|Sears Canada Reports Third Quarter Results|
TORONTO, Nov. 16, 2010 (Canada NewsWire via COMTEX) --
Sears Canada Inc. (TSX: SCC) today announced its unaudited third quarter results. Total revenues for the 13-week period ended October 30, 2010 were $1.201 billion compared to $1.309 billion for the 13 weeks ended October 31, 2009, a decrease of 8.2%. Same store sales also decreased 8.2%.
Operating EBITDA (Earnings Before Interest, Taxes, Depreciation and Amortization) for the quarter this year was $53.7 million versus $103.7 million in the same 13-week period last year. Net earnings for the third quarter were $18.5 million or 17 cents per share compared to $47.1 million or 44 cents per share in the third quarter last year. There were no non-operating activities in the quarter this year or last year.
Total revenues for the 39-week period ended October 30, 2010 were $3.481 billion compared to $3.676 billion for the 39-week period last year, which ended October 31, 2009, a decrease of 5.3%. Same store sales decreased 4.4%.
Operating EBITDA for the first nine months of the year was $174.6 million versus $274.7 million for the same period last year. Net earnings for the 39 weeks ended October 30, 2010 were $57.6 million or 54 cents per share compared to $106.5 million or 99 cents per share for the same 39-week period last year, which ended October 31, 2009. There were no non-operating activities in the 39-week period ending October 30, 2010, however the comparable period from 2009 included a pre-tax restructuring charge of $9.3 million. Therefore, operating net earnings for the first 39 weeks of 2010 were $57.6 million or 54 cents per share compared to $113.0 million or $1.05 per share for same 39-week period last year.
Commenting on the third quarter, Dene Rogers, President and Chief Executive Officer, Sears Canada Inc., said, "Our sales in the third quarter were negatively impacted by the new HST in Ontario and British Columbia, rising interest rates and the continued high unemployment rate which have led to a downward slide in consumer confidence. While recognizing these economic factors, the results are very disappointing.
"Our Holiday season promotions will focus on the lowest prices with the best value," added Mr. Rogers. "For example, in appliances, furniture, mattresses and electronics, unlike most of our competitors, Sears offers better value including no-interest, no back-dated interest deferred financing for up to 36 months. In women's fashion, Sears is offering more contemporary and younger-minded brands such as Kenzie and Mac & Jac and new brands like Jones & Co. Brands such as Jessica, Canada's #1 women's apparel brand, have been made more fashionable and Attitude, a brand which has received accolades from the fashion press and at prestigious fashion shows, offers younger styles with first class quality and fashionability."
This release contains information which is forward-looking and is subject to important risks and uncertainties. Forward-looking information concerns the Company's future financial performance, business strategy, plans, goals and objectives. Factors which could cause actual results to differ materially from current expectations include, but are not limited to: the ability of the Company to successfully implement its cost reduction, productivity improvement and strategic initiatives and whether such initiatives will yield the expected benefits; the results achieved pursuant to the Company's long-term marketing and servicing alliance with JPMorgan Chase Bank, N.A.; general economic conditions; competitive conditions in the businesses in which the Company participates; changes in consumer spending; seasonal weather patterns; customer preference toward product offerings; changes in the Company's relationship with its suppliers; interest rate fluctuations and other changes in funding costs; fluctuations in foreign currency exchange rates; the possibility of negative investment returns in the Company's pension plan; the outcome of pending legal proceedings; and changes in laws, rules and regulations applicable to the Company. While the Company believes that its forecasts and assumptions are reasonable, results or events predicted in this forward-looking information may differ materially from actual results or events.
Operating EBITDA and operating net earnings are non-GAAP measures; please refer to the "Reconciliation of Net Earnings to Operating Net Earnings and Operating EBITDA" table attached.
Sears Canada is a multi-channel retailer with a network of 196 corporate stores, 260 hometown dealer stores, 33 home improvement showrooms, over 1,800 catalogue merchandise pick-up locations, 108 Sears Travel offices and a nationwide home maintenance, repair, and installation network. The Company also publishes Canada's most extensive general merchandise catalogue and offers shopping online at www.sears.ca.
SEARS CANADA INC. CONSOLIDATED STATEMENTS OF EARNINGS AND COMPREHENSIVE INCOME For the 13 and 39-week periods ended October 30, 2010 and October 31, 2009 Unaudited 13-Week Period 39-Week Period (in millions, except per share amounts) 2010 2009 2010 2009 Total revenues $ 1,201.2 $ 1,309.0 $ 3,481.0 $ 3,675.5 Cost of merchandise sold, operating, administrative and selling expenses 1,147.5 1,205.3 3,306.4 3,410.1 Depreciation and amortization 23.9 28.2 74.7 87.1 Interest expense, net (Note 5) 2.7 6.1 10.4 18.0 Earnings before income taxes 27.1 69.4 89.5 160.3 Income tax expense (recovery) Current 11.2 25.7 35.4 60.3 Future (2.6) (3.4) (3.5) (6.5) 8.6 22.3 31.9 53.8 Net earnings $ 18.5 $ 47.1 $ 57.6 $ 106.5 Net earnings per share (Note 6) $ 0.17 $ 0.44 $ 0.54 $ 0.99 Diluted net earnings per share (Note 6) $ 0.17 $ 0.44 $ 0.54 $ 0.99 Net earnings $ 18.5 $ 47.1 $ 57.6 $ 106.5 Other comprehensive income (loss), net of taxes: Mark-to-market adjustment related to short-term investments, net of income tax recovery of less than $0.1 and less than $0.1 (2009: expense of less than $0.1 and Nil) - 0.1 (0.2) - Gain (loss) on foreign exchange derivatives designated as cash flow hedges, net of income tax expense of less than $0.1 and recovery of $1.5 (2009: expense of $0.8 and recovery of $14.8) 0.1 1.8 (3.1) (32.1) Reclassification to net earnings of gain on foreign exchange derivatives designated as cash flow hedges, net of income tax expense of $0.2 and $1.1 (2009: $2.8 and $11.5) (0.5) (6.3) (2.4) (24.9) Gain on fuel derivatives designated as cash flow hedges, net of income tax expense of Nil and Nil (2009: Nil and $0.1) - - - 0.2 Other comprehensive loss (0.4) (4.4) (5.7) (56.8) Comprehensive income $ 18.1 $ 42.7 $ 51.9 $ 49.7 CONSOLIDATED STATEMENTS OF RETAINED EARNINGS AND ACCUMULATED OTHER COMPREHENSIVE INCOME For the 13 and 39-week periods ended October 30, 2010 and October 31, 2009 Unaudited 13-Week Period 39-Week Period (in millions) 2010 2009 2010 2009 Retained earnings Opening balance $ 1,296.2 $ 1,458.5 $ 1,633.8 $ 1,399.1 Dividends declared (Note 9) (376.7) - (753.4) - Repurchase of common shares (Note 9) (4.8) - (4.8) - Net earnings 18.5 47.1 57.6 106.5 Closing balance $ 933.2 $ 1,505.6 $ 933.2 $ 1,505.6 Accumulated other comprehensive income Opening balance $ 2.7 $ 16.0 $ 8.0 $ 68.4 Other comprehensive loss (0.4) (4.4) (5.7) (56.8) Closing balance $ 2.3 $ 11.6 $ 2.3 $ 11.6 Retained earnings and accumulated other comprehensive income $ 935.5 $ 1,517.2 $ 935.5 $ 1,517.2
Sears Canada Inc. Reconciliation of Net Earnings to Operating Net Earnings and Operating EBITDA Unaudited Third Quarter Year-to-Date (in millions, except per share amounts) 2010 2009 2010 2009 Net earnings $ 18.5 $ 47.1 $ 57.6 $ 106.5 Non-operating activities, net of taxes Restructuring expense - - - 6.5 Operating net earnings $ 18.5 $ 47.1 $ 57.6 $ 113.0 Depreciation and amortization 23.9 28.2 74.7 87.1 Interest expense, net 2.7 6.1 10.4 18.0 Income tax expense excluding operating adjustments 8.6 22.3 31.9 56.6 Operating EBITDA $ 53.7 $ 103.7 $ 174.6 $ 274.7 Net earnings per share $ 0.17 $ 0.44 $ 0.54 $ 0.99 Operating net earnings per share $ 0.17 $ 0.44 $ 0.54 $ 1.05
SEARS CANADA INC. CONSOLIDATED STATEMENTS OF FINANCIAL POSITION Unaudited Unaudited As at As at Audited October 30, October 31, As at (in millions) 2010 2009 January 30, 2010 ASSETS Current Assets Cash and short-term investments (Note 3) Restricted cash and investments (Note 13) Accounts receivable Note receivable (Notes 16 and 17) Income taxes 283.7 1,045.2 1,381.8 recoverable $ 15.9 $ 68.6 $ 15.8 Inventories 145.0 161.9 131.1 (Note 4) 401.0 - - Prepaid 37.4 27.4 6.0 expenses and 1,105.0 1,025.9 852.3 other assets 73.2 79.0 74.7 Current portion of future income tax assets 30.6 33.2 29.7 2,091.8 2,441.2 2,491.4 Capital assets Deferred charges Intangible assets 582.9 633.3 620.2 Goodwill 174.7 178.4 179.2 Future income 24.1 16.9 22.6 tax assets 11.2 11.2 11.2 Other long-term 37.2 36.6 32.0 assets 46.2 47.9 48.2 $ 2,968.1 $ 3,365.5 $ 3,404.8 LIABILITIES Current Liabilities Accounts payable Accrued liabilities Income and other taxes payable Principal payments on long-term 803.8 717.8 647.7 obligations $ 327.1 $ 377.6 $ 342.1 due within one 26.6 46.2 72.7 year (Notes 5 and 15) 5.7 322.6 314.2 1,163.2 1,464.2 1,376.7 Long-term obligations (Note 5) Accrued benefit liability (Note 12) Future income 506.8 37.7 36.5 tax liabilities 181.2 165.5 167.7 Other long-term 4.4 4.2 4.3 liabilities 161.3 161.0 162.1 2,016.9 1,832.6 1,747.3 SHAREHOLDERS' EQUITY Capital stock (Note 9) Retained earnings Accumulated other 15.7 15.7 15.7 comprehensive 933.2 1,505.6 1,633.8 income 2.3 11.6 8.0 951.2 1,532.9 1,657.5 $ 2,968.1 $ 3,365.5 $ 3,404.8
SEARS CANADA INC. CONSOLIDATED STATEMENTS OF CASH FLOWS For the 13 and 39-week periods ended October 30, 2010 and October 31, 2009 Unaudited 13-Week Period 39-Week Period (in millions) 2010 2009 2010 2009 Cash flow generated from (used for) operating activities Net earnings $ 18.5 $ 47.1 $ 57.6 $ 106.5 Non-cash items included in net earnings, principally depreciation and pension expense 29.5 31.3 94.4 94.9 Changes in non-cash working capital balances related to operations (42.9) 153.3 (211.4) (3.7) Other, principally pension contributions and changes to 0.3 (1.9) (5.4) (7.1) other long-term assets and liabilities 5.4 229.8 (64.8) 190.6 Cash flow generated from (used for) investing activities Purchases of capital assets (16.5) (10.6) (36.3) (45.1) Proceeds from sale of capital assets 0.1 0.2 0.4 1.0 Investment in note receivable (401.0) - (401.0) - Changes in restricted cash and investments (10.1) 45.2 (0.1) 83.2 (427.5) 34.8 (437.0) 39.1 Cash flow generated from (used for) financing activities Repayment of long-term obligations (101.4) (1.4) (310.5) (4.3) Issuance of long-term obligations 472.4 - 472.4 - Repurchase of shares (4.8) - (4.8) - Dividend payments (376.7) - (753.4) - (10.5) (1.4) (596.3) (4.3) (Decrease) increase in cash and short-term investments (432.6) 263.2 (1,098.1) 225.4 Cash and short-term investments at beginning of period 716.3 782.0 1,381.8 819.8 Cash and short-term investments at end of period $ 283.7 $ 1,045.2 $ 283.7 $ 1,045.2 Cash at end of period $ 70.2 $ 89.5 $ 70.2 $ 89.5 Short-term investments at end of period 213.5 955.7 213.5 955.7 Total cash and short-term investments at end of period $ 283.7 $ 1,045.2 $ 283.7 $ 1,045.2
SEARS CANADA INC. NOTES TO THE INTERIM CONSOLIDATED FINANCIAL STATEMENTS OCTOBER 30, 2010
1. BASIS OF PRESENTATION
These unaudited interim consolidated financial statements (the "Financial Statements") of Sears Canada Inc. (the "Company") have been prepared in accordance with Canadian Generally Accepted Accounting Principles ("GAAP") but do not contain all disclosures required by Canadian GAAP for annual financial statements. Accordingly, these Financial Statements should be read in conjunction with the most recently prepared audited annual consolidated financial statements for the 52-week period ended January 30, 2010 ("2009 Annual Financial Statements"). These Financial Statements for the third quarter ended October 30, 2010 follow the same accounting policies and methods of application as those used in the preparation of the 2009 Annual Financial Statements.
The Company's operations are seasonal in nature. Accordingly, merchandise and service revenues, as well as performance payments received from JPMorgan Chase & Co, N.A. (Toronto Branch) ("JPMorgan Chase") under the long-term credit card marketing and servicing alliance, will vary by quarter based upon consumer spending behaviour. Historically, the Company's revenues and earnings are higher in the fourth quarter than in any of the other three quarters due to the holiday season. The Company is able to adjust certain variable costs in response to seasonal revenue patterns; however, costs such as occupancy are fixed, causing the Company to report a disproportionate level of earnings in the fourth quarter. This business seasonality results in quarterly performance that is not necessarily indicative of the year's performance.
2. ACCOUNTING POLICIES AND ESTIMATES
Future Accounting Policies:
International Financial Reporting Standards ("IFRS") The Canadian Accounting Standards Board confirmed, in February 2008, that it will require all public companies to adopt IFRS for interim and annual financial statements relating to fiscal years beginning on or after January 1, 2011. In the year of adoption, companies will be required to provide comparative information as if IFRS had been used in the preceding fiscal year. The transition from Canadian GAAP to IFRS will be applicable to the Company's first quarter of operations for fiscal 2011, at which time the Company will prepare both its fiscal 2011 and fiscal 2010 comparative financial information using IFRS. The Company expects the transition to IFRS to impact financial reporting, business processes, internal controls and information systems. The Company is currently assessing the impact of the transition to IFRS on these areas and will continue to invest in training and resources throughout the transition period to facilitate a timely conversion. Multiple Deliverable Revenue Arrangements In December 2009, the EIC issued EIC-175, "Multiple Deliverable Revenue Arrangements" to amend EIC-142, "Revenue Arrangements with Multiple Deliverables". This requires consideration at inception to be allocated using the relative selling price method and prohibiting the residual method. This abstract is to be applied prospectively to revenue arrangements with multiple deliverables entered into or materially modified in the first annual fiscal period beginning on or after January 1, 2011. Early adoption is permitted and should be applied retroactively from the beginning of the entity's fiscal period of adoption. EIC-142 is effective until adoption of EIC-175. The Company will not be early adopting this EIC in 2010. Business Combinations In January 2009, the CICA issued Handbook Sections; 1582, "Business Combinations" 1601, "Consolidated Financial Statements" and 1602, "Non-controlling Interests" which are based on the IASB, IFRS 3, "Business Combinations". The new standards replace the existing guidance on Business Combinations ("Section 1581") and Consolidated Financial Statements ("Section 1600"). The new standards were issued to harmonize Canadian accounting for business combinations with the international and U.S. accounting standards. The new standards are to be applied prospectively to business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after January 1, 2011, with earlier adoption permitted. Assets and liabilities that arose from business combinations whose acquisition dates preceded the application of the new standards shall not be adjusted upon application of these new standards. The new sections should be applied retrospectively except for certain items. The Company will not be early adopting these standards in 2010.
Capital Assets During the first quarter ended May 1, 2010, the Company conducted a review of certain of its capital assets' useful lives. As a result of the review, a revision in the estimates of the useful lives of its roofing assets and heating, ventilation, and air conditioning assets was made. The impact was a decrease in the depreciation expense resulting in a net increase to the carrying value of the capital assets and pre-tax earnings of $2.2 million and $7.1 million for the 13 and 39-week periods ended October 30, 2010, due to the increase in useful lives of the assets. During the third quarter ended October 30, 2010, the Company revised its estimate of the useful life of its building shell assets from 40 years to 50 years to more accurately reflect the estimated useful life. This change in estimate did not materially impact the 13 and 39-week periods ended October 30, 2010.
3. CASH AND SHORT-TERM INVESTMENTS
The components of cash and short-term investments were as follows:
As at As at As at (in millions) October 30, 2010 October 31, 2009 January 30, 2010 Cash $ 70.2 $ 89.5 $ 56.5 Short-term investments Government 179.8 906.7 1,265.5 treasury bills Bank term 33.7 42.0 59.8 deposits Other - 7.0 - Total $ 283.7 $ 1,045.2 $ 1,381.8
The amount of inventories recognized as an expense during the 13 and 39-week periods ended October 30, 2010 was $625.9 million (2009: $682.3 million) and $1,805.2 million (2009: $1,912.1 million), respectively, including $14.9 million (2009: $34.5 million) and $56.5 million (2009: $79.2 million), related to write-downs. For both the 13 and 39-week periods ended October 30, 2010, $7.3 million of write-downs to net realizable value were reversed. These expenses are included in "Cost of merchandise sold, operating, administrative and selling expenses" in the Consolidated Statements of Earnings and Comprehensive Income.
5. LONG-TERM OBLIGATIONS
The Company's corporate family rating was downgraded to Ba2 by Moody's Investors Service, Inc. in September 2010. There was no change in the corporate credit ratings of BB and BB- from DBRS and Standard and Poor's, respectively.
In September 2010, the Company entered into an $800.0 million senior secured revolving credit facility ("Credit Facility") with a syndicate of lenders, maturing September 10, 2015. The Credit Facility is secured with a first lien on inventory and credit card receivables. Availability under the Credit Facility is determined pursuant to a borrowing base formula. Borrowings under the Credit Facility can be repaid prior to the termination date. The Credit Facility contains certain covenants and the Company was in compliance with all covenants as at October 30, 2010.
On September 20, 2010, the Company repaid upon maturity the remaining $100.0 million 7.05% unsecured medium-term notes by borrowing on the Credit Facility.
As at October 30, 2010, the Company had drawn $482.8 million of borrowings and had $6.7 million of standby letters of credit outstanding under the Credit Facility. The availability under the Credit Facility, given total outstanding borrowings and standby letters of credit of $489.5 million, was $310.5 million as at October 30, 2010. The carrying value of the Credit Facility borrowings is reduced by the unamortized balance of transaction costs incurred to establish the Credit Facility of $10.4 million.
As at October 30, 2010, the Company also had outstanding merchandise letters of credit of U.S. $8.8 million (2009: U.S. $13.1 million) used to support the Company's offshore merchandise purchasing program with restricted cash and investments pledged as collateral.
Interest expense on long-term debt including the current portion of debt, commitment fees on the unused portion of the Credit Facility and the Company's proportionate share of interest on long-term debt of joint ventures for the 13 and 39-week periods ended October 30, 2010 totalled $4.1 million (2009: $6.6 million) and $13.3 million (2009: $19.8 million). Interest revenue primarily related to a note receivable, cash and short-term investments for the 13 and 39-week periods ended October 30, 2010 totalled $1.4 million (2009: $0.5 million) and $2.9 million (2009: $1.8 million).
The Company's cash payments for interest on long-term debt including the current portion of debt, commitment fees on the unused portion of the Credit Facility and the Company's proportionate share of interest on long-term debt of joint ventures for the 13 and 39-week periods ended October 30, 2010 totalled $4.3 million (2009: $4.6 million) and $16.8 million (2009: $17.7 million). The Company received cash related to interest revenue for the 13 and 39-week periods totalling $0.8 million (2009: $0.4 million) and $2.1 million (2009: $2.2 million).
6. NET EARNINGS PER SHARE
A reconciliation of the number of shares used in the net earnings per share calculation is as follows:
13-week 13-week 39-week 39-week Period Ended Period Ended Period Ended Period Ended (Number of October 30, October 31, October 30, October 31, shares) 2010 2009 2010 2009 Average number of shares per basic net earnings per share calculation 107,545,569 107,620,995 107,595,853 107,620,995 Effect of 3,764 5,297 7,497 4,132 dilutive instruments outstanding Average number of shares per diluted net earnings per share calculation 107,549,333 107,626,292 107,603,350 107,625,127
For the 13 and 39-week periods ended October 30, 2010, 24,300 and 28,620 options (2009: 37,220 options for both the 13 and 39-week periods ended October 31, 2009) were included in the calculation of diluted net earnings per share as they were dilutive. For the 13 and 39-week periods ended October 30, 2010, 4,320 and Nil options (2009: 117,021 options for both the 13 and 39-week periods ended October 31, 2009) were excluded from the calculation of diluted net earnings per share as they were anti-dilutive.
7. SEGMENTED INFORMATION
Segmented Statements of Net Earnings 13-week 13-week 39-week 39-week Period Ended Period Ended Period Ended Period Ended October 30, October 31, October 30, October 31, (in millions) 2010 2009 2010 2009 Total revenues Merchandising $ 1,191.1 $ 1,296.8 $ 3,446.5 $ 3,639.0 Real Estate 10.1 12.2 34.5 36.5 Joint Ventures Total revenues $ 1,201.2 $ 1,309.0 $ 3,481.0 $ 3,675.5 Segmented operating profit Merchandising $ 24.7 $ 70.6 $ 85.2 $ 163.2 Real Estate 5.1 4.9 14.7 15.1 Joint Ventures Interest 2.7 6.1 10.4 18.0 expense, net Income taxes 8.6 22.3 31.9 53.8 Net earnings $ 18.5 $ 47.1 $ 57.6 $ 106.5
Segmented Statements of Capital Employed (1) As at As at As at October 30, October 31, 2009 January 30, 2010 (in millions) 2010 Merchandising $ 1,371.9 $ 1,794.8 $ 1,916.9 Real Estate 91.8 98.4 91.3 Joint Ventures Total $ 1,463.7 $ 1,893.2 $ 2,008.2 (1)Capital Employed represents the total of long-term obligations, including principal payments on long-term obligations due within one year, and shareholders' equity, which includes capital stock, retained earnings and accumulated other comprehensive income ("AOCI").
Segmented Statements of Total Assets As at As at As at (in millions) October 30, 2010 October 31, 2009 January 30, 2010 Merchandising $ 2,869.2 $ 3,255.6 $ 3,302.9 Real Estate 98.9 109.9 101.9 Joint Ventures Total $ 2,968.1 $ 3,365.5 $ 3,404.8
8. INCOME TAXES
The Company's total net cash payments of income taxes in the 13 and 39-week periods ended October 30, 2010 were $7.1 million (2009: $5.5 million) and $74.4 million (2009: $75.2 million).
In the ordinary course of business, the Company is subject to ongoing audits by tax authorities. While the Company believes that its tax filing positions are appropriate and supportable, periodically, certain matters are challenged by tax authorities. As the Company routinely evaluates and provides for potentially unfavourable outcomes with respect to any tax audits, the Company believes that the final disposition of tax audits will not have a material adverse effect on its liquidity, consolidated financial position or results of operations. If the result of a tax audit materially differs from the existing provisions, the Company's effective tax rate and its net earnings may be affected positively or negatively in the period in which the tax audits are completed. Included in other long- term assets are receivables of $20.9 million (2009: $20.9 million) related to payments made by the Company for tax assessments that are being disputed.
9. CAPITAL STOCK
On June 4, 2010, the Company paid an extraordinary dividend of $376.7 million to shareholders of record as at May 31, 2010. On September 24, 2010, the Company paid an additional extraordinary cash dividend totalling $376.7 million to shareholders of record as at September 22, 2010.
During the second quarter of fiscal 2010, the Company filed a Normal Course Issuer Bid to permit the Company to purchase for cancellation up to 5% of its issued and outstanding common shares, which is equivalent to 5,381,049 common shares. Purchases were authorized to commence on May 25, 2010 and must terminate by May 24, 2011 or on such earlier date as the Company may complete its purchases pursuant to the Normal Course Issuer Bid filed with the Toronto Stock Exchange. The Company may not purchase common shares under the Normal Course Issuer Bid if such shares cannot be purchased at prices that the Company considers attractive and decisions regarding the timing of purchases will also be based on market conditions and other factors. The Company commenced the purchasing of shares under the Normal Course Issuer Bid on September 20, 2010, and as at October 30, 2010, 257,700 shares were purchased and cancelled.
As at October 30, 2010, 107,363,895 common shares were issued and outstanding. Sears Holdings Corporation, the controlling shareholder of the Company, is the beneficial holder of 97,341,670 or 90.7% (2009: 73.1%), of the common shares of the Company as at October 30, 2010.
10. STOCK-BASED COMPENSATION
The Employees Stock Plan expired on April 19, 2008; however, the expiration of the plan does not affect the rights of current option holders. Options were last granted in 2004 which are exercisable within 10 years from the grant date. All options currently outstanding will expire by February 2014. As at October 30, 2010, there were 28,620 stock options outstanding under the Employees Stock Plan.
The Company has provided the following significant guarantees to third parties:
Royalty License Agreements
The Company pays royalties under various merchandise license agreements, which are generally based on sales of products under these agreements. The Company currently has license agreements for which it pays royalties regardless of sales, as guarantee royalties under these license agreements. Total future minimum royalty payments under such agreements are $2.8 million (2009: $5.2 million).
Other Indemnification Agreements
In the ordinary course of business the Company has provided indemnification commitments to counterparties in transactions such as leasing transactions, royalty agreements, service arrangements, investment banking agreements, director and officer indemnification agreements and indemnification of trustees under indentures for outstanding public debt. The Company has also provided certain indemnification agreements in connection with the sale of the Credit and Financial Services operations in November 2005. The foregoing indemnification agreements require the Company to compensate the counterparties for costs incurred as a result of changes in laws and regulations or as a result of litigation claims or statutory claims or statutory sanctions that may be suffered by a counterparty as a consequence of the transaction. The terms of these indemnification agreements will vary based on the contract and typically do not provide for any limit on the maximum potential liability. Historically, the Company has not made any significant payments under such indemnifications and no amount has been accrued in the Financial Statements with respect to these indemnification commitments.
12. ASSOCIATE FUTURE BENEFITS
The expense for the defined benefit, defined contribution and other benefit plans for the 13-week period ended October 30, 2010 was $2.1 million (2009: $0.3 million), $3.0 million (2009: $3.2 million) and $2.9 million (2009: $2.5 million), respectively. The expense for the defined benefit, defined contribution and other benefit plans for the 39-week period ended October 30, 2010 was $6.4 million (2009: $1.1 million), $8.3 million (2009: $11.9 million) and $8.8 million (2009: $7.6 million), respectively.
13. COMMITMENTS AND CONTINGENCIES
In addition to the class action suits described in the 2009 Annual Financial Statements, the Company is involved in various legal proceedings incidental to the normal course of business. The Company believes that, while the outcome of such legal proceedings cannot be predicted with certainty, the final disposition is not expected to have a material adverse effect on the Company's consolidated financial position or results of operations.
Restricted Cash and Investments
Cash and investments are considered to be restricted when they are subject to contingent rights of a third party customer, vendor, or government agency. As at October 30, 2010, the Company recorded $15.9 million (2009: $15.8 million) of restricted cash and investments as current assets. The restricted cash and investments represent cash and investments pledged as collateral for letter of credit obligations issued under the Company's offshore merchandise purchasing program of $9.2 million (2009: $5.2 million) the Canadian equivalent of U.S. $9.0 million (2009: U.S. $4.8 million), current cash deposits pledged as collateral with counterparties related to outstanding derivative contracts of Nil (2009: $6.4 million), funds held in trust for a pending real estate transaction of $0.7 million (2009: Nil) and funds held in trust in accordance with regulatory requirements governing advance ticket sales related to Sears Travel of $6.0 million (2009: $4.2 million).
14. CAPITAL DISCLOSURES
The Company's objectives when managing capital are:
-- Maintain financial flexibility thus allowing the Company to preserve its ability to meet financial objectives and continue as a going concern; -- Provide an appropriate return to shareholders; and -- Maintain a capital structure that allows the Company to obtain financing should the need arise.
The Company manages and makes adjustments to its capital structure, when necessary, in light of changes in economic conditions, the objectives of its shareholders, the cash requirements of the business and the condition of capital markets. In order to maintain or adjust the capital structure, the Company may pay a dividend or return capital to shareholders, increase/decrease debt or sell assets.
The Company defines capital as follows:
-- Long-term obligations, including the current portion ("Long-term obligations"); and -- Shareholders' equity.
The following table presents summary quantitative data with respect to the Company's capital:
As at As at As at (in millions) October 30, 2010 October 31, 2009 January 30, 2010 Long-term $ 512.5 $ 360.3 $ 350.7 obligations Shareholders' 951.2 1,532.9 1,657.5 equity Total $ 1,463.7 $ 1,893.2 $ 2,008.2
15. FINANCIAL INSTRUMENTS
In the ordinary course of business, the Company enters into financial agreements with banks and other financial institutions to reduce underlying risks associated with interest rates and foreign currency. The Company does not hold or issue derivative financial instruments for trading or speculative purposes.
Financial Instrument Risk Management
The Company is exposed to credit, liquidity and market risk as a result of holding financial instruments. Market risk consists of foreign exchange and interest rate risk.
Credit risk refers to the possibility that the Company can suffer financial losses due to the failure of the Company's counterparties to meet their payment obligations. Exposure to credit risk exists for derivative instruments, cash and short-term investments, restricted cash and investments, other long-term assets and accounts receivable.
As at October 30, 2010, the Company's only exposure to counterparty risk as it relates to derivative instruments is represented by the fair value of the derivative asset of $3.2 million (2009: $9.9 million). These contracts are placed with financial institutions with secure credit ratings.
Cash and short-term investments, restricted cash and investments and other long-term assets of $300.9 million (2009: $1,398.9 million) also exposes the Company to credit risk should the borrower default on maturity of the investment. The Company manages this exposure through policies that require borrowers to have a minimum credit rating of A, and limiting investments with individual borrowers at maximum levels based on credit rating.
The Company is exposed to minimal credit risk from customers as a result of ongoing credit evaluations and review of accounts receivable collectability. As at October 30, 2010, approximately 45.7% of the Company's accounts receivable are due from two customers who are both in good standing.
Liquidity risk is the risk that the Company may not have cash available to satisfy financial liabilities as they come due. The Company actively maintains access to adequate funding sources to ensure it has sufficient available funds to meet current and foreseeable financial requirements at a reasonable cost.
The following table summarizes the carrying amount and the contractual maturities of both the interest and principal portion of significant financial liabilities as at October 30, 2010:
Contractual Cash Flow Maturities Carrying Within 1 year to 3 years Beyond (in Amount Total 1 year 3 years to 5 years millions) 5 years Accounts $ 803.8 $ 803.8 $ 803.8 payable Accrued 327.1 327.1 327.1 liabilities Long-term obligations and payments due within 1 year 512.5 533.9 8.2 13.3 494.8 17.6 Operating 594.0 102.3 170.7 114.8 206.2 lease obligations (2) $ 1,643.4 $ 2,258.8 $ 1,241.4 $ 184.0 $ 609.6 $ 223.8 (2 )Operating lease obligations are not reported on the consolidated statement of financial position.
Of the $594.0 million of operating lease commitments disclosed in the table above, $10.4 million relates to the Company's proportionate share of the commitments of its Real Estate Joint Ventures.
Management believes that cash on hand, future cash flows generated from operations and availability of current and future funding will be adequate to support these financial liabilities.
Market risk exists as a result of the potential for losses caused by changes in market factors such as interest rates, foreign currency exchange rates and commodity prices.
Foreign Exchange Risk
The Company enters into foreign exchange contracts to reduce the foreign exchange risk with respect to U.S. dollar denominated assets, liabilities, goods or services.
-- As at October 30, 2010, there were option contracts with a notional value of U.S $373.0 million (2009: U.S. $298.8 million) and a carrying value of $3.2 million (2009: $9.9 million) included in prepaid expenses and other assets which have been designated as cash flow hedges for hedge accounting treatment under CICA Handbook Section 3865, "Hedges" ("Section 3865"). These option contracts have settlement dates extending to January 2012. These contracts are intended to reduce the foreign exchange risk with respect to anticipated purchases of U.S. dollar denominated goods and services, including goods purchased for resale ("hedged item"). As at October 30, 2010, all hedges were considered effective with no ineffectiveness recognized in income. -- As at October 30, 2010, there were swap contracts outstanding with a notional value of U.S. $8.8 million (2009: U.S. $4.8 million) and a carrying value of less than $0.1 million (2009: less than $0.1 million included in accrued liabilities). These contracts are intended to reduce the foreign exchange risk on U.S. dollar denominated short-term investments pledged as collateral for letter of credit obligations issued under the Company's offshore merchandise purchasing program.
While the notional principal amounts of these outstanding financial instruments are not recorded on the consolidated statements of financial position, the fair value of the contracts is included on the consolidated statements of financial position in one of the following categories, depending on the derivative's maturity and value: prepaid expenses and other assets, other long-term assets, accrued liabilities or other long-term liabilities. Changes in fair value of those contracts designated as hedges are included in other comprehensive income ("OCI") for cash flow hedges to the extent the hedges continue to be effective. Amounts previously included in OCI are reclassified to net earnings in the same period in which the hedged item impacts net earnings.
For the 13 and 39-week periods ended October 30, 2010, the Company recorded a gain of $0.3 million (2009: loss of $0.4 million) and a loss of $0.7 million (2009: gain of $0.1 million), relating to the translation or settlement of U.S. dollar denominated monetary items consisting of cash and short-term investments, accounts receivable and accounts payable, excluding the reclassification from other comprehensive income of the gain on foreign exchange derivatives designated as cash flow hedges.
Based on historic movements, volatilities in foreign exchange and management's current assessment of the financial markets, the Company believes a variation of +10% (appreciation of the Canadian dollar) and -10% (depreciation of the Canadian dollar) in foreign exchange rate against the U.S. dollar is reasonably possible over a 12 month period. The period end rate was 0.9802 U.S. dollar to Canadian dollar. A 10% appreciation or depreciation of the U.S./Canadian dollar exchange rate was determined to have an impact on quarterly net earnings of $1.0 million (2009: $0.1 million) for U.S. dollar denominated balances included in cash and short-term investments, accounts receivable and the unhedged portion of accounts payable.
Interest Rate Risk
From time to time the Company enters into interest rate swap contracts with Canadian domestic financial institutions to manage exposure to interest rate risks. As at October 30, 2010, the Company had no interest rate swap contracts in place.
Interest rate risk reflects the sensitivity of the Company's financial condition to movements in interest rates. Financial assets and liabilities which do not bear interest or bear interest at fixed rates are classified as non-interest rate sensitive. Based on historic movements, volatilities in interest rates and management's current assessment of the financial markets, the Company believes a variation of +/-0.25% in the interest rates applicable to the Company's interest rate sensitive financial assets and liabilities are reasonably possible over a 12 month period.
Cash and short-term investments, restricted cash and investments and borrowings under the secured credit facility are subject to interest rate risk. The amount subject to interest rate risk as at October 30, 2010 was a net liability $187.9 million (2009: net asset of $1,110.6 million). A movement in interest rates of +/-0.25% would cause a variance in quarterly net earnings of less than $0.1 million (2009: $0.5 million). .
Classification and Fair Value of Financial Instruments
The estimated fair values of financial instruments as at October 30, 2010, January 30, 2010 and October 31, 2009 are based on relevant market prices and information available at those dates. The following table summarizes the classification and fair value of certain financial instruments as at October 30, 2010, January 30, 2010 and October 31, 2009. The Company determines the classification of a financial instrument when it is originally recorded, based on the underlying purpose of the instrument. As a significant number of the Company's assets and liabilities, including inventories and capital assets, do not meet the definition of financial instruments, values in the tables below do not reflect the fair value of the Company as a whole.
The fair value of financial instruments are classified and measured according to the following three levels based on the following fair value hierarchy.
-- Level 1: Quoted prices in active markets for identical assets or liabilities -- Level 2: Inputs other than quoted prices in active markets that are observable for the asset or liability either directly (i.e. prices) or indirectly (i.e. derived from prices) -- Level 3: Inputs for the asset or liability that are not based on observable market data
(in millions) As at Balance As at As at Sheet Fair Value October October 31, January 30, Classification Category Hierarchy 30, 2010 2009 2010 Available for sale Cash and short-term $ 213.5 $ 955.7 $ 1,325.3 Short-term investments investments (3) Level 1 Held for trading Cash and short-term 70.2 89.5 56.5 Cash investments Level 1 Restricted cash and 15.9 68.6 15.8 Cash and investments investments (3) Level 1 Prepaid U.S. $ expenses & 3.2 11.8 9.9 derivative other contracts assets Level 2 Prepaid Commodity expenses & 0.8 0.1 derivative other contracts assets Level 2 - Other Long-term long-term investments assets Level 3 1.3 1.5 1.3 (3)Interest revenue related to cash and short-term investments is disclosed in Long-term Obligations (Note 5)
All other assets that are financial instruments have been classified as "loans and receivables" and all other financial instrument liabilities have been classified as "other liabilities" and are measured at amortized cost in the Consolidated Statements of Financial Position. The carrying value of these financial instruments, with the exception of certain long-term obligations, approximates fair value as they are short-term in nature. The fair value of the Company's proportionate share of long-term debt of joint ventures, with a carrying value of $38.6 million (2009: $48.5 million) as at October 30, 2010, was calculated using a valuation technique based on assumptions that are not supported by observable market prices or rates. The term and interest rate applicable to each joint venture's debt together with management's estimate of a risk-adjusted discount rate were used to determine the fair value of $41.7 million (2009: $47.6 million).
16. RELATED PARTY TRANSACTIONS
On September 14, 2010, the Company invested $400.0 million in a 1.9% promissory note maturing November 12, 2010, issued by Sears Holdings Corporation, the controlling shareholder of the Company. As at October 30, 2010 interest earned on the note totalled $1.0 million and has been included in the carrying value of the note, which is measured at amortized cost.
17. SUBSEQUENT EVENTS
The Company finalized an agreement to sell real estate property in Burnaby, B.C., for net proceeds of $13.9 million on December 9, 2010, at which time the Company expects to recognize a pre-tax gain of $13.4 million, net of closing costs.
Subsequent to quarter end, on November 12, 2010, the $400.0 million note receivable from Sears Holdings Corporation matured and was repaid in full, including all amounts accrued in interest.
SOURCE: Sears Canada Inc.