LZB

LA-Z-BOY INC - 10-Q Summary (Quarter Ended Jan 22, 2011)

Business Context and Reporting Period

This filing covers the third quarter and first nine months of fiscal 2011, ended January 22, 2011. LA-Z-BOY INC is a leading global producer of reclining chairs and manufacturer of upholstered and casegoods furniture. The company operates through three segments: Upholstery Group, Casegoods Group, and Retail Group. Fiscal 2011 is a 53-week year, with the additional week occurring in the fourth quarter.

Key Financial Metrics

Material Changes vs. Prior Period

• Revenue Decline: Consolidated sales decreased 4.3% in Q3 and 2.3% for the nine months. This was driven by weaker demand in the Upholstery and Casegoods segments, a shift to promotional products lowering average selling prices, and the deconsolidation of the Toronto, Ontario VIE (which reduced sales by $6.6M in Q3 and $14.9M for 9M).
• Margin Compression: Operating margins declined due to increased raw material costs (impacting gross margin by 1.3-1.8 percentage points) and higher advertising expenses. However, cost reduction initiatives and lower warranty expenses (due to a mechanism redesign) provided partial offsets.
• Segment Performance:
  • Upholstery Group: Sales and operating income declined significantly (down 29.2% in Q3) due to raw material costs and product mix shifts.
  • Casegoods Group: Operating income improved significantly (up 464% in Q3) due to warehouse consolidation efficiencies and reduced employee expenses.
  • Retail Group: Sales increased 9.2% in Q3, and operating losses narrowed, though the segment remains unprofitable due to high lease expenses.
• Tax Rate Reduction: The effective tax rate dropped to 22.6% in Q3 (from 37.8% in Q3 2010) primarily due to a $2.9M tax benefit related to the write-off of accounts receivable exceeding the fair value of assets received from a Southern California VIE.

Guidance, Outlook, and Risks

• Outlook: Management is "guardedly optimistic" about a marketplace turnaround, citing a rebound in same-store sales. They believe the company is well-positioned due to its brand strength and cost structure improvements. The fourth quarter of fiscal 2011 will be a 14-week quarter.
• Capital Expenditures: Expected to range between $10.0M and $12.0M for fiscal 2011.
• Restructuring: The company expects to incur approximately $0.2M in additional restructuring charges for the remainder of fiscal 2011 related to transitioning cutting/sewing operations to Mexico and closing retail facilities.
• Material Weakness in Internal Controls: The company identified a material weakness in internal controls over financial reporting related to the oversight of Variable Interest Entities (VIEs). This led to errors in prior period financial statements (though deemed immaterial to prior periods). Remediation is expected by the end of fiscal 2011.
• Subsequent Event: Effective February 1, 2011, the company acquired a previously consolidated VIE (15 stores). This will be accounted for as an equity transaction, reclassifying $6.1M of noncontrolling interest to retained earnings in Q4.

Investor Verification Checklist

• Internal Control Remediation: Verify the progress of remediation for the material weakness regarding VIE accounting oversight.
• Raw Material Costs: Monitor trends in raw material costs and their impact on the Upholstery Group's gross margins.
• Retail Segment Profitability: Assess the Retail Group's ability to overcome high lease expenses and achieve positive operating margins.
• VIE Acquisition Impact: Review the financial impact of the February 2011 VIE acquisition in the Q4 filing, specifically the reclassification of noncontrolling interests.
• CDSOA Funds: Note the uncertainty surrounding future Continued Dumping and Subsidy Offset Act (CDSOA) distributions, which contributed significantly to income in prior periods but are subject to legal challenges.