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Section 1: 10-Q (10-Q)

sfm-10q_20190331.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 March 31, 2019

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 every Interactive Data File required to be submitted 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 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

 

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

Securities registered pursuant to Section 12 (b) of the Act:

Title of Each Class

 

 

Trading Symbol(s)

Name of Each Exchange on Which Registered

 

Common Stock, $0.001 par value

SFM

NASDAQ Global Select Market

As of April 29, 2019, the registrant had 117,955,991 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 MARCH 31, 2019

TABLE OF CONTENTS

 

 

Page

PART I - FINANCIAL INFORMATION

 

 

 

Item 1. Financial Statements.

4

 

 

 

 

Consolidated Balance Sheets as of March 31, 2019 (unaudited) and December 30, 2018

4

 

 

 

 

Consolidated Statements of Income for the thirteen weeks ended March 31, 2019 and April 1, 2018 (unaudited)

5

 

 

 

 

Consolidated Statements of Comprehensive Income for the thirteen weeks ended March 31, 2019 and April 1, 2018 (unaudited)

6

 

 

 

 

Consolidated Statements of Stockholders’ Equity for the thirteen weeks ended March 31, 2019 and April 1, 2018 (unaudited)

7

 

 

 

 

Consolidated Statements of Cash Flows for the thirteen weeks ended March 31, 2019 and April 1, 2018 (unaudited)

8

 

 

 

 

Notes to Unaudited Consolidated Financial Statements

9

 

 

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

27

 

 

Item 3. Quantitative and Qualitative Disclosures About Market Risk.

36

 

 

Item 4. Controls and Procedures.

36

 

 

PART II - OTHER INFORMATION

 

 

 

Item 1. Legal Proceedings.

38

 

 

Item 1A. Risk Factors.

39

 

 

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

39

 

 

Item 6. Exhibits.

40

 

 

Signatures

41

 

 

 


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 December 30, 2018, 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

(UNAUDITED)

(IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)

 

 

 

March 31,

2019

 

 

December 30,

2018

 

ASSETS

 

 

 

 

 

 

 

 

Current assets:

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

19,502

 

 

$

1,588

 

Accounts receivable, net

 

 

25,190

 

 

 

40,564

 

Inventories

 

 

257,866

 

 

 

264,366

 

Prepaid expenses and other current assets

 

 

30,644

 

 

 

27,323

 

Total current assets

 

 

333,202

 

 

 

333,841

 

Property and equipment, net of accumulated depreciation

 

 

694,183

 

 

 

766,429

 

Operating lease assets

 

 

1,024,349

 

 

 

 

Intangible assets, net of accumulated amortization

 

 

185,530

 

 

 

194,803

 

Goodwill

 

 

368,078

 

 

 

368,078

 

Other assets

 

 

11,254

 

 

 

12,463

 

Total assets

 

$

2,616,596

 

 

$

1,675,614

 

LIABILITIES AND STOCKHOLDERS’ EQUITY

 

 

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

 

 

Accounts payable and other accrued liabilities

 

$

263,745

 

 

$

253,969

 

Accrued salaries and benefits

 

 

38,650

 

 

 

48,603

 

Current portion of capital and financing lease obligations

 

 

 

 

 

7,428

 

Current portion of operating lease liabilities

 

 

74,745

 

 

 

 

Current portion of finance lease liabilities

 

 

592

 

 

 

 

Total current liabilities

 

 

377,732

 

 

 

310,000

 

Long-term capital and financing lease obligations

 

 

 

 

 

119,642

 

Long-term operating lease liabilities

 

 

1,067,269

 

 

 

 

Long-term debt and finance lease liabilities

 

 

512,018

 

 

 

453,000

 

Other long-term liabilities

 

 

39,110

 

 

 

153,377

 

Deferred income tax liability

 

 

63,946

 

 

 

50,399

 

Total liabilities

 

 

2,060,075

 

 

 

1,086,418

 

Commitments and contingencies (Note 9)

 

 

 

 

 

 

 

 

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,

  120,436,879 shares issued and outstanding, March 31, 2019;

  124,975,691 shares issued and outstanding, December 30, 2018

 

 

120

 

 

 

124

 

Additional paid-in capital

 

 

661,254

 

 

 

657,140

 

Accumulated other comprehensive income (loss)

 

 

(1,482

)

 

 

1,134

 

Accumulated deficit

 

 

(103,371

)

 

 

(69,202

)

Total stockholders’ equity

 

 

556,521

 

 

 

589,196

 

Total liabilities and stockholders’ equity

 

$

2,616,596

 

 

$

1,675,614

 

 

 

 

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

4


SPROUTS FARMERS MARKET, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF INCOME

(UNAUDITED)

(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)

 

 

 

Thirteen Weeks Ended

 

 

 

March 31,

2019

 

 

April 1,

2018 (1)

 

Net sales

 

$

1,413,887

 

 

$

1,287,196

 

Cost of sales

 

 

929,538

 

 

 

842,587

 

Gross profit

 

 

484,349

 

 

 

444,609

 

Selling, general and administrative expenses

 

 

374,826

 

 

 

338,774

 

Depreciation and amortization (exclusive of depreciation

   included in cost of sales)

 

 

29,459

 

 

 

26,145

 

Store closure and other costs

 

 

508

 

 

 

10

 

Income from operations

 

 

79,556

 

 

 

79,680

 

Interest expense, net

 

 

(5,002

)

 

 

(6,064

)

Other income

 

 

 

 

 

207

 

Income before income taxes

 

 

74,554

 

 

 

73,823

 

Income tax provision

 

 

(18,162

)

 

 

(7,199

)

Net income

 

$

56,392

 

 

$

66,624

 

Net income per share:

 

 

 

 

 

 

 

 

Basic

 

$

0.46

 

 

$

0.50

 

Diluted

 

$

0.46

 

 

$

0.50

 

Weighted average shares outstanding:

 

 

 

 

 

 

 

 

Basic

 

 

123,258

 

 

 

132,423

 

Diluted

 

 

123,926

 

 

 

133,752

 

 

(1)

Effective in the fourth quarter of fiscal year 2018, the Company made a voluntary change in accounting principle to change the classification of certain expenses on its consolidated statements of income. The change was applied retrospectively to all periods presented. See Note 2, “Summary of Significant Accounting Policies” for further information.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

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


5


SPROUTS FARMERS MARKET, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(UNAUDITED)

(IN THOUSANDS)

 

 

 

Thirteen Weeks Ended

 

 

 

March 31,

2019

 

 

April 1,

2018

 

Net income

 

$

56,392

 

 

$

66,624

 

 

 

 

 

 

 

 

 

 

Other comprehensive income, net of tax

 

 

 

 

 

 

 

 

Unrealized gain/(loss) on cash flow hedging

   activities, net of income tax of ($905) and $1,148

 

 

(2,616

)

 

 

3,320

 

Total other comprehensive income (loss)

 

$

(2,616

)

 

 

3,320

 

 

 

 

 

 

 

 

 

 

Comprehensive income

 

$

53,776

 

 

$

69,944

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

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

 

6


SPROUTS FARMERS MARKET, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

(UNAUDITED)

(IN THOUSANDS, EXCEPT SHARE AMOUNTS)

 

 

 

Thirteen Weeks Ended March 31, 2019

 

 

 

Shares

 

 

Common

Stock

 

 

Additional

Paid In

Capital

 

 

(Accumulated

Deficit)

Retained

Earnings

 

 

Accumulated

Other

Comprehensive

Income (Loss)

 

 

Total

Stockholders’

Equity

 

Balances at December 30, 2018

 

 

124,581,190

 

 

$

124

 

 

$

657,140

 

 

$

(69,202

)

 

$

1,134

 

 

$

589,196

 

Net income

 

 

 

 

 

 

 

 

 

 

 

56,392

 

 

 

 

 

 

56,392

 

Other comprehensive (loss)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(2,616

)

 

 

(2,616

)

Issuance of shares under stock

   plans

 

 

549,212

 

 

 

1

 

 

 

1,664

 

 

 

 

 

 

 

 

 

1,665

 

Repurchase and retirement of

   common stock

 

 

(4,890,766

)

 

 

(5

)

 

 

 

 

 

(111,880

)

 

 

 

 

 

(111,885

)

Share-based compensation

 

 

 

 

 

 

 

 

2,450

 

 

 

 

 

 

 

 

 

2,450

 

Impact of adoption of

   ASC 842 related to leases

 

 

 

 

 

 

 

 

 

 

 

21,319

 

 

 

 

 

 

21,319

 

Balances at March 31, 2019

 

 

120,239,636

 

 

$

120

 

 

$

661,254

 

 

$

(103,371

)

 

$

(1,482

)

 

 

556,521

 

 

 

 

Thirteen Weeks Ended April 1, 2018

 

 

 

Shares

 

 

Common

Stock

 

 

Additional

Paid In

Capital

 

 

(Accumulated

Deficit)

Retained

Earnings

 

 

Accumulated

Other

Comprehensive

Income (Loss)

 

 

Total

Stockholders’

Equity

 

Balances at December 31, 2017

 

 

132,450,092

 

 

$

132

 

 

$

620,788

 

 

$

30,558

 

 

$

(784

)

 

$

650,694

 

Net income

 

 

 

 

 

 

 

 

 

 

 

66,624

 

 

 

 

 

 

66,624

 

Other comprehensive income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

3,320

 

 

 

3,320

 

Issuance of shares under stock

   plans

 

 

2,292,511

 

 

 

2

 

 

 

6,875

 

 

 

 

 

 

 

 

 

6,877

 

Repurchase and retirement of

   common stock

 

 

(3,329,409

)

 

 

(3

)

 

 

 

 

 

(82,997

)

 

 

 

 

 

(83,000

)

Share-based compensation

 

 

 

 

 

 

 

 

3,968

 

 

 

 

 

 

 

 

 

3,968

 

Balances at April 1, 2018

 

 

131,413,194

 

 

$

131

 

 

$

631,631

 

 

$

14,185

 

 

$

2,536

 

 

$

648,483

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

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

7


SPROUTS FARMERS MARKET, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(UNAUDITED)

(IN THOUSANDS)

 

 

 

Thirteen Weeks Ended

 

 

 

March 31,

2019

 

 

April 1,

2018

 

Cash flows from operating activities

 

 

 

 

 

 

 

 

Net income

 

$

56,392

 

 

$

66,624

 

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

 

 

 

 

 

 

 

 

Depreciation and amortization expense

 

 

30,073

 

 

 

26,889

 

Operating lease asset amortization

 

 

20,653

 

 

 

 

Store closure and other costs

 

 

710

 

 

 

 

Share-based compensation

 

 

2,450

 

 

 

3,968

 

Deferred income taxes

 

 

6,217

 

 

 

10,629

 

Other non-cash items

 

 

(30

)

 

 

455

 

Changes in operating assets and liabilities:

 

 

 

 

 

 

 

 

Accounts receivable

 

 

3,247

 

 

 

(1,957

)

Inventories

 

 

6,500

 

 

 

(10,069

)

Prepaid expenses and other current assets

 

 

(744

)

 

 

(2,135

)

Other assets

 

 

(1,086

)

 

 

(1,070

)

Accounts payable and other accrued liabilities

 

 

18,819

 

 

 

18,637

 

Accrued salaries and benefits

 

 

(9,634

)

 

 

(11,995

)

Operating lease liabilities

 

 

(20,632

)

 

 

 

Other long-term liabilities

 

 

(330

)

 

 

4,511

 

Cash flows from operating activities

 

 

112,605

 

 

 

104,487

 

Cash flows from investing activities

 

 

 

 

 

 

 

 

Purchases of property and equipment

 

 

(30,142

)

 

 

(44,158

)

Cash flows used in investing activities

 

 

(30,142

)

 

 

(44,158

)

Cash flows from financing activities

 

 

 

 

 

 

 

 

Proceeds from revolving credit facilities

 

 

89,734

 

 

 

40,000

 

Payments on revolving credit facilities

 

 

(42,734

)

 

 

(20,000

)

Payments on capital and financing lease obligations

 

 

 

 

 

(1,039

)

Payments on finance lease liabilities

 

 

(186

)

 

 

 

Payments of deferred financing costs

 

 

 

 

 

(2,131

)

Cash from landlords related to capital and financing lease obligations

 

 

 

 

 

900

 

Repurchase of common stock

 

 

(111,885

)

 

 

(83,000

)

Proceeds from exercise of stock options

 

 

1,661

 

 

 

6,877

 

Other

 

 

(319

)

 

 

(59

)

Cash flows used in financing activities

 

 

(63,729

)

 

 

(58,452

)

Increase in cash, cash equivalents, and restricted cash

 

 

18,734

 

 

 

1,877

 

Cash, cash equivalents, and restricted cash at beginning of the period

 

 

2,248

 

 

 

19,479

 

Cash, cash equivalents, and restricted cash at the end of the period

 

$

20,982

 

 

$

21,356

 

 

 

 

 

 

 

 

 

 

Supplemental disclosure of cash flow information

 

 

 

 

 

 

 

 

Cash paid for interest

 

$

5,046

 

 

$

6,080

 

Cash refunded for income taxes

 

 

(22

)

 

 

 

 

 

 

 

 

 

 

 

 

Supplemental disclosure of non-cash investing and financing activities

 

 

 

 

 

 

 

 

Property and equipment in accounts payable

 

$

28,617

 

 

$

25,068

 

Property acquired through capital and financing lease obligations (ASC 840)

 

n/a

 

 

 

5,019

 

 

 

 

 

 

 

 

 

 

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

 

8


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 healthy grocery stores that offer 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 December 30, 2018 (“fiscal year 2018”) included in the Company’s Annual Report on Form 10-K, filed on February 21, 2019.

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 29, 2019 (“fiscal year 2019”) and fiscal year 2018 are 52-week years. 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. 

All dollar amounts are in thousands, unless otherwise noted.

 

 

9


SPROUTS FARMERS MARKET, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

 

2. Summary of Significant Accounting Policies

Change in Accounting Principle

In the fourth quarter of fiscal year 2018, the Company made a voluntary change in its accounting policy for the classification of certain expenses.  Historically, the Company has presented store occupancy costs and buying costs in cost of goods sold.  Under the new policy, the Company is presenting these expenses within selling, general and administrative expenses (“SG&A”). In addition, the Company changed the classification of depreciation and amortization (exclusive of supply chain-related depreciation included in cost of sales) from direct store expenses (“DSE”) and SG&A to a separate financial statement line item and combined DSE and store pre-opening costs into SG&A. These reclassifications had no impact on sales, income from operations, net income or earnings per share. In addition, there was no cumulative effect to retained earnings, equity, or net assets.

The Company made this voluntary change in accounting policy in order to better reflect the direct costs of acquiring products and making them available to its customers in cost of sales. Store occupancy costs and buying costs, which are largely sales and marketing driven, are more appropriately reflected in SG&A. The new presentation of operating expenses now largely disaggregates cash from non-cash operating expenses, which the Company believes provides better information to its financial statement users. The Company believes these changes are preferable because they enhance the comparability of its financial statements with those of many of its industry peers and align with how the Company internally manages and reviews costs and margin. These changes in presentation have been retrospectively applied to all prior periods. Refer to the table below for the impact to the thirteen weeks ended April 1, 2018, as currently presented:

 

 

 

Thirteen Weeks Ended April 1, 2018

 

 

 

Unadjusted

 

 

Change in

Accounting

Principle

 

 

As Adjusted

 

Cost of sales

 

$

900,144

 

 

$

(57,557

)

 

$

842,587

 

Gross profit

 

 

387,052

 

 

 

57,557

 

 

 

444,609

 

Direct store expenses

 

 

262,595

 

 

 

(262,595

)

 

 

 

Selling, general and administrative

   expenses

 

 

41,447

 

 

 

297,327

 

 

 

338,774

 

Depreciation and amortization

   (exclusive of depreciation

   included in cost of sales)

 

 

 

 

 

26,145

 

 

 

26,145

 

Store pre-opening costs

 

 

3,320

 

 

 

(3,320

)

 

 

 

 

Revenue Recognition

The Company does not have any material contract assets or receivables from contracts with customers, any revenue recognized in the current period from performance obligations satisfied in previous periods, or any remaining performance obligations as of the March 31, 2019. The Company had a net gift card liability balance of $10.1 million as of March 31, 2019 and $14.6 million as of December 30, 2018, of which $5.3 million was recognized as revenue during the thirteen weeks ended March 31, 2019.

Restricted Cash

Restricted cash relates to defined benefit plan forfeitures as well as health and welfare restricted funds of approximately $1.5 million, and is included in prepaid expenses and other current assets in the consolidated balance sheets.

Recently Adopted Accounting Pronouncements

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 financing or operating lease.

10


SPROUTS FARMERS MARKET, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

 

The Company adopted the standard as of December 31, 2018, the first day of fiscal year 2019. The Company elected the package of practical expedients permitted under the transition guidance within the new standard, which among other things, permits companies not to reassess prior conclusions on lease identification, lease classification and initial direct costs. The Company did not elect the hindsight practical expedient.

The adoption of the standard resulted in the recognition of operating lease assets and liabilities of approximately $1.0 billion and $1.1 billion, respectively, as of December 31, 2018, including recognition of operating lease assets and liabilities for certain third party operated distribution center locations. Included in the measurement of the new lease assets and liabilities is the reclassification of balances historically recorded as deferred rent and unfavorable and favorable leasehold interests.  Additionally, the Company recognized a cumulative effect adjustment, which increased retained earnings by $21 million, net of tax. This adjustment was driven by the derecognition of approximately $114 million of lease obligations and $93 million of net assets related to leases that had been classified as financing lease obligations under the former failed-sale leaseback guidance, and are now classified as operating leases as of the transition date.  This reclassification also results in the recognition of rent expense beginning December 31, 2018, which was previously reported as interest expense under the former failed sale-leaseback guidance. Lastly, the adoption of this standard resulted in a change in naming convention for leases classified historically as capital leases. These leases are now referred to as finance leases. The adoption of this standard did not have a material impact on the Company’s liquidity or cash flows.

Refer to Note 5, “Leases”, for additional information related to the Company’s updated lease accounting policy.

 

Recently Issued Accounting Pronouncements Not Yet Adopted

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 does not expect this ASU to materially impact the Company’s consolidated financial statements.

In August 2018, the FASB issued ASU No. 2018-14, “Compensation —Retirement Benefits —Defined Benefit Plans —General (Subtopic 715-20) —Disclosure Framework —Changes to the Disclosure Requirements for Defined Benefit Plans.” The amendments in this update remove disclosures that no longer are considered cost-beneficial, clarify the specific requirements of disclosures, and add disclosure requirements identified as relevant. The guidance will be effective for the Company for its fiscal year 2020, with early adoption permitted.  The Company does not expect this ASU to materially impact the Company’s disclosures.

No other new accounting pronouncements issued or effective during the thirteen weeks ended March 31, 2019 had, or are expected to have, a material impact on the Company’s consolidated financial statements.

 

11


SPROUTS FARMERS MARKET, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

 

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 valuation of derivative instruments, impairment analysis of goodwill, intangible assets and long-lived assets.

The following tables present the fair value hierarchy for the Company’s financial assets and liabilities measured at fair value on a recurring basis as of March 31, 2019 and December 30, 2018:

 

March 31, 2019

 

Level 1

 

 

Level 2

 

 

Level 3

 

 

Total

 

Long-term debt

 

$

 

 

$

500,000

 

 

$

 

 

$

500,000

 

Interest rate swap liability

 

 

 

 

 

2,436

 

 

 

 

 

 

2,436

 

Total liabilities

 

$

 

 

$

502,436

 

 

$

 

 

$

502,436

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest rate swap asset

 

$

 

 

$

446

 

 

$

 

 

$

446

 

Total assets

 

$

 

 

$

446

 

 

$

 

 

$

446

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

December 30, 2018

 

Level 1

 

 

Level 2

 

 

Level 3

 

 

Total

 

Long-term debt

 

$

 

 

$

453,000

 

 

$

 

 

$

453,000

 

Total liabilities

 

$

 

 

$

453,000

 

 

$

 

 

$

453,000

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest rate swap asset

 

$

 

 

$

1,522

 

 

$

 

 

$

1,522

 

Total assets

 

$

 

 

$

1,522

 

 

$

 

 

$

1,522

 

The Company’s interest rate swaps are considered Level 2 in the hierarchy and are valued using an income approach. Expected future cash flows are converted to a present value amount based on market expectations of the yield curve on floating interest rates, which is readily available on public markets.

The determination of fair values of certain tangible and intangible assets for purposes of the Company’s goodwill impairment evaluation as described above is based upon Level 3 inputs. Closed store 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 store reserve is calculated based on the present value of the remaining lease payments and other charges using a weighted average cost of capital, reduced by estimated sublease rentals. The weighted average cost of capital is estimated using information from comparable companies and management’s judgment related to the risk associated with the operations of the stores.

12


SPROUTS FARMERS MARKET, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

 

Cash, cash equivalents, restricted cash, accounts receivable, prepaid expenses and other current assets, accounts payable and other accrued liabilities, and accrued salaries and benefits approximate fair value because of the short maturity of those instruments. Based on comparable open market transactions, the fair value of the long-term debt approximated carrying value as of March 31, 2019 and December 30, 2018.

 

4. Long-Term Debt and Finance Lease Liabilities

A summary of long-term debt and finance lease liabilities is as follows:

 

 

 

 

 

 

 

As of

 

Facility

 

Maturity

 

Interest Rate

 

March 31,

2019

 

 

December 30,

2018

 

Senior secured debt

 

 

 

 

 

 

 

 

 

 

 

 

$700.0 million Credit Agreement

 

March 27, 2023

 

Variable

 

$

500,000

 

 

$

453,000

 

Finance lease liabilities (see Note 5)

 

Various

 

n/a

 

 

12,018

 

 

 

 

Long-term debt and finance lease liabilities

 

 

 

 

 

$

512,018

 

 

$

453,000

 

 

Senior Secured Revolving Credit Facility

March 2018 Refinancing

On March 27, 2018, the Company’s subsidiary, Sprouts Farmers Markets Holdings, LLC (“Intermediate Holdings”), as borrower, entered into an amended and restated credit agreement (the “Amended and Restated Credit Agreement”) to amend and restate the Company’s existing senior secured credit facility, dated April 17, 2015 (the “Former Credit Facility”). The Amended and Restated Credit Agreement provides for a revolving credit facility with an initial aggregate commitment of $700.0 million, an increase from $450.0 million from the Former Credit Facility, which may be increased from time to time pursuant to an expansion feature set forth in the Amended and Restated Credit Agreement.

Concurrently with the closing of the Amended and Restated Credit Agreement, all commitments under the Former Credit Facility were terminated, resulting in a $0.3 million loss on early extinguishment of debt, recorded in interest expense during the first quarter of fiscal year 2018. The loss was due to the write-off of a proportional amount of deferred financing costs associated with the Former Credit Facility as the result of certain banks exiting the Amended and Restated Credit Agreement in connection with the refinancing. No amounts were outstanding under the Former Credit Facility as of March 31, 2019.

The Company capitalized debt issuance costs of $2.1 million related to the refinancing which combined with the remaining $0.7 million debt issuance costs for the Former Credit Facility, are being amortized on a straight-line basis to interest expense over the five-year term of the Amended and Restated Credit Agreement.

The Amended and Restated Credit Agreement also provides for a letter of credit subfacility and a $15.0 million swingline facility. Letters of credit issued under the Amended and Restated Credit Agreement reduce its borrowing capacity. Letters of credit totaling $26.9 million have been issued as of March 31, 2019, primarily to support the Company’s insurance programs.

On March 6, 2019, Intermediate Holdings entered into an amendment to the Amended and Restated Credit Agreement intended to align the treatment of certain lease accounting terms with the Company’s adoption of ASC 842. This amendment had no impact on borrowing capacity, interest rate, or maturity.

13


SPROUTS FARMERS MARKET, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

 

Guarantees

Obligations under the Amended and Restated Credit Agreement are guaranteed by the Company and all of its current and future wholly-owned material domestic subsidiaries (other than the borrower), 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 Amended and Restated Credit Agreement initially bear interest at LIBOR plus 1.50% per annum. The interest rate margins are subject to adjustment pursuant to a pricing grid based on the Company’s total net leverage ratio, as set forth in the Amended and Restated Credit Agreement. Under the terms of the Amended and Restated Credit Agreement, the Company is obligated to pay a commitment fee on the available unused amount of the commitments between 0.15% to 0.30% per annum, also pursuant to a pricing grid based on the Company’s total net leverage ratio.

The interest rate on approximately 50% of outstanding debt under the Amended and Restated Credit Agreement is fixed, reflecting the effects of floating to fixed interest rate swaps (see Note 12, “Derivative Financial Instruments”).

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

Payments and Borrowings    

The Amended and Restated Credit Agreement is scheduled to mature, and the commitments thereunder will terminate on March 27, 2023, subject to extensions as set forth therein.

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

During the thirteen weeks ended March 31, 2019 the Company borrowed an additional $89.7 million primarily for share repurchases and made a total of $42.7 million of principal payments; resulting in total outstanding debt under the Amended and Restated Credit Agreement of $500.0 million as of March 31, 2019. During fiscal year 2018, the Company borrowed $233.0 million to be used in connection with the Company’s share repurchase programs (see Note 10, “Stockholders’ Equity”) and made a total of $128.0 million of principal payments; resulting in total outstanding debt under the Amended and Restated Credit Agreement of $453.0 million at December 30, 2018.

Covenants    

The Amended and Restated Credit Agreement 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;

14


SPROUTS FARMERS MARKET, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

 

 

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 Amended and Restated Credit Agreement requires that the Company and its subsidiaries maintain a maximum total net leverage ratio not to exceed 3.25 to 1.00 and minimum interest coverage ratio not to be less than 1.75 to 1.00. Each of these covenants is tested on the last day of each fiscal quarter.

The Company was in compliance with all applicable covenants under the Amended and Restated Credit Agreement as of March 31, 2019.

Former Credit Facility

On April 17, 2015, Intermediate Holdings, as borrower, entered into the Former Credit Facility that provided for a revolving credit facility with an initial aggregate commitment of $450.0 million, subject to an expansion feature set forth therein. The Former Credit Facility also provided for a letter of credit subfacility and a $15.0 million swingline facility. 

The Former Credit Facility was scheduled to mature, and the commitments thereunder were scheduled to terminate, on April 17, 2020.

Loans under the Former Credit Facility bore 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 were subject to adjustment pursuant to a pricing grid based on the Company’s total gross leverage ratio, as defined in the Former Credit Facility. Under the terms of the Former Credit Facility, the Company was obligated to pay a commitment fee on the available unused amount of the commitments equal to 0.20% per annum.

 

5. Leases

The Company leases all stores, distribution centers, and administrative offices. The Company determines if an arrangement is a lease at inception. Operating leases are included in operating lease assets, current portion of operating lease liabilities and noncurrent portion of operating lease liabilities in the Company’s fiscal year 2019 consolidated balance sheet. Finance leases are included in property, plant, equipment, net, current portion of finance lease liabilities, and long-term debt and finance lease liabilities in the Company’s fiscal year 2019 consolidated balance sheet. Operating lease payments are charged on a straight-line basis to rent expense, a component of selling, general and administrative expenses, over the lease term and finance lease payments are charged to interest expense and depreciation and amortization expense using a debt model over the lease term.

 

The Company’s lease assets represent a right to use an underlying asset for the lease term and lease liabilities represent the Company’s obligation to make lease payments arising from the lease. Lease assets and liabilities and the related rent expense are recognized at the lease commencement date (date on which the Company gains access to the property) based on the estimated present value of lease payments over the lease term, net of landlord allowances to be received. The Company accounts for the lease and non-lease components as a single lease component for all current classes of leases.

 

Most of the Company’s lease agreements include variable payments related to pass-through costs for maintenance, taxes, and insurance. Additionally, some of the Company’s lease agreements include rental payments based on a percentage of retail sales over contractual levels. These variable payments are not included in the measurement of the lease liability or asset and are expensed as incurred.

15


SPROUTS FARMERS MARKET, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

 

As most of the Company’s lease agreements do not provide an implicit rate, the Company uses an estimated incremental borrowing rate, which is derived from third-party information available at the lease commencement date, in determining the present value of lease payments. The rate used is for a secured borrowing of a similar term as the lease.

 

Most leases include one or more options to renew, with renewal terms that can extend the lease term from one to twenty years or more. The exercise of lease renewal options is at the Company’s sole discretion. The lease term includes the initial contractual term as well as any options to extend the lease when it is reasonably certain that the Company will exercise that option. Leases with a term of 12 months or less (“short-term leases”) are not recorded on the balance sheet. The Company does not currently have any material short-term leases. Additionally, the Company’s lease agreements do not contain any residual value guarantees or material restrictive covenants.

 

The Company subleases certain real estate to third parties, which have all been classified as operating leases. The Company recognized sublease income on a straight-line basis.

 

ASC 842 Disclosures

 

Lease cost includes both the fixed and variable expenses recorded for leases. The components of lease cost for the thirteen weeks ended March 31, 2019 were as follows:

 

 

 

 

 

Thirteen Weeks

Ended

 

 

 

Classification

 

March 31, 2019

 

Operating lease cost

 

Selling, general and administrative expenses (1)

 

$

43,224

 

Finance lease cost:

 

 

 

 

 

 

Amortization of Property and

   Equipment

 

Depreciation and amortization

 

 

242

 

Interest on lease liabilities

 

Interest expense

 

 

255

 

Variable lease cost

 

Selling, general and administrative expenses (1)

 

 

12,919

 

Sublease income

 

Selling, general and administrative expenses

 

 

(248

)

Total net lease cost

 

 

 

$

56,392

 

 

(1)

Supply chain-related amounts of $2.1 million of total net lease cost are included in cost of sales.

 

Supplemental balance sheet information related to leases was as follows:

 

 

 

 

 

As of

 

 

 

Classification

 

March 31, 2019

 

Assets

 

 

 

 

 

 

Operating

 

Operating lease assets

 

$

1,024,349

 

Finance

 

Property and equipment, net

 

 

10,909

 

Total lease assets

 

 

 

$

1,035,258

 

Liabilities

 

 

 

 

 

 

Current

 

 

 

 

 

 

Operating

 

Current portion of operating lease liabilities

 

$

74,745

 

Finance

 

Current portion of finance lease liabilities

 

 

592

 

Noncurrent

 

 

 

 

 

 

Operating

 

Long-term operating lease liabilities

 

 

1,067,269

 

Finance

 

Long-term debt and finance lease liabilities

 

 

12,018

 

Total lease liabilities

 

 

 

$

1,154,624

 

16


SPROUTS FARMERS MARKET, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

 

 

 

 

As of

March 31, 2019

 

Weighted average remaining lease term (years)

 

 

 

 

Operating leases

 

 

10.2

 

Finance leases

 

 

11.4

 

Weighted average discount rate

 

 

 

 

Operating leases

 

 

7.8

%

Finance leases

 

 

8.1

%

 

Supplemental cash flow and other information related to leases was as follows:

 

 

 

Thirteen Weeks Ended

 

 

 

March 31, 2019

 

Cash paid for amounts included in measurement of lease liabilities:

 

 

 

 

Operating cash flows for operating leases

 

$

36,256

 

Operating cash flows for finance leases

 

 

255

 

 

 

 

 

 

Lease assets obtained in exchange for lease liabilities:

 

 

 

 

Finance leases

 

 

 

Operating leases

 

 

81,691

 

 

Maturities of lease liabilities:

 

 

Operating Leases (1)

 

 

Finance Leases

 

 

Total

 

2019

 

$

112,791

 

 

$

1,180

 

 

$

113,971

 

2020

 

 

199,484

 

 

 

1,724

 

 

 

201,208

 

2021

 

 

181,231

 

 

 

1,591

 

 

 

182,822

 

2022

 

 

171,903

 

 

 

1,671

 

 

 

173,574

 

2023

 

 

148,394

 

 

 

1,556

 

 

 

149,950

 

2024

 

 

148,416

 

 

 

1,734

 

 

 

150,150

 

Thereafter

 

 

729,691

 

 

 

10,466

 

 

 

740,157

 

Total lease payments

 

 

1,691,910

 

 

 

19,922

 

 

 

1,711,832

 

Less: Imputed interest

 

 

(549,896

)

 

 

(7,312

)

 

 

(557,208

)

Total lease liabilities

 

 

1,142,014

 

 

 

12,610

 

 

 

1,154,624

 

Less: Current portion

 

 

(74,745

)

 

 

(592

)

 

 

(75,337

)

Long-term lease liabilities

 

$

1,067,269

 

 

$

12,018

 

 

$

1,079,287

 

 

 

(1)

Operating lease payment include $84.5 million related to options to extend lease terms that are reasonably certain of being exercised and exclude $119.5 million of legally binding minimum lease payments for leases executed but not yet commenced.

 

ASC 840 Disclosures related to periods prior to adoption of ASC 842:

Operating Lease Commitments

The Company’s leases include stores, office and distribution centers. These leases had an average remaining lease term of approximately nine years as of December 30, 2018.

Rent expense in fiscal years 2018, 2017 and 2016 totaled $137.5 million, $120.5 million and $104.8 million, respectively.

17


SPROUTS FARMERS MARKET, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

 

Future minimum lease obligations for operating leases with initial terms in excess of one year at December 30, 2018 are as follows:  

 

2019

 

$

167,595

 

2020

 

 

179,058

 

2021

 

 

178,722

 

2022

 

 

170,515

 

2023

 

 

155,173

 

Thereafter

 

 

893,274

 

Total payments

 

$

1,744,337

 

 

The Company has subtenant agreements under which it will receive rent as follows:

 

2019

 

$

1,544

 

2020

 

 

1,623

 

2021

 

 

1,384

 

2022

 

 

1,290

 

2023

 

 

1,190

 

Thereafter

 

 

3,158

 

Total subtenant rent

 

$

10,189

 

 

Capital and Financing Lease Commitments

The Company is committed under certain capital and financing leases for rental of buildings and equipment. These leases expire or become subject to renewal clauses at various dates from 2019 to 2034.

As of December 30, 2018, future minimum lease payments required by all capital and financing leases during the initial lease term are as follows:

 

Fiscal Year

 

Capital Leases

 

 

Financing Leases

 

2019

 

$

1,692

 

 

$

14,881

 

2020

 

 

1,591