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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
| | | | | |
| ☒ | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
| For the quarterly period ended December 31, 2020 |
| OR |
| ☐ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
| For the transition period from to |
Commission file number 1-12725
Regis Corporation
(Exact name of registrant as specified in its charter)
| | | | | | | | | | | | | | |
| Minnesota | | 41-0749934 |
| (State or other jurisdiction of incorporation or organization) | | (I.R.S. Employer Identification No.) |
| 3701 Wayzata Boulevard, | Minneapolis | Minnesota | | 55416 |
| (Address of principal executive offices) | | (Zip Code) |
(952) 947-7777
(Registrant’s telephone number, including area code)
N/A
(Former name, former address and former fiscal year, if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to be submit and post such files). Yes ☒ No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and "emerging growth company" in Rule 12b-2 of the Exchange Act.
| | | | | | | | | | | | | | | | | | | | |
| Large accelerated filer | ☐ | | Accelerated filer | ☒ | |
| Non-accelerated filer | ☐ | | Smaller reporting company | ☐ | |
| Emerging growth company | ☐ | | | | |
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨
Indicate by check mark whether the registrant is a shell company (as defined by Rule 12b-2 of the Act). Yes ☐ No ☒
| | | | | | | | | | | | | | |
| Title of each class | | Trading symbol | | Name of exchange |
| Common Stock, $0.05 par value | | RGS | | NYSE |
Indicate the number of shares outstanding of each of the issuer’s classes of common stock as of January 29, 2021 : 35,787,227
REGIS CORPORATION
INDEX
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
REGIS CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEET (Unaudited)
(Dollars in thousands, except share data)
| | | | | | | | | | | | | | |
| | | December 31,
2020 | | June 30,
2020 |
| | | | |
| ASSETS | | | | |
| Current assets: | | | | |
| Cash and cash equivalents | | $ | 50,850 | | | $ | 113,667 | |
| Receivables, net | | 31,185 | | | 31,030 | |
| Inventories | | 51,483 | | | 62,597 | |
| Other current assets | | 17,226 | | | 19,138 | |
| Total current assets | | 150,744 | | | 226,432 | |
| | | | |
| Property and equipment, net | | 43,579 | | | 57,176 | |
| Goodwill (Note 9) | | 228,950 | | | 227,457 | |
| Other intangibles, net | | 4,532 | | | 4,579 | |
| Right of use asset (Note 10) | | 637,108 | | | 786,216 | |
| Other assets | | 40,237 | | | 40,934 | |
| | | | |
| Total assets | | $ | 1,105,150 | | | $ | 1,342,794 | |
| | | | |
| LIABILITIES AND SHAREHOLDERS’ EQUITY | | | | |
| Current liabilities: | | | | |
| Accounts payable | | $ | 36,922 | | | $ | 50,918 | |
| Accrued expenses | | 49,277 | | | 48,825 | |
| Short-term lease liability (Note 10) | | 127,649 | | | 137,271 | |
| Total current liabilities | | 213,848 | | | 237,014 | |
| | | | |
| Long-term debt, net (Note 11) | | 177,500 | | | 177,500 | |
| Long-term lease liability (Note 10) | | 540,930 | | | 680,454 | |
| Long-term financing liabilities (Note 11) | | 27,640 | | | 27,981 | |
| Other non-current liabilities | | 86,784 | | | 94,142 | |
| Total liabilities | | 1,046,702 | | | 1,217,091 | |
| Commitments and contingencies (Note 7) | | | | |
| Shareholders’ equity: | | | | |
Common stock, $0.05 par value; issued and outstanding 35,768,086 and 35,625,716 common shares at December 31, 2020 and June 30, 2020, respectively | | 1,788 | | | 1,781 | |
| Additional paid-in capital | | 22,076 | | | 22,011 | |
| Accumulated other comprehensive income | | 8,786 | | | 7,449 | |
| Retained earnings | | 25,798 | | | 94,462 | |
| Total shareholders’ equity | | 58,448 | | | 125,703 | |
| Total liabilities and shareholders’ equity | | $ | 1,105,150 | | | $ | 1,342,794 | |
_______________________________________________________________________________
The accompanying notes are an integral part of the unaudited Condensed Consolidated Financial Statements.
REGIS CORPORATION
CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS (Unaudited)
For The Three And Six Months Ended December 31, 2020 And 2019
(Dollars and shares in thousands, except per share data amounts)
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Three Months Ended December 31, | | Six Months Ended December 31, |
| | | 2020 | | 2019 | | 2020 | | 2019 |
| | | | | | | | |
| Revenues: | | | | | | | | |
| Service | | $ | 28,987 | | | $ | 101,805 | | | $ | 65,395 | | | $ | 243,746 | |
| Product | | 23,146 | | | 43,983 | | | 47,895 | | | 89,639 | |
| Royalties and fees | | 19,902 | | | 29,347 | | | 37,858 | | | 57,364 | |
| Franchise rental income (Note 10) | | 32,285 | | | 33,630 | | | 64,568 | | | 65,054 | |
| Total revenue | | 104,320 | | | 208,765 | | | 215,716 | | | 455,803 | |
| Operating expenses: | | | | | | | | |
| Cost of service | | 22,097 | | | 67,358 | | | 50,620 | | | 157,840 | |
| Cost of product | | 17,203 | | | 27,258 | | | 33,572 | | | 53,585 | |
| Site operating expenses | | 10,350 | | | 26,330 | | | 23,589 | | | 59,272 | |
| General and administrative | | 26,690 | | | 32,691 | | | 52,837 | | | 73,316 | |
| Rent (Note 10) | | 12,902 | | | 20,495 | | | 26,127 | | | 44,759 | |
| Franchise rent expense | | 32,285 | | | 33,630 | | | 64,568 | | | 65,054 | |
| Depreciation and amortization | | 6,388 | | | 7,747 | | | 13,764 | | | 17,127 | |
| Long-lived asset impairment | | 3,160 | | | — | | | 8,984 | | | — | |
| TBG mall location restructuring (Note 3) | | — | | | 722 | | | — | | | 2,222 | |
| | | | | | | | |
| Total operating expenses | | 131,075 | | | 216,231 | | | 274,061 | | | 473,175 | |
| | | | | | | | |
| Operating loss | | (26,755) | | | (7,466) | | | (58,345) | | | (17,372) | |
| | | | | | | | |
| Other (expense) income: | | | | | | | | |
| Interest expense | | (3,701) | | | (1,464) | | | (7,463) | | | (2,903) | |
| Loss from sale of salon assets to franchisees, net | | (3,226) | | | (12,407) | | | (3,888) | | | (18,267) | |
| Interest income and other, net | | 403 | | | 2,869 | | | 517 | | | 3,040 | |
| | | | | | | | |
| Loss from continuing operations before income taxes | | (33,279) | | | (18,468) | | | (69,179) | | | (35,502) | |
| | | | | | | | |
| Income tax benefit | | 400 | | | 1,948 | | | 1,035 | | | 4,804 | |
| | | | | | | | |
| Loss from continuing operations | | (32,879) | | | (16,520) | | | (68,144) | | | (30,698) | |
| | | | | | | | |
| Income from discontinued operations, net of taxes (Note 3) | | — | | | 79 | | | — | | | 452 | |
| | | | | | | | |
| Net loss | | $ | (32,879) | | | $ | (16,441) | | | $ | (68,144) | | | $ | (30,246) | |
| | | | | | | | |
| Net loss per share: | | | | | | | | |
Basic and diluted: | | | | | | | | |
| Loss from continuing operations | | $ | (0.92) | | | $ | (0.46) | | | $ | (1.90) | | | $ | (0.85) | |
| Income from discontinued operations | | 0.00 | | | 0.00 | | | 0.00 | | | 0.01 | |
| Net loss per share, basic and diluted (1) | | $ | (0.92) | | | $ | (0.46) | | | $ | (1.90) | | | $ | (0.84) | |
| | | | | | | | |
| | | | | | | | |
| | | | | | | | |
| | | | | | | | |
| | | | | | | | |
| Weighted average common and common equivalent shares outstanding: | | | | | | | | |
| Basic and diluted | | 35,931 | | | 35,798 | | | 35,889 | | | 36,028 | |
| | | | | | | | |
_______________________________________________________________________________
(1)Total is a recalculation; line items calculated individually may not sum to total due to rounding.
The accompanying notes are an integral part of the unaudited Condensed Consolidated Financial Statements.
REGIS CORPORATION
CONDENSED CONSOLIDATED STATEMENT OF COMPREHENSIVE LOSS (Unaudited)
For The Three And Six Months Ended December 31, 2020 And 2019
(Dollars in thousands)
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Three Months Ended December 31, | | Six Months Ended December 31, |
| | | 2020 | | 2019 | | 2020 | | 2019 |
| | | | | | | | |
| Net loss | | $ | (32,879) | | | $ | (16,441) | | | $ | (68,144) | | | $ | (30,246) | |
| Foreign currency translation adjustments | | 835 | | | 541 | | | 1,337 | | | 138 | |
| Comprehensive loss | | $ | (32,044) | | | $ | (15,900) | | | $ | (66,807) | | | $ | (30,108) | |
_______________________________________________________________________________
The accompanying notes are an integral part of the unaudited Condensed Consolidated Financial Statements.
REGIS CORPORATION
CONDENSED CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY (Unaudited)
For The Three And Six Months Ended December 31, 2020 And 2019
(Dollars in thousands)
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended December 31, 2020 |
| | | Common Stock | | Additional
Paid-In
Capital | | Accumulated
Other
Comprehensive
Income | | Retained
Earnings | | Total |
| | | Shares | | Amount | | | | |
| | | | | | | | | | | | |
| Balance, September 30, 2020 | | 35,665,783 | | | $ | 1,783 | | | $ | 20,596 | | | $ | 7,951 | | | $ | 59,211 | | | $ | 89,541 | |
| Net loss | | — | | | — | | | — | | | — | | | (32,879) | | | (32,879) | |
| Foreign currency translation | | — | | | — | | | — | | | 835 | | | — | | | 835 | |
| | | | | | | | | | | | |
| Stock-based compensation | | — | | | — | | | 1,314 | | | — | | | — | | | 1,314 | |
| Net restricted stock activity | | 102,303 | | | 5 | | | 166 | | | — | | | — | | | 171 | |
| Minority interest | | — | | | — | | | — | | | — | | | (534) | | | (534) | |
| Balance, December 31, 2020 | | 35,768,086 | | | $ | 1,788 | | | $ | 22,076 | | | $ | 8,786 | | | $ | 25,798 | | | $ | 58,448 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended December 31, 2019 |
| | | Common Stock | | Additional
Paid-In
Capital | | Accumulated
Other
Comprehensive
Income | | Retained
Earnings | | Total |
| | | Shares | | Amount | | | | |
| | | | | | | | | | | | |
| Balance, September 30, 2019 | | 35,548,036 | | | $ | 1,777 | | | $ | 20,880 | | | $ | 8,939 | | | $ | 252,143 | | | $ | 283,739 | |
| Net loss | | — | | | — | | | — | | | — | | | (16,441) | | | (16,441) | |
| Foreign currency translation | | — | | | — | | | — | | | 541 | | | — | | | 541 | |
| | | | | | | | | | | | |
| Exercise of SARs | | 1,500 | | | — | | | 28 | | | — | | | — | | | 28 | |
| Stock-based compensation | | — | | | — | | | 332 | | | — | | | — | | | 332 | |
| Net restricted stock activity | | 14,075 | | | 1 | | | (10) | | | — | | | — | | | (9) | |
| Minority interest | | — | | | — | | | — | | | — | | | (168) | | | (168) | |
| Balance, December 31, 2019 | | 35,563,611 | | | $ | 1,778 | | | $ | 21,230 | | | $ | 9,480 | | | $ | 235,534 | | | $ | 268,022 | |
REGIS CORPORATION
CONDENSED CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY (Unaudited)
For The Three And Six Months Ended December 31, 2020 And 2019 (Continued)
(Dollars in thousands)
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Six Months Ended December 31, 2020 |
| | | Common Stock | | Additional
Paid-In
Capital | | Accumulated
Other
Comprehensive
Income | | Retained
Earnings | | Total |
| | | Shares | | Amount | | | | |
| | | | | | | | | | | | |
| Balance, June 30, 2020 | | 35,625,716 | | | $ | 1,781 | | | $ | 22,011 | | | $ | 7,449 | | | $ | 94,462 | | | $ | 125,703 | |
| Net loss | | — | | | — | | | — | | | — | | | (68,144) | | | (68,144) | |
| Foreign currency translation | | — | | | — | | | — | | | 1,337 | | | — | | | 1,337 | |
| | | | | | | | | | | | |
| | | | | | | | | | | | |
| Stock-based compensation | | — | | | — | | | 89 | | | — | | | — | | | 89 | |
| Net restricted stock activity | | 142,370 | | | 7 | | | (24) | | | — | | | — | | | (17) | |
| Minority interest | | — | | | — | | | — | | | — | | | (520) | | | (520) | |
| Balance, December 31, 2020 | | 35,768,086 | | | $ | 1,788 | | | $ | 22,076 | | | $ | 8,786 | | | $ | 25,798 | | | $ | 58,448 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Six Months Ended December 31, 2019 |
| | | Common Stock | | Additional
Paid-In
Capital | | Accumulated
Other
Comprehensive
Income | | Retained
Earnings | | Total |
| | | Shares | | Amount | | | | |
| | | | | | | | | | | | |
| Balance, June 30, 2019 | | 36,869,249 | | | $ | 1,843 | | | $ | 47,152 | | | $ | 9,342 | | | $ | 265,908 | | | $ | 324,245 | |
| Net loss | | — | | | — | | | — | | | — | | | (30,246) | | | (30,246) | |
| Foreign currency translation | | — | | | — | | | — | | | 138 | | | — | | | 138 | |
| Stock repurchase program | | (1,504,000) | | | (75) | | | (26,281) | | | — | | | — | | | (26,356) | |
| Exercise of SARs | | 1,776 | | | — | | | 28 | | | — | | | — | | | 28 | |
| Stock-based compensation | | — | | | — | | | 2,139 | | | — | | | — | | | 2,139 | |
| Net restricted stock activity | | 196,586 | | | 10 | | | (1,808) | | | — | | | — | | | (1,798) | |
| Minority interest | | — | | | — | | | — | | | — | | | (128) | | | (128) | |
| Balance, December 31, 2019 | | 35,563,611 | | | $ | 1,778 | | | $ | 21,230 | | | $ | 9,480 | | | $ | 235,534 | | | $ | 268,022 | |
_______________________________________________________________________________
The accompanying notes are an integral part of the unaudited Condensed Consolidated Financial Statements.
REGIS CORPORATION
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS (Unaudited)
For The Six Months Ended December 31, 2020 And 2019
(Dollars in thousands)
| | | | | | | | | | | | | | |
| | | Six Months Ended December 31, |
| | | 2020 | | 2019 |
| | | | |
| Cash flows from operating activities: | | | | |
| Net loss | | $ | (68,144) | | | $ | (30,246) | |
| Adjustments to reconcile net loss to cash used in operating activities: | | | | |
| Non-cash adjustments related to discontinued operations | | — | | | (586) | |
| Depreciation and amortization | | 11,123 | | | 14,484 | |
| Salon asset impairment | | — | | | 2,643 | |
| Long-lived asset impairment | | 8,984 | | | — | |
| Deferred income taxes | | (669) | | | (6,380) | |
| Gain from sale of company headquarters, net | | — | | | (2,513) | |
| Loss from sale of salon assets to franchisees, net | | 3,888 | | | 18,267 | |
| | | | |
| | | | |
| Stock-based compensation | | 89 | | | 2,139 | |
| Amortization of debt discount and financing costs | | 875 | | | 138 | |
| Other non-cash items affecting earnings | | 202 | | | (243) | |
| Changes in operating assets and liabilities, excluding the effects of asset sales (1) | | (21,812) | | | (17,032) | |
| Net cash used in operating activities | | (65,464) | | | (19,329) | |
| | | | |
| Cash flows from investing activities: | | | | |
| Capital expenditures | | (7,502) | | | (17,576) | |
| Proceeds from sale of assets to franchisees | | 7,148 | | | 69,414 | |
| Costs associated with sale of salon assets to franchisees | | (222) | | | (1,550) | |
| Proceeds from company-owned life insurance policies | | 1,200 | | | — | |
| Proceeds from sale of company headquarters | | — | | | 8,996 | |
| Net cash provided by investing activities | | 624 | | | 59,284 | |
| | | | |
| Cash flows from financing activities: | | | | |
| | | | |
| Repayments of revolving credit facility | | — | | | (30,000) | |
| Repurchase of common stock | | — | | | (28,246) | |
| Taxes paid for shares withheld | | (212) | | | (1,809) | |
| | | | |
| Minority interest buyout | | (562) | | | — | |
| Distribution center lease payments | | (478) | | | (480) | |
| Net cash used in financing activities | | (1,252) | | | (60,535) | |
| | | | |
| Effect of exchange rate changes on cash and cash equivalents | | (68) | | | 122 | |
| | | | |
| Decrease in cash, cash equivalents, and restricted cash | | (66,160) | | | (20,458) | |
| | | | |
| Cash, cash equivalents and restricted cash: | | | | |
| Beginning of period | | 122,880 | | | 92,379 | |
| End of period | | $ | 56,720 | | | $ | 71,921 | |
_______________________________________________________________________________
(1)Changes in operating assets and liabilities exclude assets and liabilities sold.
The accompanying notes are an integral part of the unaudited Condensed Consolidated Financial Statements.
REGIS CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. BASIS OF PRESENTATION OF UNAUDITED INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
The unaudited interim Condensed Consolidated Financial Statements of Regis Corporation (the "Company") as of December 31, 2020 and for the three and six months ended December 31, 2020 and 2019, reflect, in the opinion of management, all adjustments necessary to fairly state the consolidated financial position of the Company as of December 31, 2020 and its consolidated results of operations, comprehensive loss, changes in shareholders' equity and cash flows for the interim periods. Adjustments consist only of normal recurring items, except for any discussed in the notes below. The results of operations and cash flows for any interim period are not necessarily indicative of results of operations and cash flows for the full year.
The accompanying interim unaudited condensed consolidated financial statements have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission (SEC). Accordingly, they do not include all disclosures required by accounting principles generally accepted in the United States of America (GAAP). The unaudited interim Condensed Consolidated Financial Statements should be read in conjunction with the Company’s Annual Report on Form 10-K for the year ended June 30, 2020 and other documents filed or furnished with the SEC during the current fiscal year.
Impact of COVID-19 on Business Operations:
During the period ended December 31, 2020, the global coronavirus pandemic ("COVID-19") had an adverse impact on operations, including prolonged government mandated salon closures in California and Ontario, in addition to other U.S. states and Canadian provinces. As of January 25, 2021, salons in California were allowed to re-open.The COVID-19 pandemic continues to impact salon guest visits resulting in a significant reduction in revenue and traffic. Due to the economic disruption caused by the COVID-19 pandemic, the Company faces a greater degree of uncertainty than normal in making judgments and estimates needed to apply the Company's significant accounting policies. Actual results and outcomes may differ from management's estimates and assumptions.
Salon Long-Lived Asset and Right of Use Asset Impairment Assessments:
The Company assesses impairment of long-lived salon assets and right of use assets at the individual salon level, as this is the lowest level for which identifiable cash flows are largely independent of other groups of assets and liabilities, when events or changes in circumstances indicate the carrying value of the assets or the asset grouping may not be recoverable. Factors considered in deciding when to perform an impairment review include significant under-performance of an individual salon in relation to expectations, significant economic or geographic trends, and significant changes or planned changes in the use of the assets. The first step is to assess recoverability, and in doing that, the undiscounted cash flows are compared to the carrying value. If the undiscounted estimated cash flows are less than the carrying value of the assets, the Company calculates an impairment charge based on the difference between the carrying value of the asset group and its fair value. The fair value of the salon long-lived asset group is estimated using market participant methods based on the best information available. See Note 10 for further discussion related to the right of use asset impairment.
Judgments made by management related to the expected useful lives of long-lived assets and the ability to realize undiscounted cash flows in excess of the carrying amounts of such assets are affected by factors such as the ongoing maintenance and improvement of the assets, changes in economic conditions, and changes in operating performance. As the ongoing expected cash flows and carrying amounts of long-lived assets are assessed, these factors could cause the Company to realize material impairment charges.
Long-lived asset impairment charges, including right of use and salon property and equipment, of $3.2 and $9.0 million were recorded in the three and six months ended December 31, 2020, respectively, and is separately stated on the unaudited Condensed Consolidated Statement of Operations. Of the total long-lived asset impairment charges, $1.5 and $6.0 million, respectively, were allocated to the right of use asset and $1.7 and $3.0 million, respectively, were allocated to salon property and equipment. Long-lived salon property and equipment asset impairment charges of $1.1 and $2.6 million were recorded during the three and six months ended December 31, 2019, respectively, and are recorded in Depreciation and amortization in the unaudited Condensed Consolidated Statement of Operations.
Goodwill:
As of December 31, 2020 and June 30, 2020, the Franchise reporting unit had $229.0 and $227.5 million, respectively, of goodwill. For further information, see Note 9 of the interim unaudited Condensed Consolidated Financial Statements. The Company assesses goodwill impairment on an annual basis, during the Company's fourth fiscal quarter, and between annual assessments if an event occurs, or circumstances change, that would more likely than not reduce the fair value of a reporting unit below its carrying amount. An interim impairment analysis was not required in the three months ended December 31, 2020.
The Company performs its annual impairment assessment as of April 30. For the fiscal year 2020 annual impairment assessment, due to the impact of the COVID-19 pandemic, the Company elected to forgo the optional Step 0 assessment and performed the quantitative impairment analysis on the Franchise reporting unit. The Company compared the carrying value of the reporting unit, including goodwill, to the estimated fair value. The result of the assessment indicated that the estimated fair value of the Company's reporting unit exceeded its carrying value by approximately 50 percent. For the goodwill impairment analysis, management utilized a combination of both a discounted cash flows approach and a market approach. The key assumptions utilized in the analysis were the number of salons to be sold to franchisees and the discount rate. If a future triggering event occurs or if during the Company's annual impairment assessment the fair value of the Franchise reporting unit has decreased significantly, it may result in a non-cash impairment charge to reduce the carrying value of goodwill.
Depreciation:
Depreciation expense in the three and six months ended December 31, 2020 includes $1.3 and $2.6 million of asset retirement obligations, which are cash expenses.
Minority Interest:
In December 2020, the Company purchased its non-controlling interest in Roosters from the minority shareholders. The Company paid $0.6 million to obtain 100% ownership. The payment is recorded in cash used in financing activities on the unaudited Condensed Consolidated Statement of Cash Flows.
2. REVENUE RECOGNITION:
Revenue Recognition and Deferred Revenue:
Revenue recognized at point of sale
Company-owned salon revenues are recognized at the time when the services are provided. Product revenues for company-owned salons are recognized when the guest receives and pays for the merchandise. Revenues from purchases made with gift cards are also recorded when the guest takes possession of the merchandise or services are provided. Gift cards issued by the Company are recorded as a liability (deferred revenue) upon sale and recognized as revenue upon redemption by the customer. Gift card breakage, the amount of gift cards which will not be redeemed, is recognized proportional to redemptions using estimates based on historical redemption patterns. Product sales by the Company to franchisees are included within product revenues in the unaudited Condensed Consolidated Statement of Operations and recorded at the time product is delivered to the franchisee. Payment for franchisee product revenue is generally collected within 30 to 90 days of delivery.
Revenue recognized over time
Franchise revenues primarily include royalties, advertising fund cooperatives fees, franchise fees and other fees. Royalty and advertising fund revenues represent sales-based royalties that are recognized in the period in which the sales occur. Generally, royalty and advertising fund revenue is billed and collected monthly in arrears. Advertising fund revenues and expenditures, which must be spent on marketing and related activities per the franchise agreements, are recorded on a gross basis within the unaudited Condensed Consolidated Statement of Operations. This increases both the gross amount of reported franchise revenue and site operating expense and generally has no impact on operating income and net income. Franchise fees are billed and received upon the signing of the franchise agreement. Recognition of these fees is deferred until the salon opening and is then recognized over the term of the franchise agreement, typically ten years. Franchise rental income is a result of the Company signing leases on behalf of franchisees and entering into a sublease arrangement with the franchisee. The Company recognizes franchise rental income and expense when it is due to the landlord.
The following table disaggregates revenue by timing of revenue recognition and is reconciled to reportable segment revenues as follows:
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended December 31, 2020 | | Three Months Ended December 31, 2019 |
| | | Franchise | | Company-owned | | Franchise | | Company-owned |
| | | | | | | | |
| | (Dollars in thousands) |
| | | | | | | | |
| Revenue recognized at a point in time: | | | | | | | | |
| Service | | $ | — | | | $ | 28,987 | | | $ | — | | | $ | 101,805 | |
| Product | | 14,236 | | | 8,910 | | | 16,864 | | | 27,119 | |
| Total revenue recognized at a point in time | | $ | 14,236 | | | $ | 37,897 | | | $ | 16,864 | | | $ | 128,924 | |
| | | | | | | | |
| Revenue recognized over time: | | | | | | | | |
| Royalty and other franchise fees | | $ | 15,187 | | | $ | — | | | $ | 18,644 | | | $ | — | |
| Advertising fund fees | | 4,715 | | | — | | | 10,703 | | | — | |
| Franchise rental income | | 32,285 | | | — | | | 33,630 | | | — | |
| Total revenue recognized over time | | 52,187 | | | — | | | 62,977 | | | — | |
| Total revenue | | $ | 66,423 | | | $ | 37,897 | | | $ | 79,841 | | | $ | 128,924 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Six Months Ended December 31, 2020 | | Six Months Ended December 31, 2019 |
| | | Franchise | | Company-owned | | Franchise | | Company-owned |
| | | | | | | | |
| | (Dollars in thousands) |
| | | | | | | | |
| Revenue recognized at a point in time: | | | | | | | | |
| Service | | $ | — | | | $ | 65,395 | | | $ | — | | | $ | 243,746 | |
| Product | | 27,978 | | | 19,917 | | | 29,969 | | | 59,670 | |
| Total revenue recognized at a point in time | | $ | 27,978 | | | $ | 85,312 | | | $ | 29,969 | | | $ | 303,416 | |
| | | | | | | | |
| Revenue recognized over time: | | | | | | | | |
| Royalty and other franchise fees | | $ | 28,634 | | | $ | — | | | $ | 36,235 | | | $ | — | |
| Advertising fund fees | | 9,224 | | | — | | | 21,129 | | | — | |
| Franchise rental income | | 64,568 | | | — | | | 65,054 | | | — | |
| Total revenue recognized over time | | 102,426 | | | — | | | 122,418 | | | — | |
| Total revenue | | $ | 130,404 | | | $ | 85,312 | | | $ | 152,387 | | | $ | 303,416 | |
Information about receivables, broker fees and deferred revenue subject to the amended revenue recognition guidance is as follows:
| | | | | | | | | | | | | | | | | | | | |
| | December 31,
2020 | | June 30,
2020 | | Balance Sheet Classification |
| | | | | | |
| | (Dollars in thousands) | | |
| | | | | | |
| Receivables from contracts with customers, net | | $ | 27,457 | | | $ | 22,991 | | | Accounts receivable, net |
| Broker fees | | 20,345 | | | 20,516 | | | Other assets |
| | | | | | |
| Deferred revenue: | | | | | | |
| Current | | | | | | |
| Gift card liability | | $ | 2,536 | | | $ | 2,543 | | | Accrued expenses |
| Deferred franchise fees unopened salons | | 69 | | | 77 | | | Accrued expenses |
| Deferred franchise fees open salons | | 5,854 | | | 5,537 | | | Accrued expenses |
| Total current deferred revenue | | $ | 8,459 | | | $ | 8,157 | | | |
| Non-current | | | | | | |
| Deferred franchise fees unopened salons | | $ | 10,306 | | | $ | 11,855 | | | Other non-current liabilities |
| Deferred franchise fees open salons | | 33,674 | | | 33,623 | | | Other non-current liabilities |
| Total non-current deferred revenue | | $ | 43,980 | | | $ | 45,478 | | | |
Receivables relate primarily to payments due for royalties, franchise fees, advertising fees, rent, franchise product sales and sales of salon services and product paid by credit card. The receivables balance is presented net of an allowance for expected losses (i.e., doubtful accounts), primarily related to receivables from franchisees. The following table is a rollforward of the allowance for doubtful accounts for the period (in thousands):
| | | | | | | | |
| Balance as of June 30, 2020 | | $ | 6,899 | |
| Provision for doubtful accounts (1) | | 1,627 | |
| Provision for franchisee rent (2) | | 853 | |
| Write-offs | | (632) | |
| Balance as of December 31, 2020 | | $ | 8,747 | |
_______________________________________________________________________________
(1)The provision for doubtful accounts is recognized as General and administrative expense in the unaudited Condensed Consolidated Statement of Operations.
(2)The provision for franchisee rent is recognized as Rent in the unaudited Condensed Consolidated Statement of Operations.
Broker fees are the costs associated with using external brokers to identify new franchisees. These fees are paid upon the signing of the franchise agreement and recognized as General and Administrative expense over the term of the agreement. The following table is a rollforward of the broker fee balance for the periods indicated (in thousands):
| | | | | | | | |
| Balance as of June 30, 2020 | | $ | 20,516 | |
| Additions | | 1,418 | |
| Amortization | | (1,565) | |
| Write-offs | | (24) | |
| Balance as of December 31, 2020 | | $ | 20,345 | |
Deferred revenue includes the gift card liability and deferred franchise fees for unopened salons and open salons. Gift card revenue for the three months ended December 31, 2020 and 2019 was $0.1 and $0.7 million, respectively, and for the six months ended December 31, 2020 and 2019 was $0.4 and $1.5 million, respectively. Deferred franchise fees related to open salons are generally recognized on a straight-line basis over the term of the franchise agreement. Franchise fee revenue for the three months ended December 31, 2020 and 2019 was $1.6 and $1.3 million, respectively, and for the six months ended December 31, 2020 and 2019 was $3.3 and $2.4 million, respectively. Estimated revenue expected to be recognized in the future related to deferred franchise fees for open salons as of December 31, 2020 is as follows (in thousands):
| | | | | | | | |
| Remainder of 2021 | | $ | 2,959 | |
| 2022 | | 5,799 | |
| 2023 | | 5,622 | |
| 2024 | | 5,387 | |
| 2025 | | 4,993 | |
| Thereafter | | 14,768 | |
| Total | | $ | 39,528 | |
3. TBG RESTRUCTURING AND DISCONTINUED OPERATIONS:
In October 2017, the Company sold substantially all of its mall-based salon business in North America, representing 858 salons, to The Beautiful Group (TBG). The Company classified the results of its mall-based business as discontinued operations in the unaudited Condensed Consolidated Statement of Operations. Included in discontinued operations in fiscal year 2020 are adjustments to actuarial assumptions related to the discontinued operations. Other than the items presented in the unaudited Consolidated Statement of Cash Flows, there were no other significant non-cash operating activities or non-cash investing activities related to discontinued operations for the six months ended December 31, 2020 and 2019.
For the three and six months ended December 31, 2019, the Company recorded $0.7 and $2.2 million of professional fees and restructuring charges related to the Company assisting TBG with operating expenses to mitigate the risk of default associated with TBG's lease obligations. In the second quarter of fiscal year 2020, TBG transferred 207 of its North American mall-based salons to the Company. The 207 North American mall-based salons transferred were the salons that the Company was the guarantor of the lease obligation. As of December 31, 2020, prior to any mitigation efforts which may be available, the Company remains liable for up to approximately $14 million related to its mall-based salon lease commitments on the 77 salons that remain open, a $9 million reduction from June 30, 2020. The commitments are included in our lease liabilities.
4. EARNINGS PER SHARE:
The Company’s basic earnings per share is calculated as net loss divided by weighted average common shares outstanding, excluding unvested outstanding stock options (SOs), restricted stock units (RSUs) and stock-settled performance units (PSUs). The Company’s diluted earnings per share is calculated as net loss divided by weighted average common shares and common share equivalents outstanding, which includes shares issued under the Company’s stock-based compensation plans. Stock-based awards with exercise prices greater than the average market price of the Company’s common stock are excluded from the computation of diluted earnings per share.
For the three and six months ended December 31, 2020, there were 421,687 and 432,774, respectively, and for the three and six months ended December 31, 2019 there were 1,322,308 and 1,338,634, respectively, common stock equivalents of dilutive common stock excluded in the diluted earnings per share calculations due to the net loss from continuing operations.
The computation of weighted average shares outstanding, assuming dilution, excluded 3,041,962 and 66,151 of stock-based awards during the three months ended December 31, 2020 and 2019, respectively, and 1,990,449 and 77,514 of stock-based awards during the six months ended December 31, 2020 and 2019, respectively, as they were not dilutive under the treasury stock method.
5. SHAREHOLDERS’ EQUITY:
Stock-Based Employee Compensation:
During the three and six months ended December 31, 2020, the Company granted various equity awards including RSUs, PSUs and SOs.
A summary of equity awards granted is as follows:
| | | | | | | | | | | | | | |
| | Three Months Ended December 31, 2020 | | Six Months Ended December 31, 2020 |
| | | | |
| | | | |
| Restricted stock units | | 597,888 | | | 844,522 | |
| Performance-based restricted stock units | | — | | | 62,290 | |
| Stock option units | | 1,458,680 | | | 1,458,680 | |
The RSUs granted to employees during the three and six months ended December 31, 2020 vest in equal amounts over a three-year period subsequent to the grant date, cliff vest after a one-year period, cliff vest after a three-year period or cliff vest after a five-year period subsequent to the grant date. The CEO, who was appointed in October 2020, was granted 0.4 million "sign-on" RSUs that vest pro-rated over one year.
The PSUs granted to employees have a three-year performance period ending June 30, 2023 linked to the Company's stock price reaching a specified volume weighted average closing price for a 50-day period that ends on June 30, 2023. The PSUs granted have a maximum vesting percentage of 200% based on the level of performance achieved for the respective award.
The SOs granted during the three and six months ended December 31, 2020 were granted in connection with the appointment of the Company's CEO and consists of options to purchase shares of the Company's common stock. The SOs are subject to both a four-year service-based vesting condition and a performance-based vesting condition. Additionally, 0.4 million SOs are matching options that vest on the fourth anniversary of employment up to the number of RSUs the CEO still holds of the "sign-on" RSUs.
Total compensation cost for stock-based payment arrangements totaling $1.3 and $0.3 million for the three months ended December 31, 2020 and 2019, respectively, and $0.1 and $2.1 million for the six months ended December 31, 2020 and 2019, respectively, was recorded within General and administrative expense on the unaudited Condensed Consolidated Statement of Operations. In the six months ended December 31, 2020 stock compensation includes a $2.4 million benefit from the forfeiture of awards related to the departure of the Company's former CEO.
Share Repurchases:
During the six months ended December 31, 2020, the Company did not repurchase shares under the previously approved stock repurchase program. During the six months ended December 31, 2019, the Company repurchased 1.5 million shares for $26.4 million under a previously approved stock repurchase program. At December 31, 2020, $54.6 million remains outstanding under the approved stock repurchase program.
6. INCOME TAXES:
A summary of income tax benefits and corresponding effective tax rates is as follows:
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended December 31, | | Six Months Ended December 31, |
| | 2020 | | 2019 | | 2020 | | 2019 |
| | | | | | | | |
| | (Dollars in thousands) |
| | | | | | | | |
| | | | | | | | |
| | | | | | | | |
| | | | | | | | |
| Income tax benefit | | $ | 400 | | | $ | 1,948 | | | $ | 1,035 | | | $ | 4,804 | |
| Effective tax rate | | 1.2 | % | | 10.5 | % | | 1.5 | % | | 13.5 | % |
The recorded tax provisions and effective tax rates for the three and six months ended December 31, 2020 were different than what would normally be expected primarily due to the impact of the deferred tax valuation allowance. The recorded tax provisions and effective tax rates for the three and six months ended December 31, 2019 were different than what would normally be expected primarily due to the impact of the deferred tax valuation allowance and global intangible low-taxed income ("GILTI").
The Company is no longer subject to IRS examinations for years before 2014. Furthermore, with limited exceptions, the Company is no longer subject to state and international income tax examinations by tax authorities for years before 2012.
7. COMMITMENTS AND CONTINGENCIES:
The Company is a defendant in various lawsuits and claims arising out of the normal course of business. Like certain other large retail employers, the Company has been faced with allegations of purported class-wide consumer and wage and hour violations. Litigation is inherently unpredictable, and the outcome of these matters cannot presently be determined. Although the actions are being vigorously defended, the Company could in the future, incur judgments or enter into settlements of claims that could have a material adverse effect on its results of operations in any particular period. The Company is a defendant in two wage and hour lawsuits in California. The first, a class action in US District Court, alleges various violations of the California Labor Code, including, but not limited to failure to pay wages, failure to permit rest breaks, failure to pay all wages due on termination of employment, waiting time penalties, failure to provide accurate wage statements and violation of the business and professions code. This case has been preliminarily settled, pending approval of the court and class, for $2.1 million. The second, a class action filed in California Superior Court, alleges various violations of the California Labor Code as well as PAGA penalties. Barring successful objection from plaintiffs’ attorneys to the first class action, the second case will be subsumed into the first case’s settlement. As of June 30, 2020 and December 31, 2020, $2.1 million was included within accrued expenses on the unaudited Condensed Consolidated Balance Sheet related to these class action lawsuits. In addition, our existing point of sale system supplier has challenged the development of certain parts of our technology systems in litigation brought in the Northern District of California, case No. 20-cv-02181-MMC. We have vigorously denied the allegations made by this third-party supplier and have asserted certain counterclaims against the third party. However, the dispute regarding our ownership and involvement of certain key personnel may be costly and distracting, and the outcome is currently uncertain. The Company has not recorded an expense related to damages in connection with these matters because any potential loss is not currently probable or reasonably estimable under U.S. GAAP. Additionally, the Company is unable to reasonably estimate the range of loss, if any, that may result from these matters.
8. CASH, CASH EQUIVALENTS AND RESTRICTED CASH:
The table below reconciles the cash and cash equivalents balances and restricted cash balances, recorded in other current assets from the unaudited Condensed Consolidated Balance Sheet to the amount of cash, cash equivalents and restricted cash reported on the unaudited Condensed Consolidated Statement of Cash flows:
| | | | | | | | | | | |
| December 31,
2020 | | June 30,
2020 |
| | | |
| (Dollars in thousands) |
| | | |
| Cash and cash equivalents | $ | 50,850 | | | $ | 113,667 | |
| Restricted cash, included in Other current assets (1) | 5,870 | | | 9,213 | |
| Total cash, cash equivalents and restricted cash | $ | 56,720 | | | $ | 122,880 | |
_______________________________________________________________________________
(1)Restricted cash within other current assets primarily relates to consolidated advertising cooperatives funds which can only be used to settle obligations of the respective cooperatives and contractual obligations to collateralize the Company's self-insurance programs.
9. GOODWILL:
The table below contains details related to the Company's goodwill:
| | | | | | | | |
| | Franchise Reporting Unit |
| | |
| | (Dollars in thousands) |
| | |
| Goodwill, net at June 30, 2020 | | $ | 227,457 | |
| Translation rate adjustments | | 1,493 | |
| | |
| | |
| Goodwill, net at December 31, 2020 | | $ | 228,950 | |
10. LEASES
At contract inception, the Company determines whether a contract is, or contains, a lease by determining whether it conveys the right to control the use of the identified asset for a period of time. If the contract provides the Company the right to substantially all of the economic benefits from the use of the identified asset and the right to direct the use of the identified asset, the Company considers it to be, or contain, a lease. The Company leases its company-owned salons and some of its corporate facilities under operating leases. The original terms of the salon leases range from 1 to 20 years with many leases renewable for an additional 5 to 10 year terms at the option of the Company. In addition to the obligation to make fixed rental payments for the use of the salons, the Company also has variable lease payments that are based on sales levels. For most leases, the Company is required to pay real estate taxes and other occupancy expenses. Total Rent includes the following:
| | | | | | | | | | | | | | | | | | | | | | | |
| Three Months Ended December 31, | | Six Months Ended December 31, |
| 2020 | | 2019 | | 2020 | | 2019 |
| | | | | | | |
| (Dollars in thousands) |
| | | | | | | |
| Minimum rent | $ | 10,484 | | | $ | 15,926 | | | $ | 20,205 | | | $ | 35,067 | |
| Percentage rent based on sales | 2 | | | 550 | | | 75 | | | 1,847 | |
| Real estate taxes and other expenses | 2,497 | | | 2,860 | | | 5,158 | | | 6,170 | |
| Lease termination expense (1) | 1,087 | | | 38 | | | 6,638 | | | 79 | |
| Lease liability benefit (2) | (2,226) | | | — | | | (8,286) | | | — | |
| Corporate segment rent | 653 | | | 720 | | | 1,375 | | | 1,005 | |
| Franchise segment non-reimbursable rent | 405 | | | 401 | | | 962 | | | 591 | |
| Total | $ | 12,902 | | | $ | 20,495 | | | $ | 26,127 | | | $ | 44,759 | |
_______________________________________________________________________________
(1)During the three and six months ended December 31, 2020, the Company terminated the leases for 98 and 229 company-owned salons, respectively, before the lease end dates. During the three and six months ended December 31, 2019, the Company terminated the leases for 20 and 57 company-owned salons, respectively, before the lease end dates. For the three and six months ended December 31, 2020, lease termination fees include $2.2 and $4.6 million, respectively, of early termination payments to close salons before lease end date and relieve the Company of future lease obligations. For the three and six months ended December 31, 2020, lease termination fees also include $(1.1) and $2.0 million, respectively, of adjustments to accrued future lease payments for underperforming salons. The early termination payments made in the six months ended December 31, 2020 will save the Company approximately $4.3 million in future minimum rent plus associated real estate taxes and other lease expenses.
(2)For the three and six months ended December 31, 2020, upon termination of previously impaired leases, the Company derecognized ROU assets of $3.0 and $10.1 million, respectively, and lease liabilities of $4.2 and $14.5 million, respectively, that resulted in a net gain of $1.2 and $4.4 million, respectively. In addition, the Company recognized a benefit from lease liabilities decreasing in excess of previously impaired ROU assets. The benefit recognized was $1.0 and $3.9 million in the three and six months ended December 31, 2020, respectively.
The Company leases salon premises in which the majority of its franchisees operate and has entered into corresponding sublease arrangements with franchisees. All lease costs are passed through to the franchisees. The Company records the rental payments due from franchisees as franchise rental income and the corresponding amounts owed to landlords as franchise rent expense on the unaudited Condensed Consolidated Statement of Operations. For the three months ended December 31, 2020 and 2019, franchise rental income and franchise rent expense were $32.3 and $33.6 million, respectively. For the six months ended December 31, 2020 and 2019, franchise rental income and franchise rent expense was $64.6 and $65.1 million. These leases generally have lease terms of approximately 5 years. Excluding underperforming salons we plan to close, leases are assumed to be renewed upon expiration. The Company expects to renew SmartStyle and Supercuts franchise leases upon expiration. Other leases are expected to be renewed by the franchisee upon expiration. This represents a Board approved change in estimate, which was intended to reduce lease exposure. The change in estimate resulted in a decrease to lease liabilities and right of use assets of $72.9 million, with no impact to net income.
For franchise and company-owned salon operating leases, the lease liability is initially and subsequently measured at the present value of the unpaid lease payments at the lease commencement date, including one lease term option when the lease is expected to be renewed. The Right of Use (ROU) asset is initially and subsequently measured throughout the lease term at the carrying amount of the lease liability, plus initial direct costs, less any accrued lease payments and unamortized lease incentives received, if any. The Company's consolidated ROU asset balance was $637.1 and $786.2 million as of December 31, 2020 and June 30, 2020, respectively. For leases classified as operating leases, expense for lease payments is recognized on a straight-line basis over the lease term, including the lease renewal option when the lease is expected to be renewed. Generally, the non-lease components, such as real estate taxes and other occupancy expenses, are separate from rent expense within the lease and are not included in the measurement of the lease liability because these charges are variable.
The discount rate used to determine the present value of the lease payments is the Company's estimated collateralized incremental borrowing rate, based on the yield curve for the respective lease terms, as the interest rate implicit in the lease cannot generally be determined. The Company uses the portfolio approach in applying the discount rate based on the original lease term. The weighted average remaining lease term was 6.50 and 6.87 years and the weighted average discount rate was 4.03% and 3.95% for all salon operating leases as of December 31, 2020 and June 30, 2020, respectively.
A lessee’s ROU asset is subject to the same asset impairment guidance in ASC 360, Property, Plant, and Equipment, applied to other elements of property, plant, and equipment. The Company has identified its asset groups at the individual salon level as this represents the lowest level that identifiable cash flows are largely independent of the cash flows of other groups of assets and liabilities. Poor salon performance, primarily due to the COVID-19 pandemic, resulted in an ASC 360-10-35-21 triggering event. As a result, management assessed all salon asset groups, which included the related ROU assets, for impairment in accordance with ASC 360.
The first step in the impairment test under ASC 360 is to determine whether the long-lived assets are recoverable, which is determined by comparing the net carrying value of the salon asset group to the undiscounted net cash flows to be generated from the use and eventual disposition of that asset group. Estimating cash flows for purposes of the recoverability test is subjective and requires significant judgment. Estimated future cash flows used for the purposes of the recoverability test were based upon historical cash flows for the salons, adjusted for expected changes in future market conditions related to the COVID-19 pandemic, and other factors. The period of time used to determine the estimates of the future cash flows for the recoverability test was based on the remaining useful life of the primary asset of the group, which was the ROU asset in all cases.
Step two of the long-lived asset impairment test requires that the fair value of the asset group be estimated when determining the amount of any impairment loss. For the salon asset groups that failed the recoverability test, an impairment loss was measured as the amount by which the carrying amount of the asset group exceeds its fair value. The Company applied the fair value guidance within ASC 820-10 to determine the fair value of the asset group from the perspective of a market-participant considering, among other things, appropriate discount rates, multiple valuation techniques, the most advantageous market, and assumptions about the highest and best use of the asset group. To determine the fair value of the salon asset groups, the Company utilized market-participant assumptions rather than the Company’s own assumptions about how it intends to use the asset group. The significant judgments and assumptions utilized to determine the fair value of the salon asset groups include; the market rent of comparable properties based on recently negotiated leases as applicable, the asset group’s projected sales for properties with no recently negotiated leases, and a discount rate.
Assessing the long-lived assets for impairment requires management to make assumptions and to apply judgment which can be affected by economic conditions and other factors that can be difficult to predict. The ultimate severity and longevity of the COVID-19 pandemic is unknown and therefore, if actual results are not consistent with the estimates and assumptions used in the calculations, the Company may be exposed to future impairment losses that could be material. In the three and six months ended December 31, 2020, the Company recognized a long-lived impairment charge of $3.2 and $9.0 million, respectively, which included $1.5 and $6.0 million, respectively, related to the right of use assets, in the unaudited Condensed Consolidated Statement of Operations. The impairments recorded for the three and six months ended December 31, 2020 were primarily the result of triggering events identified on certain underperforming salons, salons that were identified to close in the year, and certain salons where franchisees are unable to fulfill their rent obligations.
As of December 31, 2020, future operating lease commitments, including one renewal option for leases expected to be renewed, to be paid and received by the Company were as follows:
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Fiscal Year | | Leases for Franchise Salons | | Leases for Company-owned Salons | | Corporate Leases | | Total Operating Lease Payments | | Sublease Income To Be Received From Franchisees | | Net Rent Commitments |
| | | | | | | | | | | | |
| Remainder of 2021 | | $ | 61,792 | | | $ | 15,257 | | | $ | 914 | | | $ | 77,963 | | | $ | (61,792) | | | $ | 16,171 | |
| 2022 | | 114,759 | | | 25,415 | | | 1,483 | | | 141,657 | | | (114,759) | | | 26,898 | |
| 2023 | | 101,513 | | | 19,539 | | | 1,520 | | | 122,572 | | | (101,513) | | | 21,059 | |
| 2024 | | 88,919 | | | 14,647 | | | 1,558 | | | 105,124 | | | (88,919) | | | 16,205 | |
| 2025 | | 75,170 | | | 8,328 | | | 1,598 | | | 85,096 | | | (75,170) | | | 9,926 | |
| Thereafter | | 201,054 | | | 18,670 | | | 7,824 | | | 227,548 | | | (201,054) | | | 26,494 | |
| Total future obligations | | $ | 643,207 | | | $ | 101,856 | | | $ | 14,897 | | | $ | 759,960 | | | $ | (643,207) | | | $ | 116,753 | |
| Less amounts representing interest | | 79,438 | | | 9,401 | | | 2,542 | | | 91,381 | | | | | |
| Present value of lease liabilities | | $ | 563,769 | | | $ | 92,455 | | | $ | 12,355 | | | $ | 668,579 | | | | | |
| Less current lease liabilities | | 100,685 | | | 25,796 | | | 1,168 | | | 127,649 | | | | | |
| Long-term lease liabilities | | $ | 463,084 | | | $ | 66,659 | | | $ | 11,187 | | | $ | 540,930 | | | | | |
11. FINANCING ARRANGEMENTS:
The Company’s long-term debt consists of the following:
Revolving Credit Facility
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Maturity Date | | December 31,
2020 | | December 31,
2020 | | June 30,
2020 |
| | | | | | | | |
| | | (Fiscal Year) | | (Interest rate %) | | (Dollars in thousands) |
| | | | | | | | |
| Revolving credit facility | | 2023 | | 5.00% | | $ | 177,500 | | | $ | 177,500 | |
At December 31, 2020, cash and cash equivalents totaled $50.9 million. As of December 31, 2020, the Company has $177.5 million of outstanding borrowings under a $295.0 million revolving credit facility. At December 31, 2020, the Company has outstanding standby letters of credit under the revolving credit facility of $18.7 million, primarily related to the Company's self-insurance program. The unused available credit under the facility was $98.8 million as of December 31, 2020. The Company's liquidity, which includes the unused available balance under the credit facility and unrestricted cash and cash equivalents, totaled $149.7 million as of December 31, 2020. The revolving credit facility has a minimum liquidity covenant of $75.0 million. As of December 31, 2020, the Company had cash, cash equivalents and restricted cash of $56.7 million and current liabilities of $213.8 million.
The Company is in compliance with all covenants and other requirements of the financing arrangements as of December 31, 2020 and believes it will continue to be in compliance for at least one year from our filing date.
Sale and Leaseback Transaction
The Company’s long-term financing liabilities consists of the following:
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Maturity Date | | Interest Rate | | December 31,
2020 | | June 30,
2020 |
| | | | | | | | |
| | | (Fiscal Year) | | | | (Dollars in thousands) |
| | | | | | | | |
| Financial liability - Salt Lake City Distribution Center | | 2034 | | 3.30% | | $ | 16,457 | | | $ | 16,773 | |
| Financial liability - Chattanooga Distribution Center | | 2034 | | 3.70% | | 11,183 | | | 11,208 | |
| Long- term financing liability | | | | | | $ | 27,640 | | | $ | 27,981 | |
In fiscal year 2019, the Company sold its Salt Lake City and Chattanooga Distribution Centers to an unrelated party. The Company is leasing the properties back for 15 years with the option to renew. As the Company plans to lease the property for more than 75% of its economic life, the sales proceeds received from the buyer-lessor are recognized as a financial liability. This financial liability is reduced based on the rental payments made under the lease that are allocated between principal and interest. As of December 31, 2020, the current portion of the Company’s lease liability was $1.0 million, which was recorded in accrued expenses on the unaudited Condensed Consolidated Balance Sheet. The weighted average remaining lease term was 13.1 years and the weighted average discount rate was 3.46% for financing leases as of December 31, 2020.
As of December 31, 2020, future lease payments due are as follows:
| | | | | | | | | | | | | | |
| Fiscal year | | Salt Lake City Distribution Center | | Chattanooga Distribution Center |
| | | | |
| | (Dollars in thousands) |
| | | | |
| Remainder of 2021 | | $ | 581 | | | $ | 409 | |
| 2022 | | 1,171 | | | 829 | |
| 2023 | | 1,186 | | | 842 | |
| 2024 | | 1,200 | | | 854 | |
| 2025 | | 1,215 | | | 867 | |
| Thereafter | | 10,683 | | | 8,414 | |
| Total | | $ | 16,036 | | | $ | 12,215 | |
The financing liability does not include interest. Future lease payments above are due per the lease agreement and include embedded interest. Therefore, the total payments do not equal the financing liability. Total interest expense for the financing lease was $0.3 and $0.5 million for the three and six months ended December 31, 2020.
12. FAIR VALUE MEASUREMENTS:
Fair value measurements are categorized into one of three levels based on the lowest level of significant input used: Level 1 (unadjusted quoted prices in active markets); Level 2 (observable market inputs available at the measurement date, other than quoted prices included in Level 1); and Level 3 (unobservable inputs that cannot be corroborated by observable market data).
Assets and Liabilities Measured at Fair Value on a Recurring Basis
As of December 31, 2020 and June 30, 2020, the estimated fair value of the Company’s cash, cash equivalents, restricted cash, receivables, accounts payable, debt and long-term financial liabilities approximated their carrying values. The estimated fair values of the Company's debt and long-term financial liability are based on Level 2 inputs.
Assets and Liabilities Measured at Fair Value on a Nonrecurring Basis
We measure certain assets, including the Company’s equity method investments, tangible fixed and other assets and goodwill, at fair value on a nonrecurring basis when they are deemed to be other than temporarily impaired. The fair values of these assets are determined, when applicable, based on valuation techniques using the best information available, and may include quoted market prices, market comparables and discounted cash flow projections.
The following impairments were based on fair values using Level 3 inputs:
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended December 31, | | Six Months Ended December 31, |
| | 2020 | | 2019 | | 2020 | | 2019 |
| | | | | | | | |
| | (Dollars in thousands) |
| | | | | | | | |
| | | | | | | | |
| Long-lived asset impairment (1) | | $ | 3,160 | | | $ | 1,126 | | | $ | 8,984 | | | $ | 2,643 | |
_______________________________________________________________________________
(1)Long-lived asset impairment charges, including right of use and salon property and equipment, are separately stated on the unaudited Condensed Consolidated Statement of Operations for the three and six months ended December 31, 2020. Long-lived salon property and equipment asset impairment charges are recorded in Depreciation and amortization in the unaudited Condensed Consolidated Statement of Operations for the three and six months ended December 31, 2019. See Note 1 to the unaudited Condensed Consolidated Financial Statements.
13. SEGMENT INFORMATION:
Segment information is prepared on the same basis that the chief operating decision maker reviews financial information for operational decision-making purposes.
The Company’s reportable operating segments consisted of the following salons:
| | | | | | | | | | | | | | |
| | December 31,
2020 | | June 30,
2020 |
| | | | |
FRANCHISE SALONS: | | | | |
SmartStyle/Cost Cutters in Walmart Stores | | 1,535 | | | 1,317 | |
Supercuts | | 2,368 | | | 2,508 | |
Portfolio Brands (1) | | 1,207 | | | 1,217 | |
Total North American salons | | 5,110 | | | 5,042 | |
Total International salons (2) | | 159 | | | 167 | |
Total Franchise salons | | 5,269 | | | 5,209 | |
as a percent of total Franchise and Company-owned salons | | 83.6 | % | | 76.1 | % |
| | | | |
COMPANY-OWNED SALONS: | | | | |
SmartStyle/Cost Cutters in Walmart Stores | | 466 | | | 751 | |
Supercuts | | 154 | | | 210 | |
Portfolio Brands (1) | | 340 | | | 505 | |
Mall-based (3) | | 77 | | | 166 | |
Total Company-owned salons | | 1,037 | | | 1,632 | |
as a percent of total Franchise and Company-owned salons | | 16.4 | % | | 23.9 | % |
| | | | |
OWNERSHIP INTEREST LOCATIONS: | | | | |
Equity ownership interest locations | | 78 | | | 82 | |
| | | | |
Grand Total, System-wide | | 6,384 | | | 6,923 | |
_______________________________________________________________________________
(1)Portfolio Brands was previously referred to as Signature Style.
(2)Canadian and Puerto Rican salons are included in the North American salon totals.
(3)The mall-based salons were acquired from TBG on December 31, 2019. They are included in continuing operations under the Company-owned operating segment from January 1, 2020.
As of December 31, 2020, the Franchise operating segment is comprised primarily of Supercuts®, SmartStyle®, Cost Cutters®, First Choice Haircutters®, Magicuts®, and Roosters® concepts and the Company-owned operating segment is comprised primarily of SmartStyle®, Supercuts®, Cost Cutters®, and other regional trade names.
Financial information concerning the Company's reportable operating segments is shown in the following tables:
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Three Months Ended December 31, 2020 |
| | Franchise | | Company-owned | | Corporate | | Consolidated |
| | | | | | | | |
| | | (Dollars in thousands) |
| | | | | | | | |
| Revenues: | | | | | | | | |
| Service | | $ | — | | | $ | 28,987 | | | $ | — | | | $ | 28,987 | |
| Product | | 14,236 | | | 8,910 | | | — | | | 23,146 | |
| Royalties and fees | | 19,902 | | | — | | | — | | | 19,902 | |
| Franchise rental income | | 32,285 | | | — | | | — | | | 32,285 | |
| Total revenue | | 66,423 | | | 37,897 | | | — | | | 104,320 | |
| | | | | | | | |
| Operating expenses: | | | | | | | | |
| Cost of service | | — | | | 22,097 | | | — | | | 22,097 | |
| Cost of product | | 11,291 | | | 5,912 | | | — | | | 17,203 | |
| Site operating expenses | | 4,748 | | | 5,602 | | | — | | | 10,350 | |
| General and administrative | | 6,881 | | | 2,435 | | | 17,374 | | | 26,690 | |
| Rent | | 405 | | | 11,844 | | | 653 | | | 12,902 | |
| Franchise rent expense | | 32,285 | | | — | | | — | | | 32,285 | |
| Depreciation and amortization | | 289 | | | 4,311 | | | 1,788 | | | 6,388 | |
| Long-lived asset impairment | | 94 | | | 3,066 | | | — | | | 3,160 | |
| | | | | | | | |
| | | | | | | | |
| Total operating expenses | | 55,993 | | | 55,267 | | | 19,815 | | | 131,075 | |
| Operating income (loss) | | 10,430 | | | (17,370) | | | (19,815) | | | (26,755) | |
| Other (expense) income: | | | | | | | | |
| Interest expense | | — | | | — | | | (3,701) | | | (3,701) | |
| Loss from sale of salon assets to franchisees, net | | — | | | — | | | (3,226) | | | (3,226) | |
| Interest income and other, net | | — | | | — | | | 403 | | | 403 | |
| Income (loss) from continuing operations before income taxes | | $ | 10,430 | | | $ | (17,370) | | | $ | (26,339) | | | $ | (33,279) | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Three Months Ended December 31, 2019 |
| | Franchise | | Company-owned | | Corporate | | Consolidated |
| | | | | | | | |
| | | (Dollars in thousands) |
| | | | | | | | |
| Revenues: | | | | | | | | |
| Service | | $ | — | | | $ | 101,805 | | | $ | — | | | $ | 101,805 | |
| Product | | 16,864 | | | 27,119 | | | — | | | 43,983 | |
| Royalties and fees | | 29,347 | | | — | | | — | | | 29,347 | |
| Franchise rental income | | 33,630 | | | — | | | — | | | 33,630 | |
| Total revenue | | 79,841 | | | 128,924 | | | — | | | 208,765 | |
| | | | | | | | |
| Operating expenses: | | | | | | | | |
| Cost of service | | — | | | 67,358 | | | — | | | 67,358 | |
| Cost of product | | 13,072 | | | 14,186 | | | — | | | 27,258 | |
| Site operating expenses | | 10,704 | | | 15,626 | | | — | | | 26,330 | |
| General and administrative | | 8,976 | | | 7,547 | | | 16,168 | | | 32,691 | |
| Rent | | 401 | | | 19,374 | | | 720 | | | 20,495 | |
| Franchise rent expense | | 33,630 | | | — | | | — | | | 33,630 | |
| Depreciation and amortization | | 210 | | | 5,938 | | | 1,599 | | | 7,747 | |
| TBG mall location restructuring | | 722 | | | — | | | — | | | 722 | |
| Total operating expenses | | 67,715 | | | 130,029 | | | 18,487 | | | 216,231 | |
| Operating income (loss) | | 12,126 | | | (1,105) | | | (18,487) | | | (7,466) | |
| Other (expense) income: | | | | | | | | |
| Interest expense | | — | | | — | | | (1,464) | | | (1,464) | |
| Loss from sale of salon assets to franchisees, net | | — | | | — | | | (12,407) | | | (12,407) | |
| Interest income and other, net | | — | | | — | | | 2,869 | | | 2,869 | |
| Income (loss) from continuing operations before income taxes | | $ | 12,126 | | | $ | (1,105) | | | $ | (29,489) | | | $ | (18,468) | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Six Months Ended December 31, 2020 |
| | Franchise | | Company-owned | | Corporate | | Consolidated |
| | | | | | | | |
| | | (Dollars in thousands) |
| | | | | | | | |
| Revenues: | | | | | | | | |
| Service | | $ | — | | | $ | 65,395 | | | $ | — | | | $ | 65,395 | |
| Product | | 27,978 | | | 19,917 | | | — | | | 47,895 | |
| Royalties and fees | | 37,858 | | | — | | | — | | | 37,858 | |
| Franchise rental income | | 64,568 | | | — | | | — | | | 64,568 | |
| Total revenue | | 130,404 | | | 85,312 | | | — | | | 215,716 | |
| | | | | | | | |
| Operating expenses: | | | | | | | | |
| Cost of service | | — | | | 50,620 | | | — | | | 50,620 | |
| Cost of product | | 21,969 | | | 11,603 | | | — | | | 33,572 | |
| Site operating expenses | | 9,258 | | | 14,331 | | | — | | | 23,589 | |
| General and administrative | | 15,604 | | | 5,411 | | | 31,822 | | | 52,837 | |
| Rent | | 962 | | | 23,790 | | | 1,375 | | | 26,127 | |
| Franchise rent expense | | 64,568 | | | — | | | — | | | 64,568 | |
| Depreciation and amortization | | 563 | | | 9,393 | | | 3,808 | | | 13,764 | |
| Long-lived asset impairment | | 704 | | | 8,280 | | | — | | | 8,984 | |
| | | | | | | | |
| | | | | | | | |
| Total operating expenses | | 113,628 | | | 123,428 | | | 37,005 | | | 274,061 | |
| Operating income (loss) | | 16,776 | | | (38,116) | | | (37,005) | | | (58,345) | |
| Other (expense) income: | | | | | | | | |
| Interest expense | | — | | | — | | | (7,463) | | | (7,463) | |
| Loss from sale of salon assets to franchisees, net | | — | | | — | | | (3,888) | | | (3,888) | |
| Interest income and other, net | | — | | | — | | | 517 | | | 517 | |
| Income (loss) from continuing operations before income taxes | | $ | 16,776 | | | $ | (38,116) | | | $ | (47,839) | | | $ | (69,179) | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Six Months Ended December 31, 2019 |
| | Franchise | | Company-owned | | Corporate | | Consolidated |
| | | | | | | | |
| | | (Dollars in thousands) |
| | | | | | | | |
| Revenues: | | | | | | | | |
| Service | | $ | — | | | $ | 243,746 | | | $ | — | | | $ | 243,746 | |
| Product | | 29,969 | | | 59,670 | | | — | | | 89,639 | |
| Royalties and fees | | 57,364 | | | — | | | — | | | 57,364 | |
| Franchise rental income | | 65,054 | | | — | | | — | | | 65,054 | |
| Total revenue | | 152,387 | | | 303,416 | | | — | | | 455,803 | |
| | | | | | | | |
| Operating expenses: | | | | | | | | |
| Cost of service | | — | | | 157,840 | | | — | | | 157,840 | |
| Cost of product | | 23,352 | | | 30,233 | | | — | | | 53,585 | |
| Site operating expenses | | 21,130 | | | 38,142 | | | — | | | 59,272 | |
| General and administrative | | 17,333 | | | 17,697 | | | 38,286 | | | 73,316 | |
| Rent | | 591 | | | 43,163 | | | 1,005 | | | 44,759 | |
| Franchise rent expense | | 65,054 | | | — | | | — | | | 65,054 | |
| Depreciation and amortization | | 370 | | | 12,045 | | | 4,712 | | | 17,127 | |
| TBG mall location restructuring | | 2,222 | | | — | | | — | | | 2,222 | |
| Total operating expenses | | 130,052 | | | 299,120 | | | 44,003 | | | 473,175 | |
| Operating income (loss) | | 22,335 | | | 4,296 | | | (44,003) | | | (17,372) | |
| Other (expense) income: | | | | | | | | |
| Interest expense | | — | | | — | | | (2,903) | | | (2,903) | |
| Loss from sale of salon assets to franchisees, net | | — | | | — | | | (18,267) | | | (18,267) | |
| Interest income and other, net | | — | | | — | | | 3,040 | | | 3,040 | |
| Income (loss) from continuing operations before income taxes | | $ | 22,335 | | | 4,296 | | | $ | (62,133) | | | $ | (35,502) | |
14. REVISION OF SECOND QUARTER 2020 UNAUDITED RESULTS:
During the fourth quarter of fiscal year 2020, the Company identified an error in the calculation of the goodwill derecognition associated with the sale of salons to franchisees in the second quarter. In the second quarter, goodwill derecognition was understated by $6.7 million, resulting in the loss from the sale of salons to franchisees and net loss being understated and goodwill being overstated by $6.7 million. The Company assessed the applicable guidance issued by the Securities and Exchange Commission (SEC) and the Financial Accounting Standards Board (FASB) and concluded these misstatements were not material, individually or in the aggregate, to the Company’s Unaudited Condensed Consolidated Financial Statements for the aforementioned interim period. However, to facilitate comparisons among periods, the Company has decided to revise its previously issued second quarter unaudited condensed consolidated financial information.
| | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended December 31, 2019 |
| | As Previously Reported | | Adjustments | | As Revised |
| | | | | | |
| | (Dollars in thousands, except per share amounts) |
| | | | | | |
| Loss from sale of salon assets to franchisees, net (1) | | $ | (5,692) | | | $ | (6,715) | | | $ | (12,407) | |
| Interest income and other, net (2) | | 4,346 | | | (1,477) | | | 2,869 | |
| Loss from continuing operations before income taxes | | (10,276) | | | (8,192) | | | (18,468) | |
| Income tax benefit | | 795 | | | 1,153 | | | 1,948 | |
| Net loss | | (9,402) | | | (7,039) | | | (16,441) | |
| Net loss per share | | (0.26) | | | (0.20) | | | (0.46) | |
| Comprehensive loss | | (8,861) | | | (7,039) | | | (15,900) | |
| Goodwill as of December 31, 2019 | | 293,019 | | | (6,715) | | | 286,304 | |
| Other assets as of December 31, 2019 | | 38,144 | | | (1,477) | | | 36,667 | |
| Other non-current liabilities as of December 31, 2019 | | 95,979 | | | (1,153) | | | 94,826 | |
| | | | | | | | | | | | | | | | | | | | |
| | Six Months Ended December 31, 2019 |
| | As Previously Reported | | Adjustments | | As Revised |
| | | | | | |
| | (Dollars in thousands, except per share amounts) |
| | | | | | |
| Loss from sale of salon assets to franchisees, net (1) | | $ | (11,552) | | | $ | (6,715) | | | $ | (18,267) | |
| Interest income and other, net (2) | | 4,517 | | | (1,477) | | | 3,040 | |
| Loss from continuing operations before income taxes | | (27,310) | | | (8,192) | | | (35,502) | |
| Income tax benefit | | 3,651 | | | 1,153 | | | 4,804 | |
| Net loss | | (23,207) | | | (7,039) | | | (30,246) | |
| Net loss per share | | (0.64) | | | (0.20) | | | (0.84) | |
| Comprehensive loss | | (23,069) | | | (7,039) | | | (30,108) | |
_______________________________________________________________________________
The Company revised the amounts originally reported for the second quarter of fiscal year 2020 for the following items:
(1)Recorded an additional $6.7 million loss from the sale of salons to franchisees, net that should have been recorded in the second quarter. The error in the Company's goodwill derecognition estimation calculation was identified in the fourth quarter of fiscal year 2020. The goodwill derecognition was understated which understated the loss of the sale of salons to franchisees, net. The error impacted the three and six months ended December 31, 2019.
(2)Recorded a reduction to the gain on the sale of a building, included in interest income and other, net related to the sale of the Company's headquarters which occurred in the second quarter of fiscal year 2020. Previously, the Company identified this error during the third quarter of fiscal year 2020 and recorded and disclosed the correction in the third quarter as an out-of-period adjustment. The correction applies to the three and six months ended December 31, 2019.
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Management’s Discussion and Analysis of Financial Condition and Results of Operations (MD&A) is designed to provide a reader of our consolidated financial statements with a narrative from the perspective of our management on our financial condition, results of operations, liquidity and certain other factors that may affect our future results. This MD&A should be read in conjunction with the MD&A included in our June 30, 2020 Annual Report on Form 10-K and other documents filed or furnished with the Securities and Exchange Commission (SEC) during the current fiscal year.
MANAGEMENT’S OVERVIEW
Regis Corporation (RGS) franchises, owns, and operates beauty salons. As of December 31, 2020, the Company franchised, owned or held ownership interests in 6,384 worldwide locations. Our locations consisted of 6,306 system-wide North American and International salons, and in 78 locations we maintained a non-controlling ownership interest less than 100 percent. Each of the Company’s salon concepts generally offer similar salon products and services and serve the mass market. As of December 31, 2020, we had approximately 5,000 corporate employees worldwide.
Impact of COVID-19 on Business Operations
During the period ended December 31, 2020, the global coronavirus pandemic ("COVID-19") had an adverse impact on operations, including prolonged government mandated salon closures in California and Ontario, in addition to other U.S. states and Canadian provinces. As of January 25, 2021, our California salons were allowed to re-open. The COVID-19 pandemic continues to impact salon guest visits resulting in a significant reduction in revenue and traffic. Due to the economic disruption caused by the COVID-19 pandemic, the Company faces a greater degree of uncertainty than normal in making judgments and estimates needed to apply the Company's significant accounting policies. Actual results and outcomes may differ from management's estimates and assumptions.
CRITICAL ACCOUNTING POLICIES
The interim unaudited Condensed Consolidated Financial Statements are prepared in conformity with accounting principles generally accepted in the United States of America. In preparing the interim unaudited Condensed Consolidated Financial Statements, we are required to make various judgments, estimates and assumptions that could have a significant impact on the results reported in the interim unaudited Condensed Consolidated Financial Statements. We base these estimates on historical experience and other assumptions believed to be reasonable under the circumstances. Estimates are considered to be critical if they meet both of the following criteria: (1) the estimate requires assumptions about material matters that are uncertain at the time the accounting estimates are made, and (2) other materially different estimates could have been reasonably made or material changes in the estimates are reasonably likely to occur from period to period. Changes in these estimates could have a material effect on our interim unaudited Condensed Consolidated Financial Statements.
Our significant accounting policies can be found in Note 1 to the Consolidated Financial Statements contained in Part II, Item 8 of the June 30, 2020 Annual Report on Form 10-K, as well as Notes 1 and 2 to the unaudited Condensed Consolidated Financial Statements contained within this Quarterly Report on Form 10-Q. We believe the accounting policies related to the valuation of goodwill, the valuation and estimated useful lives of long-lived assets, estimates used in relation to tax liabilities and deferred taxes are most critical to aid in fully understanding and evaluating our reported financial condition and results of operations. Discussion of each of these policies is contained under “Critical Accounting Policies” in Part II, Item 7 of our June 30, 2020 Annual Report on Form 10-K. Our policies related to revenue recognition guidance, ASC Topic 606, can be found in Note 2 to the unaudited Condensed Consolidated Financial Statements.
RESULTS OF OPERATIONS
Impact of salons sold to franchisees on operations.
In the three and six months ended December 31, 2020, the Company sold 145 and 282, respectively, company-owned salons to franchisees. The impact of these transactions are as follows:
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Three Months Ended December 31, | | Increase (Decrease) | | Six Months Ended December 31, | | Increase (Decrease) |
| | 2020 | | 2019 | | | 2020 | | 2019 | |
| | | | | | | | | | | | |
| | (Dollars in thousands) |
| | | | | | | | | | | | |
| Salons sold to franchisees | | 145 | | | 443 | | | (298) | | | 282 | | | 988 | | | (706) | |
| Cash proceeds received | | $ | 3,413 | | | $ | 31,468 | | | $ | (28,055) | | | $ | 7,148 | | | $ | 69,414 | | | $ | (62,266) | |
| | | | | | | | | | | | |
| (Loss) gain on venditions, excluding goodwill derecognition | | $ | (3,226) | | | $ | 14,993 | | | $ | (18,219) | | | $ | (3,888) | | | $ | 41,213 | | | $ | (45,101) | |
| Non-cash goodwill derecognition | | — | | | (27,400) | | | 27,400 | | | — | | | (59,480) | | | 59,480 | |
| Loss from sale of salon assets to franchisees, net | | $ | (3,226) | | | $ | (12,407) | | | $ | 9,181 | | | $ | (3,888) | | | $ | (18,267) | | | $ | 14,379 | |
System-wide results
As we transition to an asset-light franchise platform, our results will be more impacted by our system-wide sales, which include sales by all points of distribution, whether owned by the Company or our franchisees. While we do not record sales by franchisees as revenue, and such sales are not included in our consolidated financial statements, we believe that this operating measure is important in obtaining an understanding of our financial performance. We believe system-wide sales information aids in understanding how we derive royalty revenue and in evaluating performance.
System-wide same-store sales by concept are detailed in the table below:
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended December 31, | | Six Months Ended December 31, |
| | 2020 | | 2019 | | 2020 | | 2019 |
| | | | | | | | |
| SmartStyle | | (32.2) | % | | (4.3) | % | | (33.0) | % | | (3.1) | % |
| Supercuts | | (32.9) | | | (1.1) | | | (33.2) | | | (0.4) | |
| Portfolio Brands | | (30.0) | | | (2.3) | | | (30.1) | | | (2.0) | |
| Consolidated system-wide same store sales | | (32.0) | % | | (2.3) | % | | (32.3) | % | | (1.7) | % |
_______________________________________________________________________________
(1)System-wide same-store sales are calculated as the total change in sales for system-wide franchise and company-owned locations for more than one year that were open on a specific day of the week during the current period and the corresponding prior period. Quarterly and year-to-date system-wide same-store sales are the sum of the system-wide same-store sales computed on a daily basis. Franchise salons that do not report daily sales are excluded from same-store sales. Locations relocated within a one-mile radius are included in same-store sales as they are considered to have been open in the prior period. System-wide same-store sales are calculated in local currencies to remove foreign currency fluctuations from the calculation. TBG salons were not a franchise location in fiscal year 2021 so they are excluded from fiscal year 2020 same-store sales for comparability.
Condensed Consolidated Results of Operations (Unaudited)
The following table sets forth, for the periods indicated, certain information derived from our unaudited Condensed Consolidated Statement of Operations. The percentages are computed as a percent of total consolidated revenues, except as otherwise indicated.
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Three Months Ended December 31, | | Six Months Ended December 31, |
| | 2020 | | 2019 | | 2020 | | 2019 | | 2020 | | 2020 | | 2019 | | 2020 | | 2019 | | 2020 |
| | | | | | | | | | | | | | | | | | | |
| | ($ in millions) | | % of Total
Revenues (1) | | (Decrease)
Increase | | ($ in millions) | | % of Total
Revenues (1) | | (Decrease)
Increase |
| | | | | | | | | | | | | | | | | | | |
| Service revenues | $ | 29.0 | | | $ | 101.8 | | | 27.8 | % | | 48.8 | % | | (2,100) | | | $ | 65.4 | | | $ | 243.7 | | | 30.3 | % | | 53.5 | % | | (2,320) | |
| Product revenues | 23.1 | | | 44.0 | | | 22.1 | | | 21.1 | | | 100 | | | 47.9 | | | 89.6 | | | 22.2 | | | 19.7 | | | 250 | |
| Royalties and fees | 19.9 | | | 29.3 | | | 19.1 | | | 14.1 | | | 500 | | | 37.9 | | | 57.4 | | | 17.6 | | | 12.6 | | | 500 | |
| Franchise rental income | 32.3 | | | 33.6 | | | 31.0 | | | 16.1 | | | 1,490 | | | 64.6 | | | 65.1 | | | 29.9 | | | 14.3 | | | 1,560 | |
| | | | | | | | | | | | | | | | | | | |
| Cost of service (2) | 22.1 | | | 67.4 | | | 76.2 | | | 66.2 | | | 1,000 | | | 50.6 | | | 157.8 | | | 77.4 | | | 64.8 | | | 1,260 | |
| Cost of product (2) | 17.2 | | | 27.3 | | | 74.5 | | | 62.0 | | | 1,250 | | | 33.6 | | | 53.6 | | | 70.1 | | | 59.8 | | | 1,030 | |
| Site operating expenses | 10.4 | | | 26.3 | | | 10.0 | | | 12.6 | | | (260) | | | 23.6 | | | 59.3 | | | 10.9 | | | 13.0 | | | (210) | |
| General and administrative | 26.7 | | | 32.7 | | | 25.6 | | | 15.7 | | | 990 | | | 52.8 | | | 73.3 | | | 24.5 | | | 16.1 | | | 840 | |
| Rent | 12.9 | | | 20.5 | | | 12.4 | | | 9.8 | | | 260 | | | 26.1 | | | 44.8 | | | 12.1 | | | 9.8 | | | 230 | |
| Franchise rent expense | 32.3 | | | 33.6 | | | 31.0 | | | 16.1 | | | 1,490 | | | 64.6 | | | 65.1 | | | 29.9 | | | 14.3 | | | 1,560 | |
| Depreciation and amortization | 6.4 | | | 7.7 | | | 6.1 | | | 3.7 | | | 240 | | | 13.8 | | | 17.1 | | | 6.4 | | | 3.8 | | | 260 | |
| Long-lived asset impairment | 3.2 | | | — | | | 3.1 | | | — | | | N/A | | 9.0 | | | — | | | 4.2 | | | — | | | N/A |
| TBG restructuring | — | | | 0.7 | | | — | | | 0.3 | | | (30) | | | — | | | 2.2 | | | — | | | 0.5 | | | (50) | |
| | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | |
| Operating loss (3) | (26.8) | | | (7.5) | | | (25.7) | | | (3.6) | | | (2,210) | | | (58.3) | | | (17.4) | | | (27.0) | | | (3.8) | | | (2,320) | |
| | | | | | | | | | | | | | | | | | | |
| Interest expense | (3.7) | | | (1.5) | | | (3.5) | | | (0.7) | | | (280) | | | (7.5) | | | (2.9) | | | (3.5) | | | (0.6) | | | (290) | |
| Loss from sale of salon assets to franchisees, net | (3.2) | | | (12.4) | | | (3.1) | | | (5.9) | | | 280 | | | (3.9) | | | (18.3) | | | (1.8) | | | (4.0) | | | 220 | |
| Interest income and other, net | 0.4 | | | 2.9 | | | 0.4 | | | 1.4 | | | (100) | | | 0.5 | | | 3.0 | | | 0.2 | | | 0.7 | | | (50) | |
| | | | | | | | | | | | | | | | | | | |
| Income tax benefit (4) | 0.4 | | | 1.9 | | | 1.2 | | | 10.3 | | | N/A | | 1.0 | | | 4.8 | | | 1.5 | | | 13.5 | | | N/A |
| | | | | | | | | | | | | | | | | | | |
| Income from discontinued operations, net of income taxes | — | | | 0.1 | | | — | | | — | | | — | | | — | | | 0.5 | | | — | | | 0.1 | | | (10) | |
_______________________________________________________________________________
(1)Cost of service is computed as a percent of service revenues. Cost of product is computed as a percent of product revenues.
(2)Excludes depreciation and amortization expense.
(3)Total is a recalculation; line items calculated individually may not sum to total due to rounding.
(4)Computed as a percent of loss from continuing operations before income taxes. The income taxes basis point change is noted as not applicable (N/A) as the discussion within MD&A is related to the effective income tax rate.
Consolidated Revenues
Consolidated revenues primarily include revenues of company-owned salons, product and equipment sales to franchisees, franchise royalties and fees and franchise rental income. The following tables summarize revenues and same-store sales by concept, as well as the reasons for the percentage change:
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Three Months Ended December 31, | | Six Months Ended December 31, |
| | | 2020 | | 2019 | | 2020 | | 2019 |
| | | | | | | | |
| | | (Dollars in thousands) |
| | | | | | | | |
| Franchise salons: | | | | | | | | |
| Product | | $ | 14,236 | | | $ | 16,864 | | | $ | 27,978 | | | $ | 29,969 | |
| Royalties and fees | | 19,902 | | | 29,347 | | | 37,858 | | | 57,364 | |
| Franchise rental income | | 32,285 | | | 33,630 | | | 64,568 | | | 65,054 | |
| Total, Franchise salons | | $ | 66,423 | | | $ | 79,841 | | | $ | 130,404 | | | $ | 152,387 | |
| Franchise salon same-store sales decrease (1) | | (31.1) | % | | (1.4) | % | | (31.5) | % | | (0.8) | % |
| | | | | | | | |
| Company-owned salons: | | | | | | | | |
| SmartStyle | | $ | 13,633 | | | $ | 66,103 | | | $ | 32,746 | | | $ | 151,634 | |
| Supercuts | | 6,200 | | | 16,967 | | | 11,819 | | | 41,321 | |
| Portfolio Brands | | 18,064 | | | 45,854 | | | 40,747 | | | 110,461 | |
| Total, Company-owned salons | | $ | 37,897 | | | $ | 128,924 | | | $ | 85,312 | | | $ | 303,416 | |
| Company-owned salon same-store sales decrease (2) | | (36.2) | % | | (3.6) | % | | (35.4) | % | | (2.7) | % |
| | | | | | | | |
| Consolidated revenues | | $ | 104,320 | | | $ | 208,765 | | | $ | 215,716 | | | $ | 455,803 | |
| Percent change from prior year | | (50.0) | % | | (24.0) | % | | (52.7) | % | | (19.0) | % |
_______________________________________________________________________________
(1)Franchise same-store sales are calculated as the total change in sales for salons that have been a franchise location for more than one year that were open on a specific day of the week during the current period and the corresponding prior period. Quarterly and year-to-date franchise same-store sales are the sum of the franchise same-store sales computed on a daily basis. Franchise salons that do not report daily sales are excluded from same-store sales. Locations relocated within a one-mile radius are included in same-store sales as they are considered to have been open in the prior period. Franchise same-store sales are calculated in local currencies to remove foreign currency fluctuations from the calculation. TBG salons were not a franchise location in fiscal year 2021 so they are excluded from fiscal year 2020 same-store sales for comparability.
(2)Company-owned same-store sales are calculated as the total change in sales for company-owned locations that were open on a specific day of the week during the current period and the corresponding prior period. Quarterly and year-to-date company-owned same-store sales are the sum of the company-owned same-store sales computed on a daily basis. Locations relocated within a one-mile radius are included in same-store sales as they are considered to have been open in the prior period. Company-owned same-store sales are calculated in local currencies to remove foreign currency fluctuations from the calculation.
Three and Six Months Ended December 31, 2020 Compared with Three and Six Months Ended December 31, 2019
Consolidated Revenues
Consolidated revenues are primarily comprised of service and product revenues, as well as franchise royalties and fees, advertising and rental income.
Consolidated revenue decreased $104.4 and $240.1 million, or 50.0% and 52.7%, for the three and six months ended December 31, 2020, respectively. Service revenue and product revenue decreased $72.8 and $20.8 million, respectively, in the three months ended December 31, 2020 and decreased $178.3 million and $41.7 million, respectively, in the six months ended December 31, 2020. The decline in service and product revenue is primarily due to the Company's sale of salons to franchisees. During the twelve months ended December 31, 2020, 768 salons were sold to franchisees, net of buy backs and 800 and 39 system-wide salons were closed and constructed, respectively (2021 Net Salon Count Changes). For the three and six months ended December 31, 2020, the impact to consolidated revenue due to the sale of salons to franchisees and closure of salons was $70.0 and $168.6 million, respectively. System-wide same-store-sales also declined, primarily due to the COVID-19 pandemic, in the three and six months ended December 31, 2020, which also contributed to the decline in service, product and royalties and fees revenue.
Service Revenues
The decreases of $72.8 and $178.3 million, or 71.5% and 73.2%, in service revenues during the three and six months ended December 31, 2020, respectively, were primarily due to the 2021 Net Salon Count Changes. For the three and six months ended December 31, 2020, the impact to service revenue due to the sale of salons to franchisees and closure of salons was $55.5 and $137.1 million, respectively. Service revenues also decreased due to fewer guest visits as a result of the COVID-19 pandemic.
Product Revenues
The decreases of $20.8 and $41.7 million, or 47.4% and 46.6%, in product revenues during the three and six months ended December 31, 2020, respectively, were primarily due to the 2021 Net Salon Count Changes. For the three and six months ended December 31, 2020, the impact to product revenue due to the sale of salons to franchisees and closure of salons was $14.5 and $31.5 million, respectively. Additionally, franchise same-store product sales declined 28.1% and 26.3% for the three and six months ended December 31, 2020, respectively, contributing to the decline.
Royalties and Fees
The decreases of $9.4 and $19.5 million, or 32.2% and 34.0%, in royalties and fees for the three and six months ended December 31, 2020, respectively, were primarily due a $6.0 and $11.9 million decline in cooperative advertising funds charged to franchisees during the three and six months ended December 31, 2020, respectively. Cooperative advertising funds were temporarily reduced as part of our COVID-19 pandemic relief effort and also declined due to lower same-store sales. The declines in cooperative advertising are offset in site expense and have no impact on operating income. The declines in royalties and fees are also due to the decrease in franchise same-store sales of 31.1% and 31.5% for the three and six months ended December 31, 2020, respectively, partially offset by an increase in franchise salons. Total franchised locations open at December 31, 2020 were 5,269 as compared to 4,790 at December 31, 2019.
Franchise Rental Income
The decreases of $1.3 and $0.5 million, or 4.0% and 0.7%, in franchise rental income for the three and six months ended December 31, 2020, respectively, is due to the rental income from TBG salons included in fiscal year 2020.
Cost of Service
The 1,000 and 1,260 basis point increases in cost of service as a percent of service revenues during the three and six months ended December 31, 2020, respectively, were primarily due to inefficient and non-productive stylist hours as a result of reduced traffic from the COVID-19 pandemic and higher minimum wages.
Cost of Product
The 1,250 and 1,030 basis point increases in cost of product as a percent of product revenues during the three and six months ended December 31, 2020, respectively, were primarily due to the shift to franchise product sales. Margins on retail product sales were 33.6% and 47.7% in the three months ended December 31, 2020 and 2019, respectively. Margins on franchise product sales were 20.7% and 22.5% in the three months ended December 31, 2020 and 2019, respectively. Margins on retail product sales were 41.7% and 49.3% in the six months ended December 31, 2020 and 2019, respectively. Margins on franchise product sales were 21.5% and 22.1% in the six months ended December 31, 2020 and 2019, respectively. Decreases in franchise product margins were primarily driven by a shift to lower margin customers and products.
Site Operating Expenses
The decreases of $15.9 and $35.7 million, or 60.7% and 60.2%, in site operating expenses during the three and six months ended December 31, 2020, respectively, were due to a net reduction in salon counts, $6.0 and $11.9 million decreases in cooperative advertising expense for the three and six months ended December 31, 2020, respectively, as noted above in Royalties and fees, and decreases in marketing spend.
General and Administrative
The decreases of $6.0 and $20.5 million, or 18.4% and 27.9%, in general and administrative (G&A) during the three and six months ended December 31, 2020, respectively, were primarily due to lower administrative and field management salaries due to reductions in headcount as we align our cost structure with our transition to an asset-light franchise model. A benefit from the forfeiture of equity awards related to the departure of the Company's former CEO contributed $2.4 million to the decrease in the six months ended December 31, 2020. Additionally, $1.3 million of the decline in the six months ended December 31, 2020 is due to the Company not holding its annual franchise convention in fiscal year 2021 due to the COVID-19 pandemic.
Rent
The decreases of $7.6 and $18.7 million, or 37.0% and 41.6%, in rent expense during the three and six months ended December 31, 2020, respectively, were primarily due to the net reduction in the number of company-owned salons associated with the Company's transformation to a fully-franchised portfolio, partially offset by rent inflation.
Franchise Rent Expense
In the three and six months ended December 31, 2020, respectively, the decreases of $1.3 and $0.5 million, or 4.0% and 0.7%, in franchise rent expense is due to the rental income from TBG salons included in fiscal year 2020.
Depreciation and Amortization
The decreases of $1.3 and $3.3 million, or 17.5% and 19.6%, in depreciation and amortization during the three and six months ended December 31, 2020, respectively, were primarily due to the net reduction in company-owned salon counts. Additionally, salon asset impairment of $1.1 and $2.6 million were recorded to depreciation expense in the three and six months ended December 31, 2019, respectively.
Long-Lived Asset Impairment
In the three and six months ended December 31, 2020, the Company recorded a long-lived asset impairment charge of $3.2 and $9.0 million, respectively, which included a right of use asset impairment charge of $1.5 and $6.0 million, respectively, and salon asset impairment of $1.7 and $3.0 million, respectively. Prior to the COVID-19 pandemic that began in fiscal year 2020, the Company had not recorded a right of use asset impairment charge.
TBG Restructuring
In the three and six months ended December 31, 2019, the Company recorded $0.7 and $2.2 million, respectively, of TBG restructuring charges, which related to professional fees and the Company assisting TBG with operating expenses to mitigate the risk of default associated with TBG's lease obligations. See Note 3 to the unaudited Condensed Consolidated Financial Statements.
Interest Expense
The increases of $2.2 and $4.6 million in interest expense for the three and six months ended December 31, 2020, respectively, were primarily due to the increased interest rate and the additional borrowings.
Loss from sale of salon assets to franchisees, net
In the three and six months ended December 31, 2020, the loss from sale of salon assets to franchisees was $3.2 and $3.9 million, respectively. In the three and six months ended December 31, 2019, the loss from the sale of salon assets to franchisees was $12.4 and $18.3 million, respectively, including non-cash goodwill derecognition of $27.4 and $59.5 million, respectively. There was no goodwill derecognition in fiscal year 2021 due to the company-owned goodwill impairment in the third quarter of fiscal year 2020.
Interest Income and Other, net
The decreases of $2.5 and $2.5 million, respectively, in interest income and other, net during the three and six months ended December 31, 2020 was primarily due to the gain from the sale of the Company's headquarters recorded in the period ended December 31, 2019.
Income Taxes
During the three and six months ended December 31, 2020, the Company recognized tax benefits of $0.4 and $1.0 million, respectively, with corresponding effective tax rates of 1.2% and 1.5% as compared to recognizing tax benefits of $1.9 and $4.8 million, respectively, with corresponding effective tax rates of 10.5% and 13.5% during the three and six months ended December 31, 2019.
See Note 6 to the unaudited Condensed Consolidated Financial Statements.
Income from Discontinued Operations
Income from discontinued operations was $0.1 and $0.5 million during the three and six months ended December 31, 2019, respectively, due to actuarial insurance reserve adjustments. Similar adjustments did not occur in the three and six months ended December 31, 2020.
Results of Operations by Segment
Based on our internal management structure, we report two segments: Franchise salons and Company-owned salons. See Note 13 to the unaudited Condensed Consolidated Financial Statements. Significant results of operations are discussed below with respect to each of these segments.
Franchise Salons
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Three Months Ended December 31, | | Six Months Ended December 31, |
| 2020 | | 2019 | | Increase (Decrease) | | 2020 | | 2019 | | Increase (Decrease) |
| | | | | | | | | |
| (Dollars in millions) | | | (Dollars in millions) | |
| | | | | | | | | | | |
| Revenue | | | | | | | | | | | |
| Product | $ | 14.2 | | | $ | 16.2 | | | $ | (2.0) | | | $ | 28.0 | | | $ | 28.0 | | | $ | — | |
| Product sold to TBG | — | | | 0.7 | | | (0.7) | | | — | | | 2.0 | | | (2.0) | |
| Total product | 14.2 | | | 16.9 | | | (2.7) | | | 28.0 | | | 30.0 | | | (2.0) | |
| Royalties and fees | 19.9 | | | 29.3 | | | (9.4) | | | 37.9 | | | 57.4 | | | (19.5) | |
| Franchise rental income | 32.3 | | | 33.6 | | | (1.3) | | | 64.6 | | | 65.1 | | | (0.5) | |
| Total franchise salons revenue (1) | $ | 66.4 | | | $ | 79.8 | | | $ | (13.4) | | | $ | 130.4 | | | $ | 152.4 | | | $ | (22.0) | |
| | | | | | | | | | | |
| Franchise same-store sales (2) | (31.1) | % | | (1.4) | % | | | | (31.5) | % | | (0.8) | % | | |
| | | | | | | | | | | |
| Operating income | $ | 10.4 | | | $ | 12.9 | | | $ | (2.5) | | | $ | 16.8 | | | $ | 24.7 | | | $ | (7.9) | |
| Operating loss from TBG restructuring | — | | | (0.8) | | | 0.8 | | | — | | | (2.4) | | | 2.4 | |
| Total operating income (1) | $ | 10.4 | | | $ | 12.1 | | | $ | (1.7) | | | $ | 16.8 | | | $ | 22.3 | | | $ | (5.5) | |
_______________________________________________________________________________
(1)Total is a recalculation; line items calculated individually may not sum to total due to rounding.
(2)Franchise same-store sales are calculated as the total change in sales for salons that have been a franchise location for more than one year that were open on a specific day of the week during the current period and the corresponding prior period. Quarterly and year-to-date franchise same-store sales are the sum of the franchise same-store sales computed on a daily basis. Franchise salons that do not report daily sales are excluded from same-store sales. Locations relocated within a one-mile radius are included in same-store sales as they are considered to have been open in the prior period. Franchise same-store sales are calculated in local currencies to remove foreign currency fluctuations from the calculation. TBG salons were not a franchise location in fiscal year 2021 so they are excluded from fiscal year 2020 same-store sales for comparability.
Franchise same-store sales by concept are detailed in the table below:
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended December 31, | | Six Months Ended December 31, |
| | 2020 | | 2019 | | 2020 | | 2019 |
| | | | | | | | |
| SmartStyle | | (30.4) | % | | (7.6) | % | | (31.0) | % | | (7.6) | % |
| Supercuts | | (32.5) | | | (0.5) | | | (32.7) | | | 0.3 | |
| Portfolio Brands | | (28.4) | | | (1.4) | | | (28.8) | | | (1.0) | |
| Total | | (31.1) | % | | (1.4) | % | | (31.5) | % | | (0.8) | % |
Franchise Salon Revenues
Franchise salon revenues decreased $13.4 and $22.0 million during the three and six months ended December 31, 2020, respectively. The decreases were due to decreases in royalties and cooperative fund contributions due to the COVID-19 pandemic. During the twelve months ended December 31, 2020, franchisees constructed (net of relocations) and closed 34 and 323 Franchise-owned salons, respectively, and purchased (net of Company buybacks) 768 salons from the Company during the same period.
Franchise Salon Operating Income
During the three months ended December 31, 2020, Franchise salon operations generated operating income of $10.4 million, a decrease of $1.7 million compared to the prior comparable period. During the six months ended December 31, 2020, Franchise salon operations generated operating income of $16.8 million, a decrease of $5.5 million compared to the prior comparable period. The decrease was primarily due to the decrease in royalties due to the COVID-19 pandemic.
Company-owned Salons
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Three Months Ended December 31, | | Six Months Ended December 31, |
| 2020 | | 2019 | | Increase (Decrease) | | 2020 | | 2019 | | Increase (Decrease) |
| | | | | | | | | |
| (Dollars in millions) | | | (Dollars in millions) | |
| | | | | | | | | | | |
| Total revenue | $ | 37.9 | | | $ | 128.9 | | | $ | (91.0) | | | $ | 85.3 | | | $ | 303.4 | | | $ | (218.1) | |
| Company-owned same-store sales | (36.2) | % | | (3.6) | % | | | | (35.4) | % | | (2.7) | % | | |
| Operating (loss) income | $ | (17.4) | | | $ | (1.1) | | | $ | (16.3) | | | $ | (38.1) | | | $ | 4.3 | | | $ | (42.4) | |
Company-owned same-store sales by concept are detailed in the table below:
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Three Months Ended December 31, | | Six Months Ended December 31, |
| | | 2020 | | 2019 | | 2020 | | 2019 |
| | | | | | | | |
| SmartStyle | | (35.3) | % | | (3.5) | % | | (35.4) | % | | (2.2) | % |
| Supercuts | | (40.0) | | | (5.1) | | | (39.5) | | | (4.4) | |
| Portfolio Brands | | (35.1) | | | (3.3) | | | (33.6) | | | (2.8) | |
| Total | | (36.2) | % | | (3.6) | % | | (35.4) | % | | (2.7) | % |
Company-owned Salon Revenues
Company-owned salon revenues decreased $91.0 and $218.1 million during the three and six months ended December 31, 2020, respectively, primarily due to the 2021 Net Salon Count Changes and a decline in sales as a result of the COVID-19 pandemic. Company-owned same-store sale decreased 36.2% and 35.4% during the three and six months ended December 31, 2020, respectively, due to decreases of 47.0% and 47.7% in same-store guest transactions during the three and six months ended December 31, 2020, respectively, which were negatively impacted by the COVID-19 pandemic. These decreases were partially offset by increases of 10.8% and 12.3% in average ticket prices during the three and six months ended December 31, 2020, respectively.
Company-owned Salon Operating (Loss) Income
During the three and six months ended December 31, 2020, company-owned salon operations operating income decreased $16.3 and $42.4 million, respectively, to a loss of $17.4 and $38.1 million, respectively, compared to the prior comparable period. The decreases during the three and six months ended December 31, 2020 were primarily due to the COVID-19 pandemic and the right of use asset impairment. These declines were partially offset by an overall decline in general and administrative expense and marketing spend.
Corporate
Corporate Operating Loss
Corporate operating loss increased $1.3 million during the three months ended December 31, 2020, primarily driven by lapping stock compensation benefits associated with a change in performance awards assumptions and executive departures in fiscal year 2020 as well as higher severance costs in fiscal year 2021. Corporate operating loss decreased $7.0 million during the six months ended December 31, 2020, primarily driven by lower general and administrative salaries due to lower headcount and the cancellation of the traditional in-person franchise convention in fiscal year 2021.
LIQUIDITY AND CAPITAL RESOURCES
Sources of Liquidity
Funds generated by operating activities, available cash and cash equivalents, proceeds from sale of salon assets to franchisees, and our borrowing agreements are our most significant sources of liquidity.
As of December 31, 2020, cash and cash equivalents were $50.9 million, with $49.1 and $1.8 million within the United States and Canada, respectively.
The Company's borrowing arrangements include a $295.0 million five-year unsecured revolving credit facility that expires in March 2023, of which $98.8 million was available as of December 31, 2020. The Company's liquidity, which includes the unused available balance under the credit facility and unrestricted cash and cash equivalents, totaled $149.7 million as of December 31, 2020. The revolving credit facility has a minimum liquidity covenant of $75.0 million (see Note 11 to the unaudited Condensed Consolidated Financial Statements).
On February 3, 2021, the Company filed a $150 million shelf registration and $50 million prospectus supplement with the Securities and Exchange Commission under which it may offer and sell, from time to time, up to $50 million worth of its of its Class A common stock in “at-the-market offerings.” Net proceeds from sales of shares under the “at-the-market” program, if any, may be used, among other things, to fund working capital requirements, repay debt and support of our growth strategies. Such strategies may include positioning the Company for potential expansion through targeted industry acquisitions and alternatives to fund additional capital investment requirements related to potential partnership opportunities to facilitate continued growth of our proprietary technology, Opensalon® Pro. The timing and amount of sales of shares, if any, will depend on a variety of factors, including prevailing market conditions, the trading price of shares, and other factors as determined by the Company.
Uses of Cash
The Company closely manages its liquidity and capital resources. The Company's liquidity requirements depend on key variables, including the level of investment needed to support its business strategies, the performance of the business, capital expenditures, credit facilities and borrowing arrangements, and working capital management. Capital expenditures are a component of the Company's cash flow and capital management strategy, which can be adjusted in response to economic and other changes to the Company's business environment. The Company has a disciplined approach to capital allocation, which focuses on investing in key priorities to support the Company's response to the COVID-19 pandemic, as well as its multi-year strategic plan as discussed within Part I, Item 1 of our Annual Report on Form 10-K for the fiscal year ended June 30, 2020.
Cash Flows
Cash Flows from Operating Activities
During the six months ended December 31, 2020, cash used in operating activities was $65.5 million, an increase of $46.1 million compared to the prior comparable period. Cash used in operations increased due to lower revenues and margins, payments of $11.0 million to catch up on payables related to fiscal year 2020, CEO sign-on bonus of $2.5 million and $4.5 million of bonus payments related to fiscal year 2020 and payments for prepaid insurance of $1.2 million, partially offset by the elimination of certain general and administrative costs.
Cash Flows from Investing Activities
During the six months ended December 31, 2020, cash provided by investing activities of $0.6 million was primarily proceeds from the sale of salon assets of $7.1 million, partially offset by capital expenditures of $7.5 million.
Cash Flows from Financing Activities
During the six months ended December 31, 2020, cash used in financing activities was $1.3 million compared to cash used in financing activities of $60.5 million in the prior comparable period. In the six months ended December 31, 2019, the Company used $30.0 million to repay long-term debt and $28.2 million to purchase common stock.
Financing Arrangements
See Note 11 of the Notes to the unaudited Condensed Consolidated Financial Statements included in this Quarterly Report on Form 10-Q for the quarter ended December 31, 2020 and Note 8 of the Notes to the Consolidated Financial Statements included in our Annual Report on Form 10-K for the fiscal year ended June 30, 2020, for additional information regarding our financing arrangements.
Debt to Capitalization Ratio
Our debt to capitalization ratio, calculated as the principal amount of debt as a percentage of the principal amount of debt and shareholders’ equity at fiscal quarter end, was as follows:
| | | | | | | | | | | | | | |
| As of | | Debt to
Capitalization (1) | | Basis Point Increase (Decrease) (2) |
| | | | |
| December 31, 2020 | | 77.8 | % | | 1,580 | |
| June 30, 2020 | | 62.0 | % | | 3,520 | |
_______________________________________________________________________________
(1)Debt includes long-term debt and financing liabilities. It excludes long-term lease liability as that liability is offset by the right of use asset.
(2)Represents the basis point change in debt to capitalization as compared to the prior fiscal year end (June 30, 2020 and June 30, 2019, respectively).
The 1,580 basis point increase in the debt to capitalization ratio as of December 31, 2020 as compared to June 30, 2020, was primarily due to the decreases in shareholders' equity as a result of the loss from operations.
Share Repurchase Program
In May 2000, the Company’s Board of Directors (Board) approved a stock repurchase program with no stated expiration date. Since that time and through December 31, 2020, the Board has authorized $650.0 million to be expended for the repurchase of the Company's stock under this program. All repurchased shares become authorized, but unissued shares of the Company. The timing and amounts of any repurchases depend on many factors, including the market price of the common stock and overall market conditions. During the three and six months ended December 31, 2020, the Company did not repurchase any shares. As of December 31, 2020, 30.0 million shares have been cumulatively repurchased for $595.4 million, and $54.6 million remains outstanding under the approved stock repurchase program.
SAFE HARBOR PROVISIONS UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995
This Quarterly Report on Form 10-Q, as well as information included in, or incorporated by reference from, future filings by the Company with the Securities and Exchange Commission and information contained in written material, press releases and oral statements issued by or on behalf of the Company contains or may contain “forward-looking statements” within the meaning of the federal securities laws, including statements concerning anticipated future events and expectations that are not historical facts. These forward-looking statements are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. The forward-looking statements in this document reflect management’s best judgment at the time they are made, but all such statements are subject to numerous risks and uncertainties, which could cause actual results to differ materially from those expressed in or implied by the statements herein. Such forward-looking statements are often identified herein by use of words including, but not limited to, “may,” “believe,” “project,” “forecast,” “expect,” “estimate,” “anticipate,” and “plan.” These uncertainties include a potential material adverse impact on our business and results of operations as a result of the uncertain duration and severity of the COVID-19 pandemic, as well as the health and risk appetite of our stylists, customers and employees to return to the salon environment; the continued ability of the Company to implement its strategy, priorities and initiatives including the re-engineering of our corporate and field infrastructure; our new company-owned back office management system may not yield the intended results on timing and amounts due to the COVID-19 pandemic, efforts by our current third-party back office management system vendor to make it difficult for our franchisees to convert to our new company-owned system, and the pending litigation with that third-party vendor; the impact of the COVID-19 pandemic on our key suppliers; the ability to address rent obligations incurred during the government-mandated hibernation of our salons related to the COVID-19 pandemic and the ability to obtain long-term rent concessions; the ability to operate or sell the salons transferred back from TBG; the outcome of the review by the administrator in TBG's insolvency proceedings in the United Kingdom; compliance with credit facility covenants and access to the existing revolving credit facility; our and our franchisees' ability to attract, train and retain talented stylists; financial performance of our franchisees; success of the sale of salons to franchisees; if our capital investments in technology do not achieve appropriate returns; our ability to manage cyber threats and protect the security of potentially sensitive information about our guests, employees, vendors or Company information; the ability of the Company to maintain a satisfactory relationship with Walmart; the impact of recent actions by Walmart; marketing efforts to drive traffic to our franchisees' salons; changes in regulatory and statutory laws including increases in minimum wages; our ability to maintain and enhance the value of our brands; premature termination of agreements with our franchisees; reliance on information technology systems; reliance on external vendors; consumer shopping trends and changes in manufacturer distribution channels; competition within the personal hair care industry; continued ability to compete in our business markets; the continued ability to maintain an effective system of internal controls over financial reporting; changes in tax exposure; failure to standardize operating processes across brands; financial performance of Empire Education Group; the continued ability of the Company to implement cost reduction initiatives; changes in economic conditions; changes in consumer tastes and fashion trends; failure at our distribution centers; exposure to uninsured or unidentified risks; reliance on our management team and other key personnel or other factors not listed above. Additional information concerning potential factors that could affect future financial results is set forth under Item 1A on Form 10-K. We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. However, your attention is directed to any further disclosures made in our subsequent annual and periodic reports filed or furnished with the SEC on Forms 10-K, 10-Q and 8-K and Proxy Statements on Schedule 14A.
Item 3. Quantitative and Qualitative Disclosures about Market Risk
We are exposed to market risk from changes in interest rates and changes in foreign currency exchange rates. There has been no material change to the factors discussed within Part II, Item 7A in the Company’s June 30, 2020 Annual Report on Form 10-K.
Item 4. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
The Company maintains disclosure controls and procedures that are designed to ensure that information required to be disclosed in its Securities Exchange Act of 1934, as amended (the "Exchange Act”) reports is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms, and that such information is accumulated and communicated to management, including the Chief Executive Officer (CEO) and Chief Financial Officer (CFO), as appropriate, to allow timely decisions regarding required disclosure.
Management, with the participation of the CEO and CFO, evaluated the effectiveness of the design and operation of the Company's disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) promulgated under the Exchange Act) as of the end of the period. Based on their evaluation, our CEO and CFO concluded that our disclosure controls and procedures were effective as of December 31, 2020.
Changes in Internal Controls over Financial Reporting
There were no material changes in our internal control over financial reporting during the most recent fiscal quarter that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
PART II — OTHER INFORMATION
Item 1. Legal Proceedings
The Company is a defendant in various lawsuits and claims arising out of the normal course of business. Our existing point of sale system supplier has challenged the development of certain parts of our technology systems (See Note 7 to the Condensed Consolidated Financial Statements) and like certain other large retail employers, the Company has been faced with allegations of purported class-wide consumer and wage and hour violations. Litigation is inherently unpredictable, and the outcome of these matters cannot presently be determined. Although the actions are being vigorously defended, the Company could in the future, incur judgments or enter into settlements of claims that could have a material adverse effect on its results of operations in any particular period.
Item 1A. Risk Factors
There have been no material changes in our risk factors from those disclosed in Part I, Item 1A of our Annual Report on Form 10-K for the fiscal year ended June 30, 2020, except for revision to the thirty-third risk factor listed below.
We rely on our management team and other key personnel.
We depend on the skills, working relationships, and continued services of key personnel, including our management team and others throughout our organization. We are also dependent on our ability to attract and retain qualified personnel, for whom we compete with other companies both inside and outside our industry. Our business, financial condition or results of operations may be adversely impacted by the unexpected loss of any of our management team or other key personnel, or more generally if we fail to identify, recruit, train and/or retain talented personnel. Effective October 5, 2020, our new Chief Executive Officer commenced his employment as part of a leadership transition. Any transition in senior executive leadership can impact relationships with our suppliers, franchisees, and employees and can lead to shifts in our operations.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
Share Repurchase Program
In May 2000, the Company’s Board of Directors (Board) approved a stock repurchase program with no stated expiration date. Since that time and through December 31, 2020, the Board has authorized $650.0 million to be expended for the repurchase of the Company's stock under this program. All repurchased shares become authorized but unissued shares of the Company. The timing and amounts of any repurchases depend on many factors, including the market price of the common stock and overall market conditions. During the three and six months ended December 31, 2020, the Company did not repurchase any shares. As of December 31, 2020, a total accumulated 30.0 million shares have been repurchased for $595.4 million. At December 31, 2020, $54.6 million remains outstanding under the approved stock repurchase program.
The following table shows the stock repurchase activity by the Company or any “affiliated purchaser” of the Company, as defined in Rule 10b-18(a)(3) under the Exchange Act, by month for the three months ended December 31, 2020:
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| Period | | Total Number of Shares Purchased | | Average Price Paid per Share | | Total Number of Shares Purchased As Part of Publicly Announced Plans or Programs | | Approximate Dollar Value of Shares that May Yet Be Purchased under the Plans or Programs (in thousands) |
| | | | | | | | |
| 10/1/20 - 10/31/20 | | — | | | $ | — | | | 29,974,657 | | | $ | 54,573 | |
| 11/1/20 - 11/30/20 | | — | | | — | | | 29,974,657 | | | 54,573 | |
| 12/1/20 - 12/31/20 | | — | | | — | | | 29,974,657 | | | 54,573 | |
| Total | | — | | | $ | — | | | 29,974,657 | | | $ | 54,573 | |
Item 6. Exhibits
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| | Separation agreement, dated December 7, 2020, between the Company and Eric Bakken. |
| | President and Chief Executive Officer of Regis Corporation: Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
| | Executive Vice President and Chief Financial Officer of Regis Corporation: Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
| | Chief Executive Officer and Chief Financial Officer of Regis Corporation: Certification pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
| Exhibit 101 | | The following financial information from Regis Corporation's Quarterly Report on Form 10-Q for the quarterly and year-to-date periods ended December 31, 2020, formatted in Inline Xtensible Business Reporting Language (iXBRL) and filed electronically herewith: (i) the Condensed Consolidated Balance Sheets; (ii) the Condensed Consolidated Statements of Earnings; (iii) the Condensed Consolidated Statements of Comprehensive Income; (iv) the Condensed Consolidated Statements of Cash Flows; and (v) the Notes to the Consolidated Financial Statements. |
| Exhibit 104 | | The cover page from Regis Corporation's Quarterly Report on Form 10-Q for the quarterly and year-to-date periods ended December 31, 2020, formatted in iXBRL (included as Exhibit 101). |
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
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| Date: February 3, 2021 | By: | /s/ Kersten D. Zupfer |
| | | Kersten D. Zupfer |
| | | Executive Vice President and Chief Financial Officer |
| | | (Principal Accounting Officer) |
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