BIG LOTS, INC. CAUTIONARY STATEMENT CONCERNING FORWARD-LOOKING STATEMENTS FOR PURPOSES OF THE SAFE HARBOR PROVISIONS OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995
The Private Securities Litigation Reform Act of 1995 ("Act") provides a safe
harbor for forward-looking statements to encourage companies to provide
prospective information, so long as those statements are identified as
forward-looking and are accompanied by meaningful cautionary statements
identifying important factors that could cause actual results to differ
materially from those discussed in the statements. We wish to take advantage of
the "safe harbor" provisions of the Act.
Certain statements in this report are forward-looking statements within the
meaning of the Act, and such statements are intended to qualify for the
protection of the safe harbor provided by the Act. The words "anticipate,"
"estimate," "approximate," "expect," "objective," "goal," "project," "intend,"
"plan," "believe," "will," "should," "may," "target," "forecast," "guidance,"
"outlook," and similar expressions generally identify forward-looking
statements. Similarly, descriptions of our objectives, strategies, plans, goals
or targets are also forward-looking statements. Forward-looking statements
relate to the expectations of management as to future occurrences and trends,
including statements expressing optimism or pessimism about future operating
results or events and projected sales, earnings, capital expenditures and
business strategy. Forward-looking statements are based upon a number of
assumptions concerning future conditions that may ultimately prove to be
inaccurate. Forward-looking statements are and will be based upon management's
then-current views and assumptions regarding future events and operating
performance, and are applicable only as of the dates of such statements.
Although we believe the expectations expressed in forward-looking statements are
based on reasonable assumptions within the bounds of our knowledge,
forward-looking statements, by their nature, involve risks, uncertainties and
other factors, any one or a combination of which could materially affect our
business, financial condition, results of operations or liquidity.
Forward-looking statements that we make herein and in other reports and releases
are not guarantees of future performance and actual results may differ
materially from those discussed in such forward-looking statements as a result
of various factors, including, but not limited to, developments related to the
COVID-19 coronavirus pandemic, the current economic and credit conditions, the
cost of goods, our inability to successfully execute strategic initiatives,
competitive pressures, economic pressures on our customers and us, the
availability of brand name closeout merchandise, trade restrictions, freight
costs, the risks discussed in the Risk Factors section of our most recent Annual
Report on Form 10-K, and other factors discussed from time to time in our other
filings with the SEC , including Quarterly Reports on Form 10-Q and Current
Reports on Form 8-K. This report should be read in conjunction with such
filings, and you should consider all of these risks, uncertainties and other
factors carefully in evaluating forward-looking statements.
Readers are cautioned not to place undue reliance on forward-looking statements,
which speak only as of the date they are made. We undertake no obligation to
publicly update forward-looking statements whether as a result of new
information, future events or otherwise. Readers are advised, however, to
consult any further disclosures we make on related subjects in our public
announcements and SEC filings.
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OVERVIEW
The discussion and analysis presented below should be read in conjunction with
the accompanying consolidated financial statements and related notes. Each term
defined in the notes has the same meaning in this item and the balance of this
report.
The following are the results from the second quarter of 2020 that we believe
are key indicators of our operating performance when compared to our operating
performance from the second quarter of 2019:
•Net sales increased $391.8 million , or 31.3%.
•Comparable sales for stores open at least fifteen months, plus our e-commerce
operations, increased $371.5 million , or 31.3%.
•Gross margin dollars increased $185.3 million , while gross margin rate
increased 180 basis points to 41.6% of net sales.
•Selling and administrative expenses increased $49.0 million . As a percentage of
net sales, selling and administrative expenses decreased 560 basis points to
30.7% of net sales.
•We recognized a pre-tax gain on sale of distribution centers of $463.1 million
related to the sale and leaseback of our four owned distribution centers.
Additionally, we recognized consulting and other expenses associated with the
sale and leaseback transactions of $4.0 million . The combined gain on sale of
distribution centers and associated consulting and other expenses increased our
operating profit by $459.1 million and increased our diluted earnings per share
by approximately $8.54 per share.
•Diluted earnings per share increased to $11.29 per share from $0.16 per share.
•Inventory decreased by 18.4%, or $160.6 million , to $713.5 million from the
second quarter of 2019.
•We declared and paid a quarterly cash dividend in the amount of $0.30 per
common share in the second quarter of 2020 consistent with the quarterly cash
dividend of $0.30 per common share paid in the second quarter of 2019.
See the discussion and analysis below for additional details regarding our operating results.
STORES
The following table presents stores opened and closed during the year-to-date 2020 and the year-to-date 2019:
2020 2019
Stores open at the beginning of the fiscal year 1,404 1,401
Stores opened during the period 11 29
Stores closed during the period (11) (19)
Stores open at the end of the period 1,404 1,411
We expect our store count at the end of 2020 to be approximately in line with our store count at the end of 2019.
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Table of Contents
RESULTS OF OPERATIONS
The following table compares components of our consolidated statements of
operations and comprehensive income as a percentage of net sales at the end of
each period:
Second Quarter Year-to-Date
2020 2019 2020 2019
Net sales 100.0 % 100.0 % 100.0 % 100.0 %
Cost of sales (exclusive of depreciation
expense shown separately below) 58.4 60.2 59.3 60.1
Gross margin 41.6 39.8 40.7
39.9
Selling and administrative expenses 30.7 36.3 31.2
35.9
Depreciation expense 2.1 2.4 2.3
2.5
Gain on sale of distribution center (28.2) 0.0 (15.0) 0.0 Operating profit 37.0 1.1 22.2 1.5 Interest expense (0.2) (0.4) (0.2) (0.3) Other income (expense) 0.1 (0.1) (0.1) 0.0 Income before income taxes 36.9 0.6 21.9 1.2 Income tax expense 9.5 0.1 5.6 0.4 Net income 27.5 % 0.5 % 16.3 % 0.9 %
SECOND QUARTER OF 2020 COMPARED TO SECOND QUARTER OF 2019
Net Sales Net sales by merchandise category (in dollars and as a percentage of total net sales), net sales change (in dollars and percentage), and comparable sales ("comp" or "comps") in the second quarter of 2020 compared to the second quarter of 2019 were as follows: Second Quarter ($ in thousands) 2020 2019 Change Comps Furniture$ 439,737 26.8 %$ 303,358 24.2 %$ 136,379 45.0 % 43.5 % Seasonal 299,700 18.2 246,106 19.7 53,594 21.8 22.2 Soft Home 286,556 17.4 190,767 15.2 95,789 50.2 50.8 Consumables 225,251 13.7 196,955 15.7 28,296 14.4 15.1 Food 185,011 11.3 169,157 13.6 15,854 9.4 10.0 Hard Home 110,610 6.7 81,891 6.5 28,719 35.1 36.3 Electronics, Toys, & Accessories 97,332 5.9 64,180 5.1 33,152 51.7 52.6 Net sales$ 1,644,197 100.0 %$ 1,252,414 100.0 %$ 391,783 31.3 % 31.3 % We periodically assess, and make minor adjustments to, our product hierarchy, which can impact the roll-up of our merchandise categories. Our financial reporting process utilizes the most current product hierarchy in reporting net sales by merchandise category for all periods presented. Therefore, there may be minor reclassifications of net sales by merchandise category compared to previously reported amounts. Net sales increased$391.8 million , or 31.3%, to$1,644.2 million in the second quarter of 2020, compared to$1,252.4 million in the second quarter of 2019. The increase in net sales was primarily driven by a 31.3% increase in our comps, which increased net sales by$371.5 million . Additionally, our non-comparable sales increased net sales by$20.3 million , driven by increased sales in our new and relocated stores compared to closed stores. Our comps are calculated based on the results of all stores that were open at least fifteen months plus our e-commerce net sales. 16
-------------------------------------------------------------------------------- Table of Contents We experienced a favorable impact to net sales during the second quarter of 2020 driven by demand for our home products, which includes our Furniture, Seasonal, Soft Home, andHard Home merchandise categories, due to customers spending more time at their homes as a result of the ongoing COVID-19 coronavirus pandemic, combined with government stimulus and enhanced unemployment funds, and our position as an "essential retailer." Additionally, we believe our net sales in the second quarter of 2020 were favorably impacted by a strong alignment of our product assortment with current customer demand and a decrease in competition compared to the second quarter of 2019, as certain of our competitors were closed for a portion of the quarter due to the COVID-19 coronavirus pandemic. In the second quarter of 2020, we made the decision to cancel our Friends and Family promotion to address social distancing concerns related to the COVID-19 coronavirus pandemic. In response, we implemented a "Your Deal, Your Day" promotion to offset the sales decrease caused by cancellation of theJuly 2020 Friends and Family promotion. Throughout the COVID-19 coronavirus pandemic, our stores have remained open and operating, with the exception of a small number of temporary closures for cleaning. AtAugust 1, 2020 , five of our stores were operating with shortened store hours due to local curfews, safety concerns, and/or adjusted shopping center hours. AtAugust 1, 2020 , none of our stores were subject to selling restrictions that limited our sales to "essential products." We believe the impact of shortened operating hours and selling restrictions due to the COVID-19 coronavirus pandemic was immaterial to our results for the second quarter of 2020 and that the impact of shortened operating hours and selling restrictions due to the COVID-19 coronavirus pandemic will be immaterial to our results for the remainder of 2020.
In the second quarter of 2020, protests and civil unrest caused us to temporarily shorten operating hours at several of our stores. The impact of protests and civil unrest on our results of operations was immaterial for the second quarter of 2020.
In the second quarter of 2020, we introduced The Lot and the Queue Line in a substantial number of stores, which contributed to the increased net sales and positive comps compared to the second quarter of 2019. The Lot is a cross-category presentation solution with a curated assortment to promote life's occasions, such as fall camping. The Queue Line offers our customers a streamlined checkout experience with a new and expanded convenience assortment and a smaller footprint. All of our merchandise categories generated increased net sales and positive comps in the second quarter of 2020 compared to the second quarter of 2019: •Our Furniture category experienced increased net sales and positive comps during the second quarter of 2020, driven by continued demand following the release of government stimulus and unemployment funds beginning inmid-April 2020 . Additionally, our customers have chosen to invest in home furnishings due to spending more time at their homes as a result of the ongoing COVID-19 coronavirus pandemic and have continued to respond positively to our brand-name mattress assortment and our new Broyhill® furniture assortment. •The Soft Home category experienced increased net sales and comps during the second quarter of 2020, driven by an increase in demand as our customers chose to invest more in their home environment due to spending more time at their homes as a result of the ongoing COVID-19 coronavirus pandemic. Additionally, our Soft Home category benefited from a favorable response to our new Broyhill® offerings. •The Seasonal category experienced increased net sales and comps during the second quarter of 2020, driven by our summer and lawn & garden departments. Given our customers are spending more time at their homes as a result of the ongoing COVID-19 coronavirus pandemic, they have chosen to invest in our outdoor furniture and lawn care maintenance offerings, fueled by government stimulus. Our customers continue to respond well to our Broyhill® patio assortment introduced in the first quarter of 2020. •The increased net sales and positive comps in our Electronics, Toys, & Accessories category was driven by our toys, apparel, and accessories departments. The increase was primarily driven by the introduction of these products into The Lot and the Queue Line in many of our stores. Additionally, the increased sales and comps in apparel were driven by graphic tees, which were introduced to our stores late in the fourth quarter of 2019. •TheHard Home category experienced increased net sales and comps during the second quarter of 2020, driven by increased net sales in our small appliances, table top, and food preparation departments. As a result of various state-wide closings of dine-in restaurants, our customer has focused on her home and has chosen to invest in our offerings from these departments to improve her in-home dining experience. •Our Consumables and Food categories experienced increased demand compared to the second quarter of 2019. However, we observed a deceleration in demand for essential products, such as Consumables and Food, in the second quarter of 2020 following the surge in demand we experienced in the first quarter of 2020. We believe that our customers stocked up on essential products during the first quarter of 2020, which reduced the need to replenish these products during the second quarter of 2020. 17
-------------------------------------------------------------------------------- Table of Contents Gross Margin Gross margin dollars increased$185.3 million , or 37.2%, to$683.6 million for the second quarter of 2020, compared to$498.2 million for the second quarter of 2019. The increase in gross margin dollars was primarily due to an increase in net sales, which increased gross margin dollars by$155.9 million . Gross margin as a percentage of net sales increased 180 basis points to 41.6% in the second quarter of 2020 as compared to 39.8% in the second quarter of 2019. The gross margin rate increase was primarily a result of a significantly lower markdown rate and higher comps in our higher margin merchandise categories, partially offset by higher shrink and lower initial markup of products, as our receipts have skewed toward domestic purchases, which carry a slightly lower average initial markup. Selling and Administrative Expenses Selling and administrative expenses were$504.0 million for the second quarter of 2020, compared to$455.0 million for the second quarter of 2019. The increase of$49.0 million in selling and administrative expenses was comprised of increases in store-related payroll of$25.5 million , distribution and transportation costs of$16.5 million , accrued bonus expense of$11.0 million , advertising expense of$4.6 million , sale and leaseback related expenses of$4.0 million , transaction fees of$3.6 million , and store supplies expenses of$2.1 million , partially offset by the absence of$19.5 million in costs related to our transformational restructuring initiative announced in the second quarter of 2019, which consisted of consulting expenses and employee separation costs incurred during the second quarter of 2019, and a decrease in health benefit costs of$2.9 million due to a lower amount of benefits claims during the second quarter of 2020. The increase in store-related payroll was due to additional payroll hours to support the increased sales during the second quarter of 2020 and implementation during the first quarter of 2020 of a temporary$2 per hour wage increase for most of our non-exempt workforce during the COVID-19 coronavirus pandemic. The temporary$2 per hour wage increase was continued through earlyJuly 2020 . The increase in distribution and transportation costs was driven by rent expense for our distribution centers, all of which are now leased following the completion of the sale and leaseback transactions completed in the second quarter of 2020, higher inbound and outbound shipment volume to support the increased sales, and the aforementioned temporary$2 per hour wage increase. The increase in accrued bonus expense was driven by increased performance in the second quarter of 2020 relative to our quarterly and annual operating plans as compared to our performance in the second quarter of 2019 relative to our quarterly and annual operating plans, and a one-time discretionary bonus to recognize our non-exempt associates in our stores and distribution centers. The increase in advertising expense was driven by increased investments in digital and social media engagement, and video media to promote The Lot and our Store of the Future concept. The increase in sale and leaseback related expenses was due to consulting costs incurred in the completion of the sale and leaseback transaction for our four distribution centers in the second quarter of 2020. The increase in transaction fees, which includes credit card fees, debit card fees, and other transaction-driven costs, was driven by the higher sales in the second quarter of 2020 compared to the second quarter of 2019. The increase in store supplies expense was due to safety and cleaning supplies, such as personal protective equipment, hand sanitizer, and disinfectants, distributed to our stores during the second quarter of 2020 to ensure a safe environment for our customers and associates during the COVID-19 coronavirus pandemic. As a percentage of net sales, selling and administrative expenses decreased 560 basis points to 30.7% for the second quarter of 2020 compared to 36.3% for the second quarter of 2019. Depreciation Expense Depreciation expense increased$4.0 million to$34.0 million in the second quarter of 2020, compared to$30.0 million for the second quarter of 2019. The increase in expense was driven by our 2019 investments in ourApple Valley, California distribution center, new store build-outs, and Store of the Future remodels, and the acquisition of our corporate headquarters facility in the third quarter of 2019, partially offset by a decrease in depreciation due to the sale and leaseback of our four distribution centers inDurant, OK ;Tremont, PA ;Montgomery, AL ; andColumbus, OH .
Depreciation expense as a percentage of sales decreased 30 basis points compared to the second quarter of 2019.
Gain on Sale of Distribution Centers The gain on sale of distribution centers in the second quarter of 2020 was$463.1 million which was attributable to the completion of sale and leaseback transactions for our four distribution centers located inDurant, OK ;Tremont, PA ;Montgomery, AL ; andColumbus, OH . 18 -------------------------------------------------------------------------------- Table of Contents Interest Expense Interest expense was$2.5 million in the second quarter of 2020, compared to$4.6 million in the second quarter of 2019. The decrease in interest expense was driven by a decrease in total average borrowings. We had total average borrowings (including finance leases and the sale and leaseback financing liability) of$249.4 million in the second quarter of 2020 compared to total average borrowings of$482.1 million in the second quarter of 2019. The decrease in total average borrowings (including finance leases and the sale and leaseback financing liability) was driven by our repayment of all outstanding borrowings under the 2018 Credit Agreement as a condition of the closing of the sale and leaseback transactions. Our entry into the 2019 Term Note increased our total average borrowings (including finance leases and the sale and leaseback financing liability) in the second quarter of 2020 by$58.5 million . Additionally, our completion of the sale and leaseback transactions for our distribution centers in the second quarter of 2020 gave rise to a financing liability which increased total average borrowings (including finance leases and the sale and leaseback financing liability) by$82.5 million . Other Income (Expense) Other income (expense) was$1.4 million in the second quarter of 2020, compared to$(0.8) million in the second quarter of 2019. The change was driven by gains on our diesel fuel derivatives due to a slight increase in current and forward diesel fuel pricing in the second quarter of 2020 compared to losses on diesel fuel derivatives during the second quarter of 2019. Income Taxes The effective income tax rate for the second quarter of 2020 was an expense rate of 25.6% compared to 21.1% in the second quarter of 2019. The increase in the effective income tax rate was primarily attributable to the distribution centers sale and leaseback transactions. The effective tax rate on the distribution center sale and leaseback transactions was consistent with the overall effective tax rate for the second quarter of 2020. Therefore, the impact of discrete items was not significant to the rate in the quarter. In the second quarter of 2019, income before income taxes was substantially smaller and the benefit of discrete items was more impactful on the rate. 19 -------------------------------------------------------------------------------- Table of Contents YEAR-TO-DATE 2020 COMPARED TO YEAR-TO-DATE 2019Net Sales Net sales by merchandise category (in dollars and as a percentage of total net sales) in the year-to-date 2020 and the year-to-date 2019, and the change in net sales (in dollars and percentage) and the change in comps (in percentage) from the year-to-date 2020 compared to the year-to-date 2019 were as follows: Year-to-Date ($ in thousands) 2020 2019 Change Comps Furniture$ 855,438 27.7 %$ 687,255 27.0 %$ 168,183 24.5 % 22.6 % Soft Home 516,378 16.8 399,904 15.7 116,474 29.1 28.9 Seasonal 496,021 16.1 429,597 16.9 66,424 15.5 15.6 Consumables 462,492 15.0 383,457 15.0 79,035 20.6 21.2 Food 388,830 12.6 350,282 13.7 38,548 11.0 11.2 Hard Home 191,777 6.2 163,751 6.4 28,026 17.1 17.6 Electronics, Toys, & Accessories 172,410 5.6 133,964 5.3 38,446 28.7 29.9 Net sales$ 3,083,346 100.0 %$ 2,548,210 100.0 %$ 535,136 21.0 % 20.6 % Net sales increased$535.1 million , or 21.0%, to$3,083.3 million in the year-to-date 2020, compared to$2,548.2 million in the year-to-date 2019. The increase in net sales was driven by comp increases in each of our merchandise categories, with an overall comp increase of 20.6%, which increased net sales by$497.8 million . Additionally, our non-comparable sales increased net sales by$37.3 million , driven by increased sales of our new and relocated stores compared to closed stores. Overall, we experienced a favorable impact to net sales during the year-to-date 2020 due to our position as an "essential retailer" during the COVID-19 coronavirus pandemic and the increased demand for our home products while customers are spending more time at home. In the first quarter of 2020, we experienced a significant increase in demand for "essential products," which we define as food, consumables, health products, and pet supplies, with the primary impact in our Food and Consumables merchandise categories, as concern over the COVID-19 coronavirus grew and customers began stocking up on essential products. Beginning in mid-April, we experienced a surge in demand for products in our Furniture, Seasonal, Soft Home andHard Home categories driven by the release of government stimulus and unemployment funds. This demand continued through the second quarter of 2020 as customers have chosen to invest more in their homes as a result of spending more time at home.
In the year-to-date 2020, we introduced The Lot and the Queue Line in a substantial number of our stores, which contributed to the increased net sales and positive comps compared to the year-to-date 2019.
All of our merchandise categories generated increased net sales and positive comps in the year-to-date 2020 compared to the year-to-date 2019: •Our Furniture category experienced increased net sales and positive comps during the year-to-date 2020, driven by a surge in demand following the release of government stimulus and unemployment funds during the year-to-date 2020. Our customers have responded positively to our brand-name mattress assortment and Broyhill® furniture offerings in the year-to-date 2020. Additionally, our customers have chosen to invest in home furnishings as a result of spending more time at home during the COVID-19 coronavirus pandemic. •Our Food and Consumables categories experienced increased sales and positive comps driven by high demand for "essential products" during the COVID-19 coronavirus pandemic. •The positive comps and increased net sales in our Soft Home category were primarily driven by an increase in demand following the release of government stimulus and unemployment funds and our customers' decision to invest more in their homes as a result of spending more time at home. Additionally, our Soft Home category benefited from a favorable response to our new Broyhill® assortment. •We experienced increased net sales and positive comps in our Seasonal category, specifically in the summer and lawn & garden departments, driven by sales of high-ticket items such as patio furniture following the release of government stimulus and unemployment funds inmid-April 2020 . Our customers have chosen to invest in our outdoor furniture and lawn maintenance assortments as a result of spending more time at home. Additionally, our customers continue to respond well to our new Broyhill® assortment of patio furniture. 20 -------------------------------------------------------------------------------- Table of Contents •The increased net sales and positive comps inHard Home was driven by an increase in small appliances, table top, and food preparation departments. Despite space reductions and the exit from our greeting card offering, we experienced high demand for products that improve our customers' at-home dining experience. •Our Electronics, Toys, & Accessories category experienced increased net sales and positive comps driven by our toys, apparel, and accessories departments. The increased sales and comps were driven by the introduction of these products into the Queue Line and The Lot in the year-to-date 2020. Gross Margin Gross margin dollars increased$237.0 million , or 23.3%, to$1,254.3 million for the year-to-date 2020, compared to$1,017.3 million for the year-to-date 2019. The increase in gross margin dollars was principally due to an increase in net sales, which increased gross margin dollars by$213.6 million . Gross margin as a percentage of net sales increased 80 basis points to 40.7% in the year-to-date 2020, compared to 39.9% in the year-to-date 2019. This gross margin rate increase was primarily due to a lower markdown rate, and the absence of a$6.0 million impairment of inventory in our greeting cards department, which we chose to exit in the first quarter of 2019, partially offset by higher shrink costs and a lower initial mark-up compared to the year-to-date 2019, as our receipts have skewed toward domestic purchases, which carry a slightly lower average initial markup. Selling and Administrative Expenses Selling and administrative expenses were$962.6 million for the year-to-date 2020, compared to$915.6 million for the year-to-date 2019. The increase of$47.0 million in selling and administrative expenses was attributable to increases in store-related payroll of$29.5 million , distribution and transportation costs of$23.7 million , accrued bonus expense of$12.5 million , advertising expense of$5.1 million , store occupancy costs of$4.7 million ,$4.2 million of transaction fees,$4.0 million of sale and leaseback related expenses, employee retirement and separation costs of$3.9 million , proxy contest-related costs of$3.7 million , and$3.4 million in store supplies, partially offset by the absence of$34.8 million in costs incurred for our transformational restructuring initiative, the absence of a$7.3 million loss contingency recorded in the year-to-date 2019, and a decrease in health benefits costs of$5.1 million . The increase in store-related payroll was driven by additional payroll hours allocated to stores to support the increased net sales during the year-to-date 2020 and a temporary$2 per hour wage increase, which began inMarch 2020 and continued through earlyJuly 2020 , for most of our non-exempt workforce during the COVID-19 coronavirus pandemic. The increase in distribution and transportation expenses was due to the transition from ourRancho Cucamonga, California distribution center to our newApple Valley, California distribution center, rent expense on our leased distribution centers, higher inbound and outbound volume to support the increased year-to-date net sales, and the aforementioned temporary$2 per hour wage increase. The increase in accrued bonus expense was driven by increased performance in the year-to-date 2020 relative to our quarterly and annual operating plans as compared to our performance in the year-to-date 2019 relative to our quarterly and annual operating plans, and a one-time discretionary bonus to recognize our non-exempt associates in our stores and distribution centers. Advertising expense increased due to increased investments in digital and social media engagement, and video media to promote The Lot and our Store of the Future concept to customers. Store-related occupancy costs increased due to new stores opened since the year-to-date 2019, which have higher rents than the stores closed, and normal rent increases resulting from lease renewals. The increase in transaction fees, which includes credit card fees, debit card fees, and other transaction-driven costs, was primarily due to the increased net sales in the year-to-date 2020 compared to the year-to-date 2019. The increase in sale and leaseback related expenses was due to consulting costs incurred in the completion of the sale and leaseback transaction for our four distribution centers in the second quarter of 2020. The increase in employee retirement and separation costs was primarily driven by the retirement and separation of senior executives in the year-to-date 2020. The proxy contest-related costs were comprised of legal, public relations, and advisory fees, and settlement costs incurred to resolve a proxy contest in the first quarter of 2020. The store supplies expense increase was driven by safety and cleaning supplies, such as personal protective equipment, hand sanitizer, and disinfectants, distributed to our stores in the year-to-date 2020 to ensure a safe environment for our customers and associates during the COVID-19 coronavirus pandemic. The costs incurred for our transformational restructuring initiative consisted of consulting expenses and employee separation costs recognized in the year-to-date 2019. The loss contingency recorded in the year-to-date 2019 was associated with wage and hour claims in theState of California . The decrease in health benefits costs was primarily due to lower benefits claim volume in the year-to-date 2020 as many medical care providers suspended non-emergency care and procedures during the year-to-date 2020 due to the COVID-19 coronavirus pandemic.
As a percentage of net sales, selling and administrative expenses decreased 470 basis points to 31.2% for the year-to-date 2020 compared to 35.9% for the year-to-date 2019.
Depreciation Expense Depreciation expense increased$8.9 million to$71.7 million in the year-to-date 2020, compared to$62.8 million for the year-to-date 2019. The increase was driven primarily by investments in ourApple Valley, California distribution center, new store build-outs, and Store of the Future remodels, and the acquisition of our corporate headquarters facility in the third quarter of 2019, partially offset by a decrease due to the sale and leaseback of our four distribution centers in the second quarter of 2020. 21
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Depreciation expense as a percentage of sales decreased by 20 basis points compared to the year-to-date 2019.
Gain on Sale of Distribution Centers The gain on sale of distribution centers in the year-to-date 2020 was$463.1 million , which was attributable to the sale and leaseback of our distribution centers inDurant, OK ;Tremont, PA ;Montgomery, AL ; andColumbus, OH during the second quarter of 2020. Interest Expense Interest expense was$5.9 million in the year-to-date 2020, compared to$8.3 million in the year-to-date 2019. The decrease in interest expense was driven by lower total average borrowings (including finance leases and the sale and leaseback financing liability) and a lower average interest rate on our revolving debt. We had total average borrowings (including finance leases and the sale and leaseback financing liability) of$351.1 million in the year-to-date 2020 compared to total average borrowings (including finance leases and the sale and leaseback financing liability) of$455.5 million in the year-to-date 2019. The decrease in total average borrowings (including finance leases and the sale and leaseback financing liability) was driven by our repayment of all outstanding debt under the 2018 Credit Agreement following the sale and leaseback transaction completed in the second quarter of 2020. This decrease was partially offset by our entry into the 2019 Term Note, which increased our total average borrowings (including finance leases and the sale and leaseback financing liability) in the year-to-date 2020 by$60.2 million . Additionally, our completion of the sale and leaseback transactions for our distribution centers in the second quarter of 2020 gave rise to a financing liability which increased total average borrowings (including finance leases and the sale and leaseback financing liability) by$41.3 million in the year-to-date 2020. The average interest rate on our revolving debt, which is variable based on LIBOR and our credit rating, decreased due to a significant decline in the LIBOR rate in the year-to-date 2020 as a result of the COVID-19 coronavirus pandemic, partially offset by the impact of a decrease in our credit rating during the first quarter of 2020. Other Income (Expense) Other income (expense) was$(2.0) million in the year-to-date 2020, compared to$0.1 million in the year-to-date 2019. The change was primarily driven by unrealized losses on our diesel fuel derivatives due to a sharp decline in current and forward diesel fuel prices in the first quarter of 2020 as a result of the COVID-19 coronavirus pandemic. Income Taxes The effective income tax rate for the year-to-date 2020 and the year-to-date 2019 were 25.8% and 29.1%, respectively. The decrease in the effective income tax rate was primarily attributable to the relative impact of net tax deficiencies associated with settlement of share-based payment awards. The impact of the net tax deficiencies associated with settlement of share-based payment awards was similar in value in the year-to-date 2020 and the year-to-date 2019, but its impact on the tax rate was significantly curtailed in the year-to-date 2020 by the significant growth in taxable income in the year-to-date 2020 as compared to the year-to-date 2019. 2020 Guidance InMarch 2020 , theWorld Health Organization declared the COVID-19 coronavirus a pandemic. The rapid spread of the disease throughout theU.S. has negatively impacted theU.S. economy, which has caused significant volatility in our financial results. Therefore, inMarch 2020 , the Company withdrew its full year guidance for 2020. At this time, the Company still does not believe it has sufficient visibility to reinstate full year guidance. We expect to provide a business update at the end ofSeptember 2020 when we have greater visibility to expected results for the third quarter of 2020. 22 -------------------------------------------------------------------------------- Table of Contents Capital Resources and Liquidity OnAugust 31, 2018 , we entered into the 2018 Credit Agreement, which provides for a$700 million five-year unsecured credit facility. The 2018 Credit Agreement expires onAugust 31, 2023 . Borrowings under the 2018 Credit Agreement are available for general corporate purposes, working capital, and to repay certain indebtedness. The 2018 Credit Agreement includes a$30 million swing loan sublimit, a$75 million letter of credit sublimit, a$75 million sublimit for loans to foreign borrowers, and a$200 million optional currency sublimit. The interest rates, pricing and fees under the 2018 Credit Agreement fluctuate based on our debt rating. The 2018 Credit Agreement allows us to select our interest rate for each borrowing from multiple interest rate options. The interest rate options are generally derived from the prime rate or LIBOR. We may prepay revolving loans made under the 2018 Credit Agreement without penalty. The 2018 Credit Agreement contains financial and other covenants, including, but not limited to, limitations on indebtedness, liens and investments, as well as the maintenance of two financial ratios - a leverage ratio and a fixed charge coverage ratio. The covenants of the 2018 Credit Agreement do not restrict our ability to pay dividends. Additionally, we are subject to cross-default provisions associated with the synthetic lease for our distribution center inApple Valley, California . A violation of any of the covenants could result in a default under the 2018 Credit Agreement that would permit the lenders to restrict our ability to further access the 2018 Credit Agreement for loans and letters of credit and require the immediate repayment of any outstanding loans under the 2018 Credit Agreement. AtAugust 1, 2020 , we were in compliance with the covenants of the 2018 Credit Agreement. OnAugust 7, 2019 , we entered into the 2019 Term Note, a$70 million term note agreement, which is secured by the equipment at our newCalifornia distribution center. The 2019 Term Note will expire onMay 7, 2024 . We are required to make monthly payments over the term of the 2019 Term Note and are permitted to prepay the note, subject to penalties, at any time. The interest rate on the note is fixed at 3.3%. The primary source of our liquidity is cash flows from operations and borrowings under the 2018 Credit Agreement, as necessary. Our net income and, consequently, our cash provided by operations are impacted by net sales volume, seasonal sales patterns, and operating profit margins. Our net sales are typically highest during the nine-week Christmas selling season in our fourth fiscal quarter. However, due to demand volatility we have experienced during the COVID-19 coronavirus pandemic, the seasonality of our 2020 results may differ from our historical experience. Generally, our working capital requirements peak late in our third fiscal quarter or early in our fourth fiscal quarter. We have typically funded those requirements with borrowings under our credit facility. AtAugust 1, 2020 , we had no borrowings under the 2018 Credit Agreement, and the borrowings available under the 2018 Credit Agreement were$688.6 million , after taking into account the reduction in availability resulting from outstanding letters of credit totaling$11.4 million . We believe that cash on hand, cash equivalents, cash available from future operations, and our 2018 Credit Agreement will provide us with sufficient liquidity to fund our operations for at least the next twelve months. Cash requirements include among other things, capital expenditures, working capital needs, interest payments, and other contractual commitments. As a measure to secure additional liquidity during a period of economic uncertainty caused by the COVID-19 coronavirus pandemic, onJune 12, 2020 , we completed the sale and leaseback transactions relating to our distribution centers located inColumbus, OH ;Durant, OK ;Montgomery, AL ; andTremont, PA for an aggregate selling price of$725 million . Due to sale-leaseback accounting requirements, the proceeds received in the transactions were allocated between proceeds on the sale of the distribution centers and financing proceeds. Accordingly, aggregate net proceeds on the sales of the distribution centers was$586.9 million and the aggregate gain on the sales was$463.1 million . The remainder of consideration received was financing liability proceeds of$134.0 million . In the second quarter of 2020, we invested a portion of the proceeds from the sale and leaseback of our four distribution centers in money market fund investments and commercial paper investments. These highly liquid investments were recorded in cash and cash equivalents in our consolidated balance sheets. Our aggregate money market fund and commercial paper investments were$579.9 million and$0 atAugust 1, 2020 andFebruary 1, 2020 , respectively. As a result of the sale and leaseback transactions and our strong cash flow from operations during the year-to-date 2020, our cash and cash equivalents increased$844.9 million to$898.6 million from the second quarter of 2019. OnAugust 27, 2020 , our Board of Directors authorized the 2020 Repurchase Authorization, which provides for the repurchase of$500 million of our common shares. Pursuant to the 2020 Repurchase Authorization, we are authorized to repurchase shares in the open market and/or in privately negotiated transactions at our discretion, subject to market conditions and other factors. Common shares acquired through the 2020 Repurchase Authorization will be available to meet obligations under our equity compensation plans and for general corporate purposes. The 2020 Repurchase Authorization has no scheduled termination date and we intend to fund repurchases under the authorization with cash and cash equivalents on hand and cash generated from operations going forward. 23 -------------------------------------------------------------------------------- Table of Contents InMay 2020 , our Board of Directors declared a quarterly cash dividend of$0.30 per common share payable onJune 26, 2020 to shareholders of record as of the close of business onJune 12, 2020 . The cash dividend of$0.30 per common share is consistent with our quarterly dividends declared in 2019. In the year-to-date of 2020, we paid approximately$24.3 million in dividends compared to$24.9 million in the year-to-date of 2019. InAugust 2020 , our Board of Directors declared a quarterly cash dividend of$0.30 per common share payable onSeptember 25, 2020 to shareholders of record as of the close of business onSeptember 11, 2020 .
The following table compares the primary components of our cash flows from the year-to-date 2020 compared to the year-to-date 2019: (In thousands)
2020 2019 Change
Net cash provided by operating activities $ 468,384 $ 158,285 $ 310,099
Net cash provided by (used in) investing
activities 517,586 (162,731) 680,317
Net cash (used in) provided by financing
activities $ (140,131) $ 12,117 $ (152,248)
Cash provided by operating activities increased $310.1 million to $468.4 million
in the year-to-date 2020 compared to $158.3 million in the year-to-date 2019.
The primary drivers of the increase were an increase of $479.6 million in net
income, a $202.4 million increase in current income taxes, a $112.3 million
increase in cash inflows from inventories, and a $52.7 million increase in cash
inflows from accounts payable, partially offset by an increase in the add-back
for gain on disposition of equipment and property of $462.8 million , a $55.3
million increase in cash outflows from operating lease liabilities, and an
increase in the add-back for deferred taxes of $48.2 million . The increase in
net income was due to the gain on sale of distribution centers in the second
quarter of 2020 and a $535.1 million increase in net sales in the year-to-date
2020. Similarly, the increase in current income taxes was due to the higher
income before income taxes, which resulted from the gain on sale of distribution
centers and increased net sales. The increase in cash inflows from inventories
was primarily driven by the increase in net sales during the year-to-date 2020
as compared to the year-to-date 2019, and an 18.4% decrease in inventory at the
end of the second quarter of 2020. The increase in the change in accounts
payable was primarily the result of a decrease in the book overdraft for the
year-to-date 2020, which increased the change in accounts payable by
approximately $55 million . The increase in the add-back for gain on disposition
of equipment and property was principally due to the gain on sale of
distribution centers in the second quarter of 2020. The increase in outflows for
operating lease liabilities was primarily due to the prepayment of the first
year of rent for our four distribution centers sold and leased back in the
second quarter of 2020. The increase in the add-back for deferred taxes was
primarily due to the deferred gain on the sale of our Rancho Cucamonga,
California distribution center in the third quarter of 2019.
Cash provided by (used in) investing activities increased by $680.3 million to
cash provided by investing activities of $517.6 million in the year-to-date 2020
compared to cash used in investing activities of $162.7 million in the
year-to-date 2019. The increase was principally due to an increase of $586.9
million in cash proceeds from sale of property and equipment, partially offset
by a decrease of $93.4 million in capital expenditures. The increase in cash
proceeds from sale of property and equipment was due to the completion of the
sale and leaseback transactions for our four distribution centers in the second
quarter of 2020. The decrease in capital expenditures was driven by our
decisions to reduce our investments in our Store of the Future concept in 2020,
reduce investments in new stores in 2020 to preserve liquidity and promote
safety during the COVID-19 coronavirus pandemic, and a decrease in investments
in our Apple Valley, California distribution center which opened in late 2019.
Cash (used in) provided by financing activities increased by $152.2 million to
cash used in financing activities of $140.1 million in the year-to-date 2020
compared to cash provided by financing activities of $12.1 million in the
year-to-date 2019. The primary driver of the increase in cash used in financing
activities was an increase in net repayments of long-term debt of $329.9
million , partially offset by an increase in net financing proceeds from sale and
leaseback of $124.1 million and a decrease in payment for treasury shares
acquired of $52.9 million . The increase in net repayments of long-term debt was
a result of the repayment of all outstanding borrowings under the 2018 Credit
Agreement following the completion of the sale and leaseback transaction for our
four distribution centers in the second quarter of 2020. The increase in net
financing proceeds from sale and leaseback was driven by the sale and leaseback
transactions completed for our four distribution centers in second quarter of
2020. The decrease in payment for treasury shares acquired was due to the
absence of a share repurchase program in the year-to-date 2020 compared to the
year-to-date 2019.
24--------------------------------------------------------------------------------
Table of Contents CRITICAL ACCOUNTING POLICIES AND ESTIMATES The preparation of financial statements in conformity with GAAP requires management to make estimates, judgments, and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period, as well as the related disclosure of contingent assets and liabilities at the date of the financial statements. On an ongoing basis, management evaluates its estimates, judgments, and assumptions, and bases its estimates, judgments, and assumptions on historical experience, current trends, and various other factors that are believed to be reasonable under the circumstances. Actual results may differ from these estimates. See note 1 to our consolidated financial statements included in our 2019 Form 10-K for additional information about our accounting policies. The estimates, judgments, and assumptions that have a higher degree of inherent uncertainty and require the most significant judgments are outlined in Management's Discussion and Analysis of Financial Condition and Results of Operations contained in our 2019 Form 10-K. Had we used estimates, judgments, and assumptions different from any of those discussed in our 2019 Form 10-K, our financial condition, results of operations, and liquidity for the current period could have been materially different from those presented.
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