BUILD-A-BEAR WORKSHOP INC annual report, FY2012

Business context and reporting period

Build-A-Bear Workshop, Inc. filed this Form 10-K for fiscal 2011, the 52 weeks ended December 31, 2011. The company operates interactive stuffed-animal retail stores, e-commerce, licensing and international franchising. At year-end it had 346 company-operated stores and 79 franchised stores.

Financial results and liquidity

FY 2011 retail gross margin declined 20 basis points, primarily from lower merchandise margin, weaker fixed-occupancy-cost leverage and higher purchasing costs, partly offset by distribution savings. Store contribution, a company-defined non-GAAP measure, was $55.7 million, or 15.2% of store-location net retail sales, versus $56.6 million, or 15.3%, in 2010.

Working capital was $37.6 million, down from $51.7 million. The company had no borrowings under its credit facility, approximately $48.9 million of borrowing availability after a $1.1 million standby letter of credit, and was in compliance with its covenants. The facility provides $40 million of availability for the first half of the year and a seasonal $50 million overline from July through December; it expires December 31, 2013. Capital expenditures were $12.2 million and share repurchases used $15.0 million of cash. The company reported $205.3 million of future minimum operating lease payments.

Material changes versus prior period

• Revenue fell 1.8% year over year. Comparable-store sales declined 2.1% (North America down 2.5%; Europe down 0.2%); management attributed the full-year decline in part to underperforming licensed movie products in the fourth quarter.
• Commercial revenue decreased to $3.9 million from $11.2 million, mainly because $6.4 million of non-recurring wholesale transactions occurred in 2010.
• Net loss widened substantially despite a similar pretax loss: the company recorded a $15.6 million valuation allowance against U.S. deferred tax assets. The allowance reflected cumulative losses and accounting requirements; management said it did not change its long-term outlook.
• Cash decreased by $12.4 million, while inventory rose to $51.9 million from $46.5 million. Operating cash flow declined by $6.0 million.
• Shares outstanding decreased to 17.4 million from 19.6 million, reflecting repurchases. The company repurchased 2.53 million shares during fiscal 2011.

In the fourth quarter, revenue was $119.1 million versus $125.8 million a year earlier; net loss was $9.0 million versus net income of $8.3 million. The FY 2011 fourth-quarter net loss included the $15.6 million deferred-tax valuation allowance.

Outlook, management commentary and risks

• For fiscal 2012, management planned to close 15–20 stores, relocate and downsize 10–15 stores, and open four to six company-operated stores. Franchisees were expected to open 10–12 stores net of closures.
• Management projected fiscal 2012 capital expenditures of $20–25 million and approximately $9 million of additional cost savings, partly offsetting expected product-cost increases. No revenue or earnings guidance was provided in the filing.
• Management cited continuing retail challenges, low consumer confidence and discretionary-spending exposure. Other principal risks include mall traffic and comparable-sales weakness, lease costs and closure charges, foreign sourcing and concentration in three vendors (81% of inventory purchases in 2011), product safety, foreign exchange, and execution of store and franchise plans.
• Retail sales are seasonal, with the fourth quarter typically strongest. The company’s 2011 fourth-quarter store impairment charge was $0.4 million; goodwill impairment was not recorded. No pending litigation was identified as likely to have a material adverse effect.
• The $50 million share-repurchase program was extended through March 31, 2013; $8.7 million remained available as of March 12, 2012. The company did not expect to pay cash dividends.

Important facts for investors to verify

• Whether U.S. deferred tax assets become realizable and whether further valuation allowances are required.
• Comparable-store sales trends, especially North American performance and the impact of licensed-product launches.
• Inventory levels, operating cash generation and the capacity to fund planned capital spending, store actions and repurchases.
• Store-closure and lease obligations, including possible termination, relocation and impairment charges.
• Credit-facility covenant compliance and renewal or replacement plans before the December 2013 maturity.
• The terms and potential implications of the consumer-product safety settlement listed among the filing’s exhibits.