FLOOR & DECOR HOLDINGS, INC. The following discussion and analysis of the financial condition and results of our operations should be read together with the financial statements and related notes ofFloor & Decor Holdings, Inc. and Subsidiaries included in Item 1 of this quarterly report on Form 10-Q (this "Quarterly Report") and with our audited financial statements and the related notes included in our Annual Report on Form 10-K for the fiscal year endedDecember 31, 2020 and filed with theSecurities and Exchange Commission (the "SEC") onFebruary 25, 2021 (the "Annual Report"). As used in this Quarterly Report, except where the context otherwise requires or where otherwise indicated, the terms "Floor & Decor ," "Company," "we," "our" or "us" refer toFloor & Decor Holdings, Inc. and its subsidiaries. Forward-Looking Statements The discussion in this Quarterly Report, including under this Item 2, "Management's Discussion and Analysis of Financial Condition and Results of Operations" of Part I and Item 1A, "Risk Factors" of Part II, contains forward-looking statements within the meaning of the federal securities laws. All statements other than statements of historical fact contained in this Quarterly Report, including statements regarding the Company's future operating results and financial position, expectations related to our acquisition ofSpartan Surfaces, Inc. ("Spartan"), business strategy and plans, objectives of management for future operations, and the impact of the coronavirus (COVID-19) pandemic, are forward-looking statements. These statements are based on our current expectations, assumptions, estimates and projections. These statements involve known and unknown risks, uncertainties and other important factors that may cause our actual results, performance or achievements to be materially different from any future results, performance or achievements expressed or implied by the forward-looking statements. In some cases, you can identify forward-looking statements by terms such as "may," "will," "should," "expects," "intends," "plans," "anticipates," "could," "seeks," "target," "projects," "contemplates," "believes," "estimates," "predicts," "budget," "potential" or "continue" or the negative of these terms or other similar expressions. The forward-looking statements contained in this Quarterly Report are only predictions. Although we believe that the expectations reflected in the forward-looking statements in this Quarterly Report are reasonable, we cannot guarantee future events, results, performance or achievements. A number of important factors could cause actual results to differ materially from those indicated by the forward-looking statements in this Quarterly Report, including, without limitation, those factors described in this Item 2, "Management's Discussion and Analysis of Financial Condition and Results of Operations" of Part I and Item 1A, "Risk Factors" of Part II. Some of the key factors that could cause actual results to differ from our expectations include the following: •an overall decline in the health of the economy, the hard surface flooring industry, consumer spending and the housing market; including as a result of the COVID-19 pandemic; •an economic recession or depression, including as a result of the COVID-19 pandemic; •any disruption in our supply chain, including carrier capacity constraints, higher shipping prices and other supply chain costs or product shortages; •the inability to staff our stores and distribution centers sufficiently, including for reasons due to the COVID-19 pandemic and other impacts of the COVID-19 pandemic; •a pandemic, such as COVID-19, or other natural disaster or unexpected event, and its impacts on our suppliers, customers, employees, lenders, operations, including our ability to operate our distribution centers and stores or on the credit markets or our future financial and operating results; •our failure to successfully anticipate consumer preferences and demand; •impact of acquired companies, including Spartan; •our inability to manage our growth; •our inability to manage costs and risks relating to new store openings; •geopolitical risks that impact our ability to import from foreign suppliers; •our dependence on foreign imports for the products we sell, which may include the impact of tariffs and other duties; •suppliers may sell similar or identical products to our competitors; 21
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•competition from other stores and internet-based competition; •any disruption in our distribution capabilities, including from difficulties operating our distribution centers; •fluctuations in commodity, material, transportation and energy costs, including the impact such increases could have on the cost of goods sold; •global inflationary pressures on raw materials could cause our vendors to seek further price increases on the products we sell; •our failure to execute our business strategy effectively and deliver value to our customers; •our inability to manage our inventory obsolescence, shrinkage and damage; •our inability to find available locations for our stores on terms acceptable to us; •our inability to maintain sufficient levels of cash flow or liquidity to meet growth expectations; •violations of laws and regulations applicable to us or our suppliers; •our inability to obtain merchandise on a timely basis at prices acceptable to us; •our failure to adequately protect against security breaches involving our information technology systems and customer information; •the resignation, incapacitation or death of any key personnel; •our inability to find, train and retain key personnel; •fluctuations in material and energy costs; and •restrictions imposed by our indebtedness on our current and future operations. Because forward-looking statements are inherently subject to risks and uncertainties, some of which cannot be predicted or quantified, you should not rely on these forward-looking statements as predictions of future events. The forward-looking statements contained in this Quarterly Report speak only as of the date hereof. New risks and uncertainties arise over time, and it is not possible for us to predict those events or how they may affect us. If a change to the events and circumstances reflected in our forward-looking statements occurs, our business, financial condition and operating results may vary materially from those expressed in our forward-looking statements. Except as required by applicable law, we do not plan to publicly update or revise any forward-looking statements contained herein, whether as a result of any new information, future events or otherwise. Overview Founded in 2000,Floor & Decor is a high growth, differentiated, multi-channel specialty retailer and commercial flooring distributor of hard surface flooring and related accessories with 153 warehouse format stores across 33 states as ofSeptember 30, 2021 . We believe that we offer the industry's broadest in-stock assortment of tile, wood, laminate, vinyl, and natural stone flooring along with decorative and installation accessories and adjacent categories at everyday low prices positioning us as the one-stop destination for our customers' entire hard surface flooring needs. We appeal to a variety of customers, including professional installers and commercial businesses ("Pro"), Do it Yourself customers ("DIY"), and customers who buy the products for professional installation ("Buy it Yourself" or "BIY"). We operate on a 52- or 53-week fiscal year ending the Thursday on or precedingDecember 31 . The following discussion contains references to the first thirty-nine weeks of fiscal 2021 and fiscal 2020, which ended onSeptember 30, 2021 andSeptember 24, 2020 , respectively. During the thirty-nine weeks endedSeptember 30, 2021 , we continued to make long-term key strategic investments, including: •investing in new solutions for new and existing commercial customers through our purchase of Spartan, a specialty hard-surface flooring distribution company that primarily serves the architectural and design community, end-users, and commercial flooring contractors (refer to Note 8, "Acquisition" for additional details); 22
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•supporting our stores and distribution centers during this heightened period of sales, with particular emphasis on increasing staffing levels and working collaboratively throughout our supply chain to improve our in-stock inventory levels; •opening 20 new warehouse-format stores, ending the quarter with 153 warehouse-format stores and two design studios; •focusing on innovative new products and localized assortments, supported by inspirational in-store and online visual merchandising solutions; •investing in our connected customer, in-store designer, and customer relationship and store focused technology; •adding more resources dedicated to serving our Pro customers, including hiring a professional external sales staff to drive more commercial sales; •providing proprietary credit offerings, including through our non-recourse Pro credit card; and •investing capital to continue enhancing the in-store shopping experience for our customers. COVID-19 Update As the COVID-19 pandemic continues in fiscal 2021, we remain focused on five priorities while navigating through this period of volatility and uncertainty: •First, protect the health and safety of our employees and customers through enhanced safety and sanitation measures at our stores, distribution centers, and store support center. •Second, keep our brand strong and support all of our customers, including the numerous small businesses that rely upon us such as general contractors and flooring installers. •Third, invest in store and distribution center staffing to support the heightened demand. •Fourth, work with all our supply chain partners to increase our in-stock inventory positions. •Fifth, positionFloor & Decor to emerge strong from this event. We are working hard to continue monitoring and quickly responding to the ongoing impacts of the COVID-19 pandemic, including communicating often throughout the organization and adapting our operations to follow evolving federal, state, and local ordinances as well as health guidelines on mitigating the risk of COVID-19 transmission. We have teams in place monitoring this evolving situation and recommending risk mitigation actions, and we are encouraging social distancing practices. We have also assessed and continue to implement supply chain continuity plans. While sales have remained strong as we continue to maintain a broad assortment of in-stock inventory, COVID-19-related labor shortages and supply chain disruptions continue to cause logistical challenges for us and the entire hard surface flooring industry. In particular, there is significant congestion at ports of entry tothe United States , which is increasing the time and cost to ship goods to our distribution centers and stores and has resulted in a decrease in our in-stock levels for certain products. While we believe that we can pass these higher transportation costs to our customers, the potential significance and duration of these elevated costs is uncertain. We are working closely with our suppliers and transportation partners to mitigate the impact of these disruptions; however, future capacity shortages or shipping cost increases could have an adverse impact upon our business. 23
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In addition, while vaccines have become more widely available and an increasing portion of theU.S. population is being vaccinated, there remains substantial uncertainty regarding the potential duration and severity of the COVID-19 pandemic, including if or when "herd immunity" will be achieved and the public health restrictions imposed to slow the spread of the virus will be lifted entirely. There may also be future "waves" or new variants of COVID-19 infections despite mass vaccination programs and other efforts to mitigate its spread. Although our stores are currently open to the public, we may face future closure requirements and other operational restrictions at some or all of our physical locations for prolonged periods of time if federal, state, and local authorities impose new and potentially more stringent restrictions such as shelter-in-place orders. We also may face store closures due to staffing challenges, including if store and distribution center associates are in quarantine due to the COVID-19 pandemic. We also do not know what impact the proposed federal vaccine and testing mandate applicable to large employers will have on our business. In addition, changes in consumer behavior due to financial, health, or other concerns may continue even after the COVID-19 pandemic and may reduce consumer demand for our products. Further, some of the countries from which we source inventory and other necessary supplies are not vaccinating their populations as quickly or effectively as theU.S. , which could further constrain our ability to obtain inventory and other necessary supplies. As a result of these and other uncertainties, the full financial impact of the pandemic cannot be reasonably estimated at this time. Key Performance Indicators We consider a variety of performance and financial measures in assessing the performance of our business. The key performance and financial measures we use to determine how our business is performing are comparable store sales, the number of new store openings, gross profit and gross margin, operating income, and EBITDA and Adjusted EBITDA. Other than as noted below, for definitions and a discussion of how we use our key performance indicators, see the "Key Performance Indicators" section of "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations" of our Annual Report. See "Non-GAAP Financial Measures" below for a discussion of how we define EBITDA and Adjusted EBITDA and a reconciliation of EBITDA and Adjusted EBITDA to net income, the most directly comparable financial measure calculated and presented in accordance with accounting principles generally accepted inthe United States ("GAAP"). Comparable Store Sales Comparable store sales refer to period-over-period comparisons of our net sales among the comparable store base and are based on when the customer obtains control of the product, which is typically at the time of sale. A store is included in the comparable store sales calculation on the first day of the thirteenth full fiscal month following a store's opening, which is when we believe comparability has been achieved. Changes in our comparable store sales between two periods are based on net sales for stores that were in operation during both of the two periods. Any change in the square footage of an existing comparable store, including for remodels and relocations within the same primary trade area of the existing store being relocated, does not eliminate that store from inclusion in the calculation of comparable store sales. Stores that are closed for a full fiscal month or longer are excluded from the comparable store sales calculation for each full fiscal month that they are closed. Since our e-commerce, regional account manager, and design studio sales are fulfilled by individual stores, they are included in comparable store sales only to the extent the fulfilling store meets the above mentioned store criteria. Sales through our Spartan subsidiary do not involve our stores and are therefore excluded from the comparable store sales calculation. Other key financial terms we use include net sales, selling and store operating expenses, general and administrative expenses, and pre-opening expenses. For definitions and a discussion of how we use other key financial terms, see the "Other Key Financial Definitions" section of "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations" of our Annual Report. 24
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Results of Operations While our revenue and earnings were strong during the thirty-nine weeks endedSeptember 30, 2021 compared to the thirty-nine weeks endedSeptember 24, 2020 , the full impact that the COVID-19 pandemic could have on our business remains highly uncertain. See "Management's Discussion and Analysis of Financial Condition and Results of Operations -COVID-19 Update" and Item 1A., "Risk Factors" for more information about the potential impacts that the COVID-19 pandemic may have on our results of operations and overall financial performance for future periods. The following table summarizes key components of our results of operations for the periods indicated, in dollars and as a percentage of net sales (actuals in thousands; dollar changes in millions; certain numbers may not sum due to rounding):
Thirteen Weeks Ended
September 30, 2021 September 24, 2020
Actual % of Sales Actual % of Sales $ Increase/(Decrease) % Increase/(Decrease)
Net sales $ 876,553 100.0 % $ 684,847 100.0 % $ 191.7 28.0 %
Cost of sales 511,245 58.3 390,219 57.0 121.0 31.0
Gross profit 365,308 41.7 294,628 43.0 70.7 24.0
Operating expenses:
Selling and store operating 218,690 24.9 171,513 25.0 47.2 27.5
General and administrative 52,488 6.0 39,286 5.7 13.2 33.6
Pre-opening 10,733 1.2 5,027 0.7 5.7 113.5
Total operating expenses 281,911 32.2 215,826 31.5 66.1 30.6
Operating income 83,397 9.5 78,802 11.5 4.6 5.8
Interest expense, net 1,124 0.1 2,024 0.3 (0.9) (44.5)
Income before income taxes 82,273 9.4 76,778 11.2 5.5 7.2
Provision for income taxes 7,628 0.9 8,004 1.2 (0.4) (4.7)
Net income $ 74,645 8.5 % $ 68,774 10.0 % $ 5.9 8.5 %
Thirty-nine Weeks Ended
September 30, 2021 September 24, 2020
Actual % of Sales Actual % of Sales $ Increase/(Decrease) % Increase/(Decrease)
Net sales $ 2,519,198 100.0 % $ 1,702,136 100.0 % $ 817.1 48.0 %
Cost of sales 1,451,519 57.6 974,784 57.3 476.7 48.9
Gross profit 1,067,679 42.4 727,352 42.7 340.3 46.8
Operating expenses:
Selling and store operating 613,708 24.4 463,036 27.2 150.7 32.5
General and administrative 149,348 5.9 103,857 6.1 45.5 43.8
Pre-opening 26,720 1.1 13,894 0.8 12.8 92.3
Total operating expenses 789,776 31.4 580,787 34.1 209.0 36.0
Operating income 277,903 11.0 146,565 8.6 131.3 89.6
Interest expense, net 3,805 0.2 6,134 0.4 (2.3) (38.0)
Gain on early extinguishment of
debt - - (1,015) (0.1) 1.0 NM
Income before income taxes 274,098 10.9 141,446 8.3 132.7 93.8
Provision for income taxes 40,741 1.6 3,605 0.2 37.1 NM
Net income $ 233,357 9.3 % $ 137,841 8.1 % $ 95.5 69.3 %
NM - Not Meaningful
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Selected Financial Information
Thirteen Weeks Ended Thirty-nine Weeks Ended
September 30, September 30,
2021 September 24, 2020 2021 September 24, 2020
Comparable store sales (% change) 10.9 % 18.4 % 33.1 % - %
Comparable average ticket (% change) 8.3 % (0.5) % 4.7 % 1.4 %
Comparable customer transactions (% change) 2.4 % 18.9 % 27.1 % (1.4) %
Number of warehouse-format stores 153 128 153 128
Adjusted EBITDA (in thousands) (1) $ 120,242 $ 106,728 $ 384,341 $ 225,409
Adjusted EBITDA margin 13.7 % 15.6 % 15.3 % 13.2 %
(1) Adjusted EBITDA is a non-GAAP financial measure. See "Non-GAAP Financial
Measures" section below for additional information and a reconciliation of
Adjusted EBITDA to net income.
Net Sales
Net sales during the thirteen weeks ended September 30, 2021 increased
$191.7 million , or 28.0%, compared to the corresponding prior year period
primarily due to an increase in comparable store sales of 10.9% and sales from
the 25 new warehouse stores that we opened since September 24, 2020 . The
comparable store sales increase during the period of 10.9%, or $74.8 million ,
was driven by a 2.4% increase in comparable customer transactions and an 8.3%
increase in comparable average ticket. Among our seven product categories, six
experienced comparable store sales increases during the period including tile,
laminate / luxury vinyl plank, decorative accessories / wall tile, installation
materials and tools, natural stone, and adjacent categories. Non-comparable
store sales increased $116.9 million during the same period primarily due to the
increase in new stores and the acquisition of Spartan.
Net sales during the thirty-nine weeks ended September 30, 2021 increased
$817.1 million , or 48.0%, compared to the corresponding prior year period due to
an increase in comparable store sales of 33.1% and sales from the 25 new
warehouse stores that we opened since September 24, 2020 . The comparable store
sales increase during the period of 33.1%, or $563.1 million , was driven by a
27.1% increase in comparable customer transactions and a 4.7% increase in
comparable average ticket. Comparable sales increased among all of our product
categories during the period. Non-comparable store sales increased
$254.0 million during the same period primarily due to the increase in new
stores and the acquisition of Spartan.
We believe the increase in sales for the thirteen and thirty-nine weeks ended
September 30, 2021 is also due in part to (i) unprecedented government
intervention to help mitigate the negative impacts of the COVID-19 pandemic and
(ii) customers investing in home improvements while spending less on leisure
activities like travel, eating out, sporting events, and hotels. We also believe
that our business model, with its focus on substantial amounts of trend-right,
in-stock inventory, is also contributing to the sales increase. In addition, our
total sales growth and associated comparable store sales growth for the
thirty-nine weeks ended September 30, 2021 were particularly strong because in
late March 2020 , we closed the interior of our stores to the public as a
precautionary measure due to COVID-19. We began re-opening our stores in early
May, and by early June, all of our stores were fully open to the public.
Further, the addition of a 53rd-week in fiscal 2020, which was the last week in
December, a historically low volume week, shifted the beginning of fiscal 2021
to January and modestly benefited fiscal 2021 comparable store sales growth.
Gross Profit and Gross Margin
Gross profit during the thirteen weeks ended September 30, 2021 increased
$70.7 million , or 24.0%, compared to the corresponding prior year period. The
increase in gross profit was driven by the 28.0% increase in net sales,
partially offset by a decrease to gross margin to 41.7%, down approximately 130
basis points from 43.0% in the same period a year ago. The decrease in gross
margin was primarily due to higher freight costs.
Gross profit during the thirty-nine weeks ended September 30, 2021 increased
$340.3 million , or 46.8%, compared to the corresponding prior year period. This
increase in gross profit was primarily driven by the 48.0% increase in net
sales, modestly offset by a decrease to gross margin to 42.4%, down
approximately 30 basis points from 42.7% in the same period a year ago. The
decrease in gross margin was primarily due to higher freight costs.
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Selling and Store Operating Expenses Selling and store operating expenses during the thirteen weeks endedSeptember 30, 2021 increased$47.2 million , or 27.5%, compared to the thirteen weeks endedSeptember 24, 2020 . The increase was primarily attributable to 25 new warehouse stores that opened sinceSeptember 24, 2020 as well as additional staffing to satisfy sales growth. As a percentage of net sales, selling and store operating expenses decreased modestly by approximately 10 basis points to 24.9% from 25.0% in the corresponding prior year period, while comparable store selling and store operating expenses as a percentage of comparable store sales decreased by approximately 80 basis points. The decrease in selling and store operating expenses as a percentage of comparable store sales during the thirteen weeks endedSeptember 30, 2021 was primarily driven by leverage of our advertising and occupancy costs on higher net sales. Selling and store operating expenses during the thirty-nine weeks endedSeptember 30, 2021 increased$150.7 million , or 32.5%, compared to the thirty-nine weeks endedSeptember 24, 2020 , primarily driven by the opening of 25 new stores sinceSeptember 24, 2020 as well as additional staffing to satisfy sales growth. As a percentage of net sales, our selling and store operating expenses decreased approximately 280 basis points to 24.4%, down from 27.2% in the corresponding prior year period. Comparable store selling and store operating expenses as a percentage of comparable store sales decreased by approximately 360 basis points. The decreases in selling and store operating expenses as a percentage of both overall sales and comparable store sales was primarily due to significantly higher sales during the thirty-nine weeks endedSeptember 30, 2021 compared with the same period a year ago when our stores were limited to curbside services and not fully open to the public during part of the first and second quarters of fiscal 2020. General and Administrative Expenses General and administrative expenses, which are typically expenses incurred outside of our stores, increased$13.2 million , or 33.6%, during the thirteen weeks endedSeptember 30, 2021 compared to the corresponding prior year period due to costs to support store growth, including increased store support staff and higher depreciation related to technology and other store support center investments. As a percentage of sales, general and administrative expenses increased approximately 30 basis points to 6.0% from 5.7% in the corresponding period. The increase as a percentage of net sales was primarily driven by amortization of intangible assets acquired from Spartan and other non-payroll related general and administrative costs. General and administrative expenses increased$45.5 million , or 43.8%, during the thirty-nine weeks endedSeptember 30, 2021 compared to the corresponding prior year period due to higher incentive compensation expense and costs to support store growth, including increased store support staff, higher depreciation related to technology and other store support center investments, and expenses related to the Spartan acquisition. Our general and administrative expenses as a percentage of net sales decreased approximately 20 basis points to 5.9%, down from 6.1% during the thirty-nine weeks endedSeptember 24, 2020 . The decline as a percentage of net sales was primarily driven by sales growing faster than increases in store support staffing and occupancy costs, partially offset by acquisition-related expenses and intangible asset amortization resulting from our purchase of Spartan in the second quarter of fiscal 2021 (refer to Note 8, "Acquisition" for additional details). Pre-Opening Expenses Pre-opening expenses during the thirteen weeks endedSeptember 30, 2021 increased$5.7 million , or 113.5%, compared to the corresponding prior year period. The increase is primarily the result of an increase in the number of stores that we either opened or were preparing for opening compared to the prior year period. We opened six warehouse stores during the thirteen weeks endedSeptember 30, 2021 as compared to opening three warehouse stores and one design studio during the thirteen weeks endedSeptember 24, 2020 . Pre-opening expenses during the thirty-nine weeks endedSeptember 30, 2021 increased$12.8 million , or 92.3%, compared to the corresponding prior year period. The increase is primarily the result of an increase in the number of stores that we either opened or were preparing for opening compared to the prior year period. We opened 20 warehouse stores during the thirty-nine weeks endedSeptember 30, 2021 as compared to opening eight warehouse stores and one design studio during the thirty-nine weeks endedSeptember 24, 2020 . Interest Expense Net interest expense during the thirteen weeks endedSeptember 30, 2021 decreased$0.9 million , or 44.5%, compared to the thirteen weeks endedSeptember 24, 2020 . Net interest expense during the thirty-nine weeks endedSeptember 30, 2021 decreased$2.3 million , or 38.0%, compared to the thirty-nine weeks endedSeptember 24, 2020 . The decrease in interest expense for the thirteen and thirty-nine weeks endedSeptember 30, 2021 was primarily due to lower revolver and term loan borrowings and a decrease in term loan interest rates compared to the thirteen and thirty-nine weeks endedSeptember 24, 2020 . 27
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Income Taxes The provision for income taxes was$7.6 million during the thirteen weeks endedSeptember 30, 2021 compared to$8.0 million during the thirteen weeks endedSeptember 24, 2020 . The effective tax rate was 9.3% for the thirteen weeks endedSeptember 30, 2021 compared to 10.4% in the corresponding prior year period. The decrease in the effective tax rate during the thirteen weeks endedSeptember 30, 2021 was primarily due to higher excess tax benefits related to stock option exercises during the third quarter compared to the same period of the prior year. The provision for income taxes was$40.7 million during the thirty-nine weeks endedSeptember 30, 2021 compared to$3.6 million during the thirty-nine weeks endedSeptember 24, 2020 . The effective tax rate was 14.9% for the thirty-nine weeks endedSeptember 30, 2021 compared to 2.5% for the thirty-nine weeks endedSeptember 24, 2020 . The increase in the effective tax rate during the thirty-nine weeks endedSeptember 30, 2021 was primarily due to the recognition of income tax benefits in connection with the CARES Act during fiscal 2020 and higher earnings during the thirty-nine weeks endedSeptember 30, 2021 without a proportionate increase in available tax credits. Non-GAAP Financial Measures EBITDA and Adjusted EBITDA are key metrics used by management and our board of directors to assess our financial performance and enterprise value. We believe that EBITDA and Adjusted EBITDA are useful measures, as they eliminate certain expenses that are not indicative of our core operating performance and facilitate a comparison of our core operating performance on a consistent basis from period to period. We also use Adjusted EBITDA as a basis to determine covenant compliance with respect to our ABL Facility and Term Loan Facility (together, the "Credit Facilities"), to supplement GAAP measures of performance to evaluate the effectiveness of our business strategies, to make budgeting decisions, and to compare our performance against that of other peer companies using similar measures. EBITDA and Adjusted EBITDA are also frequently used by analysts, investors, and other interested parties as performance measures to evaluate companies in our industry. EBITDA and Adjusted EBITDA are supplemental measures of financial performance that are not required by or presented in accordance with GAAP. We define EBITDA as net income before interest, (gain) loss on early extinguishment of debt, taxes, depreciation and amortization. We define Adjusted EBITDA as net income before interest, (gain) loss on early extinguishment of debt, taxes, depreciation and amortization adjusted to eliminate the impact of certain items that we do not consider indicative of our core operating performance. See below for a reconciliation of EBITDA and Adjusted EBITDA to net income, the most directly comparable financial measure calculated and presented in accordance with GAAP. EBITDA and Adjusted EBITDA are non-GAAP measures of our financial performance and should not be considered as alternatives to net income as a measure of financial performance or any other performance measure derived in accordance with GAAP, and they should not be construed as an inference that our future results will be unaffected by unusual or non-recurring items. Additionally, EBITDA and Adjusted EBITDA are not intended to be measures of liquidity or free cash flow for management's discretionary use. In addition, these non-GAAP measures exclude certain non-recurring and other charges. Each of these non-GAAP measures has its limitations as an analytical tool, and you should not consider them in isolation or as a substitute for analysis of our results as reported under GAAP. In evaluating EBITDA and Adjusted EBITDA, you should be aware that in the future we will incur expenses that are the same as or similar to some of the items eliminated in the adjustments made to determine EBITDA and Adjusted EBITDA, such as stock compensation expense, loss (gain) on asset impairments and disposals, executive recruiting/relocation, and other adjustments. Our presentation of EBITDA and Adjusted EBITDA should not be construed to imply that our future results will be unaffected by any such adjustments. Definitions and calculations of EBITDA and Adjusted EBITDA differ among companies in the retail industry, and therefore EBITDA and Adjusted EBITDA disclosed by us may not be comparable to the metrics disclosed by other companies. 28
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The following table reconciles net income to EBITDA and Adjusted EBITDA for the
periods presented:
Thirteen Weeks Ended Thirty-nine Weeks Ended
September 30, September 24, September 24,
in thousands 2021 2020 September 30, 2021 2020
Net income $ 74,645 $ 68,774 $ 233,357 $ 137,841
Depreciation and amortization (1) 30,348 22,566 83,245 66,230
Interest expense, net 1,124 2,024 3,805 6,134
Gain on early extinguishment of debt (2) - - - (1,015)
Income tax expense 7,628 8,004 40,741 3,605
EBITDA 113,745 101,368 361,148 212,795
Stock-based compensation expense (3) 5,282 4,400 15,335 11,542
Acquisition and integration expense (4) 120 - 3,286 -
Tariff refund adjustments (5) - - 1,728 (4,016)
COVID-19 costs (6) 286 571 910 3,482
Other (7) 809 389 1,934 1,606
Adjusted EBITDA $ 120,242 $ 106,728 $ 384,341 $ 225,409 (1) Excludes amortization of deferred financing costs, which is included as a part of interest expense, net in the table above.
(2) Represents gain on partial debt extinguishment in connection with the
(3) Non-cash charges related to stock-based compensation programs, which vary from period to period depending on the timing of awards and forfeitures.
(4) Represents third-party transaction, legal, and consulting costs directly related to the acquisition of Spartan.
(5) Represents a reduction in estimated tariff refund receivables during the thirty-nine weeks endedSeptember 30, 2021 and income for incremental tariff refunds recognized for certain bamboo and other flooring products during the thirty-nine weeks endedSeptember 24, 2020 . Interest income for tariff refunds is included within interest expense, net in the table above.
(6) Amounts are comprised of sanitation, personal protective equipment, and other costs directly related to efforts to mitigate the impact of the COVID-19 pandemic on our business.
(7) Other adjustments include amounts management does not consider indicative of our core operating performance. Amounts for the thirteen and thirty-nine weeks endedSeptember 30, 2021 primarily relate to relocation expenses for ourHouston distribution center and changes in the fair value of the contingent earn-out liability associated with the Spartan acquisition. Amounts for the thirteen weeks endedSeptember 24, 2020 primarily relate to costs associated with a secondary public offering of the Company's Class A common stock by certain of our stockholders, and amounts for the thirty-nine weeks endedSeptember 24, 2020 relate to the costs associated with two such public offerings and the legal fees associated with theFebruary 2020 amendment to the senior secured term loan credit facility. The Company did not sell any shares in the offerings and did not receive any proceeds from the sale of shares by the selling stockholders. Liquidity and Capital Resources Liquidity is provided primarily by our cash flows from operations and our$400.0 million ABL Facility. Unrestricted liquidity based on ourSeptember 30, 2021 financial data was$708.9 million , consisting of$330.1 million in cash and cash equivalents and$378.8 million immediately available for borrowing under the ABL Facility without violating any covenants thereunder. In addition, our Spartan subsidiary has access to an$8.0 million revolving line of credit facility (the "Spartan LOC") that had$8.0 million immediately available for borrowing as ofSeptember 30, 2021 . Our primary cash needs are for merchandise inventories, payroll, store rent, and other operating expenses and capital expenditures associated with opening new stores and remodeling existing stores, as well as information technology, e-commerce, and distribution center and store support center infrastructure. We also use cash for the payment of taxes and interest. 29
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The most significant components of our operating assets and liabilities are merchandise inventories and accounts payable, and, to a lesser extent, accounts receivable, prepaid expenses and other assets, other current and non-current liabilities, taxes receivable, and taxes payable. In an operating environment outside of the COVID-19 pandemic, our liquidity is not generally seasonal, and our uses of cash are primarily tied to when we open stores and make other capital expenditures. Merchandise inventory is our most significant working capital asset and is considered "in-transit" or "available for sale" based on whether we have physically received the products at an individual store location or in one of our four distribution centers. In-transit inventory generally varies due to contractual terms, country of origin, transit times, international holidays, weather patterns, and other factors. We measure realizability of our inventory by monitoring sales, gross margin, inventory aging, weeks of supply or inventory turns as well as by reviewing SKUs that have been determined by our merchandising team to be discontinued. Based on our analysis of these factors, we believe our inventory is realizable. Twice a year, we conduct a clearance event with the goal of selling through discontinued inventory, followed by donations of the aged discontinued inventory that we are unable to sell. We generally conduct a larger clearance event during our third fiscal quarter followed by a smaller clearance event towards the end of the fiscal year. We define aged discontinued inventory as inventory in discontinued status for more than 12 months that we intend to sell or donate. As ofSeptember 30, 2021 , we had$1.0 million of aged discontinued inventory that we intend to donate if unable to sell. Impact of the COVID-19 Pandemic on Liquidity While our primary sources of funds for business activities are typically cash flows from operations and our existing credit facilities, the full potential impact of the pandemic on our sources of funds and liquidity cannot be reasonably estimated at this time due to uncertainty regarding the potential severity and duration of the pandemic and its future effect on our business. For additional discussion of the impact of the COVID-19 pandemic on our business, refer to "Management's Discussion and Analysis of Financial Condition and Results of Operations - COVID-19 Update." We continue to monitor the impact of the COVID-19 pandemic on our business and may, as necessary, reduce expenditures, borrow additional amounts under our term loan and revolving credit facilities, or pursue other sources of capital that may include other forms of external financing in order to increase our cash position and preserve financial flexibility. The pandemic may continue to drive volatility and uncertainty in financial and credit markets. Our continued access to external sources of liquidity depends on multiple factors, including the condition of debt capital markets, our operating performance, and maintaining strong credit ratings. If the impacts of the pandemic continue to create severe disruptions or turmoil in the financial markets, or if rating agencies lower our credit ratings, it could adversely affect our ability to access the debt markets, our cost of funds, and other terms for new debt or other sources of external liquidity. We expect that cash generated from operations together with cash on hand, our actions to reduce expenditures, the availability of borrowings under our credit facilities, and if necessary, additional funding through other forms of external financing, will be sufficient to meet liquidity requirements, anticipated capital expenditures, and payments due under our credit facilities for at least the next twelve months. The exact scope of our capital plans is evolving and will ultimately depend on a variety of factors, including the impact of the COVID-19 pandemic on our business. Excluding cash paid for the Spartan acquisition, total capital expenditures are currently planned to be between approximately$455 million to$475 million and will be funded primarily by cash generated from operations and borrowings under the ABL Facility. Our capital needs may change in the future due to changes in our business, including in response to the COVID-19 pandemic, or new opportunities that we choose to pursue; however, we currently expect the following for capital expenditures in fiscal 2021: •open 27 warehouse-format stores, open two small-format design studios, and start construction on stores opening and relocating in 2022 using approximately$305 million to$315 million of cash; •relocate ourHouston, Texas distribution center in the first quarter of fiscal 2022 and open a transload facility inLos Angeles, California using approximately$70 million to$74 million of cash; •invest in existing store remodeling projects and our distribution centers using approximately$52 million to$56 million of cash; and •invest in information technology infrastructure, e-commerce, and other store support center initiatives using approximately$28 million to$30 million of cash. 30
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Cash Flow Analysis
A summary of our operating, investing, and financing activities is shown in the
following table:
Thirty-nine Weeks Ended
September 24,
in thousands September 30, 2021 2020
Net cash provided by operating activities $ 364,892 $ 269,685
Net cash used in investing activities (341,255) (109,653)
Net cash (used in) provided by financing activities (1,324) 84,057
Net increase in cash and cash equivalents $ 22,313 $ 244,089
Net Cash Provided by Operating Activities
Cash provided by operating activities consists primarily of net income adjusted
for changes in working capital as well as non-cash items, including depreciation
and amortization, deferred income taxes, and stock-based compensation.
Net cash provided by operating activities was $364.9 million for the thirty-nine
weeks ended September 30, 2021 and $269.7 million for the thirty-nine weeks
ended September 24, 2020 . The increase in net cash provided by operating
activities was primarily the result of an increase in net income, trade accounts
payable, and accrued expenses and other current liabilities, partially offset by
an increase in inventory and other working capital items to support our
operations.
Net Cash Used in Investing Activities
Investing activities typically consist primarily of capital expenditures for new
store openings, existing store remodels (including leasehold improvements, new
racking, new fixtures, new product and display vignettes, and enhanced design
studios) and new infrastructure and information systems. Cash payments to
acquire a business are also included in investing activities.
Net cash used in investing activities during the thirty-nine weeks ended
September 30, 2021 and September 24, 2020 was $341.3 million and $109.7 million ,
respectively. The increase was driven by a $168.0 million increase in capital
expenditures and $63.6 million in cash paid as part of the purchase price to
acquire Spartan (refer to Note 8, "Acquisition" for additional details). The
year-over-year growth in capital expenditures was primarily driven by (i) an
increase in new stores that opened or were under construction, as we generally
incur significant capital expenditures for new stores a few to several months in
advance of opening, (ii) ongoing construction for the Houston distribution
center relocation, and (iii) an increase in existing store remodels. During the
thirty-nine weeks ended September 30, 2021 , approximately 67.9% of
non-acquisition related capital expenditures were for new stores and 25.6% were
for existing stores and distribution centers, while the remaining spending was
primarily associated with information technology, e-commerce, and store support
center investments to support our growth.
Net Cash (Used in) Provided by Financing Activities
Financing activities consist primarily of borrowings and related repayments
under our credit agreements as well as proceeds from the exercise of stock
options and our employee share purchase program.
Net cash used in financing activities was $1.3 million for the thirty-nine weeks
ended September 30, 2021 compared to net cash provided by financing activities
of $84.1 million for the thirty-nine weeks ended September 24, 2020 . The
decrease was primarily driven by the repayment of a portion of our Term Loan
Facility during the thirty-nine weeks ended September 30, 2021 compared with net
proceeds from the Term Loan Facility during the thirty-nine weeks ended
September 24, 2020 .
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Credit Facility Amendments OnFebruary 9, 2021 (the "Effective Date"), we entered into a fifth amendment to the credit agreement governing our senior secured term loan facility (as amended, the "Term Loan Facility"). The fifth amendment provided for, among other things, a supplemental term loan in the aggregate principal amount of$65.0 million (the "Supplemental Term Loan Facility") that increased the term loan B facility. The Supplemental Term Loan Facility has the same maturity date (February 14, 2027 ) and terms as the term loan B facility, except that voluntary prepayments made within six months after the Effective Date are subject to a 1% soft call prepayment premium. The other terms of loans under the Term Loan Facility remain unchanged, including the applicable margin for loans under the term loan B facility. The proceeds of the Supplemental Term Loan Facility, together with cash on hand, were used to (i) repay the$75.0 million term loan B-1 facility and (ii) pay fees and expenses incurred in connection with the Supplemental Term Loan Facility. Refer to Note 3, "Debt" for additional details regarding our Term Loan Facility, ABL Facility, and Spartan LOC, including applicable covenants. Credit Ratings Our credit ratings are periodically reviewed by rating agencies. InNovember 2020 , Moody's reaffirmed the Company's issuer corporate family rating of Ba3 and changed its outlook for the Company to stable from negative. InDecember 2020 ,Standard & Poor's reaffirmed the Company's corporate credit rating of BB- and revised its outlook for the Company to positive from stable. These ratings and our current credit condition affect, among other things, our ability to access new capital. Negative changes to these ratings may result in more stringent covenants and higher interest rates under the terms of any new debt. Our credit ratings could be lowered or rating agencies could issue adverse commentaries in the future, which could have a material adverse effect on our business, financial condition, results of operations, and liquidity. In particular, a weakening of our financial condition, including any further increase in our leverage or decrease in our profitability or cash flows, could adversely affect our ability to obtain necessary funds, could result in a credit rating downgrade or change in outlook, or could otherwise increase our cost of borrowing.U.S. Tariffs and Global Economy The current domestic and international political environment, including existing and potential changes toU.S. policies related to global trade and tariffs, have resulted in uncertainty surrounding the future state of the global economy. In particular, the ongoing trade dispute between theU.S. andChina has resulted in theU.S. imposing tariffs of 25% on many products fromChina . While exclusions from tariffs were granted for certain products fromChina , nearly all of these exclusions have expired. In fiscal 2020, approximately 30% of the products we sold were sourced fromChina , and we expect that percentage to decrease moderately in fiscal 2021. As we continue to manage the impact these tariffs may have on our business, we continue taking steps to mitigate some of these cost increases through negotiating lower costs from our vendors, increasing retail pricing as we deem appropriate, and sourcing from alternative countries. While our efforts have mitigated a substantial portion of the overall effect of increased tariffs, the enacted tariffs have increased our inventory costs and associated cost of sales for the remaining products still sourced fromChina . Antidumping and Countervailing Duties OnMay 24, 2019 , theU.S. International Trade Commission (the "ITC") announced it had completed a preliminary phase antidumping and countervailing duty investigation pursuant to the Tariff Act of 1930 with respect to the imports of ceramic tile fromChina and determined there is a reasonable indication that the ceramic tile production industry in theU.S. is being materially injured by imports of ceramic tile fromChina that have allegedly been subsidized by the Chinese government and are being sold in theU.S. at less than fair value, otherwise known as "dumping". As a result of the ITC's affirmative determinations, theU.S. Department of Commerce (the "DOC") began its own related investigation. InApril 2020 , the DOC reached a final determination that imports fromChina were subsidized and were being sold in theU.S. at less than fair value. As a result of these final determinations, the DOC set the countervailing duty to 358.81% for all Chinese exporters and the antidumping duty to 203.71% or 330.69% depending on the exporter. InMay 2020 , the ITC announced their final determination that the ceramic tile production industry in theU.S. is being materially injured by imports of ceramic tile fromChina , but retroactive duty deposits would not be required as the ITC made a negative critical circumstances determination. The DOC subsequently issued antidumping and countervailing orders. The DOC has instructed theU.S. Customs and Boarder Protection ("U.S. Customs" to require cash deposits based on the announced effective rates. The final rates for the first 18 months of the orders will not be determined until the first administrative review process is completed, approximately two years after the published date of the orders. 32
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We took steps to mitigate the risk of future exposure by sourcing from alternative countries, and we are no longer importing applicable products fromChina . We have made duty deposits for applicable entries according toU.S. Customs entry procedures. While we do not currently believe additional duty deposits will apply, we believe our potential exposure could be up to approximately$3.0 million . The actual additional duties, if applicable, could differ from this estimate. We have not established a reserve for this matter as we currently do not believe additional duties will be applicable. Potential costs and any attendant impact on pricing arising from these tariffs or potential duties, and any further expansion in the types or levels of tariffs or duties implemented, could require us to modify our current business practices and could adversely affect our business, financial condition, and results of operations. Tariff Refunds InNovember 2019 , theU.S. Trade Representative ("USTR") made a ruling to retroactively exclude certain flooring products imported fromChina from the Section 301 tariffs that were implemented at 10% beginning inSeptember 2018 and increased to 25% inJune 2019 . The granted exclusions apply to certain "click" vinyl and engineered products that we have sold and continue to sell. As these exclusions were granted retroactively, we are entitled to a refund fromU.S. Customs for the applicable Section 301 tariffs previously paid on these goods. Tariff refund claims are subject to the approval ofU.S. Customs, and the Company currently expects to recover$21.9 million , including interest, related to these Section 301 tariff payments. Of the expected refunds,$14.5 million has been received as ofSeptember 30, 2021 . Contractual Obligations There were no material changes to our contractual obligations outside the ordinary course of our business during the thirty-nine weeks endedSeptember 30, 2021 . Off-Balance Sheet Arrangements For the thirty-nine weeks endedSeptember 30, 2021 , we were not party to any material off-balance sheet arrangements that are reasonably likely to have a current or future effect on our financial condition, net sales, expenses, results of operations, liquidity, capital expenditures, or capital resources. We do not have any relationship with unconsolidated entities or financial partnerships for the purpose of facilitating off-balance sheet arrangements or for other contractually narrow or limited purposes. Critical Accounting Policies and Estimates Our consolidated financial statements have been prepared in accordance with GAAP, which requires management to make estimates and assumptions that affect reported amounts. The estimates and assumptions are based on historical experience and other factors management believes to be reasonable. The COVID-19 pandemic has impacted our business as discussed in Management's Discussion and Analysis and the estimates used for, but not limited to, our critical accounting policies could be affected by future developments related to the COVID-19 pandemic. We have assessed the impact and are not aware of any specific events or circumstances that required an update to the estimates and assumptions used for our critical accounting policies or that materially affected the carrying value of our assets or liabilities as of the date of issuance of this Quarterly Report on Form 10-Q. These estimates may change as new events occur and additional information is obtained. Actual results could differ materially from these estimates under different assumptions or conditions. For a description of our critical accounting policies and estimates, refer to Part II, Item 7, "Critical Accounting Policies and Estimates" in our Annual Report. There have been no material changes to our critical accounting policies and estimates as disclosed in our Annual Report. See Note 1 to our condensed consolidated financial statements included in this Quarterly Report, which describes recent accounting pronouncements adopted by us. Item 3. Quantitative and Qualitative Disclosures About Market Risk For quantitative and qualitative disclosures about market risk affecting the Company, see "Quantitative and Qualitative Disclosures About Market Risk" in Item 7A of Part II of the Annual Report. While our exposure to market risk has not changed materially sinceDecember 31, 2020 , uncertainty with respect to the economic effects of the COVID-19 pandemic has introduced significant volatility in the financial markets, including interest rates and foreign currency exchange rates. The COVID-19 pandemic is expected to have a continued adverse impact on market conditions and may trigger a period of global economic slowdown for an unknown duration. See further discussion in Item 2, "Management's Discussion and Analysis of Financial Condition and Results of Operations" for additional details. 33
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Interest Rate Risk Our operating results are subject to risk from interest rate fluctuations on our Credit Facilities, which carry variable interest rates. As ofSeptember 30, 2021 , our senior secured term loan facility, which has a variable interest rate, had a remaining principal balance of$206.6 million . A 1.0% increase in the effective interest rate for this debt would cause an increase in interest expense of approximately$2.1 million over the next twelve months. To lessen our exposure to changes in interest rate risk, we entered into two$75.0 million interest rate cap agreements inMay 2021 . The contracts capped our LIBOR at 1.75% beginning inMay 2021 . In addition, our$102.5 million interest rate cap agreement entered into duringNovember 2016 that caps our LIBOR at 2.0% remains in effect until the agreement expires onDecember 31, 2021 . We do not anticipate that the interest rate cap agreements will significantly impact interest expense in the near term as theU.S. Federal Reserve and other central banks have taken recent action to lower interest rates in response to the COVID-19 pandemic, and interest rates are near historic lows. Item 4. Controls and Procedures Evaluation of Disclosure Controls and ProceduresThe Company's disclosure controls and procedures (as defined in Rules 13a-15(e) or 15d-15(e) under the Securities Exchange Act of 1934, as amended (the "Exchange Act")) are designed to provide reasonable assurance that the information required to be disclosed in the reports that the Company files or submits under the Exchange Act are recorded, processed, summarized, and reported within the time periods specified in theSEC's rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in reports filed or submitted under the Exchange Act is accumulated and communicated to the company's management, including its principal executive and principal financial officers, as appropriate to allow timely decisions regarding required disclosure. The Company's management, including the chief executive officer and the chief financial officer, have reviewed the effectiveness of the Company's disclosure controls and procedures as ofSeptember 30, 2021 and, based on their evaluation, have concluded that the Company's disclosure controls and procedures were effective at the reasonable assurance level. The condensed consolidated financial statements included in this Quarterly Report fairly present, in all material respects, our financial position, results of operations and cash flows for the periods presented in conformity with GAAP. Changes in Internal Control Over Financial Reporting There have been no changes in the Company's internal control over financial reporting (as defined in Rules 13a-15(f) or 15d-15(f) of the Exchange Act) during the fiscal quarter endedSeptember 30, 2021 that have materially affected, or are reasonably likely to materially affect, the Company's internal control over financial reporting.
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