FAOO- big short- closed at 3.83 on 14,500 shares
3 failing toy store chains morphed into what will be 1 failing toy store chain.
They couldn't cut it during roaring 90's, how will they fare during recession when high end toys and equipment not so desirable.
Look for Q in 6 months or less
Press Release Source: FAO, Inc.
FAO, Inc. Announces Second Quarter Results
Merchandising Initiatives on Track for Holidays and Opening of Right Start Boutiques Accelerated
Monday September 16, 3:45 pm ET
KING OF PRUSSIA, Pa.--(BUSINESS WIRE)--Sept. 16, 2002--FAO, Inc. (Nasdaq:FAOO - News), a leader in children's specialty retailing, today reported results for the second quarter and first half ended August 3, 2002.
Highlights:
Net sales increased over six times from Q2 2001 to $90 million due to the acquisition of the assets of Zany Brainy® and FAO Schwarz®
Merchandise gross margins remained strong at 44.9% in Q2
Consolidation of back-office functions is now complete, with full cost savings expected by the fourth quarter of FY 2002
2002 Merchandising initiatives will be in place for the holiday selling season
Store-in-a-store rollout accelerated due to initial success of The Right Start® boutiques in Zany Brainy stores
Raised $27 million in private placement of common stock
Outsourced catalog/internet fulfillment function
David Niggli appointed Executive Vice President of Merchandising
Reducing Fiscal 2002 revenue and EBITDA guidance due to challenging retail environment
Jerry R. Welch, President and Chief Executive Officer, said, "During the second quarter we made excellent progress in executing our three-year business transformation strategy to grow revenues and realize operating efficiencies through the consolidation of our three specialty retailing brands. Although this is only the second full quarter in which we have operated as a combined company, we tracked very well against our consolidation and merchandising initiatives and these initiatives will be completed by the important holiday selling season."
Mr. Welch further stated, "In addition to the operating activities related to our three-year business plan, the Company significantly strengthened its balance sheet during the quarter through the sale of 4.5 million new shares of common stock for $27 million. Further, at August 3, 2002, our balance sheet reflected over $95 million of net working capital and over $20 million of net working capital after deducting the outstanding balance of our bank revolving line of credit which is used to acquire inventory.
"Customer reception to our store-in-a-store concept, which places a full-size Right Start store inside an existing Zany Brainy store, has been very positive. Previously, we announced that we planned to open 50-60 of these Right Start boutiques this fiscal year and another 60-70 next fiscal year. We now plan to have 95-100 Right Start boutiques operational inside Zany Brainy stores by October 31, 2002 and plan to add another 30-35 boutiques in January and February. As a result, we expect to complete this important strategic initiative a full nine months ahead of schedule, which should favorably impact our operating results in Fiscal 2003. Further, we expect to see our sales seasonality reduce and to become less dependent on our fourth quarter results.
"In addition to our major merchandising initiatives, which include introducing car seats, Barbie®, and action figures to Zany Brainy, car seats and strollers to FAO Baby(TM), and FAO Schwarz® proprietary plush toys to Zany Brainy and The Right Start, we also have begun an important project to improve the look and feel of our stores. In September and October, we plan to remerchandise, reset and re-sign all 169 Zany Brainy stores and, also, remerchandise and reset major departments in our seven FAO Schwarz flagship stores. In doing so, we intend to create a more interactive shopping environment, displaying more product out of its packaging with more frequent product demonstrations.
"On the operational side of our business, we have made excellent progress since the end of the first quarter. Over this timeframe, we have completed the combination of all accounting, finance, systems and administrative functions, consolidated and centralized the merchandising replenishment and allocation function, moved all information systems to a common platform, moved all store point of sale devices to a common platform and opened a new distribution center in Ontario, California. Recently, we have outsourced our catalog and internet fulfillment operations to NewRoads, Inc., one of the premier third party fulfillment companies in the country."
The Company also announced that David Niggli, who is currently the President of FAO Schwarz, will take on the additional duties of Executive Vice President of Merchandising for FAO, Inc. In this role, Mr. Niggli will be responsible for coordinating merchandising activities across all three brands. "David has done an outstanding job in making FAO Schwarz one of the premier merchandising-driven retailers in our country. He is very talented and his unique merchandising skills will help keep our three brands on the forefront of kids' products retailing," said Mr. Welch.
Business Outlook
Mr. Welch continued, "Our results for the second quarter mirrored the first quarter's and were in line with our previously issued annual guidance. Typically, toy retailers experience approximately 15%-17% of annual sales in each of the first two quarters of the year and 40%-50% of annual sales in the fourth quarter and we expect our sales to follow this pattern during Fiscal 2002. However, given the weak economic environment and cautious consumer spending patterns that have recently developed, we believe it is prudent to adjust our guidance for this year. Accordingly, we are reducing our revenue guidance for Fiscal 2002 to $535-$555 million, from $565-$585 million, and we now estimate that full year EBITDA will be in the range of $13-$18 million, compared to our previous forecast of $21-$25 million.
"As previously discussed, the first half of our fiscal year has been primarily focused on consolidating the operations of The Right Start, Zany Brainy, and FAO Schwarz, reducing our cost structure and finalizing a merchandising and marketing strategy for the combined company. With most of the consolidation activities behind us now, we have directed our focus to the execution of our merchandising, marketing and sales initiatives. In addition to our merchandising initiatives, we have put together an aggressive advertising, marketing and public relations campaign for the important fall/holiday selling season and are supporting it with sales contests for our sales associates. We believe that the combination of our merchandising initiatives, marketing campaign and sales contests will drive positive same store sales in the second half of our fiscal year.
"With respect to our catalog activities, we are two weeks into the first drop of the FAO Schwarz catalog and the early results are very encouraging. We have increased the circulation of both our FAO flag book and core book this year to 8.5 million from 6.5 million last year and we are looking for very good performance from this important sales channel.
"Looking ahead to Fiscal 2003, we remain comfortable with our guidance of sales of $675-$695 million and EBITDA of $40-$50 million. In addition, we look for better balance in our sales seasonality as the 130 Right Start boutiques introduced into Zany Brainy and the car seat sections now operational in 169 Zany Brainy stores begin to smooth out our sales cycle. Through the addition of The Right Start boutiques and year round businesses like car seats, we believe we can significantly reduce or eliminate our operating losses in the first three quarters of the year over the long-term."
The following discussion primarily compares the results of FAO, Inc. for the second quarter and first half of Fiscal 2002, which includes the results of FAO Schwarz, Zany Brainy, and The Right Start, with the results of The Right Start for the second quarter and first half of Fiscal 2001, which do not include the operations of FAO Schwarz or Zany Brainy, which were acquired in January 2002 and September 2001, respectively. Therefore, the results are not comparable.
Second Quarter 2002 - Results for the Thirteen Weeks ended August 3, 2002
Net sales for the second quarter ended August 3, 2002 were $90.0 million, compared to $13.5 million in the second quarter of 2001. Operating loss for the second quarter was $15.9 million, compared to an operating loss of $1.1 million in the same period last year. The increased operating loss reflects an increase in the size of our business and its seasonality as a result of the acquisition of Zany Brainy and FAO Schwarz. Both are primarily toy retailers and together accounted for 88.7% of our sales in the second quarter. Included in the operating loss is $830,000 of non-recurring costs and expenses related to the integration of Zany Brainy and FAO Schwarz.
Net loss for the second quarter was $18.2 million, compared to a net loss of $1.3 million in the second quarter of Fiscal 2001. The Company reported a loss attributable to common stock of $0.53 per share, compared to a loss of $0.26 per share in the prior year.
Net retail sales for the second quarter of Fiscal 2002 were $87.8 million, including $10.2 million from The Right Start, $53.7 million from Zany Brainy, and $23.9 million from FAO Schwarz, compared to net retail sales of $12.0 million in the second quarter of Fiscal 2001 for The Right Start. Same store sales for The Right Start for the quarter decreased 7.7%. Same store sales at Zany Brainy decreased 12.8% and at FAO Schwarz decreased 21.0% compared to sales in the second quarter of Fiscal 2001 as accounted for by their prior owners. The declines in same store sales at Zany Brainy and FAO Schwarz were anticipated. The decline at Zany Brainy reflects adjustments to the price promotional strategy previously in place, a significant reduction in marketing and advertising expenditures and a softening retail environment. FAO Schwarz historically has derived a significant portion of its sales from tourists and, as a result, same store sales in its tourist-oriented flagship locations, such as New York, Orlando, San Francisco and Las Vegas decreased as tourist activity decreased and the retail environment softened generally.
Merchandise gross margin was 44.9% in the second quarter, as compared to 48.1% in the second quarter of Fiscal 2001 when results reflected only those of The Right Start. Historically, The Right Start has had merchandise gross margins approximating those of FAO Schwarz and higher than those of Zany Brainy compared to the merchandise gross margins as accounted for last year by their prior owners. Merchandise gross margin was 44.9% in the second quarter, compared to 46.2% in the first quarter and 38.6% in the fourth fiscal quarter of 2001. Zany Brainy continued to post strong improvement over last year as these stores were cleared of old, marked-down inventory and as the changes in promotional strategy began to take effect. In the first quarter of Fiscal 2002, the Company reclassified distribution costs from operating expense to costs of sales for financial reporting purposes. Accordingly, overall Company gross margin (merchandise gross margin less distribution costs) was 39.8% in the first quarter compared to 44.8% for retail sales at The Right Start last year. Distribution expense for the second quarter was 5.1% and should not be indicative of future run rates as the Company is in the process of reducing the number of distribution centers and eliminating long hauls as the new west coast distribution center comes online.
First Half of 2002 - Results for the Twenty-Six Weeks Ended August 3, 2002
Net sales for the first half ended August 3, 2002 were $177.9 million, compared to $26.2 million in the first half of 2001. Operating loss for the first half was $30.9 million, compared to an operating loss of $2.2 million in the same period last year. The increased operating loss reflects an increase in the size of our business and its seasonality as a result of the acquisition of Zany Brainy and FAO Schwarz. Both are primarily toy retailers and together accounted for 88.4% of our sales in the first half. Included in the operating loss is $1.9 million of non-recurring costs and expenses related to the integration of Zany Brainy and FAO Schwarz.
Net loss for the first half was $35.3 million, compared to a net loss of $2.7 million in the first half of Fiscal 2001. The Company reported a loss attributable to common stock of $1.30 per share, compared to a loss of $0.54 per share in the prior year.
Net retail sales for the first half of Fiscal 2002 were $172.7 million, including $20.6 million from The Right Start, $104.2 million from Zany Brainy, and $47.9 million from FAO Schwarz, compared to net retail sales of $23.0 million in the first half of Fiscal 2001 for The Right Start. Same store sales for the first half for The Right Start decreased 4.4% compared to the prior year. Same store sales at Zany Brainy decreased 15.0% and at FAO Schwarz decreased 17.0% compared to sales for the first half of Fiscal 2001 as accounted for by their prior owners. The declines in same store sales at Zany Brainy and FAO Schwarz were anticipated. The decline at Zany Brainy reflects adjustments to the price promotional strategy previously in place, a significant reduction in marketing and advertising expenditures and a softening retail environment. FAO Schwarz historically has derived a significant portion of its sales from tourists and, as a result, same store sales in its tourist-oriented flagship locations, such as New York, Orlando, San Francisco and Las Vegas decreased as tourist activity decreased and the retail environment softened generally.
Merchandise gross margin was 45.6% in the first half, as compared to 48.8% in the first half of Fiscal 2001 when results reflected only those of The Right Start. Historically, The Right Start has had merchandise gross margins approximating those of FAO Schwarz and higher than those of Zany Brainy. In the first quarter of Fiscal 2002, the Company reclassified distribution costs from operating expense to costs of sales for financial reporting purposes. Accordingly, overall Company margin was 40.2% in the first half compared to 44.7% for retail sales at The Right Start last year. Distribution expense for the first half was 5.4% and should not be indicative of future run rates as the Company is in the process of reducing the number of distribution centers and eliminating long hauls as the new west coast distribution center comes online.
The Company will hold a conference call today to discuss these results at 4:30 p.m. EDT (1:30 p.m. PDT). Hosting the call will be FAO, Inc.'s CEO Jerry Welch and CFO Raymond P. Springer.
This conference call will be broadcast live over the Internet and can be accessed by all interested parties at the investors section of FAO, Inc.'s website, www.faoinc.com, and at PR Newswire's website, www.prnewswire.com, under the Multimedia News section. To listen to the live call, please go to these websites at least fifteen minutes prior to the start of the call to register, download, and install any necessary audio software. For those unable to participate during the live broadcast, a replay will be available shortly after the call on these sites for 90 days.
About FAO, Inc.
FAO, Inc. (formerly The Right Start, Inc.) owns a family of high quality, developmental, educational and care brands for infants, toddlers and children and is a leader in children's specialty retailing. FAO, Inc. owns and operates the renowned children's toy retailer FAO Schwarz; The Right Start, the leading specialty retailer of developmental, educational and care products for infants and toddlers; and Zany Brainy, the leading retailer of developmental toys and educational products for kids.
FAO, Inc. assumed its current form in January 2002 and operates a total of 253 retail stores nationwide. The Right Start brand originated in 1985 through the creation of the Right Start Catalog and is currently used in 61 retail stores nationwide. In September 2001, the Company purchased assets of Zany Brainy, Inc., which began business in 1991, and currently operates 169 Zany Brainy brand stores throughout the country. In January the Company purchased the FAO Schwarz brand, which originated 140 years ago in 1862, and certain related assets and currently operates 23 FAO stores nationwide.
This press release contains certain forward-looking statements with respect to the implementation and anticipated results of the Company's business strategy, and the financial condition, results of operations and business of the Company, that are subject to certain risks and uncertainties that could cause actual results to differ materially from those set forth in such statements. Actual results may be impacted by factors including, but not limited to, the following: costs of integration of Zany Brainy and FAO Schwarz with the Company's operations; the realization of anticipated cost savings and operating efficiencies; customer reception to cross-merchandising, new merchandise categories and the "store-in-a-store" concept; construction and other delays in store openings; potential for sales cannibalization across channels; results of catalog management and introduction of new catalogs; results of management of online stores and cross-marketing initiatives; competition from other retailers; the Company's ability to control employment, occupancy and other operating costs; the Company's ability to standardize, improve and control its information systems and business processes; potential product liability claims, potential operational or integration challenges; changes in consumer spending; dependence on independent manufacturers and suppliers and their credit terms and other risks included in FAO, Inc.'s filings with the Securities and Exchange Commission, including the risk factors set forth in its Registration Statement on Form S-3 No. 333-84438 as amended. The Company has not undertaken, nor is it required, to publicly update or revise any of its forward-looking statements, even if experience or future events make it clear that the results set forth in such statements will not be realized.
In addition, this press release contains comparisons with historical same-store sales and merchandise gross margin information for the Zany Brainy and FAO Schwarz that are based on information prepared by others which we cannot assure you is accurate in all material respects.
FAO, INC.
CONSOLIDATED BALANCE SHEETS
(unaudited)
August 3, February 2,
2002 2002
ASSETS
Current assets:
Cash and cash equivalents $ 3,814,000 $ 2,811,000
Accounts and other receivables 9,231,000 14,966,000
Merchandise inventories 126,664,000 118,762,000
Prepaid catalog expenses 72,000 81,000
Other current assets 9,335,000 5,106,000
Total current assets 149,116,000 141,726,000
Noncurrent assets:
Property, fixtures and equipment,
net 31,820,000 31,168,000
Deferred income tax benefit 1,400,000 1,400,000
Goodwill 4,578,000 4,578,000
Other noncurrent assets 3,564,000 2,564,000
Total noncurrent assets 41,362,000 39,710,000
$ 190,478,000 $181,436,000
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 31,910,000 $ 21,014,000
Mandatorily Redeemable Preferred
Stock - 2,910,000
Accrued expenses 15,204,000 16,548,000
Accrued salaries and wages 5,453,000 11,098,000
Current portion of long term debt 1,139,000 959,000
Acquisition Obligations - 5,000,000
Total current liabilities 53,706,000 57,529,000
Revolving Line of Credit 74,867,000 53,472,000
Equipment Note 820,000 1,503,000
Deferred rent 2,523,000 1,591,000
Subsidiary Subordinated Notes 16,106,000 15,972,000
Junior Convertible Note 4,900,000 4,900,000
Total liabilities 152,922,000 134,967,000
Commitments and contingencies
Shareholders' equity:
Series B Preferred Stock - 188,000
Series E Preferred Stock - 11,919,000
Series F Preferred Stock - 3,996,000
Series G Preferred Stock - 5,500,000
Series H Preferred Stock - 20,000,000
Common stock and paid in capital (75,000,000 shares
authorized at $0.001 par value; 35,015,563
and 12,965,501 issued and outstanding,
respectively) 152,426,000 84,305,000
Accumulated deficit (114,870,000) (79,439,000)
Total shareholders' equity 37,556,000 46,469,000
$ 190,478,000 $181,436,000
FAO, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited)
Thirteen Weeks Ended Twenty-Six Weeks Ended
August 3, August 4, August 3, August 4,
2002 2001 2002 2001
Net sales:
Retail $ 87,808,000 $12,034,000 $172,711,000 $23,037,000
Direct to
customer 1,628,000 - 4,076,000 -
Shipping and
handling
revenues 564,000 - 1,069,000 -
Sales to
RightStart.com,
Inc. - 1,489,000 - 3,207,000
90,000,000 13,523,000 177,856,000 26,244,000
Costs and expenses:
Cost of goods
sold, including
distribution
costs 53,851,000 6,724,000 105,722,000 12,742,000
Cost of shipping
and handling 697,000 - 1,310,000 -
Cost of goods
sold to
RightStart.com,
Inc. - 1,489,000 - 3,207,000
Gross profit 35,452,000 5,310,000 70,824,000 10,295,000
Selling, general
and administrative
expenses:
Operating
expenses 41,577,000 4,385,000 81,853,000 8,610,000
Marketing and
advertising
expense 2,065,000 163,000 3,880,000 308,000
General and
administrative
expense 6,109,000 1,077,000 12,756,000 2,129,000
Pre-opening
costs 29,000 100,000 165,000 183,000
Depreciation and
amortization
expense 1,536,000 655,000 3,025,000 1,290,000
51,316,000 6,380,000 101,679,000 12,520,000
Operating loss (15,864,000) (1,070,000) (30,855,000) (2,225,000)
Interest expense,
net 2,272,000 198,000 4,387,000 418,000
Loss before
income taxes (18,136,000) (1,268,000) (35,242,000) (2,643,000)
Income tax
provision 29,000 13,000 99,000 25,000
Net loss $(18,165,000) $(1,281,000) $(35,341,000) $(2,668,000)
Basic and diluted
loss per share:
Net loss per
share $ (0.53) $ (0.26) $ (1.30) $ (0.54)
Weighted average
number of shares
outstanding 34,035,566 5,617,275 27,212,127 5,617,275
FAO, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
Twenty-Six Weeks Ended
August 3, August 4,
2002 2001
Cash flows from operating activities:
Net loss $(35,341,000) $(2,668,000)
Adjustments to reconcile net loss
to net cash provided by operating
activities:
Depreciation and amortization 3,025,000 1,290,000
Deferred rent 932,000 -
Non-cash compensation - 32,000
Amortization of debt issuance
costs 221,000 -
Non-cash interest 134,000
Change in assets and liabilities
affecting operations (256,000) 3,416,000
Net cash (used in)
provided by operating
activities (31,285,000) 2,070,000
Cash flows from investing activities:
Additions to property, fixtures and
equipment (2,532,000) (1,321,000)
Purchase price adjustments (1,117,000)
Net cash used in
investing activities (3,649,000) (1,321,000)
Cash flows from financing activities:
Net borrowings (payments) on revolving
line of credit 21,395,000 (774,000)
Decrease in bank overdraft (3,015,000) -
Payments on notes payable and capital
leases (5,503,000) -
Redemption of Mandatorily Redeemable
Preferred Stock (3,000,000) -
Proceeds from sale of common stock 26,189,000
Payments on financing costs (458,000) -
Proceeds from common stock issued upon
exercise of stock options 329,000 -
Net cash provided by (used
in) financing activities 35,937,000 (774,000)
Net increase (decrease) in cash and cash
equivalents 1,003,000 (25,000)
Cash and cash equivalents at beginning of
period 2,811,000 254,000
Cash and cash equivalents at end of period $ 3,814,000 $ 229,000
--------------------------------------------------------------------------------
Contact:
FAO, Inc.
Jerry R. Welch or Raymond P. Springer, 610/278-7800
or
Coffin Communications Group
Crocker Coulson, 818/789-0100
crocker.coulson@coffincg.com
--------------------------------------------------------------------------------
Source: FAO, Inc.
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