agent for the ABL lenders may, subject to certain exceptions, take control of the Company’s bank accounts and apply the funds therein to pay down the Company’s obligations under the ABL Facility. The Company would regain control of its bank accounts (a “Cash Dominion Cure”) once the lesser of (i) Combined Availability and (ii) Availability had exceeded the Cash Dominion Threshold for 30 consecutive days, provided that the ABL Facility permits no more than three Cash Dominion Cures in any rolling 365-day period.

The obligations under the ABL Facility are secured, subject to certain exceptions, by substantially all of our assets. Our 100%-owned domestic subsidiaries have fully and unconditionally guaranteed our obligations under the ABL Facility.

Term Loan

We also have an agreement with several lenders for an $820 million senior secured Term Loan, with a maturity date of February 2018. As of July 30, 2016, $769.1 million was outstanding under the Term Loan. The Term Loan allows us to request additional tranches of term loans in an aggregate amount not to exceed $200 million, subject to the satisfaction of certain conditions, provided such amount will be subject to reduction by the amount of any additional commitments incurred under the ABL Facility since the closing date of the Term Loan (including the ABL Term Loans). The interest rate for borrowings under the Term Loan is, at the Company’s option, a base rate plus an additional marginal rate of 2.5% or the Adjusted LIBOR rate (with a 1.5% floor) plus an additional rate of 3.5%. As of July 30, 2016, the interest rate under our Term Loan was 5%.

                The Term Loan requires us to make quarterly payments equal to 0.25% of the original $820 million principal amount of the Term Loan made on the closing date plus accrued and unpaid interest thereon, with the balance due in February 2018. The Term Loan also has mandatory and voluntary pre-payment provisions, including a requirement that we prepay the Term Loan with a certain percentage of our annual excess cash flow. We calculated our excess cash flow using for the 26-week transition period ended July 30, 2016 and concluded we are not required to make any excess cash flow payments on the Term Loan during fiscal 2017. Voluntary prepayments and the excess cash flow prepayments made in prior fiscal years were applied toward our remaining quarterly amortization payments payable under the Term Loan through July 30, 2017. Our next quarterly payment payable under the Term Loan is due in the third quarter of fiscal 2017.

The Term Loan contains covenants that, among other things, restrict our ability to incur additional indebtedness and pay dividends.

 

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Notes

In fiscal 2010, we issued $400 million aggregate principal amount of 9.125% Notes due in December 2018. Interest on the Notes is payable semi-annually. As of July 30, 2016, the Notes payable balance outstanding was $171.0 million.

Summary Disclosures about Contractual Obligations and Commercial Commitments

The following table reflects a summary of our contractual obligations and commitments as of July 30, 2016 (in thousands):

 

     Payments due by period  
     Less than                              
     1 year      1-3 years      3-5 years      After 5 years      Total  

Operating leases (1)

   $ 98,056       $ 143,603       $ 88,009       $ 71,935       $ 401,603   

Inventory purchase obligations (2)

     283,862         —           —           —           283,862   

Other purchase obligations (3)

     17,696         17,355         3,768         —           38,819   

Long-term debt (4)

     47,527         984,581         —           —           1,032,108   

Interest payments on long-term debt (5)

     60,411         51,512         —           —           111,923   

Sale-leaseback financing liability and interest payments (6)

     1,811         3,690         3,783         30,413         39,697   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total contractual cash obligations

   $ 509,363       $ 1,200,741       $ 95,560       $ 102,348       $ 1,908,012   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

(1)

Other lease-required expenses such as utilities, real estate taxes and common area repairs and maintenance are excluded. Additionally, sublease rental receipts totaling approximately $3.9 million through April 2018 are excluded. See Note 11 to the consolidated financial statements included elsewhere in this transition report.

 

(2)

Inventory purchase obligations include outstanding purchase orders for merchandise inventories that are enforceable and legally binding on the Company and that specify all significant terms (including fixed or minimum quantities to be purchased), fixed, minimum or variable price provisions, and the approximate timing of the transaction.

 

(3)

Other purchase obligations include commitments for professional services, information technology and fixtures and equipment. Also included is the balance of the early termination fee liability associated with the termination of the operating services agreement with a third party who performed the fulfillment of our www.gymboree.com online customer orders (see Note 11 to the consolidated financial statements included elsewhere in this transition report).

 

(4)

Long-term debt as of July 30, 2016 consists of a $769.1 million Term Loan, an aggregate principal amount of $171.0 million of our Notes, and a $50.0 million ABL Term Loan. The table above also includes $42.0 million of outstanding revolver borrowings from our ABL Facility that provides a revolving line of credit of up to $225 million. The amounts presented in the table above exclude the unamortized deferred financing costs and original issue discount aggregating to $13.7 million (see Note 7 to the consolidated financial statements included elsewhere in this transition report) and $27.0 million of commercial and standby letters of credit related to normal business transactions, which expire in fiscal 2017 (see Note 6 to the consolidated financial statements included elsewhere in this transition report).

 

(5)

Interest payments on long-term debt are estimated based on: (a) the outstanding principal balance of the Term Loan, which was $769.1 million as of July 30, 2016, and also take into consideration scheduled principal payments in fiscal 2017 through 2018, (b) the outstanding principal balance of the Notes, which was $171.0 million as of July 30, 2016, and (c) the outstanding principal balance of the ABL Term Loan, which was $50.0 million as of July 30, 2016. The interest rate for borrowings under the Term Loan is, at the Company’s option, a base rate plus an additional marginal rate of 2.5% or the Adjusted LIBOR rate (with a 1.5% floor) plus an additional rate of 3.5%. Interest payments for borrowings under the Term Loan, in the table above, are estimated using the Company’s July 30, 2016 rate of 5%. Interest payments on the Company’s Notes are made semi-annually at a rate of 9.125% of the principal amount outstanding. The interest rate for borrowings under the ABL Term Loan is 90-day LIBOR contract rate plus 10.25% per annum, or, in certain circumstances, at the prime rate plus 9.25% per annum. Interest payments for borrowings under the ABL Term Loan, in the table above, are estimated using the Company’s July 30, 2016 rate of 10.9%.

 

(6)

Sale-leaseback financing liability and interest payments pertain to the sale of the distribution center in Dixon, California, which we leaseback from the purchaser for a period of 15 years (see Note 8 to the consolidated financial statements included elsewhere in this transition report). Under the terms of the lease agreement, the Company is required to maintain an unconditional irrevocable letter of credit for a period up to 10 years. Due to the Company’s continuing involvement through the irrevocable letter of credit, the Company has accounted for the sale-leaseback as a financing liability.

 

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As of July 30, 2016, we had unrecognized tax benefits of $5.2 million, accrued interest of $0.9 million, and accrued penalties of $0.5 million. These amounts have been excluded from the contractual obligations table because a reasonably reliable estimate of the timing of future tax settlements cannot be determined.

The expected timing of payment of the obligations discussed above is estimated based on current information. The timing of payments and actual amounts paid may differ depending on the timing of receipt of services, or, for some obligations, changes to agreed-upon amounts.

Earnings before Interest, Taxes, Depreciation and Amortization (“EBITDA”) (Non-GAAP Measure)

In the table below, we present Adjusted EBITDA (which is defined as net loss attributable to The Gymboree Corporation before interest expense, interest income, income taxes, and depreciation and amortization (EBITDA) adjusted for the other items described below), which is considered a non-GAAP financial measure. We present Adjusted EBITDA in this transition report because we consider it an important supplemental measure of performance used by management and we believe it is frequently used by securities analysts, investors and other interested parties in the evaluation of companies in the retail industry. Adjusted EBITDA is calculated in substantially the same manner as “EBITDA” under the indenture governing the Notes and “Consolidated EBITDA” under the agreement governing our Senior Credit Facilities. We believe the inclusion of supplementary adjustments applied to EBITDA in presenting Adjusted EBITDA is appropriate to provide additional information to investors about certain non-cash items and to provide additional information with respect to our ability to meet our future debt service and to comply with various covenants in documents governing our indebtedness. However, Adjusted EBITDA is not a presentation made in accordance with GAAP, and our computation of Adjusted EBITDA may vary from others in the retail industry. Adjusted EBITDA should not be considered an alternative to operating income or net income (loss), as a measure of operating performance or cash flow, or as a measure of liquidity. Adjusted EBITDA has important limitations as an analytical tool, and should not be considered in isolation, or as a substitute for analysis of our results as reported under GAAP. For example, Adjusted EBITDA:

 

   

does not reflect our cash expenditures, or future requirements, for capital expenditures or contractual commitments;

 

   

does not reflect changes in, or cash requirements for, our working capital needs;

 

   

does not reflect the significant interest expense, or the cash requirements necessary to service interest or principal payments, on our debt;

 

   

excludes income tax payments that represent a reduction in cash available to us; and

 

   

does not reflect the impact of earnings or charges resulting from matters we consider not to be indicative of ongoing operations.

 

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The following table provides a reconciliation of net income (loss) from continuing operations to Adjusted EBITDA from continuing operations for the periods ended (in thousands):

 

     26 Weeks Ended     Year Ended  
     July 30,
2016
    August 1,
2015
    January 30,
2016
    January 31,
2015
    February 1,
2014
 

Net income (loss) from continuing operations

   $ 8,657      $ (54,700   $ (21,777   $ (588,869   $ (213,394

Net loss from continuing operations attributable to noncontrolling interest

     2,998        1,985        5,014        6,081        4,868   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income (loss) from continuing operations attributable to The Gymboree Corporation

     11,655        (52,715     (16,763     (582,788     (208,526

Reconciling items (a) :

          

Interest expense

     39,581        42,707        85,990        82,378        81,558   

Interest income

     (19     (17     (34     (45     (132

Income tax (benefit) expense

     (610     1,484        2,507        (76,320     (1,882

Depreciation and amortization (b)

     19,398        19,907        39,850        42,435        44,846   

Non-cash share-based compensation expense

     1,243        1,852        3,367        4,624        5,809   

Phantom equity incentive plan expense

     4,062        —          —          —          —     

Loss on disposal/impairment on assets

     1,456        542        3,706        8,457        12,254   

Loss on contract termination

     5,689        —          —          —          —     

(Gain) loss on extinguishment of debt

     (66,853     —          (41,522     —          834   

Goodwill and intangible asset impairment

     2,600        —          —          591,396        157,189   

Acquisition-related adjustments (c)

     7,674        6,001        11,915        12,005        15,590   

Other (d)

     1,202        3,014        5,759        1,796        5,634   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Adjusted EBITDA from continuing operations

   $ 27,078      $ 22,775      $ 94,775      $ 83,938      $ 113,174   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

(a)       Excludes amounts related to noncontrolling interest, which are already excluded from net income (loss) from continuing operations attributable to The Gymboree Corporation.

          

(b)       Includes the following:

          

Amortization of intangible assets (impacts SG&A)

   $ 699      $ 699      $ 1,399      $ 1,399      $ 3,274   

Amortization of below and above market leases (impacts COGS)

     (466     (347     (745     (958     (1,446
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 
   $ 233      $ 352      $ 654      $ 441      $ 1,828   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

(c)       Includes the following:

          

Additional rent expense recognized due to the elimination of deferred rent and construction allowances in purchase accounting (impacts COGS)

   $ 3,532      $ 3,767      $ 7,517      $ 8,241      $ 8,877   

Sponsor fees, legal and accounting, as well as other costs incurred as a result of the Acquisition or refinancing (impacts SG&A)

     4,142        2,234        4,398        3,764        4,377   

Decrease in net sales due to the elimination of deferred revenue related to the Company’s co-branded credit card program in purchase accounting (impacts net sales)

     —          —          —          —          2,336   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 
   $ 7,674      $ 6,001      $ 11,915      $ 12,005      $ 15,590   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Acquisition-related adjustments remove the impact of purchase accounting, as a result of the November 23, 2010 Merger (refer to Item 1A. Risk Factors).

          

(d)       Other is comprised of restructuring charges and non-recurring changes in reserves.

          

 

 

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Critical Accounting Policies

Critical accounting policies are those accounting policies and estimates that management believes are important to the portrayal of the Company’s financial condition and results of operations and require management’s most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effects of matters that are inherently uncertain. Management has discussed the development and selection of the critical accounting policies and estimates applicable to the Company as of the date of the completion of the audit for the fiscal year ended July 30, 2016 with the Company’s Audit Committee.

Goodwill

On November 23, 2010, we completed a merger (the “Merger”) with Giraffe Acquisition Corporation in accordance with an Agreement and Plan of Merger with Giraffe Holding, Inc. (“Parent”) and Acquisition Sub, a wholly owned subsidiary of Parent. In connection with the Merger, we allocated goodwill to our reporting units, which we concluded were the same as our operating segments: Gymboree Retail (including an online store), Gymboree Outlet, Janie and Jack (including an online store), Crazy 8 (including an online store), Gymboree Play & Music and International Retail Franchise. On July 15, 2016, Gymboree Play & Music was sold to Zeavion. We allocated goodwill to the reporting units by calculating the fair value of each reporting unit and deriving the implied fair value of each reporting unit’s goodwill as of the Merger. As of July 30, 2016, we had goodwill of $357.0 million related to the Merger.

Goodwill is tested for impairment on an annual basis at the end of our fourth fiscal period of each year (fiscal November) and at an interim date if indicators of impairment exist. Events that could result in an interim period impairment review include significant changes in the business climate, declines in our operating results, or an expectation that the carrying amount may not be recoverable. We assess potential impairment by considering present economic conditions as well as future expectations.

Goodwill is tested by performing a two-step goodwill impairment test. The first step of the two-step goodwill impairment test is to compare the fair value of the reporting unit to its carrying amount, including goodwill. If the carrying amount of the reporting unit exceeds its fair value, the second step of the two-step goodwill impairment test is required to measure the goodwill impairment loss. The second step includes valuing all the tangible and intangible assets and liabilities of the reporting unit as if the reporting unit had been acquired in a business combination. Then, the implied fair value of the reporting unit’s goodwill is compared to the carrying amount of that goodwill. If the carrying amount of the reporting unit’s goodwill exceeds the implied fair value of the goodwill, we recognize an impairment loss in an amount equal to the excess, not to exceed the carrying amount.

Calculating the fair value of a reporting unit and the implied fair value of reporting unit goodwill requires significant judgment. The use of different assumptions, estimates or judgments in either step of the goodwill impairment testing process, such as the estimated future cash flows of reporting units, the discount rate used to discount such cash flows, or the estimated fair value of the reporting units’ tangible and intangible assets and liabilities, could significantly increase or decrease the estimated fair value of a reporting unit or its net assets.

In connection with the softening of the retail environment and performance that did not meet expectations during the 13 weeks ended July 30, 2016, we revised our growth assumptions based on actual results and estimates of future operations. The updated assumptions resulted in a plan that reflects slower growth in revenues in certain reporting units, specifically Gymboree Retail and International Retail Franchise. We considered this to be a triggering event and performed the first step of the two-step goodwill impairment test during the 13 weeks ending October 29, 2016. The results of the Step 1 test indicated that no goodwill impairment was required for any of our reporting units during the 13 and 26 weeks ended July 30, 2016 as the fair value of each of our reporting units exceeded its carrying value by more than 40%.

The goodwill impairment analysis for the reporting units was based on our projection of revenues, gross margin, operating costs and cash flows considering historical and estimated future results, general economic and market conditions, as well as the impact of planned business and operational strategies. We based our fair value estimates on assumptions we believed to be reasonable at the time, but such assumptions are subject to inherent uncertainty. Actual results may differ from those estimates. The valuations employed present value techniques to measure fair value and considered market factors and reporting unit specific developments. We primarily used an income approach to value these reporting units. The discount rates used in the income approach ranged from 13.0% to 16.5%. We also considered a market approach. Assumptions used in the market approach include valuation multiples based on analysis of multiples for comparable public companies. Finally, specific weights were applied to the components of each approach to estimate the total implied fair value. These weights are estimates by management and are developed based on the specific characteristics, risks and uncertainties of each reporting unit.

 

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Indefinite-Lived Intangible Assets

Indefinite-lived intangible assets primarily represent trade names for each of our brands. We do not amortize intangible assets with indefinite useful lives. We test indefinite-lived intangible assets for impairment on annual basis at the end of our fourth fiscal period of each year (fiscal November), and more frequently if indicators of potential impairment exist and indicate that it is more likely than not that the asset is impaired. Impairment of indefinite-lived intangible assets is measured by comparing the carrying amount of the asset to the discounted future cash flows that the asset is expected to generate using the relief from royalty method. If we determine that an individual asset is impaired, the amount of any impairment is measured as the difference between the carrying value and the fair value of the impaired asset. Calculating the fair value of indefinite-lived intangible assets requires significant judgment. The use of different assumptions, estimates or judgments, such as the estimated future cash flows, royalty rates or the discount rate used to discount such cash flows, could significantly increase or decrease the estimated fair value of our indefinite-lived intangible assets.

In connection with the softening of the retail environment and performance that did not meet expectations during the 13 week period ended July 30, 2016, we revised our growth assumptions based on actual results and estimates of future operations. The updated assumptions resulted in a plan that reflects slower growth in revenues in certain reporting units, specifically Gymboree Retail and Crazy 8. We considered this to be a triggering event and tested our indefinite-lived intangible assets for impairment during the 13 weeks ending October 29, 2016. As a result, we recorded a $2.6 million impairment charge during the 13 weeks ended July 30, 2016 related to the Crazy 8 trade name, which is included as a component of goodwill and intangible asset impairment. There was no impairment related to the Gymboree Retail trade name.

Store Asset Impairment

Store assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying value of an asset may not be recoverable. If the undiscounted future cash flows from the asset group are less than the carrying value, a loss is recognized equal to the difference between the carrying value of the asset group and its fair value. The fair value of the asset group is estimated based on discounted future cash flows using a discount rate commensurate with the risk. The asset group is determined at the store level, which is the lowest level for which identifiable cash flows are available. Decisions to close a store or facility can also result in accelerated depreciation over the revised useful life. For locations to be closed that are under long-term leases, we record a charge for lease buyout expense or the difference between our rent and the rate at which we expect to be able to sublease the properties and related costs, as appropriate. Most closures occur upon the lease expiration. The estimate of future cash flows is based on historical experience and typically market data. These estimates can be affected by factors such as future store profitability, real estate demand and economic conditions that can be difficult to predict.

During the 26 weeks ended July 30, 2016, and fiscal 2015, 2014, and 2013, we recorded impairment charges of $0.6 million, $1.3 million, $6.0 million, and $7.6 million, respectively, related to assets of under-performing stores.

Income Taxes

We recognize deferred tax assets and liabilities for the expected future tax consequences of temporary differences between the financial statement carrying amounts and the tax basis of assets and liabilities. We establish valuation allowances when it is more likely than not that all or a portion of a deferred tax asset will not be realized. Changes in valuation allowances from period to period are included in the tax provision in the period of change. We consider all available positive and negative evidence in evaluating whether a valuation allowance is required, including prior earnings history, actual earnings over the previous 12 quarters on a cumulative basis, carryback and carryforward periods, and tax planning strategies that could potentially enhance the likelihood of realization of a deferred tax asset.

As of July 30, 2016, January 30, 2016 and January 31, 2015, the total valuation allowance against certain deferred tax assets was $30.6 million, $63.2 million, and $58.6 million, respectively. A valuation allowance has not been established for certain foreign and state jurisdictions. Changes in valuation allowances from period to period are included in the tax provision in the period of change.

We are subject to periodic audits by the Internal Revenue Service and other taxing authorities. These audits may challenge certain of our tax positions such as the timing and amount of deductions and allocation of taxable income to the various tax jurisdictions. As of July 30, 2016 and January 30, 2016, we had unrecognized tax benefits of $6.3 million and $6.4 million, respectively. Determining income tax expense for tax contingencies requires management to make assumptions that are subject to factors such as proposed assessments by tax authorities, changes in facts and circumstances, issuance of new regulations, and resolution of tax audits. Actual results could materially differ from these estimates and could significantly affect the effective tax rate and cash flows in future years.

 

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Merchandise Inventories

Merchandise inventories are recorded at the lower of cost or market (“LCM”), with cost determined on a weighted-average basis. We review our inventory levels to identify slow-moving merchandise and broken assortments (items no longer in stock in a sufficient range of sizes) and record an adjustment when the future estimated selling price is less than cost. We take a physical count of inventories in all stores once a year and perform cycle counts throughout the year in our Dixon distribution center. We also perform an annual physical count of inventories at our third-party fulfillment center in Ohio. We record an inventory shrink adjustment based upon physical counts and also provide for estimated shrink adjustments for the period between the last physical inventory count and each balance sheet date. Our inventory shrink estimate can be affected by changes in merchandise mix and changes in actual shrink trends. Our LCM estimate can be affected by changes in consumer demand and the promotional environment.

Item 7A. Quantitative and Qualitative Disclosures About Market Risk

We enter into forward foreign exchange contracts with respect to certain purchases in U.S. dollars of inventory to be sold in our retail stores in Canada. The purpose of these contracts is to protect our margins on the eventual sale of the inventory from fluctuations in the exchange rate for Canadian and U.S. dollars. The term of the forward exchange contracts is generally less than one year. Our U.S. entity also enters into forward foreign exchange contracts with respect to short-term intercompany balances between our Canadian and U.S. entities. The purpose of these contracts is to protect us from fluctuations in the exchange rate for Canadian and U.S. dollars upon the settlement of such balances.

The table below summarizes the notional amounts and fair values of our forward foreign exchange contracts in U.S. dollars (in thousands except weighted-average rate data):

 

     Notional
Amount
     Fair Value
Gain (Loss)
     Weighted-
Average Rate
 

July 30, 2016

   $ 10,209       $ (123    $ 0.77   

January 30, 2016

   $ 5,492       $ (145    $ 0.71   

January 31, 2015

   $ 4,633       $ 96       $ 0.79   

Interest Rate Risk

We are subject to interest rate risk in connection with our long-term debt. Our principal interest rate risk relates to the Term Loan outstanding under the Senior Credit Facilities. As of July 30, 2016, we had $769.1 million outstanding under our Senior Credit Facilities, bearing interest at variable rates. The interest rate for borrowings under the Term Loan is, at our option, a base rate plus an additional marginal rate of 2.5% or the Adjusted LIBOR rate (with a 1.5% floor) plus an additional rate of 3.5%. As of July 30, 2016, the interest rate under our Term Loan was 5.0%. A 0.125% increase in the Adjusted LIBOR rate, above the 1.5% floor, would have increased annual interest expense by approximately $1 million, assuming $769.1 million of indebtedness thereunder was outstanding for the whole year. The Term Loan allows us to request additional tranches of term loans in an aggregate amount not to exceed $200 million, subject to the satisfaction of certain conditions, provided that such amount will be subject to reduction by the amount of any additional commitments incurred under the ABL Facility since the closing date of the Term Loan (including the ABL Term Loans). No such incremental facilities are currently in effect.

In December 2010, we purchased four interest rate caps to hedge against rising interest rates associated with our senior secured term loan above the 5% strike rate of the caps through December 23, 2016, the maturity date of the caps. The notional amount of these caps is $700 million.

As of July 30, 2016, January 30, 2016 and January 31, 2015, accumulated other comprehensive loss included approximately $2.5 million, $4.6 million and $8.2 million, respectively, in unrealized losses related to the interest rate caps and forward foreign exchange contracts.

Impact of Inflation

The impact of inflation on results of operations has not been significant in any of the last three fiscal years.

 

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Item 8. Financial Statements and Supplementary Data

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

 

     PAGE  

Report of Independent Registered Public Accounting Firm

     35   

Consolidated Statements of Operations for the 26 weeks ended July  30, 2016 and the years ended January 30, 2016, January 31, 2015, and February 1, 2014

     36   

Consolidated Statements of Comprehensive Income (Loss) for the 26 weeks ended July 30, 2016 and the years ended January 30, 2016, January 31, 2015, and February 1, 2014

     37   

Consolidated Balance Sheets as of July 30, 2016, January  30, 2016, and January 31, 2015

     38   

Consolidated Statements of Cash Flows for the 26 weeks ended July  30, 2016 and the years ended January 30, 2016, January 31, 2015, and February 1, 2014

     39   

Consolidated Statements of Stockholders’ (Deficit) Equity for the 26 weeks ended July 30, 2016 and the years ended January 30, 2016, January 31, 2015, and February 1, 2014

     40   

Notes to Consolidated Financial Statements

     41   

 

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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Board of Directors and Stockholders of

The Gymboree Corporation:

We have audited the accompanying consolidated balance sheets of The Gymboree Corporation and subsidiaries (the “Company”) as of July 30, 2016, January 30, 2016 and January 31, 2015, and the related consolidated statements of operations, comprehensive income (loss), stockholders’ (deficit) equity, and cash flows for the 26 weeks ended July 30, 2016 and for each of the three fiscal years in the period ended January 30, 2016. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of The Gymboree Corporation and subsidiaries as of July 30, 2016, January 30, 2016 and January 31, 2015, and the results of their operations and their cash flows for the 26 weeks ended July 30, 2016 and for each of the three fiscal years in the period ended January 30, 2016, in conformity with accounting principles generally accepted in the United States of America.

/s/ DELOITTE & TOUCHE LLP

San Francisco, California

October 28, 2016

 

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THE GYMBOREE CORPORATION

CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands)

 

     26 Weeks Ended     Year Ended  
     July 30, 2016     January 30, 2016     January 31, 2015     February 1, 2014  

Net sales:

        

Retail

   $ 515,593      $ 1,184,606      $ 1,178,476      $ 1,197,176   

Retail Franchise

     7,594        21,533        19,356        21,708   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total net sales

     523,187        1,206,139        1,197,832        1,218,884   

Cost of goods sold, including buying and occupancy expenses

     (327,406     (752,758     (753,861     (762,877
  

 

 

   

 

 

   

 

 

   

 

 

 

Gross profit

     195,781        453,381        443,971        456,007   

Selling, general and administrative expenses

     (209,925     (427,638     (435,093     (431,116

Goodwill and intangible asset impairment

     (2,600     —          (591,396     (157,189
  

 

 

   

 

 

   

 

 

   

 

 

 

Operating (loss) income

     (16,744     25,743        (582,518     (132,298

Interest income

     19        41        228        100   

Interest expense

     (39,581     (85,990     (82,378     (81,558

Gain (loss) on extinguishment of debt

     66,853        41,522        —          (834

Other expense, net

     (2,500     (590     (535     (684
  

 

 

   

 

 

   

 

 

   

 

 

 

Income (loss) from continuing operations before taxes

     8,047        (19,274     (665,203     (215,274

Income tax benefit (expense)

     610        (2,503     76,334        1,880   
  

 

 

   

 

 

   

 

 

   

 

 

 

Income (loss) from continuing operations, net of tax

     8,657        (21,777     (588,869     (213,394

Income from discontinued operations, including gain on sale of Gymboree Play & Music, net of tax

     63,039        13,013        8,758        7,043   
  

 

 

   

 

 

   

 

 

   

 

 

 

Net income (loss)

     71,696        (8,764     (580,111     (206,351

Net (income) loss attributable to noncontrolling interest

     (1,008     (1,412     6,006        3,324   
  

 

 

   

 

 

   

 

 

   

 

 

 

Net income (loss) attributable to The Gymboree Corporation

   $ 70,688      $ (10,176   $ (574,105   $ (203,027
  

 

 

   

 

 

   

 

 

   

 

 

 

See notes to consolidated financial statements.

 

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THE GYMBOREE CORPORATION

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)

(In thousands)

 

     26 Weeks Ended
July 30, 2016
    Year Ended  
       January 30, 2016     January 31, 2015     February 1, 2014  

Net income (loss)

   $ 71,696      $ (8,764   $ (580,111   $ (206,351
  

 

 

   

 

 

   

 

 

   

 

 

 

Other comprehensive income (loss):

        

Foreign currency translation adjustments, net of tax

     1,233        (2,817     (8,108     26   

Unrealized net gain on cash flow hedges, net of tax

     2,165        2,602        1,315        1,219   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total other comprehensive income (loss)

     3,398        (215     (6,793     1,245   
  

 

 

   

 

 

   

 

 

   

 

 

 

Comprehensive income (loss)

     75,094        (8,979     (586,904     (205,106

Comprehensive (income) loss attributable to noncontrolling interest

     (1,008     (788     6,448        3,113   
  

 

 

   

 

 

   

 

 

   

 

 

 

Comprehensive income (loss) attributable to The Gymboree Corporation

   $ 74,086      $ (9,767   $ (580,456   $ (201,993
  

 

 

   

 

 

   

 

 

   

 

 

 

See notes to consolidated financial statements.

 

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THE GYMBOREE CORPORATION

CONSOLIDATED BALANCE SHEETS

(In thousands, except share and per share data)

 

     July 30,
2016
    January 30,
2016
    January 31,
2015
 

ASSETS

      

Current assets:

      

Cash and cash equivalents

   $ 12,636      $ 9,774      $ 11,091   

Restricted cash

     33,505        —          —     

Accounts receivable, net of allowance of $270, $331 and $106

     12,290        21,107        21,827   

Merchandise inventories

     232,959        202,832        195,795   

Prepaid income taxes

     2,046        2,196        2,599   

Prepaid expenses

     4,917        6,336        6,223   

Deferred income taxes

     —          —          5,702   

Current assets of discontinued operations

     —          18,210        15,112   
  

 

 

   

 

 

   

 

 

 

Total current assets

     298,353        260,455        258,349   
  

 

 

   

 

 

   

 

 

 

Property and equipment:

      

Land and buildings

     22,428        22,428        22,428   

Leasehold improvements

     193,563        196,949        195,709   

Furniture, fixtures and equipment

     130,758        127,531        121,091   
  

 

 

   

 

 

   

 

 

 

Total property and equipment

     346,749        346,908        339,228   

Less accumulated depreciation and amortization

     (202,998     (191,358     (160,101
  

 

 

   

 

 

   

 

 

 

Net property and equipment

     143,751        155,550        179,127   
  

 

 

   

 

 

   

 

 

 

Goodwill

     357,041        356,348        357,445   

Other intangible assets, net

     300,073        303,608        306,019   

Restricted cash

     73,566        —          —     

Other assets

     5,728        6,170        5,827   

Other assets of discontinued operations

     —          58,345        58,083   
  

 

 

   

 

 

   

 

 

 

Total assets

   $ 1,178,512      $ 1,140,476      $ 1,164,850   
  

 

 

   

 

 

   

 

 

 

LIABILITIES AND STOCKHOLDERS’ DEFICIT

      

Current liabilities:

      

Accounts payable

   $ 134,498      $ 107,866      $ 86,234   

Accrued and other current liabilities

     111,909        90,281        86,379   

Line of credit borrowings

     42,000        19,000        33,000   

Current portion of long-term debt

     5,527        —          —     

Current obligation under capital lease

     —          605        552   

Current liabilities of discontinued operations

     —          13,300        9,224   
  

 

 

   

 

 

   

 

 

 

Total current liabilities

     293,934        231,052        215,389   
  

 

 

   

 

 

   

 

 

 

Long-term liabilities:

      

Long-term debt, net

     970,902        1,040,506        1,090,955   

Long-term sale-leaseback financing liability, net

     25,508        25,578        —     

Long-term obligation under capital lease

     —          2,245        2,850   

Lease incentives and other liabilities

     44,167        49,355        53,409   

Unrecognized tax benefits

     6,475        5,075        5,048   

Deferred income taxes

     110,799        124,243        128,760   

Long-term liabilities of discontinued operations

     —          310        704   
  

 

 

   

 

 

   

 

 

 

Total liabilities

     1,451,785        1,478,364        1,497,115   
  

 

 

   

 

 

   

 

 

 

Commitments and contingencies (see Notes 7, 11 and 14)

      

Stockholders’ deficit:

      

Common stock, including additional paid-in capital ($0.001 par value:

      

1,000 shares authorized, issued and outstanding)

     527,002        525,759        522,403   

Accumulated deficit

     (792,851     (863,539     (853,363

Accumulated other comprehensive loss

     (7,424     (10,822     (11,231
  

 

 

   

 

 

   

 

 

 

Total stockholders’ deficit

     (273,273     (348,602     (342,191

Noncontrolling interest

     —          10,714        9,926   
  

 

 

   

 

 

   

 

 

 

Total deficit

     (273,273     (337,888     (332,265
  

 

 

   

 

 

   

 

 

 

Total liabilities and stockholders’ deficit

   $ 1,178,512      $ 1,140,476      $ 1,164,850   
  

 

 

   

 

 

   

 

 

 

See notes to consolidated financial statements.

 

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THE GYMBOREE CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

 

    26 Weeks Ended
July 30, 2016
    Year Ended  
      January 30, 2016     January 31, 2015     February 1, 2014  

CASH FLOWS FROM OPERATING ACTIVITIES:

       

Net income (loss)

  $ 71,696      $ (8,764   $ (580,111   $ (206,351

Adjustments to reconcile net income (loss) to net cash (used in) provided by operating activities:

       

Gain on sale of Gymboree Play & Music

    (70,008     —          —          —     

(Gain) loss on extinguishment of debt

    (66,853     (41,522     —          834   

Goodwill and intangible asset impairment

    2,600        —          591,396        157,189   

Depreciation and amortization

    19,981        41,355        44,422        46,416   

Amortization of deferred financing costs and accretion of original issue discount

    4,137        7,922        7,138        6,798   

Gain on contract termination

    (2,561     —          —          —     

Interest rate cap contracts - adjustment to market

    2,461        3,861        2,062        1,135   

Loss on disposal/impairment of assets

    2,060        3,627        9,010        12,381   

Deferred income taxes

    (13,181     (910     (78,466     (2,853

Share-based compensation expense

    1,243        3,367        4,624        5,809   

Other

    226        —          34        53   

Change in assets and liabilities:

       

Accounts receivable

    8,695        33        (3,928     5,567   

Merchandise inventories

    (31,834     (9,275     (23,472     22,675   

Prepaid income taxes

    127        401        (682     1,056   

Prepaid expenses and other assets

    (447     104        18,466        (4,378

Accounts payable

    25,657        22,237        (14,902     11,887   

Accrued and other current liabilities

    20,490        8,717        (2,065     6,868   

Lease incentives and other liabilities

    (202     (2,013     4,716        9,785   
 

 

 

   

 

 

   

 

 

   

 

 

 

Net cash (used in) provided by operating activities

    (25,713     29,140        (21,758     74,871   
 

 

 

   

 

 

   

 

 

   

 

 

 

CASH FLOWS FROM INVESTING ACTIVITIES:

       

Capital expenditures

    (11,792     (21,413     (31,992     (52,632

Proceeds from sale of Gymboree Play & Music

    127,124        —          —          —     

Increase in restricted cash

    (109,895     (10,863     —          —     

Decrease in restricted cash

    2,824        10,863        —          —     

Decrease (increase) in related party loan receivable

    1,741        (1,741     —          —     

Proceeds from sale of assets

    —          353        —          —     

Other

    3        201        50        (494
 

 

 

   

 

 

   

 

 

   

 

 

 

Net cash provided by (used in) investing activities

    10,005        (22,600     (31,942     (53,126
 

 

 

   

 

 

   

 

 

   

 

 

 

CASH FLOWS FROM FINANCING ACTIVITIES:

       

Proceeds from ABL facility

    279,000        470,000        447,000        123,000   

Payments on ABL facility

    (256,000     (484,000     (414,000     (123,000

Proceeds from ABL term loan

    50,000        —          —          —     

Repurchase of notes

    (46,796     (15,325     —          (24,760

Proceeds from sale-leaseback financing liability

    —          26,750        —          —     

Payments on capital lease and sale-leaseback financing liability

    (98     (686     (503     (196

Payments for deferred financing costs

    (3,804     (2,574     —          —     

Dividend payment to parent

    —          (11     (153     (7,564

Dividend payment by VIE to its parent

    (5,080     —          —          —     

Deconsolidation of VIE - Deemed dividend

    (7,768     —          —          —     

Capital contribution received by noncontrolling interest

    —          —          992        15,886   
 

 

 

   

 

 

   

 

 

   

 

 

 

Net cash provided by (used in) financing activities

    9,454        (5,846     33,336        (16,634
 

 

 

   

 

 

   

 

 

   

 

 

 

Effect of exchange rate fluctuations on cash and cash equivalents

    726        (1,050     (545     990   
 

 

 

   

 

 

   

 

 

   

 

 

 

Net (decrease) increase in cash and cash equivalents

    (5,528     (356     (20,909     6,101   

Cash and cash equivalents, beginning of period

    18,164        18,520        39,429        33,328   
 

 

 

   

 

 

   

 

 

   

 

 

 

Cash and cash equivalents end of period

    12,636        18,164        18,520        39,429   

Less - cash and cash equivalents of discontinued operations, end of period

    —          8,390        7,429        5,032   
 

 

 

   

 

 

   

 

 

   

 

 

 

Cash and cash equivalents of continuing operations, end of period

  $ 12,636      $ 9,774      $ 11,091      $ 34,397   
 

 

 

   

 

 

   

 

 

   

 

 

 

NON-CASH INVESTING AND FINANCING ACTIVITIES:

       

Capital expenditures incurred, but not yet paid

  $ 3,461      $ 1,999      $ 1,927      $ 4,979   

Assets acquired under capital lease

  $ —        $ —        $ —        $ 4,102   

Non-cash capital contribution to noncontrolling interest

  $ —        $ —        $ —        $ 53   

OTHER CASH FLOW INFORMATION:

       

Cash paid (received) for income taxes, net

  $ 2,496      $ (198   $ 5,015      $ 2,326   

Cash paid for interest

  $ 34,370      $ 74,875      $ 73,070      $ 73,872   

See notes to consolidated financial statements.

 

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THE GYMBOREE CORPORATION

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ (DEFICIT) EQUITY

(In thousands)

 

    The Gymboree Corporation              
    Common
Stock
    Additional
Paid In
Capital
    Accumulated
Deficit
    Accumulated
Other

Comprehensive
Loss
    Total
Stockholders’
(Deficit) Equity
    Noncontrolling
Interest
    Total
(Deficit) Equity
 
    Shares     Amount              

BALANCE AT FEBRUARY 2, 2013

    1,000      $ —        $ 519,687      $ (76,231   $ (5,914   $ 437,542      $ 4,095      $ 441,637   

Share-based compensation

    —          —          5,809        —          —          5,809        —          5,809   

Dividend payment to Parent

    —          —          (7,564     —          —          (7,564     —          (7,564

Capital contribution to noncontrolling interest

    —          —          —          —          —          —          14,366        14,366   

Translation adjustments and unrealized net gain on cash flow hedges, net of tax

    —          —          —          —          1,034        1,034        211        1,245   

Net loss attributable to noncontrolling interest

    —          —          —          —          —          —          (3,324     (3,324

Net loss attributable to The Gymboree Corporation

    —          —          —          (203,027     —          (203,027     —          (203,027
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

BALANCE AT FEBRUARY 1, 2014

    1,000        —          517,932        (279,258     (4,880     233,794        15,348        249,142   

Share-based compensation

    —          —          4,624        —          —          4,624        —          4,624   

Dividend payment to Parent

    —          —          (153     —          —          (153     —          (153

Capital contribution to noncontrolling interest

    —          —          —          —          —          —          1,026        1,026   

Translation adjustments and unrealized net gain on cash flow hedges, net of tax

    —          —          —          —          (6,351     (6,351     (442     (6,793

Net loss attributable to noncontrolling interest

    —          —          —          —          —          —          (6,006     (6,006

Net loss attributable to The Gymboree Corporation

    —          —          —          (574,105     —          (574,105     —          (574,105
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

BALANCE AT JANUARY 31, 2015

    1,000        —          522,403        (853,363     (11,231     (342,191     9,926        (332,265

Share-based compensation

    —          —          3,367        —          —          3,367        —          3,367   

Dividend payment to Parent

    —          —          (11     —          —          (11     —          (11

Translation adjustments and unrealized net gain on cash flow hedges, net of tax

    —          —          —          —          409        409        (624     (215

Net income attributable to noncontrolling interest

    —          —          —          —          —          —          1,412        1,412   

Net loss attributable to The Gymboree Corporation

    —          —          —          (10,176     —          (10,176     —          (10,176
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

BALANCE AT JANUARY 30, 2016

    1,000        —          525,759        (863,539     (10,822     (348,602     10,714        (337,888

Share-based compensation

    —          —          1,243        —          —          1,243        —          1,243   

Translation adjustments and unrealized net gain on cash flow hedges, net of tax

    —          —          —          —          3,398        3,398        —          3,398   

Dividend payment by VIE to its parent

    —          —          —          —          —          —          (5,080     (5,080

Net income attributable to noncontrolling interest

    —          —          —            —          —          1,008        1,008   

Net income attributable to The Gymboree Corporation

    —          —          —          70,688        —          70,688        —          70,688   

Deconsolidation of VIE

    —          —          —          —          —          —          (6,642     (6,642
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

BALANCE AT JULY 30, 2016

    1,000      $ —        $ 527,002      $ (792,851   $ (7,424   $ (273,273   $ —        $ (273,273
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

See notes to consolidated financial statements.

 

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Table of Contents

THE GYMBOREE CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

1. Summary of Significant Accounting Policies

Nature of the Business

The Gymboree Corporation (the “Company,” “we” or “us”) is a specialty retailer, offering collections of high-quality apparel and accessories for children. As of July 30, 2016, we operated a total of 1,299 retail stores, as follows:

 

     United
States
     Canada      Puerto Rico      Total  

Gymboree® stores

     541         48         1         590   

Gymboree Outlet stores

     174         —           1         175   

Janie and Jack® shops (including Janie and Jack outlets)

     148         —           1         149   

Crazy 8® stores (including Crazy 8 outlets)

     385         —           —           385   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

     1,248         48         3         1,299   
  

 

 

    

 

 

    

 

 

    

 

 

 

As of July 30, 2016, we also operated online stores at www.gymboree.com, www.janieandjack.com and www.crazy8.com. Overseas franchisees operated 56 retail stores in the Middle East, South Korea and Latin America as of July 30, 2016.

Through July 14, 2016, we also offered directed parent-child developmental play programs at franchised and Company-operated Gymboree Play & Music® centers in the United States and other countries. Gymboree (Tianjin) Educational Information Consultation Co. Ltd. (“Gymboree Tianjin”) was Gymboree Play & Music’s master franchisee in China, while Gymboree (China) Commercial and Trading Co. Ltd. (“Gymboree China”) was an operator of Gymboree retail stores in China. Gymboree China and Gymboree Tianjin were collectively referred to as variable interest entities (“VIEs”).

On July 15, 2016, we sold the Gymboree Play & Music business to Zeavion Holding Pte. Ltd. (“Zeavion”). Concurrent with the sale of Gymboree Play & Music, Gymboree Investment Holdings L.P. sold Gymboree Tianjin and Gymboree China to Zeavion (see Note 2).

Fiscal Year

Effective June 28, 2016, the Company changed its fiscal year-end from the Saturday closest to January 31st of each year to the Saturday closest to July 31st of each year. As a result of this change, our fiscal year 2016 is comprised of a 26-week transition period from January 31, 2016 through July 30, 3016. Our fiscal years 2015, 2014, and 2013 ended on January 30, 2016, January 31, 2015, and February 1, 2014, respectively. Fiscal years 2015, 2014, and 2013 include 52 weeks. References to years in the Consolidated Financial Statements relate to fiscal years rather than calendar years.

Basis of Presentation

On November 23, 2010 (the “Transaction Date”), The Gymboree Corporation completed a merger (the “Merger”) with Giraffe Acquisition Corporation (“Acquisition Sub”) in accordance with an Agreement and Plan of Merger (the “Merger Agreement”) with Giraffe Holding, Inc. (“Parent”), and Acquisition Sub, a wholly owned subsidiary of Parent, with the Merger funded through a combination of debt and equity financing (collectively, the “Transactions”). The Company is continuing as the surviving corporation and a 100%-owned indirect subsidiary of the Parent. At the Transaction Date, investment funds sponsored by Bain Capital Private Equity, LP (“Bain Capital”) indirectly owned a controlling interest in Parent.

Certain reclassifications have been made to the consolidated balance sheets as of January 30, 2016 and January 31, 2015 as a result of our adoption of the Financial Accounting Standards Board (“FASB”) Accounting Standards Update (“ASU”) No. 2015-03, Interest-Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs as of January 31, 2016.

Principles of Consolidation

Prior to the sale of the Gymboree Play & Music business and the VIEs on July 15, 2016, Gymboree China, Gymboree Tianjin and the Company were indirectly controlled by Gymboree Holding, Ltd. and investment funds sponsored by Bain Capital. Gymboree China and Gymboree Tianjin were determined to be variable interest entities, and we (as well as our 100%-owned subsidiaries) were a member of a related party group that controlled the VIEs and absorbed the economics of the VIEs. Based on our relationship with the VIEs, we previously determined we were most closely associated with the VIEs, and therefore, consolidated

 

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Table of Contents

them as the primary beneficiary. However, as we had a 0% ownership interest in the VIEs, 100% of the results of operations of the VIEs were recorded as non-controlling interest. The assets of the VIEs could only be used by the VIEs. The liabilities of the VIEs were comprised mainly of short-term accrued expenses, and their creditors had no recourse to our general credit or assets. Following the sale of the VIEs on July 15, 2016, we are no longer part of a related party group that controls the VIEs and absorbs the economics of the VIEs. The financial results of the Gymboree Play & Music business and Gymboree Tianjin are reported as discontinued operations pursuant to ASC 205-20, Presentation - Discontinued Operations . We deconsolidated Gymboree China as of July 15, 2016, the date of sale, pursuant to ASC 810-10, Consolidation. See Note 2.

Use of Estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amount of revenues and expenses during the reporting period. Actual results could differ from those estimates.

Financial Instruments

Cash Equivalents

Cash equivalents consist of highly liquid investment instruments with a maturity of three months or less at date of purchase. Our cash equivalents are placed primarily in money market funds. We value these investments at their original purchase prices plus interest that has accrued at the stated rate. Income related to these securities is recorded in interest income in the consolidated statements of operations.

Derivative Financial Instruments

We record all derivatives on the balance sheet at fair value. The accounting for changes in the fair value of derivatives depends on the intended use of the derivative, whether we have elected to designate a derivative in a hedging relationship and apply hedge accounting and whether the hedging relationship has satisfied the criteria necessary to apply hedge accounting. Derivatives designated and qualifying as a hedge of the exposure to variability in expected future cash flows, or other types of forecasted transactions, are considered cash flow hedges. Hedge accounting for cash flow hedges generally provides for the matching of the timing of gain or loss recognition on the hedging instrument with the earnings effect of the hedged forecasted transactions.

Concentrations of Credit Risk

Financial instruments that potentially subject the Company to concentrations of credit risk consist of cash and cash equivalents. At times, cash balances held at financial institutions are in excess of federally insured limits.

During the 26 weeks ended July 30, 2016 and fiscal 2015 and 2014, we purchased approximately 93%, 89%, and 82%, respectively, of our inventory through one agent, which may potentially subject us to risks of concentration related to sourcing of our inventory.

Accounts Receivable

We record accounts receivable net of an allowance for doubtful accounts. Accounts receivable primarily include amounts due from major credit card companies, amounts due from franchisees for consumer product sales, duty drawback receivables (refund of certain custom duties paid to the U.S. Customs and Border Protection upon importation of merchandise inventories), and receivables from our co-branded credit card agreements. We estimate our allowance for doubtful accounts by considering a number of factors, including the length of time accounts receivable are past due and our previous loss history. The provision for doubtful accounts receivable is included in selling, general and administrative expenses (“SG&A”). Write-offs were insignificant for all periods presented.

Merchandise Inventories

Merchandise inventories are recorded at the lower of cost or market (“LCM”), with cost determined on a weighted-average basis. We review our inventory levels to identify slow-moving merchandise and broken assortments (items no longer in stock in a sufficient range of sizes) and record an adjustment when the future estimated selling price is less than cost. We take a physical count of inventories in all stores once a year and perform cycle counts throughout the year in our Dixon distribution center. We record an inventory shrink adjustment based upon physical counts and also provide for estimated shrink adjustments for the period between the last physical inventory count and each balance sheet date. Our inventory shrink estimate can be affected by changes in merchandise mix and changes in actual shrink trends. Our LCM estimate can be affected by changes in consumer demand and the promotional environment.

 

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Table of Contents

Property and Equipment

Property and equipment acquired after the Transaction Date are recorded at cost. Property and equipment acquired in the Merger are stated at estimated fair value as of the Transaction Date, less accumulated depreciation and amortization recorded subsequent to the Merger. Depreciation is computed using the straight-line method over the estimated useful lives of the assets, which range from approximately 3 to 25 years, except for our buildings and building improvements in Dixon, California, which have useful lives of 39 years. Leasehold improvements, which include an allocation of directly-related internal payroll costs for employees dedicated to real estate construction projects, are amortized over the lesser of the applicable lease term, which ranges from 5 to 13 years, or the estimated useful life of the improvements. Assets recorded under capital leases are amortized over the lease term. Software costs are amortized using the straight-line method based on an estimated useful life of 3 to 7 years. Repair and maintenance costs are expensed as incurred.

The Company capitalizes development-stage website development costs such as direct external costs and direct payroll related costs. When development is substantially complete, the Company amortizes the website costs on a straight-line basis over the expected life, which is generally 3 years. Preliminary project costs and post-implementation costs such as training, maintenance and support are expensed as incurred.

Store Asset Impairment

Store assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying value of an asset may not be recoverable. If the undiscounted future cash flows from the asset group are less than the carrying value, a loss is recognized equal to the difference between the carrying value of the asset group and its fair value. The fair value of the asset group is estimated based on discounted future cash flows using a discount rate commensurate with the risk. The asset group is determined at the store level, which is the lowest level for which identifiable cash flows are available. Decisions to close a store or facility can also result in accelerated depreciation over the revised useful life. For locations to be closed that are under long-term leases, we record a charge for lease buyout expense or the difference between our rent and the rate at which we expect to be able to sublease the properties and related costs, as appropriate. Most closures occur upon the lease expiration. The estimate of future cash flows is based on historical experience and available market data. These estimates can be affected by factors such as future store profitability, real estate demand and economic conditions that can be difficult to predict.

Goodwill and Other Intangible Assets

Goodwill

We allocated goodwill to our reporting units, which we concluded were the same as our operating segments (see Note 18): Gymboree Retail (including an online store), Gymboree Outlet, Janie and Jack (including an online store), Crazy 8 (including an online store), and International Retail Franchise. We allocated goodwill to the reporting units by calculating the fair value of each reporting unit and deriving the implied fair value of each reporting unit’s goodwill as of the Merger.

Goodwill is tested for impairment on an annual basis at the end of our fourth fiscal period of each year (fiscal November) and at an interim date if indicators of impairment exist. Events that could result in an impairment review include significant changes in the business climate, declines in our operating results, or an expectation that the carrying amount may not be recoverable. We assess potential impairment by considering present economic conditions as well as future expectations.

Goodwill is tested by performing a two-step goodwill impairment test. The first step of the two-step goodwill impairment test is to compare the fair value of the reporting unit to its carrying amount, including goodwill. If the carrying amount of the reporting unit exceeds its fair value, the second step of the two-step goodwill impairment test is required to measure the goodwill impairment loss. The second step includes valuing all the tangible and intangible assets and liabilities of the reporting unit as if the reporting unit had been acquired in a business combination. Then, the implied fair value of the reporting unit’s goodwill is compared to the carrying amount of that goodwill. If the carrying amount of the reporting unit’s goodwill exceeds the implied fair value of the goodwill, we recognize an impairment loss in an amount equal to the excess, not to exceed the carrying amount.

Calculating the fair value of a reporting unit and the implied fair value of reporting unit goodwill requires significant judgment. The use of different assumptions, estimates or judgments in either step of the goodwill impairment testing process, such as the estimated future cash flows of reporting units, the discount rate used to discount such cash flows, or the estimated fair value of the reporting units’ tangible and intangible assets and liabilities, could significantly increase or decrease the estimated fair value of a reporting unit or its net assets.

Indefinite-Lived Intangible Assets

Indefinite-lived intangible assets primarily represent trade names for each of our brands. We do not amortize intangible assets with indefinite useful lives. We test indefinite-lived intangible assets for impairment on an annual basis at the end of our fourth fiscal period of each year (fiscal November), and more frequently if indicators of potential impairment exist and indicate that it is

 

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more likely than not that the asset is impaired. Impairment of indefinite-lived intangible assets is measured by comparing the carrying amount of the asset to the discounted future cash flows that the asset is expected to generate using the relief from royalty method. If we determine that an individual asset is impaired, the amount of any impairment is measured as the difference between the carrying value and the fair value of the impaired asset. Calculating the fair value of indefinite-lived intangible assets requires significant judgment. The use of different assumptions, estimates or judgments, such as the estimated future cash flows, royalty rates or the discount rate used to discount such cash flows, could significantly increase or decrease the estimated fair value of our indefinite-lived intangible assets.

Other Intangible Assets and Liabilities

Other intangible assets primarily represent franchise agreements, below market leases and a co-branded credit card agreement. Other intangible liabilities represent above market leases and are included in lease incentives and other liabilities in the accompanying consolidated balance sheets. Other intangible assets and liabilities are amortized on a straight-line basis over their estimated useful lives.

We review other intangible assets with finite lives for impairment whenever events or changes in circumstances indicate the carrying value of an asset may not be recoverable. Recoverability of these other intangible assets is measured by comparing the carrying amount of the asset to the future undiscounted cash flows that the asset is expected to generate. If the undiscounted future cash flows are less than the carrying amount, the purchased other intangible assets with finite lives are considered to be impaired. The amount of the impairment is measured as the difference between the carrying amount of these assets and their estimated fair value. The fair value of the asset is estimated based on discounted future cash flows using a discount rate commensurate with the risk. Our estimate of future cash flows requires assumptions and judgment, including forecasting future sales and expenses and estimating useful lives of the assets. The use of different assumptions, estimates or judgments, such as the estimated future cash flows or the discount rate used to discount such cash flows, could significantly increase or decrease the estimated fair value of our other intangible assets with finite lives.

Income Taxes

We recognize deferred tax assets and liabilities for the expected future tax consequences of temporary differences between the financial statement carrying amounts and the tax basis of assets and liabilities. We establish valuation allowances when it is more likely than not that all or a portion of a deferred tax asset will not be realized. Changes in valuation allowances from period to period are included in the tax provision in the period of change. We consider all available positive and negative evidence in evaluating whether a valuation allowance is required, including prior earnings history, actual earnings over the previous 12 quarters on a cumulative basis, carryback and carryforward periods, and tax planning strategies that could potentially enhance the likelihood of realization of a deferred tax asset. Based on the weight of the positive and negative evidence, we recorded a valuation allowance during the 26 weeks ended July 30, 2016 and during fiscal 2015 and 2014 as described in Note 13. We are subject to periodic audits by the Internal Revenue Service and other taxing authorities. These audits may challenge certain of our tax positions such as the timing and amount of deductions and allocation of taxable income to the various tax jurisdictions. Determining income tax expense for tax contingencies requires management to make assumptions that are subject to factors such as proposed assessments by tax authorities, changes in facts and circumstances, issuance of new regulations, and resolution of tax audits. Actual results could materially differ from these estimates and could significantly affect the effective tax rate and cash flows in future years.

Rent Expense

Many of our operating leases contain free rent periods and predetermined fixed increases of the minimum rental rate during the initial lease term. For these leases, we recognize the related rental expense on a straight-line basis over the life of the lease, starting at the time we take possession of the property. Certain leases provide for contingent rents that are not measurable at inception. These amounts are excluded from minimum rent and are included in the determination of rent expense when it is probable that an expense has been incurred and the amount is reasonably estimable.

Lease Allowances

As part of many lease agreements, we receive allowances from landlords. The allowances are included in lease incentives and other liabilities and are amortized as a reduction of rent expense on a straight-line basis over the term of the lease, starting at the time we take possession of the property.

Self-Insurance

We are partially self-insured for workers’ compensation insurance. We record a liability, determined actuarially, for claims filed and claims incurred, but not yet reported. This liability totaled $7.9 million, $7.5 million and $6.6 million as of July 30, 2016, January 30, 2016 and January 31, 2015, respectively. Any actuarial projection of losses is subject to a high degree of variability due to external factors, including future inflation rates, litigation trends, legal interpretations, benefit level changes and claim

 

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settlement patterns. We also record a liability for employee-related health care benefits that are partially self-insured or fully self-insured, by considering claims filed and estimates of claims incurred, but not yet reported. This liability totaled $1.5 million, $1.4 million and $1.4 million as of July 30, 2016, January 30, 2016 and January 31, 2015, respectively. If the actual amount of claims filed exceeds our estimates, reserves in the accompanying consolidated balance sheets may not be sufficient and additional accruals may be required in future periods. These liabilities are included in accrued and other current liabilities in the accompanying consolidated balance sheets.

Foreign Currency

Assets and liabilities of foreign subsidiaries are translated into U.S. dollars at the exchange rates effective on the balance sheet date. Revenues, costs of sales, expenses and other income are translated at average rates of exchange prevailing during the year. Translation adjustments resulting from this process are recorded as other comprehensive income (loss) within stockholders’ (deficit) equity. Foreign currency transaction gains and losses that arise from exchange rate fluctuations on transactions denominated in a currency other than the local functional currency are included in other income (expense), net within the consolidated statements of operations.

Revenue Recognition

Revenue is recognized at the point of sale in retail stores. Online revenue is recorded when merchandise is received by the customer. Online customers generally receive merchandise within three to six days of shipment. Shipping fees received from customers are included in net sales and the associated shipping costs are included in cost of goods sold. We also sell gift cards in our retail store locations, through our online stores and through third parties. Revenue is recognized in the period that the gift card is redeemed. We recognize unredeemed gift card and merchandise credit balances when we can determine the portion of the liability for which redemption is remote (generally three years after issuance). These amounts are recorded within SG&A expenses and totaled $1.6 million, $2.9 million, $2.6 million, and $1.9 million during the 26 weeks ended July 30, 2016 and fiscal 2015, 2014, and 2013, respectively. Sales are presented net of sales return reserve, which is estimated based on historical return trends. Net retail sales also include revenue from our co-branded credit card agreements. We present taxes collected from customers and remitted to governmental authorities on a net basis (excluded from revenues).

Below is a summary of the sales return reserve activity for the periods ended (in thousands):

 

     26 Weeks Ended
July 30, 2016
     Year Ended  
        January 30, 2016      January 31, 2015      February 1, 2014  

Balance, beginning of period

   $ 1,668       $ 1,480       $ 1,434       $ 2,508   

Provision for sales return

     13,514         31,890         29,765         28,154   

Actual sales returns

     (13,577      (31,702      (29,719      (29,228
  

 

 

    

 

 

    

 

 

    

 

 

 

Balance, end of period

   $ 1,605       $ 1,668       $ 1,480       $ 1,434   
  

 

 

    

 

 

    

 

 

    

 

 

 

Sales return reserve is included in accrued and other current liabilities in the accompanying consolidated balance sheets.

Prior to the July 15, 2016 sale of the Gymboree Play & Music business, initial franchise and transfer fees for all sites sold in a territory were recognized as revenue when the franchisee paid the initial franchise or transfer fee, in the form of cash and/or a note payable, the franchisee fully executed a franchise agreement and we substantially completed our obligations under such agreement. We received royalties based on each franchisee’s gross receipts from operations. Such royalty fees were recognized when earned. We also recognized revenues from consumer products and equipment sold to franchisees at the time title transferred to the franchisees. Revenues of Gymboree Play & Music are presented as discontinued operations in the accompanying consolidated statements of operations (see Note 2).

For the retail franchise business, revenues consist of initial franchise fees, royalties and/or sales of authorized product. Initial franchise fees relating to area franchise sales are recognized as revenue when the franchisee has met all material conditions and we have substantially completed our obligations under such agreement, typically upon store opening. Royalties are generally based on each franchisee’s gross receipts from operations and are recorded when earned. Revenues from consumer products sold to franchisees are recorded at the time title transfers to the franchisees. We present taxes withheld by international franchises and remitted to governmental authorities on a gross basis (included in revenues).

Loyalty Program

Customers who enroll in the Gymboree Rewards program earn points with every purchase at Gymboree and Gymboree Outlet stores, as well as online at www.gymboree.com. Those customers who reach a cumulative purchase threshold receive a rewards certificate that can be used towards the future purchase of goods at Gymboree and Gymboree Outlet stores as well as online within 45 days from the date it is issued. We estimate the cost of rewards that will ultimately be redeemed and record this cost as a reduction of net retail sales as reward points are earned. This liability was approximately $0.5 million, $2.0 million and $1.8 million as of July 30, 2016, January 30, 2016 and January 31, 2015, respectively, and is included in accrued and other current liabilities in the accompanying consolidated balance sheets.

 

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Co-Branded Credit Card

We have co-branded credit card agreements (the “Agreements”) with a third-party bank and Visa U.S.A. Inc. for the issuance of a Visa credit card bearing the Gymboree logo and administration of an associated incentive program for cardholders. We recognize revenues related to the Agreements as follows:

 

   

New account fees are reported in retail sales and are when collection is reasonably assured and all conditions under the Agreements are met.

 

   

Credit card usage fees are recognized as retail revenues as actual credit card usage occurs.

 

   

Rewards earned are recorded as gift card liabilities and recognized as retail revenues when the gift cards are redeemed.

During the 26 weeks ended July 30, 2016 and fiscal 2015, 2014, and 2013, we recognized approximately $1.7 million, $3.5 million, $1.9 million, and $1.5 million, respectively, in revenue from these Agreements. These amounts are included in net retail sales in the accompanying consolidated statements of operations.

Cost of Goods Sold

Cost of goods sold (“COGS”) includes cost of goods, buying department expenses (including related depreciation), occupancy expenses (including amortization of below and above market leases), and shipping costs. Cost of goods consists of cost of merchandise, inbound freight and other inventory-related costs, such as shrinkage costs and lower of cost or market adjustments. Buying expenses include costs incurred to design, produce and allocate merchandise. Occupancy expenses consist of rent and other lease-required costs, including common area maintenance and utilities. Shipping costs consist of third-party delivery services to customers. As we record certain distribution expenses as a component of SG&A expenses and do not include such costs in cost of goods sold, our cost of goods sold and gross profit may not be comparable to those of other companies. Distribution expenses recorded as a component of SG&A expenses amounted to $24.0 million, $45.5 million, $43.1 million, and $37.9 million during the 26 weeks ended July 30, 2016 and fiscal 2015, 2014, and 2013, respectively.

Selling, General and Administrative Expenses (“SG&A”)

SG&A expenses consist of non-occupancy-related costs associated with our retail stores, distribution center and shared corporate services. These costs include payroll and benefits, depreciation and amortization, credit card fees, advertising, store pre-opening costs and other general expenses. Our distribution costs recorded in SG&A expenses represent primarily outbound shipping and handling expenses to our stores.

Store Pre-opening Costs

Store pre-opening costs are expensed as incurred.

Advertising

We capitalize direct costs for the development, production, and circulation of direct response advertising and amortize such costs over the expected sales realization cycle, typically four to six weeks. Deferred direct response costs, included in prepaid expenses, were $0.6 million, $1.0 million and $0.9 million as of July 30, 2016, January 30, 2016 and January 31, 2015, respectively.

All other advertising costs are expensed as incurred. Advertising costs totaled approximately $11.6 million, $31.1 million, $24.4 million, and $20.5 million, during the 26 weeks ended July 30, 2016 and fiscal 2015, 2014, and 2013, respectively.

Share-Based Compensation

We recognize compensation expense on a straight-line basis for options and awards with time-based service conditions.

Recently Issued Accounting Standards

In March 2016, the FASB issued ASU No. 2016-09, Compensation-stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting, which simplifies the accounting for share-based payment transactions, including the income tax consequences, classification of awards as either equity or liabilities, and classification on the statement of cash flows, among others. This ASU will be applied prospectively and is effective for fiscal years, and for interim periods within those fiscal years, beginning after December 15, 2016, with early adoption permitted. We believe this ASU will not have a significant impact on our consolidated financial statements.

 

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In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842). Under this ASU, lessees will be required to recognize the following for all leases (with the exception of short-term leases) at the commencement date: (i) a lease liability, which is a lessee’s obligation to make lease payments arising from a lease, measured on a discounted basis; and (ii) a right-of-use asset, which is an asset that represents the lessee’s right to use, or control the use of, a specified asset for the lease term. Under the new guidance, lessor accounting is largely unchanged and lessees will no longer be provided with a source of off-balance sheet financing. This ASU is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Early adoption is permitted. Lessees (for capital and operating leases) and lessors (for sales-type, direct financing, and operating leases) must apply a modified retrospective transition approach for leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements. The modified retrospective approach would not require any transition accounting for leases that expired before the earliest comparative period presented. Lessees and lessors may not apply a full retrospective transition approach. Although we have not yet determined the impact of the new standard, we believe this ASU will have a significant impact on our consolidated financial statements due to the substantial number of leases that we have.

In July 2015, the FASB issued ASU No. 2015-11, Inventory (Topic 330): Simplifying the Measurement of Inventory, which requires all inventory to be measured at the lower of cost and net realizable value, except for inventory that is accounted for using the last-in, first-out (LIFO) or the retail inventory method which will be measured under existing accounting standards. This ASU would be applied prospectively and is effective for fiscal years, and for interim periods within those fiscal years, beginning after December 15, 2016, with early adoption permitted. We have not yet determined the impact of the new standard on our consolidated financial statements.

In April 2015, the FASB issued ASU No. 2015-03, Interest-Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs, which requires that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability, consistent with debt discounts. The guidance in ASU No. 2015-03 does not address presentation or subsequent measurement of debt issuance costs related to line-of-credit arrangements. In August 2015, the FASB issued ASU No. 2015-15, Interest-Imputation of Interest (Subtopic 835-30): Presentation and Subsequent Measurement of Debt Issuance Costs Associated with Line-of-Credit Arrangements, which adds SEC paragraphs about the presentation and subsequent measurement of debt issuance costs associated with line-of-credit arrangements. Accordingly, the SEC staff would not object to the deferral and presentation of debt issuance costs related to line-of-credit arrangements as an asset and subsequently amortizing the deferred debt issuance costs ratably over the term of the line-of-credit arrangement, regardless of whether there are any outstanding borrowings on the line-of-credit arrangement. The amendments do not affect the current guidance on the recognition and measurement of debt issuance costs. Effective during the first quarter of fiscal 2016, we adopted ASU 2015-03 and applied the provisions retrospectively to all prior periods. As a result of this adoption, the unamortized debt issuance costs associated with our long-term debt and long-term sale-leaseback financing liability are presented as an offset against the long-term debt and long-term sale-leaseback financing liability, respectively, in the accompanying consolidated balance sheets. The unamortized debt issuance costs associated with our line of credit under our ABL Facility are included in other assets in the accompanying consolidated balance sheets. The unamortized debt issuance costs associated with our long-term debt and long-term sale-leaseback financing liability, which amounted to $16.3 million and $23.1 million as of January 30, 2016 and January 31, 2015, respectively, were reclassified from being a component of our total assets to a reduction of our long-term debt and long-term sale-leaseback financing liability in the accompanying consolidated balance sheets and in Notes 18 and 19. The unamortized debt issuance costs associated with our ABL Facility, which amounted to $2.8 million and $2.5 million as of January 30, 2016 and January 31, 2015, respectively, were reclassified from deferred financing costs to other assets in the accompanying consolidated balance sheets. Below is a summary of the changes made in the accompanying consolidated balance sheets as of January 30, 2016 and January 31, 2015 due to the reclassification of the unamortized debt issuance costs (in thousands):

 

     January 30, 2016      January 31, 2015  
     As Reported      Reclassification     As Restated      As Reported      Reclassification     As Restated  

ASSETS:

               

Deferred financing costs

   $ 19,019       $ (19,019   $ —         $ 25,622       $ (25,622   $ —     

Total assets

   $ 1,156,744       $ (16,268   $ 1,140,476       $ 1,187,943       $ (23,093   $ 1,164,850   

LIABILITIES AND STOCKHOLDERS’ DEFICIT:

               

Long-term debt, net

   $ 1,055,945       $ (15,439   $ 1,040,506       $ 1,114,048       $ (23,093   $ 1,090,955   

Long-term sale-leaseback financing liability, net

   $ 26,407       $ (829   $ 25,578       $ —         $ —        $ —     

Total liabilities

   $ 1,494,632       $ (16,268   $ 1,478,364       $ 1,520,208       $ (23,093   $ 1,497,115   

Total liabilities and stockholders’ deficit

   $ 1,156,744       $ (16,268   $ 1,140,476       $ 1,187,943       $ (23,093   $ 1,164,850   

 

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In August 2014, the FASB issued ASU No. 2014-15, Presentation of Financial Statements-Going Concern (Subtopic 205-40): Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern, to provide guidance on principles and definitions to reduce diversity in the timing and content of disclosures when evaluating whether there is substantial doubt about an organization’s ability to continue as a going concern. This ASU is effective in the annual period ending after December 15, 2016, with early adoption permitted. We have not yet determined the impact of the new standard on our consolidated financial statements.

In May 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers, to clarify the principles of recognizing revenue and create common revenue recognition guidance between U.S. generally accepted accounting principles and International Financial Reporting Standards. In August 2015, the FASB issued ASU No. 2015-14, Revenue from Contracts with Customers-Deferral of Effective Date, which defers the effective date of ASU 2014-09 by one year, for fiscal years and interim periods within those years, beginning after December 15, 2017. The deferral allows early adoption at the original effective date. We have not yet determined the impact of the new standard on our consolidated financial statements.

 

2. Discontinued Operations

Gymboree Play & Music

On July 15, 2016, we closed a transaction to sell all of the equity and certain intellectual property attributable to Gymboree Play Programs, Inc. (“Play & Music” or “GPPI”), the Company’s global Play & Music business, to Zeavion Holding Pte. Ltd. (“Zeavion”) for consideration of $127.5 million prior to certain purchase price adjustments pursuant to the Share Purchase Agreement (“SPA”). Upon closing, the Company received consideration of $128.1 million which includes a purchase price adjustment of $0.6 million related to the excess of GPPI’s net working capital over a certain target pursuant to the SPA. In connection with the sale, the Company also entered into a License and Assignment Agreement (“License Agreement”), which became effective upon the closing of the transaction. The License Agreement includes the transfer of ownership of intellectual properties attributed to Gymboree Play & Music to Zeavion and the grant of a royalty-free and perpetual license of Company-owned trade names (e.g., “Gymboree” when used in connection with the “Play & Music” trade name) to Zeavion, an unrelated third party. We also entered into a transition services agreement and an employee lease agreement with Zeavion at the closing of the transaction, which were not significant.

Of the $128.1 million of proceeds received upon closing, approximately $127.1 million was attributed to the sale of GPPI and approximately $1.0 million was attributed to the transition services agreement, which will be recognized as income over a period of 1 year as services are performed. During the 26 weeks ended July 30, 2016, the Company recognized a $70.0 million gain on sale of GPPI and included such amount in income from discontinued operations in the consolidated statements of operations.

Of the $128.1 million of proceeds received upon closing, approximately $109.9 million of is restricted under the Term Loan to reduce the Term Loan, fund capital expenditures or pay income taxes associated with the gain on the sale of GPPI. As of July 30, 2016, the remaining balance of the restricted cash was $107.1 million.

Variable Interest Entities (Gymboree Tianjin and Gymboree China)

Concurrent with the July 15, 2016 sale of GPPI, our Variable Interest Entities (“VIEs”), Gymboree Tianjin (master franchisee of Gymboree Play & Music in China) and Gymboree China (operator of Gymboree retail stores in China), indirectly controlled by Gymboree Holding, Ltd. and investment funds sponsored by Bain Capital, were also sold to Zeavion.

In accordance with ASC 205-20, Presentation - Discontinued Operations , the sale of our global Play & Music business (including GPPI and Gymboree Tianjin) was determined to represent a strategic shift to the Company’s business and therefore, the financial results of GPPI and Gymboree Tianjin as of and for the 26 weeks ended July 30, 2016, and for all historical periods presented, have been reported as discontinued operations in the accompanying consolidated financial statements. Due to its insignificance to our consolidated financial statements, Gymboree China has not been reported as discontinued operations. However, pursuant to ASC 810-10, Consolidation , we have deconsolidated Gymboree China’s financial results as of July 15, 2016, the date of sale, as we are no longer the primary beneficiary. Gymboree Play & Music, Gymboree Tianjin and Gymboree China were previously reported under the Gymboree Play & Music and VIEs reportable segments, respectively, in our segment footnote disclosure.

Below is the composition of income from discontinued operations for the periods ended (in thousands):

 

     26 Weeks Ended
July 30, 2016
     Year Ended  
        January 30, 2016      January 31, 2015      February 1, 2014  

Net Sales

   $ 20,317       $ 41,212       $ 30,908       $ 25,685   

Cost of goods sold, including occupancy expenses

     (3,907      (8,350      (6,331      (5,678

Selling, general and administrative expenses

     (9,482      (16,611      (13,263      (12,807

Other (expense) income, net

     532         (29      (42      267   
  

 

 

    

 

 

    

 

 

    

 

 

 

Income from discontinued operations, before tax

     7,460         16,222         11,272         7,467   

Gain on sale of Gymboree Play & Music, before tax

     70,008         —           —           —     
  

 

 

    

 

 

    

 

 

    

 

 

 

Total income from discontinued operations, before tax

     77,468         16,222         11,272         7,467   

Income tax expense

     (14,429      (3,209      (2,514      (424
  

 

 

    

 

 

    

 

 

    

 

 

 

Income from discontinued operations, net tax

     63,039         13,013         8,758         7,043   

Income from discontinued operations attributable to noncontrolling interest

     (4,006      (6,433      (133      (1,674
  

 

 

    

 

 

    

 

 

    

 

 

 

Income from discontinued operations attributable to The Gymboree Corporation

   $ 59,033       $ 6,580       $ 8,625       $ 5,369   
  

 

 

    

 

 

    

 

 

    

 

 

 

 

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Total income from discontinued operations, before tax, consists of (in thousands):

 

     26 Weeks Ended
July 30, 2016
     Year Ended  
        January 30, 2016      January 31, 2015      February 1, 2014  

Income from discontinued operations attributable to The Gymboree Corporation, before tax

   $ 72,334       $ 7,217       $ 9,388       $ 6,150   

Income from discontinued operations attributable to noncontrolling interest, before tax

     5,134         9,005         1,884         1,317   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total income from discontinued operations, before tax

   $ 77,468       $ 16,222       $ 11,272       $ 7,467   
  

 

 

    

 

 

    

 

 

    

 

 

 

Below is a summary of the assets and liabilities of discontinued operations as of the periods ended (in thousands):

 

     January 30, 2016      January 31, 2015  

ASSETS:

     

Cash and cash equivalents

   $ 8,390       $ 7,429   

Accounts receivable, net

     5,589         3,421   

Merchandise inventories

     3,810         2,542   

Other current assets

     421         1,720   
  

 

 

    

 

 

 

Total current assets of discontinued operations

     18,210         15,112   
  

 

 

    

 

 

 

Net property and equipment

     2,928         3,304   

Goodwill

     16,389         16,389   

Other intangible assets, net

     37,403         37,533   

Other assets

     1,625         857   
  

 

 

    

 

 

 

Total other assets of discontinued operations

     58,345         58,083   
  

 

 

    

 

 

 

Total assets of discontinued operations

   $ 76,555       $ 73,195   
  

 

 

    

 

 

 

LIABILITIES:

     

Accounts payable and accrued liabilities

   $ 13,300       $ 9,224   

Other long-term liabilities

     310         704   
  

 

 

    

 

 

 

Total liabilities of discontinued operations

   $ 13,610       $ 9,928   
  

 

 

    

 

 

 

Below is a summary of cash flows from operating and investing activities attributable to continuing and discontinued operations for the periods ended (in thousands):

 

     26 Weeks Ended
July 30, 2016
     Year Ended  
        January 30, 2016      January 31, 2015      February 1, 2014  

CASH FLOWS FROM OPERATING ACTIVITIES:

           

Net cash (used in) provided by operating activities of continuing operations

   $ (11,062    $ 12,571       $ (33,320    $ 67,444   

Net cash (used in) provided by operating activities of discontinued operations

     (14,651      16,569         11,562         7,427   
  

 

 

    

 

 

    

 

 

    

 

 

 

Net cash (used in) provided by operating activities

   $ (25,713    $ 29,140       $ (21,758    $ 74,871   
  

 

 

    

 

 

    

 

 

    

 

 

 

CASH FLOWS FROM INVESTING ACTIVITIES:

           

Net cash (used in) provided by investing activities of continuing operations

   $ (118,300    $ (20,333    $ (29,438    $ (51,766

Net cash provided by (used in) investing activities of discontinued operations

     128,305         (2,267      (2,504      (1,360
  

 

 

    

 

 

    

 

 

    

 

 

 

Net cash provided by (used in) investing activities

   $ 10,005       $ (22,600    $ (31,942    $ (53,126
  

 

 

    

 

 

    

 

 

    

 

 

 

 

3. Fair Value Measurements

We record our money market funds, interest rate caps and forward foreign exchange contracts at fair value. Fair value is the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. As such, fair value is a market-based measurement that should be determined based on assumptions that market participants would use in pricing an asset or a liability. Accounting guidance prioritizes the inputs used to measure fair value into three levels and bases the categorization within the hierarchy upon the lowest level of input that is available and significant to the fair value measurement:

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

Level 2 – Inputs that are based upon quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-based valuation techniques for which all significant inputs are observable in the market or can be derived from observable market data.

Level 3 – Inputs that cannot be corroborated by observable market data and reflect the use of significant management judgment. Valuation techniques could include the use of discounted cash flow models and similar techniques.

 

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In instances where the determination of the fair value measurement is based on inputs from different levels of the fair value hierarchy, the level in the fair value hierarchy within which the fair value measurement in its entirety is classified is based on the lowest level input that is significant to the fair value measurement in its entirety. Our assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment, and considers factors specific to the asset or liability.

Assets and Liabilities Measured at Fair Value on a Recurring Basis

The tables below present our assets and liabilities measured at fair value on a recurring basis as of July 30, 2016, January 30, 2016 and January 31, 2015, aggregated by the level in the fair value hierarchy within which those measurements fall (in thousands). There were no transfers into or out of Level 1 and Level 2 during the 26 weeks ended July 30, 2016, fiscal 2015 or fiscal 2014.

 

     July 30, 2016  
     Quoted Prices in
Active Markets for
Identical Assets
(Level 1)
     Significant Other
Observable Inputs
(Level 2)
     Significant
Unobservable
Inputs

(Level 3)
     Total Fair Value  

Assets

           

Money market funds:

           

Restricted

   $ 107,071       $ —         $ —         $ 107,071   

Unrestricted

     3,230         —           —           3,230   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 110,301       $ —         $ —         $ 110,301   
  

 

 

    

 

 

    

 

 

    

 

 

 

Liabilities

           

Forward foreign exchange contracts

   $ —         $ 123       $ —         $ 123   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ —         $ 123       $ —         $ 123   
  

 

 

    

 

 

    

 

 

    

 

 

 
     January 30, 2016  
     Quoted Prices in
Active Markets for
Identical Assets

(Level 1)
     Significant Other
Observable Inputs
(Level 2)
     Significant
Unobservable
Inputs

(Level 3)
     Total Fair Value  

Liabilities

           

Forward foreign exchange contracts

   $ —         $ 145       $ —         $ 145   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ —         $ 145       $ —         $ 145   
  

 

 

    

 

 

    

 

 

    

 

 

 
     January 31, 2015  
     Quoted Prices in
Active Markets for
Identical Assets
(Level 1)
     Significant Other
Observable Inputs
(Level 2)
     Significant
Unobservable
Inputs

(Level 3)
     Total Fair Value  

Assets

           

Interest rate caps

   $ —         $ 17       $ —         $ 17   

Forward foreign exchange contracts

     —           96         —           96   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ —         $ 113       $ —         $ 113   
  

 

 

    

 

 

    

 

 

    

 

 

 

Our cash equivalents and restricted cash, which are primarily placed in money market funds, are valued at their original purchase prices plus interest that has accrued at the stated rate.

The fair value of our forward foreign exchange contracts was determined using the market approach and Level 2 inputs. The market approach uses prices and other relevant information generated by market transactions involving identical or comparable assets and liabilities.

 

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The carrying value of cash and cash equivalents, restricted cash, receivables, line of credit borrowings and payables balances approximate their estimated fair values due to the short maturities of these instruments. We estimate the fair value of our long-term debt using current market yields. These current market yields are considered Level 2 inputs. The estimated fair value of long-term debt is as follows (in thousands):

 

     July 30, 2016      January 30, 2016      January 31, 2015  
     Carrying
Amount
    Fair Value      Carrying
Amount
    Fair Value      Carrying
Amount
    Fair Value  

Term loan

   $ 769,102      $ 592,209       $ 769,102      $ 399,933       $ 769,102      $ 530,680   

Notes

     171,006        68,402         287,575        71,894         346,000        128,020   

ABL term loan

     50,000        50,000         —          —           —          —     

Less unamortized discount and deferred financing costs

     (13,679     —           (16,171     —           (24,147     —     
  

 

 

   

 

 

    

 

 

   

 

 

    

 

 

   

 

 

 

Total

   $ 976,429      $ 710,611       $ 1,040,506      $ 471,827       $ 1,090,955      $ 658,700   
  

 

 

   

 

 

    

 

 

   

 

 

    

 

 

   

 

 

 

We had no other financial assets or liabilities measured at fair value as of July 30, 2016, January 30, 2016 and January 31, 2015.

Assets and Liabilities Measured at Fair Value on a Non-Recurring Basis

Our non-financial assets, which primarily consist of goodwill, other intangible assets and property and equipment, are not required to be measured at fair value on a recurring basis and are reported at carrying value. However, on a periodic basis whenever events or changes in circumstances indicate their carrying value may not be fully recoverable, and at least annually for goodwill and indefinite-lived intangible assets, non-financial assets are assessed for impairment and, if applicable, written-down to and recorded at fair value, considering external market participant assumptions.

During the 26 weeks ended July 30, 2016, we determined that there was no goodwill impairment for any of our reporting units. However, we recorded $2.6 million of impairment related to our indefinite-lived intangible assets (trade names) (see Note 4).

During fiscal 2015, we determined that there was no goodwill impairment for all of our reporting units and there was no impairment on our indefinite-lived intangible assets (trade names) (see Note 4).

During fiscal 2014, we recorded $378.8 million of goodwill impairment related to our Gymboree Retail, Gymboree Outlet, and Crazy 8 reporting units and $212.6 million of impairment related to our indefinite-lived intangible assets (see Note 4).

During fiscal 2013, we recorded $140.2 million of goodwill impairment related to our Gymboree Retail, Gymboree Outlet, and Crazy 8 reporting units and $17.0 million of impairment related to our indefinite-lived intangible assets (see Note 4).

During the 26 weeks ended July 30, 2016, and fiscal 2015, 2014, and 2013, we recorded impairment charges of $0.5 million, $1.3 million, $6.0 million, and $7.6 million, respectively, related to assets of under-performing stores. The fair market value of these non-financial assets was determined using the income approach and Level 3 inputs, which required management to make significant estimates about future cash flows. Management estimates the amount and timing of future cash flows based on historical operating results and its experience and knowledge of the retail market in which each store operates. During fiscal 2013, we also recorded $3.1 million of impairment related to an abandonment of assets. These impairment charges are included in SG&A expenses in the accompanying consolidated statement of operations.

 

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4. Goodwill and Intangible Assets and Liabilities

Goodwill

Goodwill allocated to our reportable segments as of July 30, 2016, January 30, 2016, January 31, 2015, and February 1, 2014, is as follows (in thousands):

 

     Retail Stores
Segment
     International Retail
Franchise Segment
     Total  

Balance as of July 30, 2016

        

Goodwill

   $ 887,241       $ 23,636       $ 910,877   

Accumulated impairment losses

     (547,285      —           (547,285

Effect of exchange rate fluctuations

     (6,551      —           (6,551
  

 

 

    

 

 

    

 

 

 
   $ 333,405       $ 23,636       $ 357,041   
  

 

 

    

 

 

    

 

 

 

Balance as of January 30, 2016

        

Goodwill

   $ 887,241       $ 23,636       $ 910,877   

Accumulated impairment losses

     (547,285      —           (547,285

Effect of exchange rate fluctuations

     (7,244      —           (7,244
  

 

 

    

 

 

    

 

 

 
   $ 332,712       $ 23,636       $ 356,348   
  

 

 

    

 

 

    

 

 

 

Balance as of January 31, 2015

        

Goodwill

   $ 887,241       $ 23,636       $ 910,877   

Accumulated impairment losses

     (547,285      —           (547,285

Effect of exchange rate fluctuations

     (6,147      —           (6,147
  

 

 

    

 

 

    

 

 

 
   $ 333,809       $ 23,636       $ 357,445   
  

 

 

    

 

 

    

 

 

 

Balance as of February 1, 2014

        

Goodwill

   $ 887,241       $ 23,636       $ 910,877   

Accumulated impairment losses

     (168,489      —           (168,489
  

 

 

    

 

 

    

 

 

 
   $ 718,752       $ 23,636       $ 742,388   
  

 

 

    

 

 

    

 

 

 

During the 26 weeks ended July 30, 2016 and fiscal 2015, we determined that there was no goodwill impairment for any of our reporting units. Goodwill impairment during fiscal 2014 and 2013 are as follows (in thousands):

 

Fiscal Year

   Retail Stores
Segment
     International Retail
Franchise Segment
     Total  

2014

   $ (378,796    $ —         $ (378,796

2013

   $ (140,189    $ —         $ (140,189

Goodwill Impairment

Goodwill is allocated to our reporting units, which are the same as our operating segments: Gymboree Retail (including an online store), Gymboree Outlet, Janie and Jack (including an online store) and International Retail Franchise. We evaluate goodwill for impairment on an annual basis at the end of our fourth fiscal period (fiscal November) each year and at an interim date if indicators of impairment exist.

In connection with the softening of the retail environment and performance that did not meet expectations during the 13 weeks ended July 30, 2016, we revised our growth assumptions based on actual results and estimates of future operations. The updated assumptions resulted in a plan that reflects slower growth in revenues in certain reporting units, specifically Gymboree Retail and International Retail Franchise. We considered this to be a triggering event and performed the first step of the two-step goodwill impairment test during the 13 weeks ended July 30, 2016. The results of the Step 1 test indicated that no goodwill impairment was required for any of our reporting units for the 13 or 26 weeks ended July 30, 2016 as the fair value of each of our reporting units exceeded its carrying value by more than 40%.

The goodwill impairment analysis for the reporting units was based on our projection of revenues, gross margin, operating costs and cash flows considering historical and estimated future results, general economic and market conditions, as well as the impact of planned business and operational strategies. We based our fair value estimates on assumptions we believed to be reasonable at the time, but such assumptions are subject to inherent uncertainty. Actual results may differ from those estimates. The valuations

 

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employed present value techniques to measure fair value and considered market factors and reporting unit specific developments. We primarily used an income approach to value these reporting units. The discount rates used in the income approach ranged from 13.0% to 16.5%. We also considered a market approach. Assumptions used in the market approach include valuation multiples based on analysis of multiples for comparable public companies. Finally, specific weights were applied to the components of each approach to estimate the total implied fair value. These weights are estimates by management and are developed based on the specific characteristics, risks and uncertainties of each reporting unit.

During fiscal 2014, we recognized goodwill impairment in the Gymboree Retail, Gymboree Outlet, and Crazy 8 reporting units, components of our retail stores reporting segment, of approximately $252.3 million, $67.2 million and $59.3 million, respectively (see Note 3).

During fiscal 2013, due to the impact of weak results in fiscal 2013, particularly in the fourth quarter, we recognized goodwill impairment in the Crazy 8, Gymboree Retail and Gymboree Outlet reporting units, components of our retail stores reporting segment, of $85.3 million, $38.8 million and $16.1 million, respectively (see Note 3).

Intangible Assets and Liabilities

Intangible assets and liabilities consist of the following (in thousands):

 

     July 30, 2016  
     Gross Carrying
Amount
     Accumulated
Amortization
     Accumulated
Impairment
     Net Amount  

Intangible assets not subject to amortization -

           

Trade names

   $ 530,800       $ —         $ (232,200    $ 298,600   

Intangible assets subject to amortization

     12,135         (10,662      —           1,473   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total other intangible assets

   $ 542,935       $ (10,662    $ (232,200    $ 300,073   
  

 

 

    

 

 

    

 

 

    

 

 

 

Intangible liabilities subject to amortization -

           

Above market leases (included in Lease incentives and other liabilities)

   $ (10,229    $ 7,905       $ —         $ (2,324
  

 

 

    

 

 

    

 

 

    

 

 

 

 

     January 30, 2016  
     Gross Carrying
Amount
     Accumulated
Amortization