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Section 1: 10-Q (10-Q)

sfm-10q_20171001.htm

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

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

For the quarterly period ended October 1, 2017

Commission File Number: 001-36029

 

Sprouts Farmers Market, Inc.

(Exact name of registrant as specified in its charter)

 

 

 

Delaware

32-0331600

(State or other jurisdiction of

incorporation or organization)

(I.R.S. Employer

Identification No.)

5455 East High Street, Suite 111

Phoenix, Arizona 85054

(Address of principal executive offices and zip code)

(480) 814-8016

(Registrant’s telephone number, including area code)

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

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

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

 

Large accelerated filer

Accelerated filer

 

 

 

 

Non-accelerated filer

  (Do not check if a smaller reporting company)

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 in Rule 12b-2 of the Exchange Act).    Yes    No

As of October 31, 2017, the registrant had 133,070,570 shares of common stock, $0.001 par value per share, outstanding.

 

 

 


SPROUTS FARMERS MARKET, INC. AND SUBSIDIARIES

QUARTERLY REPORT ON FORM 10-Q

FOR THE QUARTERLY PERIOD ENDED OCTOBER 1, 2017

TABLE OF CONTENTS

 

 

Page

PART I - FINANCIAL INFORMATION

 

 

 

Item 1. Financial Statements.

1

 

 

 

 

Consolidated Balance Sheets as of October 1, 2017 (unaudited) and January 1, 2017

1

 

 

 

 

Consolidated Statements of Operations for the thirteen and thirty-nine weeks ended October 1, 2017 and October 2, 2016 (unaudited)

2

 

 

 

 

Consolidated Statements of Stockholders’ Equity for the thirty-nine weeks ended October 1, 2017 (unaudited) and the year ended January 1, 2017

3

 

 

 

 

Consolidated Statements of Cash Flows for the thirty-nine weeks ended October 1, 2017 and October 2, 2016 (unaudited)

4

 

 

 

 

Notes to Unaudited Consolidated Financial Statements

5

 

 

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

17

 

 

Item 3. Quantitative and Qualitative Disclosures About Market Risk.

30

 

 

Item 4. Controls and Procedures.

30

 

 

PART II - OTHER INFORMATION

 

 

 

Item 1. Legal Proceedings.

31

 

 

Item 1A. Risk Factors.

31

 

 

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.

32

 

 

Item 6. Exhibits.

32

 

 

Signatures

33

 

 


Forward-Looking Statements

This Quarterly Report on Form 10-Q contains “forward-looking statements” that involve substantial risks and uncertainties. The statements contained in this Quarterly Report on Form 10-Q that are not purely historical are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (referred to as the “Securities Act”), and Section 21E of the Securities Exchange Act of 1934, as amended (referred to as the “Exchange Act”), including, but not limited to, statements regarding our expectations, beliefs, intentions, strategies, future operations, future financial position, future revenue, projected expenses, and plans and objectives of management. In some cases, you can identify forward-looking statements by terms such as “anticipate,” “believe,” “estimate,” “expect,” “intend,” “may,” “might,” “plan,” “project,” “will,” “would,” “should,” “could,” “can,” “predict,” “potential,” “continue,” “objective,” or the negative of these terms, and similar expressions intended to identify forward-looking statements. However, not all forward-looking statements contain these identifying words. These forward-looking statements reflect our current views about future events and involve known risks, uncertainties, and other factors that may cause our actual results, levels of activity, performance, or achievement to be materially different from those expressed or implied by the forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to, those discussed in the section titled “Risk Factors” included in this Quarterly Report on Form 10-Q, our Annual Report on Form 10-K for the fiscal year ended January 1, 2017, and our other filings with the Securities and Exchange Commission. Furthermore, such forward-looking statements speak only as of the date of this report. Except as required by law, we undertake no obligation to update any forward-looking statements to reflect events or circumstances after the date of such statements.

As used in this Quarterly Report on Form 10-Q, unless the context otherwise requires, references to the “Company,” “Sprouts,” ”Sprouts Farmers Market,” “we,” “us” and “our” refer to Sprouts Farmers Market, Inc. and, where appropriate, its subsidiaries.

 

 

 


PART I - FINANCIAL INFORMATION

Item 1.  Financial Statements

SPROUTS FARMERS MARKET, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)

 

 

 

October 1, 2017

 

 

January 1, 2017

 

 

 

(Unaudited)

 

 

 

 

 

ASSETS

 

 

 

 

 

 

 

 

Current assets:

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

18,892

 

 

$

12,465

 

Accounts receivable, net

 

 

23,231

 

 

 

25,228

 

Inventories

 

 

222,216

 

 

 

204,464

 

Prepaid expenses and other current assets

 

 

25,594

 

 

 

21,869

 

Total current assets

 

 

289,933

 

 

 

264,026

 

Property and equipment, net of accumulated depreciation

 

 

690,763

 

 

 

604,660

 

Intangible assets, net of accumulated amortization

 

 

196,556

 

 

 

197,608

 

Goodwill

 

 

368,078

 

 

 

368,078

 

Other assets

 

 

5,886

 

 

 

5,521

 

Total assets

 

$

1,551,216

 

 

$

1,439,893

 

LIABILITIES AND STOCKHOLDERS’ EQUITY

 

 

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

 

 

Accounts payable

 

$

179,482

 

 

$

157,550

 

Accrued salaries and benefits

 

 

41,219

 

 

 

32,859

 

Other accrued liabilities

 

 

60,683

 

 

 

56,376

 

Current portion of capital and financing lease obligations

 

 

8,776

 

 

 

12,370

 

Total current liabilities

 

 

290,160

 

 

 

259,155

 

Long-term capital and financing lease obligations

 

 

126,806

 

 

 

117,366

 

Long-term debt

 

 

349,000

 

 

 

255,000

 

Other long-term liabilities

 

 

126,127

 

 

 

116,200

 

Deferred income tax liability

 

 

42,508

 

 

 

19,263

 

Total liabilities

 

 

934,601

 

 

 

766,984

 

Commitments and contingencies (Note 8)

 

 

 

 

 

 

 

 

Stockholders’ equity:

 

 

 

 

 

 

 

 

Undesignated preferred stock; $0.001 par value; 10,000,000

   shares authorized, no shares issued and outstanding

 

 

 

 

 

 

Common stock, $0.001 par value; 200,000,000 shares authorized,

   133,070,570 and 140,256,313 shares issued and outstanding,

   October 1, 2017 and January 1, 2017, respectively

 

 

133

 

 

 

140

 

Additional paid-in capital

 

 

614,232

 

 

 

597,269

 

Retained earnings

 

 

2,250

 

 

 

75,500

 

Total stockholders’ equity

 

 

616,615

 

 

 

672,909

 

Total liabilities and stockholders’ equity

 

$

1,551,216

 

 

$

1,439,893

 

 

The accompanying notes are an integral part of these consolidated financial statements.  

 

 

1


SPROUTS FARMERS MARKET, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

(UNAUDITED)

(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)

 

 

 

Thirteen Weeks Ended

 

 

Thirty-nine Weeks Ended

 

 

 

October 1,

2017

 

 

October 2,

2016

 

 

October 1,

2017

 

 

October 2,

2016

 

Net sales

 

$

1,206,059

 

 

$

1,035,801

 

 

$

3,520,679

 

 

$

3,060,685

 

Cost of sales, buying and occupancy

 

 

859,650

 

 

 

744,288

 

 

 

2,494,998

 

 

 

2,156,857

 

Gross profit

 

 

346,409

 

 

 

291,513

 

 

 

1,025,681

 

 

 

903,828

 

Direct store expenses

 

 

250,191

 

 

 

216,932

 

 

 

715,336

 

 

 

617,817

 

Selling, general and administrative expenses

 

 

39,955

 

 

 

29,664

 

 

 

110,312

 

 

 

91,482

 

Store pre-opening costs

 

 

2,456

 

 

 

3,446

 

 

 

10,055

 

 

 

11,625

 

Store closure and other costs

 

 

803

 

 

 

24

 

 

 

992

 

 

 

159

 

Income from operations

 

 

53,004

 

 

 

41,447

 

 

 

188,986

 

 

 

182,745

 

Interest expense

 

 

(5,609

)

 

 

(3,723

)

 

 

(15,447

)

 

 

(10,985

)

Other income

 

 

162

 

 

 

135

 

 

 

388

 

 

 

326

 

Income before income taxes

 

 

47,557

 

 

 

37,859

 

 

 

173,927

 

 

 

172,086

 

Income tax provision

 

 

(16,071

)

 

 

(13,974

)

 

 

(55,186

)

 

 

(64,785

)

Net income

 

$

31,486

 

 

$

23,885

 

 

$

118,741

 

 

$

107,301

 

Net income per share:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

$

0.23

 

 

$

0.16

 

 

$

0.87

 

 

$

0.72

 

Diluted

 

$

0.23

 

 

$

0.16

 

 

$

0.86

 

 

$

0.71

 

Weighted average shares outstanding:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

 

134,320

 

 

 

147,743

 

 

 

136,063

 

 

 

149,202

 

Diluted

 

 

136,770

 

 

 

150,024

 

 

 

138,860

 

 

 

151,568

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

2


SPROUTS FARMERS MARKET, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

(UNAUDITED)

(IN THOUSANDS, EXCEPT SHARE AMOUNTS)

 

 

 

Shares

 

 

Common

Stock

 

 

Additional

Paid In

Capital

 

 

Retained

Earnings

 

 

Total

Stockholders’

Equity

 

Balances at January 3, 2016

 

 

152,577,884

 

 

$

153

 

 

$

577,393

 

 

$

245,446

 

 

$

822,992

 

Net income

 

 

 

 

 

 

 

 

 

 

 

124,306

 

 

 

124,306

 

Issuance of shares under stock plans

 

 

666,841

 

 

 

 

 

 

2,740

 

 

 

 

 

 

2,740

 

Repurchase and retirement of common

   stock

 

 

(13,242,483

)

 

 

(13

)

 

 

 

 

 

(294,252

)

 

 

(294,265

)

Excess tax benefit for exercise of options

 

 

 

 

 

 

 

 

3,737

 

 

 

 

 

 

3,737

 

Equity-based compensation

 

 

 

 

 

 

 

 

13,399

 

 

 

 

 

 

13,399

 

Balances at January 1, 2017

 

 

140,002,242

 

 

$

140

 

 

$

597,269

 

 

$

75,500

 

 

$

672,909

 

Net income

 

 

 

 

 

 

 

 

 

 

 

118,741

 

 

 

118,741

 

Issuance of shares under stock plans

 

 

1,800,157

 

 

 

2

 

 

 

6,638

 

 

 

 

 

 

6,640

 

Repurchase and retirement of common

   stock

 

 

(9,136,468

)

 

 

(9

)

 

 

 

 

 

(191,991

)

 

 

(192,000

)

Equity-based compensation

 

 

 

 

 

 

 

 

10,325

 

 

 

 

 

 

10,325

 

Balances at October 1, 2017

 

 

132,665,931

 

 

$

133

 

 

$

614,232

 

 

$

2,250

 

 

$

616,615

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

3


SPROUTS FARMERS MARKET, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(UNAUDITED)

(IN THOUSANDS)

 

 

 

Thirty-nine Weeks Ended

 

 

 

October 1,

2017

 

 

October 2,

2016

 

Cash flows from operating activities

 

 

 

 

 

 

 

 

Net income

 

$

118,741

 

 

$

107,301

 

Adjustments to reconcile net income to net cash provided by operating activities:

 

 

 

 

 

 

 

 

Depreciation and amortization expense

 

 

70,875

 

 

 

59,997

 

Accretion of asset retirement obligation and closed store reserve

 

 

168

 

 

 

237

 

Amortization of financing fees and debt issuance costs

 

 

347

 

 

 

347

 

Loss on disposal of property and equipment

 

 

820

 

 

 

226

 

Equity-based compensation

 

 

10,325

 

 

 

10,322

 

Deferred income taxes

 

 

23,245

 

 

 

20,119

 

Changes in operating assets and liabilities:

 

 

 

 

 

 

 

 

Accounts receivable

 

 

1,660

 

 

 

(1,336

)

Inventories

 

 

(17,752

)

 

 

(29,784

)

Prepaid expenses and other current assets

 

 

(3,734

)

 

 

(1,212

)

Other assets

 

 

(702

)

 

 

(1,480

)

Accounts payable

 

 

31,669

 

 

 

24,050

 

Accrued salaries and benefits

 

 

8,360

 

 

 

(4,959

)

Other accrued liabilities and income taxes payable

 

 

4,288

 

 

 

(2,762

)

Other long-term liabilities

 

 

10,659

 

 

 

14,971

 

Cash flows from operating activities

 

 

258,969

 

 

 

196,037

 

Cash flows used in investing activities

 

 

 

 

 

 

 

 

Purchases of property and equipment

 

 

(158,459

)

 

 

(142,571

)

Proceeds from sale of property and equipment

 

 

30

 

 

 

662

 

Purchase of leasehold interests

 

 

 

 

 

(491

)

Cash flows used in investing activities

 

 

(158,429

)

 

 

(142,400

)

Cash flows used in financing activities

 

 

 

 

 

 

 

 

Proceeds from revolving credit facility

 

 

134,000

 

 

 

45,000

 

Payments on revolving credit facility

 

 

(40,000

)

 

 

 

Payments on capital and financing lease obligations

 

 

(3,053

)

 

 

(3,144

)

Cash from landlords related to financing lease obligations

 

 

300

 

 

 

 

Repurchase of common stock

 

 

(192,000

)

 

 

(187,836

)

Proceeds from exercise of stock options

 

 

6,640

 

 

 

2,616

 

Excess tax benefit for exercise of stock options

 

 

 

 

 

3,948

 

Cash flows used in financing activities

 

 

(94,113

)

 

 

(139,416

)

Increase / (Decrease) in cash and cash equivalents

 

 

6,427

 

 

 

(85,779

)

Cash and cash equivalents at beginning of the period

 

 

12,465

 

 

 

136,069

 

Cash and cash equivalents at the end of the period

 

$

18,892

 

 

$

50,290

 

 

 

 

 

 

 

 

 

 

Supplemental disclosure of cash flow information

 

 

 

 

 

 

 

 

Cash paid for interest

 

$

15,052

 

 

$

10,942

 

Cash paid for income taxes

 

 

25,710

 

 

 

38,142

 

 

 

 

 

 

 

 

 

 

Supplemental disclosure of non-cash investing and financing activities

 

 

 

 

 

 

 

 

Property and equipment in accounts payable

 

$

13,476

 

 

$

19,919

 

Property acquired through capital and financing lease obligations

 

 

5,512

 

 

 

8,324

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

4


SPROUTS FARMERS MARKET, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

 

1. Basis of Presentation

Sprouts Farmers Market, Inc., a Delaware corporation, through its subsidiaries, operates as a healthy grocery store that offers fresh, natural and organic food through a complete shopping experience that includes fresh produce, bulk foods, vitamins and supplements, packaged groceries, meat and seafood, deli, baked goods, dairy products, frozen foods, beer and wine, natural body care and household items catering to consumers’ growing interest in health and wellness. The “Company” is used to refer collectively to Sprouts Farmers Market, Inc. and unless the context otherwise requires, its subsidiaries.

The accompanying unaudited consolidated financial statements include the accounts of the Company in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial statements and are in the form prescribed by the Securities and Exchange Commission in instructions to Form 10-Q and Rule 10-01 of Regulation S-X. In the opinion of management, the accompanying consolidated financial statements reflect all adjustments, consisting of normal recurring adjustments, considered necessary for a fair statement of the Company's financial position, results of operations and cash flows for the periods indicated.  All material intercompany accounts and transactions have been eliminated in consolidation. Interim results are not necessarily indicative of results for any other interim period or for a full fiscal year. The information included in these consolidated financial statements and notes thereto should be read in conjunction with Management’s Discussion and Analysis of Financial Condition and Results of Operations included herein and Management’s Discussion and Analysis of Financial Condition and Results of Operations and the consolidated financial statements and notes thereto for the fiscal year ended January 1, 2017 (“fiscal year 2016”) included in the Company’s Annual Report on Form 10-K, filed on February 23, 2017.

The year-end balance sheet data was derived from audited financial statements, but does not include all disclosures required by GAAP.

The Company reports its results of operations on a 52- or 53-week fiscal calendar ending on the Sunday closest to December 31. The fiscal year ending December 31, 2017 (“fiscal year 2017”) is a 52-week year, and fiscal year 2016 was a 52-week year. The Company reports its results of operations on a 13-week quarter, except for 53-week fiscal years.

Certain reclassifications of amounts reported in prior periods have been made to conform with the current period presentation.

The Company has one reportable and one operating segment, healthy grocery stores.

All dollar amounts are in thousands, unless otherwise noted.

 

 

5


SPROUTS FARMERS MARKET, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

 

2. Recently Issued Accounting Pronouncements

Recently Adopted Accounting Pronouncements

In July 2015, the FASB issued ASU No. 2015-11, “Simplifying the Measurement of Inventory.” ASU No. 2015-11 changes the measurement principle for inventory from the lower of cost or market to lower of cost and net realizable value. Net realizable value is defined as the estimated selling prices in the ordinary course of business; less reasonably predictable costs of completion, disposal and transportation. This guidance is effective for the Company for its fiscal year 2017. Adoption of the guidance took place prospectively during 2017, and the adoption did not have a material effect on the Company’s consolidated financial statements or disclosures.

In March 2016, the FASB issued ASU No. 2016-09, “Compensation – Stock Compensation (Topic 718).” This update involves several aspects of the accounting for share-based transactions, including the income tax consequences, classification of awards as either equity or liabilities, how to account for forfeitures, and classification on the statement of cash flows. The amendments in this update are effective for the Company for its fiscal year 2017. As a result of the adoption, the Company recognized excess tax benefits related to the exercise of options in its income tax provision during the thirty-nine weeks ended October 1, 2017 (see Note 6). Prior to the adoption, these items were recorded in Additional Paid-in Capital. The Company has elected to prospectively apply the amendments related to classifying cash flows related to excess tax benefits as an operating activity. During 2017, excess tax benefits were classified as an operating activity on the consolidated statement of cash flows, along with other income tax cash flows. The Company has made a policy election to account for forfeitures as they occur. This election was adopted using a modified retrospective approach resulting in no cumulative effect on retained earnings at the beginning of the period. Prior to the adoption, forfeitures were accounted for using an estimated forfeiture rate.

Recently Issued Accounting Pronouncements Not Yet Adopted

In May 2014, the FASB issued ASU No. 2014-09, “Revenue from Contracts with Customers.” ASU No. 2014-09 provides guidance for revenue recognition. The standard’s core principle is that a company will recognize revenue when it transfers promised goods or services to customers in an amount that reflects the consideration to which the company expects to be entitled in exchange for those goods or services. In doing so, companies will need to use more judgment and make more estimates than under current guidance. These may include identifying performance obligations in the contract, and estimating the amount of variable consideration to include in the transaction price attributable to each separate performance obligation. Subsequent to the initial standards, the FASB has also issued several ASUs to clarify specific revenue recognition topics. This guidance will be effective for the Company for its fiscal year 2018, with early adoption permitted. The Company is currently evaluating the potential impact of this guidance and does not expect this ASU to materially impact the Company’s consolidated financial statements.

In February 2016, the FASB issued ASU No. 2016-02, “Leases (ASC 842).” ASU No. 2016-02 requires lessees to recognize a right-of-use asset and corresponding lease liability for all leases with terms greater than twelve months. Recognition, measurement and presentation of expenses will depend on classification as a finance or operating lease. The new guidance also requires certain additional quantitative and qualitative disclosures. This guidance will be effective for the Company for its fiscal year 2019, with early adoption permitted, and the Company is currently evaluating the potential impact of this guidance. The adoption of this ASU is expected to result in a material increase to the Company’s consolidated balance sheets for right-of-use assets and lease liabilities.

In March 2016, the FASB issued ASU No. 2016-04, “Liabilities-Extinguishments of Liabilities (Subtopic 405-20): Recognition of breakage for certain prepaid stored-value products.” ASU No. 2016-04 provides a narrow scope exception to the guidance in Subtopic 405-20 to require that stored-value breakage be accounted for consistently with the breakage guidance in Topic 606. The amendments in this update contain specific guidance for derecognition of prepaid stored-value product liabilities, thereby eliminating the current and potential future diversity. This guidance will be effective for the Company for its fiscal year 2018, with early adoption permitted. The Company does not expect this ASU to materially impact the Company’s consolidated financial statements.

6


SPROUTS FARMERS MARKET, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

 

In August 2016, the FASB issued ASU No. 2016-15, “Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments.” This update provides clarifications on the cash flow classification for eight specific cash flow issues: debt prepayment or debt extinguishment costs; settlement of zero-coupon debt instruments or other debt instruments with coupon interest rates that are insignificant in relation to the effective interest rate of the borrowing; contingent consideration payments made after a business combination; proceeds from the settlement of insurance claims; proceeds from the settlement of corporate-owned life insurance policies (COLIs) (including bank-owned life insurance policies (BOLIs)); distributions received from equity method investees; beneficial interests in securitization transactions; and separately identifiable cash flows and application of the predominance principle. The guidance will be effective for the Company for its fiscal year 2018, with early adoption permitted. The Company does not expect this ASU to materially impact the Company’s consolidated financial statements.

In January 2017, the FASB issued ASU No. 2017-04, “Intangibles – Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment.” The amendments in this update eliminate the second step of the goodwill impairment test and provide that an entity will apply a one-step quantitative test and record the amount of goodwill impairment as the excess of a reporting unit's carrying amount over its fair value, not to exceed the total amount of goodwill allocated to the reporting unit. The new guidance does not amend the optional qualitative assessment of goodwill impairment. The guidance will be effective for the Company for its fiscal year 2020, with early adoption permitted. The Company is currently evaluating the potential impact of this guidance.

In May 2017, the FASB issued ASU No. 2017-09, “Compensation – Stock Compensation (Topic 718): Scope of Modification Accounting.” The amendments in this update provide guidance about which changes to the terms or conditions of a share-based award require an entity to apply modification accounting in Topic 718. The guidance will be effective for the Company for its fiscal year 2018, with early adoption permitted. The Company does not expect this ASU to materially impact the Company’s consolidated financial statements.

No other new accounting pronouncements issued or effective during the thirty-nine weeks ended October 1, 2017 had, or are expected to have, a material impact on the Company’s consolidated financial statements.

 

3. Fair Value Measurements

The Company records its financial assets and liabilities in accordance with the framework for measuring fair value in accordance with GAAP. This framework establishes a fair value hierarchy that prioritizes the inputs used to measure fair value:

Level 1: Quoted prices for identical instruments in active markets.

Level 2: Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations in which all significant inputs and significant value drivers are observable in active markets.

Level 3: Valuations derived from valuation techniques in which one or more significant inputs or significant value drivers are unobservable.

Fair value measurements of nonfinancial assets and nonfinancial liabilities are primarily used in the impairment analysis of goodwill, indefinite-lived intangible assets and long-lived assets, and in the valuation of store closure and exit costs.

The determination of fair values of certain tangible and intangible assets for purposes of the Company’s goodwill impairment evaluation as described above was based upon a step zero assessment. Closed facility reserves are recorded at net present value to approximate fair value which is classified as Level 3 in the hierarchy. The estimated fair value of the closed facility reserve is calculated based on the present value of the remaining lease payments and other charges using a weighted average cost of

7


SPROUTS FARMERS MARKET, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

 

capital, reduced by estimated sublease rentals. The weighted average cost of capital was estimated using information from comparable companies and management’s judgment related to the risk associated with the operations of the stores.

Cash and cash equivalents, accounts receivable, prepaid expenses and other current assets, accounts payable, accrued salaries and benefits and other accrued liabilities approximate fair value because of the short maturity of those instruments. Based on open market transactions comparable to the Credit Facility (as defined in Note 4, “Long-Term Debt”), the fair value of the long-term debt approximates carrying value as of October 1, 2017 and January 1, 2017. The Company’s estimates of the fair value of long-term debt were classified as Level 2 in the fair value hierarchy.

 

4. Long-Term Debt

A summary of long-term debt is as follows:

 

 

 

 

 

 

 

As of

 

Facility

 

Maturity

 

Interest Rate

 

October 1,

2017

 

 

January 1,

2017

 

Senior secured debt

 

 

 

 

 

 

 

 

 

 

 

 

$450.0 million Credit Facility

 

April 17, 2020

 

Variable

 

$

349,000

 

 

$

255,000

 

Total debt

 

 

 

 

 

 

349,000

 

 

 

255,000

 

Long-term debt

 

 

 

 

 

$

349,000

 

 

$

255,000

 

 

Senior Secured Revolving Credit Facility

On April 17, 2015, the Company’s subsidiary, Sprouts Farmers Markets Holdings, LLC (“Intermediate Holdings”), as borrower, entered into a credit agreement that provides for a revolving credit facility with an initial aggregate commitment of $450.0 million (the “Credit Facility”), which may be increased from time to time pursuant to an expansion set forth in the Credit Facility. The Credit Facility replaced the Company’s existing senior secured credit facility, dated April 23, 2013.

The Company capitalized debt issuance costs of $2.3 million related to the Credit Facility, which are being amortized on a straight-line basis to interest expense over the five-year term of the Credit Facility.

The Credit Facility also provides for a letter of credit subfacility and a $15.0 million swingline facility. Letters of credit issued under the Credit Facility reduce the borrowing capacity of the Credit Facility. Letters of credit totaling $24.8 million have been issued as of October 1, 2017, primarily to support the Company’s insurance programs.

Guarantees

Obligations under the Credit Facility are guaranteed by the Company and all of its current and future wholly-owned material domestic subsidiaries, and are secured by first-priority security interests in substantially all of the assets of the Company and its subsidiary guarantors, including, without limitation, a pledge by the Company of its equity interest in Intermediate Holdings.

Interest and Fees    

Loans under the Credit Facility bear interest, at the Company’s option, either at adjusted LIBOR plus 1.50% per annum, or a base rate plus 0.50% per annum. The interest rate margins are subject to adjustment pursuant to a pricing grid based on the Company’s total gross leverage ratio, as defined in the Credit Facility. Under the terms of the Credit Facility, the Company is obligated to pay a commitment fee on the available unused amount of the Credit Facility commitments equal to 0.20% per annum.

Outstanding letters of credit under the Credit Facility are subject to a participation fee of 1.50% per annum and an issuance fee of 0.125% per annum.

8


SPROUTS FARMERS MARKET, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

 

Payments and Borrowings    

The Credit Facility is scheduled to mature, and the commitments thereunder will terminate on April 17, 2020, subject to extensions as set forth in the Credit Facility.

The Company may repay loans and reduce commitments under the Credit Facility at any time in agreed-upon minimum principal amounts, without premium or penalty (except LIBOR breakage costs, if applicable).

During fiscal year 2016, the Company borrowed $105.0 million and made a total of $10.0 million of principal payments; resulting in total outstanding debt under the Credit Facility of $255.0 million at January 1, 2017. During the thirteen weeks ended October 1, 2017, the Company borrowed $49.0 million and made a total of $10.0 million of principal payments. During the thirty-nine weeks ended October 1, 2017, the Company borrowed $134.0 million and made a total of $40.0 million of principal payments; resulting in total outstanding debt under the Credit Facility of $349.0 million as of October 1, 2017.  The Company has used borrowings under the Credit Facility to assist with its share repurchase programs (see Note 9).

Covenants    

The Credit Facility contains financial, affirmative and negative covenants.  The negative covenants include, among other things, limitations on the Company’s ability to:

 

incur additional indebtedness;

 

grant additional liens;  

 

enter into sale-leaseback transactions;

 

make loans or investments;

 

merge, consolidate or enter into acquisitions;

 

pay dividends or distributions;

 

enter into transactions with affiliates;

 

enter into new lines of business;

 

modify the terms of debt or other material agreements; and

 

change its fiscal year.

Each of these covenants is subject to customary and other agreed-upon exceptions.

In addition, the Credit Facility requires that the Company and its subsidiaries maintain a maximum total net leverage ratio not to exceed 3.00 to 1.00 and minimum interest coverage ratio not to be less than 1.75 to 1.00. Each of these covenants is tested as of the last day of each fiscal quarter.

The Company was in compliance with all applicable covenants under the Credit Facility as of October 1, 2017.

 

9


SPROUTS FARMERS MARKET, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

 

5. Closed Store and Other Costs

The following is a summary of closed store reserve activity during the thirty-nine weeks ended October 1, 2017 and fiscal year 2016:

 

 

 

Thirty-nine

Weeks Ended

 

 

Fiscal

Year Ended

 

 

 

October 1, 2017

 

 

January 1, 2017

 

Beginning balance

 

$

1,083

 

 

$

2,017

 

Additions

 

 

 

 

 

 

Usage

 

 

(387

)

 

 

(998

)

Adjustments

 

 

205

 

 

 

64

 

Ending balance

 

$

901

 

 

$

1,083

 

 

The Closed Store Reserve is included in Other accrued liabilities and Other long-term liabilities in the consolidated balance sheets.  Usage relates to lease payments made during the period for closed stores.  

 

During August and September 2017, 14 of our stores in Texas, Florida and Georgia were affected by Hurricanes Harvey and Irma.  While physical damage was minimal, these stores experienced, to varying degrees, loss of perishable inventory, additional expenses to clean up and power stores, and a loss of business while closed. Actual costs incurred, not including the impact of lost sales, are estimated to be $1.0 million, with an estimated insurance recovery of $0.3 million for these costs.  We are pursuing additional recovery under our business interruption and other insurance policy provisions; however, any additional recoveries are not expected to be material.

 

 

6. Income Taxes

The Company’s effective tax rate for the thirteen weeks ended October 1, 2017 and October 2, 2016 was 33.8% and 36.9%, respectively. The decrease in the effective tax rate is primarily due to tax return to provision adjustments for the 2016 income tax return.

The Company’s effective tax rate for the thirty-nine weeks ended October 1, 2017 and October 2, 2016 was 31.7% and 37.7%, respectively. The decrease in the effective tax rate is primarily related to recognition of excess tax benefits related to the exercise or vesting of equity-based awards in the income tax provision. See ASU 2016-09, Compensation – “Stock Compensation (Topic 718)” under Recently Adopted Accounting Pronouncements (Note 2).

Excess tax benefits associated with share-based payment awards are recognized as income tax expense or benefit in the income statement. The tax effects of exercised or vested awards are treated as discrete items in the reporting period in which they occur.

The income tax benefits resulting from equity-based awards were $0.2 million for the thirteen weeks ended October 1, 2017.  The income tax benefits resulting from the equity-based awards for the thirteen weeks ended October 2, 2016 were $0.2 million and recorded in Additional Paid-in Capital.

The income tax benefits resulting from equity-based awards were $8.4 million for the thirty-nine weeks ended October 1, 2017. The income tax benefits resulting from equity-based awards for the thirty-nine weeks ended October 2, 2016 were $3.9 million and recorded in Additional Paid-in Capital.

 

7. Related-Party Transactions

A member of the Company’s board of directors is an investor in a company that is a supplier of coffee to the Company for resale. During the thirteen weeks ended October 1, 2017 and October 2, 2016, purchases from this supplier were $2.7 million and $2.1 million, respectively. During the thirty-nine weeks ended October 1, 2017 and October 2, 2016, purchases from this supplier were $8.1 million and $7.3

10


SPROUTS FARMERS MARKET, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

 

million, respectively. The Company had recorded accounts payable due to this vendor of $0.7 million, as of both October 1, 2017 and October 2, 2016, respectively.

The Company’s former Executive Chairman of the Board has been the chief executive officer, an equity investor, and lender to a technology supplier to the Company. During the thirteen weeks ended October 1, 2017 and October 2, 2016, purchases from this supplier and its predecessors were $1.6 million and $2.2 million, respectively. During the thirty-nine weeks ended October 1, 2017 and October 2, 2016, purchases from this supplier and its predecessors were $5.2 million and $6.0 million, respectively. As of October 1, 2017, and October 2, 2016, the Company had recorded accounts payable due to the supplier of $0.2 million and $0.5 million, respectively.

 

8. Commitments and Contingencies

The Company is exposed to claims and litigation matters arising in the ordinary course of business and uses various methods to resolve these matters that are believed to best serve the interests of the Company’s stakeholders. The Company’s primary contingencies are associated with self-insurance obligations. Self-insurance liabilities require significant judgment and actual claim settlements and associated expenses may differ from the Company’s current provisions for loss.

Securities Action

On March 4, 2016, a complaint was filed in the Superior Court for the State of Arizona against the Company and certain of its directors and officers on behalf of a purported class of purchasers of shares of the Company’s common stock in the Company’s underwritten secondary public offering which closed on March 10, 2015 (the “March 2015 Offering”). The complaint purports to state claims under Sections 11, 12 and 15 of the Securities Act of 1933, based on an alleged failure by the Company to disclose adequate information about produce price deflation in the March 2015 Offering documents. The complaint seeks damages on behalf of the purported class in an unspecified amount, rescission, and an award of reasonable costs and attorneys’ fees. After removal to federal court, the plaintiffs sought remand, which the court granted in March 2017.  The Company has appealed the order granting remand to the Ninth Circuit Court of Appeals.  On May 25, 2017, the Company filed a Motion to Dismiss in the Superior Court for the State of Arizona, which the court granted in part and denied in part by order entered August 30, 2017.  The Company answered the complaint on September 28, 2017.  The Company will continue to defend this case vigorously, but it is not possible at this time to reasonably estimate the outcome of, or any potential liability from, the case.

 

9. Stockholders’ Equity

Share Repurchases

On November 4, 2015, the Company’s board of directors authorized a $150 million common stock share repurchase program, which was completed during the second quarter of 2016. On September 6, 2016, the Company’s board of directors authorized a $250 million common stock share repurchase program, which was completed during the first quarter of 2017. On February 20, 2017, the Company’s board of directors authorized a new $250 million common stock share repurchase program. The following table outlines the share repurchase programs authorized by the Board, and the related repurchase activity and available authorization as of October 1, 2017 (in thousands):

 

Effective date

 

Expiration date

 

Amount

authorized

 

 

Cost of

repurchases

 

 

Authorization

available

 

November 4, 2015

 

November 4, 2017

 

$

150,000

 

 

$

150,000

 

 

$

 

September 6, 2016

 

December 31, 2017

 

$

250,000

 

 

$

250,000

 

 

$

 

February 20, 2017

 

December 31, 2018

 

$

250,000

 

 

$

112,000

 

 

$

138,000

 

 

The shares under the Company’s repurchase programs may be purchased on a discretionary basis from time to time prior to the applicable expiration date, subject to general business and market conditions and other investment opportunities, through open market purchases, privately negotiated

11


SPROUTS FARMERS MARKET, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

 

transactions, or other means, including through Rule 10b5-1 trading plans. The board’s authorization of the share repurchase programs does not obligate the Company to acquire any particular amount of common stock, and the repurchase programs may be commenced, suspended, or discontinued at any time. The Company has used borrowings under its Credit Facility to assist with the repurchase programs authorized on September 6, 2016 and February 20, 2017 (see Note 4).

Share repurchase activity under the Company’s repurchase programs for the periods indicated was as follows (total cost in thousands):

 

 

 

Thirteen Weeks Ended

 

 

Thirty-nine Weeks Ended

 

 

 

October 1,

2017

 

 

October 2,

2016

 

 

October 1,

2017

 

 

October 2,

2016

 

Number of common shares acquired

 

 

3,249,204

 

 

 

3,189,818

 

 

 

9,136,468

 

 

 

8,169,510

 

Average price per common share acquired

 

$

22.16

 

 

$

19.93

 

 

$

21.01

 

 

$

22.99

 

Total cost of common shares acquired

 

$

72,000

 

 

$

63,572

 

 

$

192,000

 

 

$

187,836

 

 

Shares purchased under the Company’s repurchase programs were subsequently retired.

 

10. Net Income Per Share

The computation of net income per share is based on the number of weighted average shares outstanding during the period. The computation of diluted net income per share includes the dilutive effect of share equivalents consisting of incremental shares deemed outstanding from the assumed exercise of options, assumed vesting of restricted stock units (“RSUs”), assumed vesting of performance stock awards (“PSAs”), and assumed vesting of restricted stock awards (“RSAs”).

A reconciliation of the numerators and denominators of the basic and diluted net income per share calculations is as follows (in thousands, except per share amounts):

 

 

 

Thirteen Weeks Ended

 

 

Thirty-nine Weeks Ended

 

 

 

October 1,

2017

 

 

October 2,

2016

 

 

October 1,

2017

 

 

October 2,

2016

 

Basic net income per share:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

31,486

 

 

$

23,885

 

 

$

118,741

 

 

$

107,301

 

Weighted average shares outstanding

 

 

134,320

 

 

 

147,743

 

 

 

136,063

 

 

 

149,202

 

Basic net income per share

 

$

0.23

 

 

$

0.16

 

 

$

0.87

 

 

$

0.72

 

Diluted net income per share:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

31,486

 

 

$

23,885

 

 

$

118,741

 

 

$

107,301

 

Weighted average shares outstanding - basic

 

 

134,320

 

 

 

147,743

 

 

 

136,063

 

 

 

149,202

 

Dilutive effect of equity-based awards:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Assumed exercise of options to purchase shares

 

 

2,128

 

 

 

2,200

 

 

 

2,506

 

 

 

2,278

 

RSUs

 

 

122

 

 

 

28

 

 

 

124

 

 

 

49

 

RSAs

 

 

114

 

 

 

13

 

 

 

102

 

 

 

9

 

PSAs

 

 

86

 

 

 

40

 

 

 

65

 

 

 

30

 

Weighted average shares and equivalent

   shares outstanding

 

 

136,770

 

 

 

150,024

 

 

 

138,860

 

 

 

151,568

 

Diluted net income per share

 

$

0.23

 

 

$

0.16

 

 

$

0.86

 

 

$

0.71

 

 

For the thirteen weeks ended October 1, 2017, the computation of diluted net income per share does not include 1.9 million options and 0.1 million PSAs as those awards would have been antidilutive or were unvested performance awards. For the thirteen weeks ended October 2, 2016, the computation of diluted net income per share does not include 2.2 million options, 0.1 million RSUs, and 0.1 million PSAs as those awards would have been antidilutive or were unvested performance awards.

 

12


SPROUTS FARMERS MARKET, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

 

For the thirty-nine weeks ended October 1, 2017, the computation of diluted net income per share does not include 1.9 million options and 0.1 million PSAs as those awards would have been antidilutive or were unvested performance awards. For the thirty-nine weeks ended October 2, 2016, the computation of diluted net income per share does not include 1.3 million options, 0.1 million RSUs and 0.1 million PSAs as those awards would have been antidilutive or were unvested performance awards.

 

 

11. Equity-Based Compensation

2013 Incentive Plan

The Company’s board of directors adopted, and its equity holders approved, the Sprouts Farmers Market, Inc. 2013 Incentive Plan (the “2013 Incentive Plan”). The 2013 Incentive Plan became effective July 31, 2013 in connection with the Company’s initial public offering and replaced the 2011 Option Plan (as defined below) (except with respect to outstanding options under the 2011 Option Plan). The 2013 Incentive Plan serves as the umbrella plan for the Company’s equity-based and cash-based incentive compensation programs for its directors, officers and other team members. On May 1, 2015, the Company’s stockholders approved the material terms of the performance goals under the 2013 Incentive Plan for purposes of Section 162(m) of the Internal Revenue Code.

The aggregate number of shares of common stock that may be issued to team members and directors under the 2013 Incentive Plan may not exceed 10,089,072. Shares subject to awards granted under the 2013 Incentive Plan which are subsequently forfeited, expire unexercised or are otherwise not issued will not be treated as having been issued for purposes of the share limitation. As of October 1, 2017, there were 3,686,043 stock awards outstanding and 5,805,674 shares remaining available for issuance under the 2013 Incentive Plan.

2011 Option Plan

In May 2011, the Company adopted the Sprouts Farmers Markets, LLC Option Plan (the “2011 Option Plan”) to provide team members or directors of the Company with options to acquire shares of the Company. The Company had authorized 12,100,000 shares for issuance under the 2011 Option Plan. Options may no longer be issued under the 2011 Option Plan. As of October 1, 2017, there were 2,384,978 options outstanding under the 2011 Option Plan.

Awards Granted

During the thirty-nine weeks ended October 1, 2017, the Company granted the following equity-based compensation awards:

 

Grant Date

 

RSUs

 

 

PSAs

 

 

RSAs

 

March 2017

 

 

325,406

 

 

 

148,944

 

 

 

288,746

 

May 2017

 

 

21,820

 

 

 

 

 

 

 

August 2017

 

 

10,630

 

 

 

 

 

 

 

Total:

 

 

357,856

 

 

 

148,944

 

 

 

288,746

 

Weighted-average grant date fair value

 

$

18.66

 

 

$

18.11

 

 

$

18.11

 

Stock Options

The Company uses the Black-Scholes option pricing model to estimate the fair value of options at grant date. Options vest in accordance with the terms set forth in the grant letter and vary depending on if they are time-based or performance-based.

Time-based options granted prior to fiscal year 2016 generally vest ratably over a period of 12 quarters (three years), and time-based options granted in fiscal year 2016 vest annually over a period of three years.

13


SPROUTS FARMERS MARKET, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

 

RSUs

The fair value of RSUs is based on the closing price of the Company’s common stock on the grant date. RSUs generally vest annually over a period of two or three years from the grant date.

PSAs

PSAs granted in fiscal year 2015 are restricted shares that were subject to the Company achieving certain earnings per share performance targets, as well as additional time-vesting conditions. The fair value of PSAs is based on the closing price of the Company’s common stock on the grant date.  During the thirty-nine weeks ended October 2, 2016, the performance conditions with respect to 2015 earnings per share were deemed to have been met, and the PSAs will vest 50 percent at each of the second and third anniversary of the grant date. During the thirty-nine weeks ended October 1, 2017, 21,050 of the 2015 PSAs were vested. No PSAs vested during the thirty-nine weeks ended October 2, 2016.

PSAs granted in fiscal year 2016 are restricted shares that are subject to the Company achieving certain earnings before interest and taxes (“EBIT”) performance targets on an annual and cumulative basis over a three-year performance period, as well as additional time-vesting conditions. The fair value of these PSAs is based on the closing price of the Company’s common stock on the grant date. The EBIT target resets annually for each of the three years during the performance period based on a percentage increase over the previous year’s actual EBIT, with each annual performance tranche independent of the previous and next tranche. Cumulative performance is based on the aggregate annual performance targets. Payout of the performance shares will either be 0% or range from 50% to 150% of the target number of shares granted. If the performance conditions are met, PSAs cliff vest on the third anniversary of the grant date. The Company’s board of directors determined that the performance targets for the fiscal year 2016 tranche were not met and 30,981 performance shares were not earned.

PSAs granted in fiscal year 2017 are restricted shares that are subject to the Company achieving certain earnings per share performance targets, as well as additional time-vesting conditions. The fair value of PSAs is based on the closing price of the Company’s common stock on the grant date. Payout of the performance shares will either be 0% or range from 10% to 150% of the target number of shares granted. If the performance conditions are met, PSAs will vest 50 percent at each of the second and third anniversary of the grant date.

RSAs

The fair value of RSAs is based on the closing price of the Company’s common stock on the grant date. RSAs granted prior to January 1, 2017 will vest either ratably over a seven quarter period, beginning on December 31, 2016 or cliff vest on June 30, 2018.  RSAs granted in fiscal year 2017 will vest annually over a period of three years from the grant date.

Equity Award Restructuring

In connection with the appointments of the Company’s Chief Executive Officer and President & Chief Operating Officer in August 2015, the Compensation Committee of the Company’s Board of Directors approved a grant of stock options to purchase 1,200,000 and 500,000 shares of the Company’s common stock at an exercise price of $20.98 per share to these officers, respectively (the “August 2015 Options”) pursuant to the 2013 Incentive Plan. The August 2015 Options, taken together with other options granted under the 2013 Incentive Plan to such officers during 2015, exceeded the limit of 500,000 shares which may be granted pursuant to stock options and stock appreciation rights per calendar year to each participant under the 2013 Incentive Plan by 733,439 shares in the case of the Company’s Chief Executive Officer and 33,439 shares in the case of the Company’s President & Chief Operating Officer (the “Excess Options”).  Accordingly, the Company has determined, and these officers have acknowledged, that the grants of the Excess Options were null and void.  

In order to satisfy the original intent with respect to these individuals’ compensation, on May 23, 2016, the Compensation Committee granted to the Company’s Chief Executive Officer and President & Chief Operating Officer under the 2013 Incentive Plan options to purchase 386,496 and 33,439 shares of

14


SPROUTS FARMERS MARKET, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

 

the Company’s common stock at an exercise price of $24.48 per share, respectively, and 215,251 and 2,601 RSAs, respectively. The Company recognized compensation expense of $0.9 million during the thirteen week period and $2.9 million during the thirty-nine week period ended October 1, 2017 related to the options and RSAs granted.  The Company recognized compensation expense of $1.0 million during the thirteen week period and $1.4 million during the thirty-nine week period ended October 2, 2016 related to the options and RSAs granted.

 

Equity-based Compensation Expense

Equity-based compensation expense was reflected in the consolidated statements of operations as follows:

 

 

 

 

Thirteen Weeks Ended

 

 

Thirty-nine Weeks Ended

 

 

 

October 1,

2017

 

 

October 2,

2016

 

 

October 1,

2017

 

 

October 2,

2016

 

Cost of sales, buying and occupancy

 

$

265

 

 

$

244

 

 

$

777

 

 

$

726

 

Direct store expenses

 

 

349

 

 

 

339

 

 

 

1,098

 

 

 

1,015

 

Selling, general and administrative expenses

 

 

3,471

 

 

 

3,414

 

 

 

8,450

 

 

 

8,581

 

Equity-based compensation expense before

   income taxes

 

 

4,085

 

 

 

3,997

 

 

 

10,325

 

 

 

10,322

 

Income tax benefit

 

 

(1,528

)

 

 

(1,519

)

 

 

(3,863

)

 

 

(3,922

)

Net equity-based compensation expense

 

$

2,557

 

 

$

2,478

 

 

$

6,462

 

 

$

6,400

 

 

The following equity-based awards were outstanding as of October 1, 2017 and January 1, 2017:

 

 

 

As of

 

 

 

October 1, 2017

 

 

January 1, 2017

 

 

 

(in thousands)

 

Options

 

 

 

 

 

 

 

 

Vested

 

 

4,394

 

 

 

5,552

 

Unvested

 

 

609

 

 

 

1,205

 

RSUs

 

 

453

 

 

 

274

 

PSAs

 

 

231

 

 

 

159

 

RSAs

 

 

384

 

 

 

187

 

 

As of October 1, 2017, total unrecognized compensation expense related to outstanding equity-based awards was as follows:

 

 

 

As of

 

 

 

October 1, 2017

 

Options

 

$

3,629

 

RSUs

 

 

6,803

 

PSAs

 

 

3,171

 

RSAs

 

 

6,106

 

Total unrecognized compensation expense

 

$

19,709

 

 

As of October 1, 2017, the total remaining weighted average recognition period related to outstanding equity-based awards was as follows:

 

 

 

As of

 

 

 

October 1, 2017

 

Options

 

 

1.0

 

RSUs

 

 

1.7

 

PSAs

 

 

1.7

 

RSAs

 

 

2.0

 

15


SPROUTS FARMERS MARKET, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

 

 

During the thirty-nine weeks ended October 1, 2017 and October 2, 2016, the Company received $6.6 million and $2.6 million, respectively, in cash proceeds from the exercise of options.

 

 

16


 

Item 2.  Management’s Discussion and Analysis of Financial Condition and Results of Operations.

You should read the following discussion of our financial condition and results of operations together with the consolidated financial statements and related notes that are included elsewhere in this Quarterly Report on Form 10-Q and with our audited consolidated financial statements included in our Annual Report on Form 10-K filed February 23, 2017 with the Securities and Exchange Commission. All dollar amounts included below are in thousands, unless otherwise noted.

Business Overview

Sprouts Farmers Market operates as a healthy grocery store that offers fresh, natural and organic food that includes fresh produce, bulk foods, vitamins and supplements, packaged groceries, meat and seafood, deli, baked goods, dairy products, frozen foods, body care and natural household items catering to consumers’ growing interest in health and wellness. Since our founding in 2002, we have grown rapidly, significantly increasing our sales, store count and profitability. With 282 stores in 15 states as of October 1, 2017, we are one of the largest specialty retailers of fresh, natural and organic food in the United States. As of November 1, 2017, we have grown to 285 stores in 15 states.

At Sprouts, we believe healthy living is a journey and every meal is a choice. The cornerstones of our business are fresh, natural and organic products at compelling prices (which we refer to as “Healthy Living for Less”), an attractive and differentiated shopping experience featuring a broad selection of innovative healthy products, and knowledgeable team members who we believe provide best-in-class customer engagement and product education.

Our Heritage

In 2002, we opened the first Sprouts Farmers Market store in Chandler, Arizona. From our founding in 2002 through October 1, 2017, we continued to open new stores while successfully rebranding 43 Henry’s Farmers Market and 39 Sunflower Farmers Market stores added through acquisitions to the Sprouts banner (referred to as the “Transactions”). These three businesses all trace their lineage back to Henry’s Farmers Market and were built with similar store formats and operations including a strong emphasis on value, produce and service in smaller, convenient locations. The consistency of these formats and operations was an important factor that allowed us to rapidly and successfully rebrand and integrate each of these businesses under the Sprouts banner and on a common platform.

Outlook

We are pursuing a number of strategies designed to continue our growth, including expansion of our store base, continuing positive comparable store sales and growing the Sprouts brand. We intend to continue expanding our store base by pursuing new store openings in our existing markets, expanding into adjacent markets and penetrating new markets. Although we plan to expand our store base primarily through new store openings, we may grow through strategic acquisitions if we identify suitable targets and are able to negotiate acceptable terms and conditions for acquisition. We intend to open 32 new stores in 2017, of which all 32 have opened through November 1, 2017, and approximately 30 new stores per year for the near term.

We also believe we can continue to deliver positive comparable store sales growth by enhancing our core value proposition and distinctive customer-oriented shopping experience, as well as through expanding and refining our fresh, natural and organic product offerings, our targeted and personalized marketing efforts and our in-store education. We are committed to growing the Sprouts brand by supporting our stores, product offerings and corporate partnerships, including the expansion of innovative marketing and promotional strategies through print, digital and social media platforms.

 

17


 

Results of Operations for Thirteen Weeks Ended October 1, 2017 and October 2, 2016

The following tables set forth our unaudited results of operations and other operating data for the periods presented. The period-to-period comparison of financial results is not necessarily indicative of financial results to be achieved in future periods. All dollar amounts are in thousands, unless otherwise noted.

 

 

 

Thirteen weeks ended

 

 

 

October 1, 2017

 

 

October 2, 2016

 

Unaudited Consolidated Statement of Operations Data:

 

 

 

 

 

 

 

 

Net sales

 

$

1,206,059

 

 

$

1,035,801

 

Cost of sales, buying and occupancy

 

 

859,650

 

 

 

744,288

 

Gross profit

 

 

346,409

 

 

 

291,513

 

Direct store expenses

 

 

250,191

 

 

 

216,932

 

Selling, general and administrative expenses

 

 

39,955

 

 

 

29,664

 

Store pre-opening costs

 

 

2,456

 

 

 

3,446

 

Store closure and other costs

 

 

803

 

 

 

24