Regis Corporation — Fiscal 2013 Second Quarter Form 10-Q
Reporting period: Three and six months ended December 31, 2012; filed February 4, 2013. The interim financial statements are unaudited and were reviewed, but not audited, by PricewaterhouseCoopers LLP.
Business context
Regis owns, franchises and operates beauty salons under brands including Regis, MasterCuts, SmartStyle, Supercuts and Promenade. At December 31, 2012, the company had approximately 10,000 worldwide locations, including 9,259 North American salons, 381 international salons and approximately 245 affiliate locations. Hair Club for Men and Women was classified as discontinued operations and held for sale.
Financial performance and position
| Metric | Three months ended December 31, 2012 | Six months ended December 31, 2012 |
|---|---|---|
| Revenue | $506.2 million | $1,011.5 million |
| Operating income | $8.7 million | $18.0 million |
| Operating margin | 1.7% | 1.8% |
| Income from continuing operations | $(16.1) million | $18.5 million |
| Net income | $(12.3) million | $26.2 million |
| Basic EPS | $(0.22) | $0.46 |
| Cash flow from operations | Not separately provided | $59.0 million |
- Revenue declined 3.8% year over year in the quarter and 4.3% for the six-month period. Consolidated same-store sales decreased 1.9% and 2.5%, respectively, primarily because of lower guest visits, partly offset by higher average ticket prices.
- Gross margin, excluding depreciation and amortization, declined to 41.7% from 44.2% for the quarter and to 42.1% from 44.4% for the six-month period. Service margin declined to 39.7% from 42.7% for the quarter and to 40.3% from 43.0% year to date.
- Operating income declined from $11.9 million to $8.7 million for the quarter and from $20.9 million to $18.0 million year to date. Lower revenue and service margins were partly offset by lower general and administrative expense and lower depreciation and amortization.
- Continuing-operations results included a $17.9 million other-than-temporary impairment of the Empire Education Group investment, recorded in equity in loss of affiliated companies.
- Six-month net income benefited from a $33.8 million primarily non-taxable foreign currency translation gain recognized after the sale and liquidation of European entities. The six-month effective tax rate was 10.2%, compared with 16.9% in the prior year.
- Cash and cash equivalents were $218.3 million at December 31, 2012, compared with $111.9 million at June 30, 2012. Six-month investing cash flow was $88.0 million, including $103.4 million from the sale of Provalliance and $26.4 million of principal repayments from Empire Education Group.
- Capital expenditures were $43.2 million. Financing cash outflows were $43.1 million, including $21.3 million of debt repayments, $14.9 million of share repurchases and $6.9 million of dividends.
- Total debt was $269.0 million, down from $287.7 million at June 30, 2012. Debt to capitalization was 23.7%, compared with 24.4% at fiscal year-end. The company had no revolver borrowings, $373.4 million of unused revolving capacity and $26.6 million of standby letters of credit.
- Shareholders’ equity was $866.7 million, down 2.5% from June 30, 2012. The company repurchased 909,175 shares for $14.9 million during the quarter and had $58.7 million remaining under its authorization.
Material changes versus the prior comparable period
- Quarterly net loss improved from $(57.4) million to $(12.3) million, primarily because the prior-year quarter included a $78.4 million Hair Club goodwill impairment charge. Six-month net income improved from a $49.1 million loss to $26.2 million for the same reason.
- Revenue and operating income declined despite lower general and administrative expense, reflecting salon closures, negative same-store sales and weaker margins.
- Depreciation and amortization declined by $6.6 million for the quarter and $16.6 million year to date because the internally developed point-of-sale system was fully depreciated by June 30, 2012.
- The company sold its 46.7% interest in Provalliance on September 27, 2012 for approximately €80 million and recognized the related $33.8 million foreign currency translation gain.
- The company made no acquisitions during the six months ended December 31, 2012, compared with $2.2 million of acquisition spending in the prior-year period.
- Prior-period expense classifications were reclassified for salon marketing and advertising and distribution-center costs; management stated these changes had no effect on operating income or net income.
Outlook, risks and unusual items
- Management is focused on improving the guest and stylist experience, optimizing the brand portfolio, implementing point-of-sale and guest relationship systems, simplifying operations and reviewing non-core assets.
- Management expects available cash, operating cash flow and the revolving credit facility to fund operations and anticipated growth for at least the next twelve months, while noting that future cash generation and access to long-term financing are not assured.
- Hair Club is subject to Federal Trade Commission review. The proposed sale price is $163.5 million, subject to a working-capital adjustment, and management anticipated a gain on closing.
- Additional impairment remains reasonably likely for the Empire Education Group investment if enrollment, revenue, profitability or valuation assumptions deteriorate. Promenade and Hair Club goodwill also had relatively limited estimated fair-value cushions of approximately 14% and 12%, respectively.
- The company disclosed a material weakness in internal control over financial reporting related to the reclassification of foreign currency translation adjustments. The weakness resulted in a restatement of the September 30, 2012 interim financial statements. Management expected remediation by March 31, 2013.
- Regis faces ordinary-course litigation, purported consumer and wage-and-hour class claims, and a shareholder derivative action involving executive compensation and related-party transactions. Outcomes cannot presently be determined and could materially affect a particular period.
- Key operating risks include persistent negative same-store sales, stylist retention, labor and healthcare costs, competition, consumer spending, technology implementation, franchisee and landlord relationships, foreign currency exposure, joint-venture performance and compliance with debt covenants.
- The company declared a $0.06 per-share quarterly dividend payable February 26, 2013.
Investor verification points
- Verify the timing, regulatory approval, final consideration and accounting gain or loss for the Hair Club sale.
- Assess whether Empire Education Group requires further impairment charges and monitor the approximately $16 million of Regis’s share of EEG goodwill.
- Review remediation of the material weakness and any subsequent restatements or control deficiencies.
- Track same-store sales, guest counts, average ticket, salon closures and margin performance, particularly in North America.
- Confirm debt maturities, including senior term notes maturing from fiscal 2013 through 2018 and convertible notes due 2014, and continued compliance with financing requirements.
- Evaluate cash flow sustainability after excluding the nonrecurring Provalliance proceeds and affiliate loan repayments.
- Monitor pending litigation, healthcare-cost changes and the implementation of North American point-of-sale systems.