MAHWAH BERGEN RETAIL GROUP, INC.
The following discussion should be read in conjunction with our audited
consolidated financial statements and related notes thereto, which are included
elsewhere in this Annual Report on Form 10-K for Fiscal 2020 ("Fiscal 2020
10-K"). Fiscal year 2020 ended on August 1, 2020 and reflected a 52-week period
("Fiscal 2020"). Fiscal year 2019 ended on August 3, 2019 and reflected a
52-week period ("Fiscal 2019"). All references to "Fiscal 2021" reflect a
52-week period that will end on July 31, 2021 .
INTRODUCTION
MD&A is provided as a supplement to the accompanying consolidated financial statements and footnotes to help provide an understanding of our operational results, financial condition, liquidity and changes in financial condition. MD&A is organized as follows:
•Overview. This section includes recent developments, our objectives and risks, and a summary of our financial performance for Fiscal 2020.
•Results of operations. This section provides an analysis of our operational results for Fiscal 2020 and Fiscal 2019.
•Financial condition and liquidity. This section provides an analysis of our cash flows for Fiscal 2020 and Fiscal 2019, as well as a discussion of our financial condition and liquidity as ofAugust 1, 2020 . The discussion of our financial condition and liquidity includes (i) our available financial capacity and (ii) a summary of our capital spending. •Critical accounting policies. This section discusses accounting policies considered to be important to our operational results and financial condition, which require significant judgment and estimation on the part of management in their application. In addition, all of our significant accounting policies, including our critical accounting policies, are summarized in Note 4 to our accompanying consolidated financial statements. •Recently issued accounting pronouncements. This section discusses the potential impact to our reported operational results and financial condition of accounting standards that have been recently issued. OVERVIEW
Our Business
Recent Developments
Voluntary Reorganization Under Chapter 11
OnJuly 23, 2020 (the "Petition Date"), the Company and certain of its subsidiaries (collectively, the "Debtors") commenced voluntary cases (the "Chapter 11 Cases") under chapter 11 of title 11 of the United States Code (the "Bankruptcy Code") in theUnited States Bankruptcy Court for the Eastern District of Virginia ("theBankruptcy Court "). The Company's Chapter 11 Cases are being jointly administered under the caption In re:Ascena Retail Group, Inc. , et al., Case No. 20-33113. The Debtors will continue to operate their businesses as "debtors-in-possession" under the jurisdiction of theBankruptcy Court and in accordance with the applicable provisions of the Bankruptcy Code and the orders of theBankruptcy Court .Bankruptcy Court filings and other information related to the Chapter 11 Cases are available free of charge online at http://cases.primeclerk.com/ascena/. 26 --------------------------------------------------------------------------------
ASCENA RETAIL GROUP, INC. (DEBTOR-IN-POSSESSION) MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (Continued) The Debtors have filed the Chapter 11 Cases to implement the terms of a Restructuring Support Agreement, datedJuly 23, 2020 (together with all exhibits and schedules thereto, the "RSA"), by and among the Company and certain of its subsidiaries (each, a "Company Party" and collectively, the "Company Parties") and members of an ad hoc group of lenders (the "Consenting Stakeholders") under the Term Credit Agreement, dated as ofAugust 21, 2015 (as amended, restated, supplemented or otherwise modified from time to time, the "Prepetition Term Credit Agreement"), among the Company,AnnTaylor Retail, Inc. , the lenders party thereto andGoldman Sachs Bank USA , as administrative agent. The RSA is supported by Consenting Stakeholders holding approximately 68% of the borrowings under the Prepetition Term Credit Agreement as of the Petition Date.
As part of the Chapter 11 Cases, the Company has divested the Catherines' E-Commerce business and Justice's intellectual property and other assets. The Company has also entered into an agreement to sell assets relating to the Company's Ann Taylor, LOFT and Lane Bryant brands. See Note 24 to the accompanying consolidated financial statements.
For the duration of the Chapter 11 Cases, the Company's operations and ability to develop and execute its business plan are subject to the risks and uncertainties associated with the Chapter 11 process as described in Part I, Item 1A - "Risk Factors" of this Annual Report on Form 10-K. As a result of these risks and uncertainties, the amount and composition of the Company's assets and liabilities could be significantly different following the outcome of the Chapter 11 Cases, and the description of the Company's operations, properties and liquidity and capital resources included in this Annual Report on Form 10-K may not accurately reflect its operations, properties and liquidity and capital resources following emergence from the Chapter 11 Cases.
For more information regarding the Chapter 11 Cases, see Note 2 to the accompanying consolidated financial statements, and for information regarding our ability to continue as a going concern, see Note 1 to the accompanying consolidated financial statements.
COVID-19 Pandemic
As described elsewhere herein, the coronavirus disease ("COVID-19") has had
far-reaching adverse impacts on many aspects of our operation, directly and
indirectly, including our employees, consumer behavior, distribution and
logistics, our suppliers, and the market overall. The scope and nature of these
impacts have been rapidly changing and is expected to continue to be so in the
near term. In light of the continued uncertain situation relating to COVID-19,
we took a number of precautionary measures in the second half of Fiscal 2020 to
manage our resources conservatively by reducing and/or deferring capital
expenditures, inventory purchases and operating expenses to mitigate the adverse
impact of COVID-19, which is intended to help minimize the risk to our Company,
employees, customers, and the communities in which we operate. Such measures
include the following:
•The temporary closure of our retail stores;
•The temporary furlough of a substantial portion of our workforce;
•Reductions in pay of ranging amounts for a substantial majority of those
employees not placed on temporary furlough;
•Working with our landlords to minimize costs associated with closed retail
stores;
•Drawing down $230 million under the Company's revolving credit facility as a
precautionary measure in order to increase its cash position and preserve
financial flexibility; and
•Extended vendor payment terms on merchandise and non-merchandise purchases.
In addition to the effects described above, our supply chain has been affected
by COVID-19. Certain of the Company's vendors in Asia were temporarily closed
for a portion of the third quarter of Fiscal 2020 as a result of COVID-19,
however the vendors had resumed production by the end of the quarter. It is
possible that if COVID-19 re-emerges in the countries where we obtain our goods,
it could cause our vendors to cease production again. At the current time, we
believe that we have sufficient inventory and supplies to support our demand in
the near future.
Besides the lower store sales impact, COVID-19 also significantly impacted our
margin rates and our long-term growth assumptions, which resulted in long-term
asset impairments in the second half of Fiscal 2020, as described more fully in
Notes 7 and 10 to the accompanying consolidated financial statements.
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--------------------------------------------------------------------------------ASCENA RETAIL GROUP, INC. (DEBTOR-IN-POSSESSION) MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (Continued) InMay 2020 , the Company started to reopen its retail stores. As stores began to reopen, the Company also began to bring certain employees back from temporary furlough. Employees necessary to support the phased re-opening of the business were brought back first. In addition, inJune 2020 , the Company restored all employees who were not on temporary furlough back to their original pay rates. Although each of the remedial measures discussed above were taken by the Company to protect the business and preserve liquidity, each may also have the potential to have a material adverse impact on our current business, financial condition and results of operations, and may create additional risks for our Company. While we started to reverse at least some of the temporary measures, we cannot predict the specific duration for which other precautionary measures will stay in effect, and we may elect or need to take additional measures, or reinstate previous measures, as the information available to us continues to develop, including with respect to our employees, distribution centers, relationships with our third-party vendors, and our customers. As the Company reopened its retail stores, it did so in accordance with local government guidelines. As of the time of this filing, substantially all of our retail stores have re-opened to the public with restricted operations. However, the Company continues to closely monitor changes in government guidelines and of the outbreak itself. In certain cases, we have had to close stores that had re-opened. As a result, we continue to believe that COVID-19 will have a significant negative impact on our results of operations, financial position and cash flows through the first half of Fiscal 2021.
Seasonality of Business
Our individual segments are typically affected by seasonal sales trends primarily resulting from the timing of holiday and back-to-school shopping periods. In particular, sales at our Kids Fashion segment tend to be significantly higher during the Fall season, which occurs during the first and second quarters of our fiscal year, as this includes the back-to-school period and the December holiday season. Our Plus Fashion segment tends to experience higher sales during the Spring season, which include the Easter andMother's Day holidays. Our Premium Fashion segment has relatively balanced sales across the Fall and Spring seasons. As a result, our operational results and cash flows may fluctuate materially in any quarterly period depending on, among other things, increases or decreases in comparable store sales, adverse weather conditions, shifts in the timing of certain holidays and changes in merchandise mix.
Summary of Financial Performance
Discontinued Operations
Dressbarn Wind Down
The Company completed the wind down of its Dressbarn brand during the second quarter of Fiscal 2020. All Dressbarn store locations were closed as ofDecember 31, 2019 . As a result, the Company'sDressbarn business has been classified as a component of discontinued operations within the audited consolidated financial statements for all periods presented, and when coupled with the sale of maurices discussed below, we no longer present results of the Value Fashion segment. The operating results ofDressbarn are excluded from the discussion below. In connection with theDressbarn wind down, we have incurred cumulative costs of approximately$58 million , of which approximately$5 million was incurred during Fiscal 2020 and included in discontinued operations.
Sale of maurices
OnMay 6, 2019 , the Company andMaurices Incorporated , aDelaware corporation ("maurices") and wholly owned subsidiary of ascena, completed the transaction contemplated by the previously-announced Stock Purchase Agreement withViking Brand Upper Holdings, L.P. , aCayman Islands exempted limited partnership ("Viking") and an affiliate ofOpCapita LLP , providing for, among other things, the sale by ascena of maurices to Viking (the "Transaction"). Effective upon the closing of the Transaction inMay 2019 , ascena received cash proceeds of approximately$210 million and a 49.6% ownership interest in the operations of maurices, consisting of interests in Viking preferred and common stock. As discussed in Note 3 to the accompanying consolidated financial statements, upon completion of the sale of maurices, the Company has classified 28 --------------------------------------------------------------------------------
ASCENA RETAIL GROUP, INC. (DEBTOR-IN-POSSESSION) MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (Continued)
maurices as a component of discontinued operations within the audited consolidated financial statements for Fiscal 2019 and is also excluded from the discussion below.
While overall performance during the second quarter of Fiscal 2020 was in line with management's expectations, lower than expected sales at our Justice brand, and lower than expected margins at our Ann Taylor brand, resulted in a conclusion that these factors represented impairment indicators which required the Company to test our goodwill and indefinite-lived intangible assets for impairment during the second quarter of Fiscal 2020. As a result of the assessment, we recognized goodwill impairment charges of$54.9 million and$8.5 million at the Ann Taylor and Justice reporting units, respectively, to write-down the carrying values of the reporting units to their fair values. In addition, we recorded non-cash impairment charges to write-down the carrying values of our other intangible assets of$46.9 million which substantially consisted of write-downs of our trade name intangible assets to their fair values at Ann Taylor and Justice by$10.0 million and$35.0 million , respectively. Further, the impact of the retail store closures in response to COVID-19, along with the continued declines in the stock price and the fair value of our Term Loan debt, resulted in a conclusion that another triggering event occurred in the third quarter of Fiscal 2020, thereby requiring us to test our goodwill and intangible assets for impairment (the "April Interim Test"). The April Interim Test reflected revised long-range assumptions that were reflected in contemplation of the Chapter 11 Cases discussed above. Those assumptions included the wind down of the Catherines brand, and a significant reduction in the number of Justice retail stores, an overall reductions in the number of retail stores at the Company's other brands, and a significant reduction in the Company's workforce commensurate with the store reductions. As a result of the revised assumptions, we recognized goodwill impairment charges of$15.0 million and$70.5 million at the Ann Taylor and LOFT reporting units to write-down the carrying value of the reporting units to their fair value. In addition, we recorded non-cash impairment charges totaling$41.3 million to write-down the carrying values of our trade name intangible assets to their fair values as follows:$17.7 million at Ann Taylor,$7.8 million at LOFT,$7.8 million at Justice,$3.0 million at Catherines and$5.0 million of our Justice international franchise rights. These impairment charges are more fully described in Note 7 to the accompanying consolidated financial statements. Finally, the commencement of the Chapter 11 Cases, discussed above, led the Company to conclude this represented further impairment indicators. As a result, the Company was required to test its goodwill and indefinite-lived intangible assets for impairment during the fourth quarter of Fiscal 2020 (the "Year-End Test"). The cash flow projections underlying the Year-End Test reflected revised assumptions for Fiscal 2021 and Fiscal 2022 based on the current consumer demand, the continuation of the negative impacts of COVID-19 and the potential release of a vaccine during Fiscal 2021 with the expectation that the Company will be back in line with the original long-range projections for Fiscal 2023 and beyond. As of the third quarter of Fiscal 2020, only our LOFT brand had goodwill remaining and was tested for goodwill impairment in the fourth quarter. The Year-End Test indicated the fair value of the LOFT brand exceeded its carrying value and as a result no goodwill impairment charge was required in the fourth quarter. However, the Year-End Test resulted in the Company recognizing impairment charges to write-down the carrying values of its other intangible assets to their fair values as follows:$34.2 million on the LOFT trade name and$1.3 million on the Ann Taylor trade name. In addition, the Company impaired the remaining Justice international franchise rights of$5 million as the Company will no longer be supporting this business strategy.
Tangible Asset Impairment Charges
As a result of the revised projections utilized in the Company's goodwill and intangible asset impairment testing described above, which reflect significant reductions in near-term cash flows of certain of our retail stores, as well as the planned store reductions discussed above, we recognized impairment charges of$196.8 million to write-down store-related fixed assets and right-of-use assets to their fair values. Impairment charges by segment reflected$115.3 million at the Premium Fashion segment,$25.2 million at the Plus Fashion segment, and$56.3 million at the Kids Fashion segment. In addition, a long-lived Corporate asset impairment charge of$12.9 million was recorded during the second half of Fiscal 2020 which reflects an$8.4 million write-down of the book value of the Company's campus inMahwah, NJ to fair market value recorded in the third quarter of Fiscal 2020 in connection with its planned sale and a long-lived asset impairment charge of$4.5 million was recorded in the fourth quarter of Fiscal 2020 relating to the Company'sDuluth, MN building to reflect a write-down of the book value to fair market value. These impairment charges are more fully described in Note 10 to the accompanying consolidated financial statements. 29 --------------------------------------------------------------------------------
ASCENA RETAIL GROUP, INC. (DEBTOR-IN-POSSESSION) MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (Continued)
Summary and Key Developments
Operating highlights for Fiscal 2020 are as follows:
•Sales decreased by 21.5%, reflecting decreases at all of our operating segments due primarily to the temporary retail store closures; •Gross margin rate decreased by 530 basis points to 50.6% primarily due to markdown and promotional selling necessary to clear excess inventory that was unable to be sold after the temporary retail store closures; •Operating loss of$1,113.6 million compared to$638.3 million for the year-ago period, resulting primarily from the lower Net sales and Gross margin decline, higher store-related asset-impairment charges, and higher restructuring and other related charges, which were offset in part by expense reductions, primarily reflecting the furlough of a significant portion of our workforce in response to COVID-19, the impact of our previously-announced cost reduction initiatives, and lower impairment of goodwill and other intangible assets; and •Net loss from continuing operations per diluted share of$120.68 in Fiscal 2020, compared to$73.87 in Fiscal 2019.
Liquidity for Fiscal 2020 primarily reflected:
•Cash flows provided by operations was$131.6 million , compared to$21.1 million in the year-ago period; •Cash flows used in investing activities for Fiscal 2020 was$39.5 million , consisting primarily of capital expenditures of$65.1 million , offset in part by$20.6 million received from the sale of our corporate building inMahwah, New Jersey , compared to net cash provided by investing activities of$67.7 million in the year-ago period; and •Cash flows provided by financing activities for Fiscal 2020 was$160.3 million , consisting primarily of the$230.0 million borrowed under the revolving credit facility during the third quarter, offset in part by the repurchased$79.5 million of outstanding term loan debt for$49.4 million and the term loan prepayment of$20.4 million compared to net cash provided by financing activities of$0.3 million in the year-ago period. 30 --------------------------------------------------------------------------------
ASCENA RETAIL GROUP, INC. (DEBTOR-IN-POSSESSION) MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (Continued)
RESULTS OF OPERATIONS
Fiscal 2020 Compared to Fiscal 2019
The following table summarizes our operational results and expresses the
percentage relationship to net sales of certain financial statement captions:
Fiscal Years Ended
August 1, August 3,
2020 2019 $ Change % Change
(millions, except per share data)
Net sales $ 3,718.1 $ 4,734.7 $ (1,016.6) (21.5) %
Cost of goods sold (1,836.2) (2,088.0) 251.8 12.1 %
Cost of goods sold as % of net sales 49.4 % 44.1 %
Gross margin 1,881.9 2,646.7 (764.8) (28.9) %
Gross margin as % of net sales 50.6 % 55.9 %
Other operating expenses:
Buying, distribution and occupancy expenses (825.8) (953.8) 128.0 13.4 %
Buying, distribution and occupancy expenses as % of net sales
22.2 % 20.1 %
Selling, general and administrative expenses (1,421.1) (1,545.8) 124.7 8.1 %
SG&A expenses as % of net sales 38.2 % 32.6 %
Restructuring and other related charges (238.3) (94.1) (144.2) NM
Impairment of goodwill (148.9) (276.0) 127.1 46.1 %
Impairment of other intangible assets (128.7) (134.9) 6.2 4.6 %
Depreciation and amortization expense (232.7) (280.4) 47.7 17.0 %
Total other operating expenses (2,995.5) (3,285.0) 289.5 8.8 %
Operating loss (1,113.6) (638.3) (475.3) (74.5) %
Operating loss as % of net sales (30.0) % (13.5) %
Interest expense (99.4) (107.0) 7.6 7.1 %
Interest and other (expense) income, net (7.6) 3.8 (11.4) NM
Gain on extinguishment of debt 28.5 - 28.5 NM
Reorganization items, net (3.4) - (3.4) NM
Loss from continuing operations before (provision) benefit for income taxes and income (loss) from equity method investment
(1,195.5) (741.5) (454.0) (61.2) %
(Provision) benefit for income taxes from continuing operations
(13.7) 23.9 (37.6) NM
Effective tax rate (a) (1.1) % 3.2 %
Income (loss) from equity method investment 3.1 (11.8) 14.9 NM
Loss from continuing operations (1,206.1) (729.4) (476.7) (65.4) %
Discontinued operations
Income from discontinued operations, net of taxes (b) 64.3 23.5 40.8 NM
Gain on disposal of discontinued operations, net of
taxes (c) - 44.5 (44.5) (100.0) %
Net loss $ (1,141.8) $ (661.4) $ (480.4) (72.6) %
Net loss per common share - basic:
Continuing operations $ (120.68) $ (73.87) $ (46.81) (63.4) %
Discontinued operations 6.43 6.89 (0.46) (6.6) %
Total net loss per basic common share $ (114.25) $ (66.98) $ (47.27) (70.6) %
Net loss per common share - diluted:
Continuing operations $ (120.68) $ (73.87) $ (46.81) (63.4) %
Discontinued operations 6.43 6.89 (0.46) (6.6) %
Total net loss per diluted common share $ (114.25) $ (66.98) $ (47.27) (70.6) %
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--------------------------------------------------------------------------------ASCENA RETAIL GROUP, INC. (DEBTOR-IN-POSSESSION) MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (Continued) ________ (a) Effective tax rate is calculated by dividing the (Provision) benefit for income taxes from continuing operations by the Loss from continuing operations before (provision) benefit for income taxes and income (loss) from equity method investment. (b) Income from discontinued operations is presented net of income tax expense of$0.2 million and$31.2 million for the fiscal years endedAugust 1, 2020 andAugust 3, 2019 , respectively. (c) Gain on sale of discontinued operations is presented net of income tax benefit of$4.0 million for the fiscal year endedAugust 3, 2019 . (NM) Not meaningful. Net sales. Total Net sales decreased by$1,016.6 million , or 21.5%, to$3,718.1 million . Specifically, the total store and e-commerce revenue decreased by$974.1 million and other revenue decreased by$42.5 million compared to the prior year period. The decrease in Net sales was primarily driven by the temporary closure of our retail stores as a result of COVID-19 during the second half of Fiscal 2020.
Net sales data for our three operating segments is presented below.
Fiscal Years Ended
August 1, August 3,
2020 2019 $ Change % Change
(millions)
Net sales:
Premium Fashion $ 1,852.6 $ 2,415.1 $ (562.5) (23.3) %
Plus Fashion 1,055.9 1,240.5 (184.6) (14.9) %
Kids Fashion 809.6 1,079.1 (269.5) (25.0) %
Total net sales $ 3,718.1 $ 4,734.7 $ (1,016.6) (21.5) %
Comparable sales (a) NM
________
(a) Comparable sales represent combined store comparable sales and direct
channel sales. Store comparable sales generally refers to the growth of sales in
stores only open in the current period and comparative calendar period in the
prior year (including stores relocated within the same shopping center and
stores with minor square footage additions). Stores that close during the fiscal
year are excluded from store comparable sales beginning with the fiscal month
the store actually closes. Direct channel sales refer to growth of sales from
our direct channel in the current period and comparative calendar period in the
prior year. Due to customer cross-channel behavior, we typically report a
single, consolidated comparable sales metric, inclusive of store and direct
channels. In light of the store closures related to COVID-19, the Company has
not disclosed comparable sales as the results are not considered meaningful.
Gross margin. Gross margin, in terms of dollars, was primarily lower as a result
of a decline in sales and a decline in rate, which is discussed on a segment
basis below. The gross margin rate represents the difference between net sales
and cost of goods sold, expressed as a percentage of net sales. Gross margin
rate is dependent upon a variety of factors, including brand sales mix, product
mix, channel mix, the timing and level of promotional activities and
fluctuations in material costs. These factors, among others, may cause cost of
goods sold as a percentage of net revenues to fluctuate from period to period.
Gross margin rate decreased by 530 basis points from 55.9% for Fiscal 2019 to 50.6% for Fiscal 2020 resulting from lower margin at all three operating segments. Gross margin rate highlights on a segment basis are as follows:
•Premium Fashion gross margin rate performance declined to 51.5% for Fiscal 2020
from 56.5% for Fiscal 2019 primarily reflecting increased inventory reserves and
promotional selling to clear excess inventory that was unable to be sold in the
normal course due to the temporary closure of our retail stores as a result of
COVID-19 during the second half of Fiscal 2020 and higher shipping costs related
to increased direct channel penetration.
•Plus Fashion gross margin rate performance declined to 53.9% for Fiscal 2020
from 57.3% for Fiscal 2019 primarily reflecting inventory markdown reserves and
increased promotional selling to clear excess inventory that was unable to be
sold in the normal course due to the temporary closure of our retail stores as a
result of COVID-19 during the second half of Fiscal 2020 and higher shipping
costs related to increased direct channel penetration, offset in part by the
improved product acceptance experienced during the first half of Fiscal 2020.
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--------------------------------------------------------------------------------ASCENA RETAIL GROUP, INC. (DEBTOR-IN-POSSESSION) MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (Continued) •Kids Fashion gross margin rate performance declined to 44.3% for Fiscal 2020 from 53.0% for Fiscal 2019 primarily due to significant inventory markdown reserves and increased promotional selling to clear excess inventory that was unable to be sold in the normal course due to the temporary closure of our retail stores as a result of COVID-19 during the second half of Fiscal 2020. The gross margin decline also reflects increased markdowns in the first half of Fiscal 2020 resulting from lower store traffic. Buying, distribution and occupancy ("BD&O") expenses consist of store occupancy and utility costs (excluding depreciation) and all costs associated with the buying and distribution functions. BD&O expenses decreased by$128.0 million , or 13.4%, to$825.8 million in Fiscal 2020. The reduction in expenses was driven by the furlough in the second half of Fiscal 2020 of a significant portion of our workforce in response to COVID-19, lower occupancy expense and lower-employee related costs, both resulting from the continued impact of our previously announced cost reduction efforts, as well as amounts received under the transition services agreement with maurices as further discussed in Note 11 to the accompanying consolidated financial statements. BD&O expenses as a percentage of net sales increased to 22.2% in Fiscal 2020 from 20.1% in Fiscal 2019. Selling, general and administrative ("SG&A") expenses consist of compensation and benefit-related costs for sales and store operations personnel, administrative personnel and other employees not associated with the functions described above under BD&O expenses. SG&A expenses also include advertising and marketing costs, information technology and communication costs, supplies for our stores and administrative facilities, insurance costs, legal costs and costs related to other administrative services. SG&A expenses decreased by$124.7 million , or 8.1%, to$1,421.1 million in Fiscal 2020. The decrease in SG&A expenses was primarily due to the furlough in the second half of Fiscal 2020 of a significant portion of our workforce in response to COVID-19, the continuation of our previously announced cost reduction initiatives, mainly reflecting lower store related expenses and non-merchandise procurement savings, lower marketing expenses, and amounts received under the transition services agreement with maurices, as further discussed in Note 11 to the accompanying consolidated financial statements. These savings were offset in part by higher store-related impairment charges. SG&A expenses as a percentage of net sales increased to 38.2% in Fiscal 2020 from 32.6% in Fiscal 2019. Depreciation and amortization expense decreased by$47.7 million , or 17.0%, to$232.7 million in Fiscal 2020. The decrease was across all of our operating segments and was driven by a lower level of store-related fixed-assets, offset in part by incremental depreciation from capital investments placed into service during Fiscal 2019.
Operating loss. Operating loss was
Operating results for our three operating segments are presented below.
Fiscal Years Ended
August 1, August 3,
2020 2019 $ Change % Change
(millions)
Operating (loss) income:
Premium Fashion $ (280.9) $ 35.1 $ (316.0) NM
Plus Fashion (90.1) (101.6) 11.5 11.3 %
Kids Fashion (226.7) (66.8) (159.9) NM
Unallocated restructuring and other related
charges (238.3) (94.1) (144.2) NM
Unallocated impairment of goodwill (148.9) (276.0) 127.1 46.1 %
Unallocated impairment of other intangible assets (128.7) (134.9) 6.2 4.6 %
Total operating loss $ (1,113.6) $ (638.3) $ (475.3) (74.5) %
________
(NM) Not meaningful.
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ASCENA RETAIL GROUP, INC. (DEBTOR-IN-POSSESSION) MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (Continued) Premium Fashion operating results decreased by$316.0 million primarily driven by a decline in Net sales and a lower gross margin rate, as discussed above, offset in part by lower operating expenses. Operating expense reductions were primarily driven by the furlough in the second half of Fiscal 2020 of a significant portion of our workforce in response to COVID-19, lower expenses as a result of our continued cost reduction efforts, and lower depreciation expense. These expense reductions were offset in part by significantly higher store-related impairment charges. Plus Fashion operating results improved by$11.5 million primarily due to lower operating expenses, which were mostly offset by declines in Net sales and a lower gross margin rate, as discussed above. Operating expense reductions were primarily driven by the furlough in the second half of Fiscal 2020 of a significant portion of our workforce in response to COVID-19 and lower expenses as a result of our continued cost reduction efforts. Kids Fashion operating results decreased by$159.9 million primarily due to a decline in Net sales and a lower gross margin rate, as discussed above, offset in part by lower operating expenses. Operating expense reductions were primarily driven by the furlough in the second half of Fiscal 2020 of a significant portion of our workforce in response to COVID-19 and lower expenses as a result of our continued cost reduction efforts. These expense reductions were offset in part by significantly higher store-related impairment charges. Unallocated restructuring and other related charges of$238.3 million primarily includes charges resulting from announcements and actions taken in connection with the Chapter 11 Cases and included$29.3 million of severance and other related charges,$19.3 million of professional fees, and$189.3 million of non-cash asset impairments primarily related to right-of-use lease assets associated with the stores identified to close as a result of the Chapter 11 Cases. The$94.1 million of unallocated restructuring and other related charges in Fiscal 2019 primarily included$33.1 million for professional fees incurred in connection with the identification and implementation of transformation initiatives,$16.1 million of severance and other related charges, reflecting severance associated with the cost reduction actions taken in the fourth quarter of Fiscal 2019, and$44.9 million of non-cash asset impairments, reflecting the write-down of theMahwah, NJ corporate headquarters as a result of theDressbarn wind down and the write-down of a corporate-owned office building inDuluth, MN to fair market value as a result of the sale of maurices. Unallocated impairment of goodwill reflects the Fiscal 2020 write-down of the carrying values of the Ann Taylor, LOFT and Justice reporting units to their fair values as follows:$69.9 million at Ann Taylor,$70.5 million at LOFT, and$8.5 million at Justice. The$276.0 million in Fiscal 2019 reflects the write-down of the carrying values of theLane Bryant , Catherines and Justice reporting units. Unallocated impairment of other intangible assets reflects the Fiscal 2020 write-down of the Company's trade name intangible assets to their fair values as follows:$29.0 million of our Ann Taylor trade name,$42.0 million of our LOFT trade name,$42.8 million of our Justice trade name,$4.0 million of our Catherines trade name and$10.9 million of our Justice franchise rights. The$134.9 million in Fiscal 2019 reflects the write-down of the Company's trade name intangible assets to their fair values as follows;$15.0 million of our Ann Taylor trade name,$60.3 million of our LOFT trade name,$37.0 million of ourLane Bryant trade name,$6.0 million of our Catherines trade name and$16.6 million of our Justice trade name. Interest expense decreased by$7.6 million to$99.4 million for Fiscal 2020, primarily due to a lower average outstanding term loan balance as a result of the second quarter debt repurchases and a lower interest rate on our variable-rate term loan during Fiscal 2020, partially offset by interest on our revolving borrowings drawn down during the third quarter of Fiscal 2020. There were no revolver borrowings outstanding during Fiscal 2019. Gain on extinguishment of debt. In Fiscal 2020, the Company repurchased$79.5 million of outstanding principal balance of the term loan at an aggregate cost of$49.4 million through the open market transactions, resulting in a$28.5 million pre-tax gain, net of the proportional write-off of unamortized original discount and debt issuance costs of$1.6 million . There was no gain on extinguishment of debt in the year-ago period.
Reorganization items, net of
34
--------------------------------------------------------------------------------ASCENA RETAIL GROUP, INC. (DEBTOR-IN-POSSESSION) MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (Continued) (Provision) benefit for income taxes from continuing operations represents federal, foreign, state and local income taxes. We recorded a tax provision of$13.7 million in Fiscal 2020 on a pre-tax loss of$1,195.5 million , for an effective tax rate of (1.1)%, which was lower than the statutory tax rate as a result of non-deductible impairments of goodwill and changes in the valuation allowance onU.S. federal and state and foreign deferred tax assets. In Fiscal 2019, we recorded a tax benefit of$23.9 million on a pre-tax loss of$741.5 million for a 3.2% effective tax rate, which was lower than the statutory tax rate primarily due to non-deductible impairments of goodwill, a partial federal valuation allowance, and GILTI. Loss from continuing operations increased by$476.7 million to$1,206.1 million in Fiscal 2020, primarily due to lower Net sales and Gross margin and higher impairments of our retail store assets, which were offset in part by the costs savings and lower impairments of goodwill and other intangible assets, which are discussed above. Loss from continuing operations per diluted common share was$120.68 per share in Fiscal 2020 compared to$73.87 per share in the year-ago period, primarily as a result of an increase in the loss from continuing operations, as discussed above. 35
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ASCENA RETAIL GROUP, INC. (DEBTOR-IN-POSSESSION) MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (Continued)
FINANCIAL CONDITION AND LIQUIDITY
Cash Flows
Fiscal 2020 Compared to Fiscal 2019
The table below summarizes our cash flows for the years presented as follows:
Fiscal Years Ended
August 1, August 3,
2020 2019
(millions)
Cash flows provided by operating activities $ 131.6 $ 21.1
Cash flows (used in) provided by investing activities (39.5) 67.7
Cash flows provided by financing activities 160.3 0.3
Net increase in cash and cash equivalents $ 252.4 Cash flows provided by operating activities. Net cash provided by operating activities was$131.6 million for Fiscal 2020, compared with cash provided by of$21.1 million during the year-ago period. The increase in cash flows provided by operating activities in Fiscal 2020 primarily reflected reduced inventory purchases and the extension of payment terms to vendors and landlords, offset in part by lower earnings before non-cash expenses as a result of lower sales and margin rates due to COVID-19. Cash flows (used in) provided by investing activities. Net cash used in investing activities for Fiscal 2020 was$39.5 million , compared with cash provided by investing activities of$67.7 million for the year-ago period. Net cash used in investing activities in Fiscal 2020 consisted primarily of capital expenditures of$65.1 million , offset in part by$20.6 million received from the sale of our corporate building inMahwah, New Jersey and$5.0 million received from the sale of intellectual property rights associated with theDressbarn direct channel operations. Net cash provided by investing activities in the year-ago period was$67.7 million , consisted primarily of net proceeds from the sale of maurices of$203.2 million , offset in part by capital expenditures of$136.5 million . Net cash provided by financing activities. Net cash provided by financing activities was$160.3 million during Fiscal 2020 and reflects proceeds from our revolving credit facility of$230.0 million offset by repurchases of our Term Loan debt of$69.8 million . Net cash provided by financing activities was$0.3 million during the year-ago period.
Capital Spending
With our continued focus on optimizing our capital resource allocation,
especially in light of the impact of COVID-19, we significantly reduced our
capital spending for Fiscal 2020. In Fiscal 2020, we had
Given the low level of capital spending in Fiscal 2020, the Company expects to increase spending relative to Fiscal 2020 and, as a result, expects capital spending for Fiscal 2021 to be in the range of$75-$100 million . Our capital requirements are expected to be funded primarily with available cash and cash equivalents, operating cash flows and, to the extent necessary, borrowings under the Company's DIP Facilities, which is discussed below.
Liquidity
Our primary sources of liquidity are the cash flows generated from our operations, proceeds from the sale of assets, available cash and cash equivalents, and prior to the commencement of the Chapter 11 Cases onJuly 23, 2020 , access to our Amended Revolving Credit Agreement and the Term Loan (both of which are defined below). Upon the commencement of the Chapter 11 Cases, the Company may not make borrowings under the Amended Revolving Credit Agreement. As ofAugust 1, 2020 , we had cash and cash equivalents of$580.4 million , approximately$32 million , or 6%, which was held overseas by our foreign 36 --------------------------------------------------------------------------------
ASCENA RETAIL GROUP, INC. (DEBTOR-IN-POSSESSION) MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (Continued) subsidiaries. Prior to the commencement of the Chapter 11 Cases, these sources of liquidity were used to fund our ongoing cash requirements, such as inventory purchases and other changes in working capital requirements, construction and renovation of stores, investment in technological and supply chain infrastructure, acquisitions, debt service, open market purchases of debt, stock repurchases, contingent liabilities (including uncertain tax positions) and other corporate activities. For a detailed description of the terms and restrictions under our amended and restated revolving credit agreement datedFebruary 27, 2018 (the "Amended Revolving Credit Agreement"), and the$1.8 billion seven-year term loan (the "Term Loan"), see Note 12 to the accompanying consolidated financial statements. As discussed elsewhere herein, COVID-19 has had a material adverse effect on our revenues, earnings, liquidity, and cash flows, and may continue to have a continued impact for the foreseeable future. As a result of the reduced cash flows, our ability to meet our future debt service obligations has been impacted by COVID-19. The Company projects that it will not have sufficient cash on hand or available liquidity to repay such debt. Accordingly, onJuly 23, 2020 , the Company and certain of its subsidiaries commenced the Chapter 11 Cases. Following the commencement of the Chapter 11 Cases, the Company may not make borrowings under the Amended Revolving Credit Agreement. Following the commencement of the Chapter 11 Cases, onSeptember 16, 2020 , the Company andAnnTaylor Retail, Inc. , as borrowers, entered into a Senior Secured Super-Priority Debtor-in-Possession Term Credit Agreement (the "DIP Term Credit Agreement") with the lenders party thereto andAlter Domus (US) LLC , as administrative agent. The DIP Term Credit Agreement provides for a term loan credit facility (the "DIP Term Facility") that consists of (i)$150.0 million in new money term loans (the "New Money DIP Loans") and (ii)$162.3 million of certain prepetition term loan obligations that have been rolled into the DIP Term Facility. The proceeds of the New Money DIP Loans may be used, among other things, to pay certain costs, fees and expenses related to the Chapter 11 Cases and to prepay or repay up to$50.0 million of borrowings under the Amended Revolving Credit Agreement, in all cases, subject to the terms of the DIP Term Credit Agreement. Also onSeptember 16, 2020 , the Company and certain of its subsidiaries, as borrowers, and certain other subsidiaries of the Company, as guarantors, entered into a Senior Secured Super-Priority Debtor-in-Possession Credit Agreement (the "DIP ABL Credit Agreement") with the lenders party thereto andJPMorgan Chase Bank, N.A ., as administrative agent, which provides the Company with a superpriority senior secured debtor-in-possession asset based revolving credit facility of up to$400 million in the aggregate with a$200 million letter of credit sublimit (the "DIP ABL Facility" and together with the DIP Term Facility, the "DIP Facilities"). Pursuant to the DIP ABL Credit Agreement, the commitments and loans of the lenders party to the Amended Revolving Credit Agreement converted into the DIP ABL Facility. Management currently believes that cash flows from operations at anticipated levels, and our existing sources of liquidity described above, including the New Money DIP Loans, will be sufficient to support our operating needs, costs savings initiatives, capital requirements, and our debt service requirements through the Chapter 11 Cases. However, for the duration of the Chapter 11 Cases, the Company's operations and ability to develop and execute its business plan are subject to the risks and uncertainties associated with the Chapter 11 process as described in Part I, Item 1A - "Risk Factors" of this Annual Report on Form 10-K. As a result of these risks and uncertainties, the amount and composition of the Company's assets and liabilities could be significantly different following the outcome of the Chapter 11 Cases, and the description of the Company's operations, properties and liquidity and capital resources included in this Annual Report on Form 10-K may not accurately reflect its operations, properties and liquidity and capital resources following emergence from the Chapter 11 Cases. For more information regarding the Chapter 11 Cases, the RSA and the DIP Facilities, see Note 2 to the accompanying consolidated financial statements, and for more information regarding the items causing substantial doubt about the Company's ability to continue as a going concern, see Note 1 to the accompanying consolidated financial statements. Debt
For a detailed description of the terms and restrictions under our amended and
restated revolving credit agreement dated
37
--------------------------------------------------------------------------------ASCENA RETAIL GROUP, INC. (DEBTOR-IN-POSSESSION) MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (Continued)
Amended Revolving Credit Agreement
Prior to the Chapter 11 Cases, under the Amended Revolving Credit Agreement, the maturity of the Company's revolving credit facility was earlier of (i) 5 years from the closing date (orFebruary 2023 ) or (ii) 91 days prior to the maturity date of the Term Loan (unless (a) the outstanding principal amount of the Term Loans is$150 million or less and (b) the Company maintains liquidity, as defined in the Amended Revolving Credit Agreement (which can include (1) availability under the revolving credit facility in excess of the greater of$100 million and 20% of the credit limit and (2) cash held in a controlled account of the administrative agent of the revolving credit facility) in an amount equal to the outstanding principal amount of the remaining Term Loan, as described in more detail in Note 12 to the accompanying consolidated financial statements. The commencement of the Chapter 11 Cases onJuly 23, 2020 constituted an event of default under the Amended Revolving Credit Agreement. Refer to Note 2 of the accompanying consolidated financial statements for additional information. The Company's obligations under the Amended Revolving Credit Agreement are secured and classified as Current portion of long-term debt in the accompanying consolidated balance sheet as ofAugust 1, 2020 .
Term Loan
In Fiscal 2018, we repaid a total of$225.0 million of Term Loan debt of which$180.0 million was applied to future quarterly scheduled payments such that we are not required to make our next quarterly payment of$22.5 million until November of calendar 2020. During the second quarter of Fiscal 2020, the Company repurchased$79.5 million aggregate principal amount of its Term Loan debt in open market transactions. In the third quarter of Fiscal 2020, the Company performed an additional repurchase of$42.0 million of principal amount of debt, which has not yet been settled and the underlying debt remains outstanding in order to maintain maximum financial flexibility as a result of COVID-19. For more information, see Note 12 to the accompanying consolidated financial statements. InJuly 2020 , the Company used the cash proceeds from the sale of its corporate campus inMahwah, New Jersey to make a prepayment of$20.4 million . OnJuly 23, 2020 , the Petition Date, the outstanding Term Loan balance was classified as Liabilities subject to compromise.
Common Stock Repurchase Program
There were no purchases of common stock during Fiscal 2020 and Fiscal 2019 under the repurchase program. For a complete description of our 2016 Stock Repurchase Program, see Note 19 to the accompanying consolidated financial statements.
We may from time to time repurchase shares under the repurchase program depending on our liquidity requirements and prevailing market conditions, subject to any restrictions under our debt agreements, among other factors.
CONTRACTUAL AND OTHER OBLIGATIONS
Off-Balance Sheet Arrangements
Our off-balance sheet commitments, which include outstanding letters of credit, amounted to approximately$99.8 million as ofAugust 1, 2020 . We do not maintain any other off-balance sheet arrangements, transactions, obligations or other relationships with unconsolidated entities that would be expected to have a material current or future effect on our operational results, financial condition and cash flows.
CRITICAL ACCOUNTING POLICIES
TheSEC's Financial Reporting Release No. 60, "Cautionary Advice Regarding Disclosure About Critical Accounting Policies" ("FRR 60"), suggests companies provide additional disclosure and commentary on those accounting policies considered most critical. FRR 60 considers an accounting policy to be critical if it is important to our operational results and financial position and requires significant judgment and estimates on the part of management in its application. Our estimates 38 --------------------------------------------------------------------------------
ASCENA RETAIL GROUP, INC. (DEBTOR-IN-POSSESSION) MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (Continued) are often based on complex judgments, probabilities and assumptions that management believes to be reasonable, but that are inherently uncertain and unpredictable. Actual results may differ from these estimates under different assumptions or conditions. It is also possible that other professionals, applying reasonable judgment to the same facts and circumstances, could develop and support a range of alternative estimated amounts. We believe that the following list represents the critical accounting policies as contemplated by FRR 60. For a discussion of all of our significant accounting policies, see Notes 4 and 5 to the accompanying consolidated financial statements.
Inventories
Retail Inventory Method
We hold inventory for sale through our retail stores and direct channel sites.
Our Plus Fashion and Kids Fashion segments use the retail inventory method of
accounting, under which inventory is stated at the lower of cost, on a First In,
First Out ("FIFO") basis, or market. Under the retail inventory method, the
valuation of inventory at cost and the resulting gross margin are calculated by
applying a calculated cost-to-retail ratio to the retail value of inventory.
Inherent in the retail method are certain significant management judgments and
estimates including, among others, initial merchandise markup, markdowns and
shrinkage, which significantly impact the ending inventory valuation at cost as
well as the resulting gross margins.
We continuously review inventory levels to identify slow-moving merchandise and
markdowns necessary to clear slow-moving merchandise, which reduces the cost of
inventories to its estimated net realizable value. Consideration is given to a
number of quantitative and qualitative factors, including current pricing levels
and the anticipated need for subsequent markdowns, aging of inventories,
historical sales trends, and the impact of market trends and economic
conditions. Estimates of markdown requirements may differ from actual results
due to changes in quantity, quality and mix of products in inventory, as well as
changes in consumer preferences, market and economic conditions. Our historical
estimates of these costs and the markdown provisions have not differed
materially from actual results.
Weighted-average Cost Method
The Premium Fashion segment uses the weighted-average cost method to value inventory, under which inventory is valued at the lower of average cost or net realizable value, at the individual item level. Inventory cost is adjusted when the current selling price or future estimated selling price is less than cost.
Reserves for inventory shrinkage, representing the risk of physical loss of inventory, are estimated based on historical experience and are adjusted based upon physical inventory counts.
Impairment of
Goodwill and certain other intangible assets deemed to have indefinite useful lives are not amortized. Rather, goodwill and such indefinite-lived intangible assets are assessed for impairment at least annually, or whenever events or changes in circumstances indicate that it is more likely than not that the carrying amount may not be recoverable. To assist management in the process of determining goodwill impairment, we review and consider an appraisal from an independent valuation firm. Estimates of fair value are determined using discounted cash flows and market comparisons. These approaches use significant estimates and assumptions, including projected future cash flows and the timing of those cash flows, discount rates reflecting the risks inherent in future cash flows, perpetual growth rates and determination of appropriate market comparables. Estimating the fair value is judgmental in nature, which could have a significant impact on whether or not an impairment charge is recognized and the magnitude of any such charge. The fair values of the reporting units are determined using a combination of the income approach (the discounted cash flows method) and the market approach (guideline public company method and guideline transaction method). However, for theApril 2020 Interim Test and the Year-end Test, we only used the income approach as the market approach was deemed unrepresentative due to the volatility and disruption in the global financial markets caused by COVID-19. The Company believes that the income approach is the most reliable indication of value as it captures forecasted revenues and earnings for the 39 --------------------------------------------------------------------------------
ASCENA RETAIL GROUP, INC. (DEBTOR-IN-POSSESSION) MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (Continued)
reporting units in the projection period that the market approach may not directly incorporate. Therefore, a greater weighting was applied to the income approach than the market approach.
The assessment is performed at the reporting unit level. The Fiscal 2020 reporting units identified for the purpose of goodwill impairment assessment, after considering the economic aggregation criteria, were Ann Taylor, LOFT, Justice,Lane Bryant , and Catherines. During the second quarter of Fiscal 2020, the Company completed the wind down of the Dressbarn brand.
Fiscal 2020 Second Quarter Interim Impairment Assessment
The second quarter of Fiscal 2020 marked the continuation of the challenging market environment in which the Company competes. While the Company met its overall expectations for the second quarter, lower than expected comparable sales in the second quarter at the Justice brand, and lower than expected margins at our Ann Taylor brand, along with the expectation that such trends may continue into the second half of Fiscal 2020, led the Company to reduce its level of forecasted earnings for Fiscal 2020 and future periods. Since these brands had little or no excess of fair value over its book value at the beginning of Fiscal 2020, the Company concluded that these factors represented impairment indicators which required the Company to test its goodwill and indefinite-lived intangible assets for impairment during the second quarter of Fiscal 2020 (the "January Interim Test"). As a result of lower forecasted revenue assumptions over the projection period, the Company recognized a goodwill impairment charge of$63.4 million as follows: a goodwill impairment charge of$54.9 million at the Ann Taylor reporting unit and$8.5 million at the Justice reporting unit to write-down the carrying values of the reporting units (based on the revised carrying value after deducting the trade name impairments discussed below) to their fair values. In addition, the Company recognized an impairment loss of$46.9 million to write-down the carrying values of its other intangible assets as follows:$10.0 million of our Ann Taylor trade name,$35.0 million of our Justice trade name,$1.0 million of our Catherines trade name, and$0.9 million of our Justice franchise rights. The fair value of the trade names was determined using an approach that values the Company's cash savings from having a royalty-free license compared to the market rate it would pay for access to use the trade name (Level 3 measurement). Significant assumptions underlying the discounted cash flows included: a weighted average cost of capital ("WACC") of 25.5% for Ann Taylor and Justice which was determined from relevant market comparisons and adjusted for specific risks; operating income margin of low single-digits and a terminal growth rate of 2%. Changes in these assumptions could have a significant impact on the valuation model. As an example, the impact of a hypothetical change in each of the significant assumptions is described below. In quantifying the impact, we changed only the specific assumption and held all other assumptions constant. A hypothetical 1% change in WACC rate would increase/decrease the fair value by approximately$5 million at Ann Taylor and Justice. A hypothetical 1% change in the operating income percentages in all periods would increase/decrease the fair value by approximately$20 million at Ann Taylor and approximately$25 million at Justice. Finally, a hypothetical 1% change in the terminal growth rate would increase/decrease the fair value by approximately$2 million at Ann Taylor and Justice. Any changes in fair value resulting from changes in the assumptions discussed above would increase/decrease the impairment charges of the respective trade name. However, since the goodwill balances have been written down to zero, changes in the underlying assumptions discussed above would have had no impact on the Justice goodwill impairment and may have resulted in an increase/decrease in the goodwill impairment charge at Ann Taylor.
Fiscal 2020 Third Quarter Interim Impairment Assessment
The third quarter of Fiscal 2020 reflected a significant decline in the Company's stock price and the fair value of our Term Loan debt due to the financial market uncertainty from COVID-19 which also resulted in the closure of our retail stores and led to a substantial decrease in our retail store revenue. The Company concluded that these factors represented impairment indicators which required the Company to test its goodwill and indefinite-lived intangible assets for impairment during the third quarter of Fiscal 2020. As a result of lower forecasted revenue assumptions over the projection period, the Company recognized a goodwill impairment charge of$85.5 million as follows:$15.0 million at the Ann Taylor reporting unit and$70.5 million at the LOFT reporting unit to write down the carrying values of the reporting units (based on the revised carrying value after deducting the trade name impairments discussed below) to their fair values. In addition, the Company recognized impairment losses of$41.3 million to 40 --------------------------------------------------------------------------------
ASCENA RETAIL GROUP, INC. (DEBTOR-IN-POSSESSION) MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (Continued) write down the carrying values of its trade name intangible assets as follows:$17.7 million of our Ann Taylor trade name,$7.8 million of our LOFT trade name,$7.8 million of our Justice trade name,$3.0 million of our Catherines trade name and$5.0 million of our Justice franchise rights. Significant assumptions underlying the discounted cash flows included: a weighted average cost of capital ("WACC") of 22.9% for Ann Taylor and 24.9% for LOFT which was determined from relevant market comparisons and adjusted for specific risks; operating income margin of low single-digits and a terminal growth rate of 2%. Changes in these assumptions could have a significant impact on the valuation model. As an example, the impact of a hypothetical change in each of the significant assumptions is described below. In quantifying the impact, we changed only the specific assumption and held all other assumptions constant. A hypothetical 1% change in WACC rate would increase/decrease the fair value by approximately$5 million at Ann Taylor and approximately$20 million at LOFT. A hypothetical 1% change in the operating income percentages in all periods would increase/decrease the fair value by approximately$30 million at Ann Taylor and approximately$70 million at LOFT. Finally, a hypothetical 1% change in the terminal growth rate would increase/decrease the fair value by approximately$3 million at Ann Taylor and approximately$10 million at LOFT. Any changes in fair value resulting from changes in the assumptions discussed above would increase/decrease the impairment charges of the respective trade name. However, since the Ann Taylor goodwill balances have been written down to zero, changes in the underlying assumptions discussed above would have only decreased the goodwill impairment charge at Ann Taylor and may have resulted in an increase or decrease in the goodwill impairment charge at LOFT.
Fiscal 2020 Year-End Impairment Assessment
OnJuly 23, 2020 , the Company and certain of the Company's direct and indirect subsidiaries filed for Chapter 11 Cases with theUnited States Bankruptcy Court , discussed further in Note 2 to the accompanying consolidated financial statements, which led the Company to conclude this represented further impairment indicators. As a result, the Company was required to test its goodwill and indefinite-lived intangible assets for impairment during the fourth quarter of Fiscal 2020 (the Year-End Test"). The Year-End Test was determined with the assistance of an independent valuation firm using the same methodologies as the April Interim Test. The cash flow projections underlying the Year-End Test reflected revenue assumptions for Fiscal 2021 and Fiscal 2022 based on the current consumer demand, the continuation of the negative impacts of COVID-19 and the potential release of a vaccine during Fiscal 2021 with the expectation that the Company will be back in line with the original long-range projections for Fiscal 2023 and beyond. The discount rate used for the LOFT brand in the Year-End Test was 25.5% which was a slight increase from 24.9% used in the April Interim Test. The Year-End Test indicated the fair value of the LOFT brand exceeded its carrying value by approximately 11% and as a result no goodwill impairment charge was required in the fourth quarter. Based on the results of the Year-End Test, the Company recognized impairment charges to write-down the carrying value of its other intangible assets of their fair values as follows:$34.2 million on the LOFT trade name and$1.3 million on the Ann Taylor trade name. In addition, the Company impaired the remaining Justice franchise rights of$5 million as the Company will no longer be supporting this business strategy. Indefinite-lived intangible asset impairment charges have been disclosed separately in the accompanying consolidated statements of operations.
Other
If we continue to experience sustained periods of unexpected declines or shifts in consumer spending, it could adversely impact the long-term assumptions used in our Interim Tests and Year-End Test. Such trends may also have a negative impact on some of the other key assumptions used in impairment tests, including anticipated operating income margin as well as the weighted average cost of capital rate. These assumptions are highly judgmental and subject to change. Such changes, if material, may require us to incur additional impairment charges for goodwill and/or other indefinite-lived intangible assets in future periods, including at the LOFT reporting unit. As an example, the impact of a hypothetical change in both of the significant assumptions is described below. A hypothetical 1% change in WACC rate would increase/decrease the LOFT fair value by approximately$20 million . A hypothetical 1% change in the operating income percentage in all periods would increase/decrease the fair value of LOFT by approximately$55 million . If that were to occur, the fair value of the LOFT reporting unit would be less than its carrying value and result in an impairment of goodwill. 41 --------------------------------------------------------------------------------
ASCENA RETAIL GROUP, INC. (DEBTOR-IN-POSSESSION) MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (Continued)
Impairment of Long-Lived Assets
Property and equipment, along with other long-lived assets, such as right-of-use assets, are evaluated for impairment periodically whenever events or changes in circumstances indicate that their related carrying amounts may not be recoverable. In evaluating long-lived assets, including finite-lived intangible assets, for recoverability, we use our best estimate of future cash flows expected to result from the use of the asset and its eventual disposition. To the extent that estimated future undiscounted net cash flows attributable to the asset are less than the carrying amount, an impairment loss is recognized equal to the difference between the carrying value of such asset and its fair value, considering external market participant assumptions. Assets to be disposed of, and for which there is a committed plan of disposal, are reported at the lower of carrying value or fair value less costs to sell. In determining future cash flows, we take various factors into account, including changes in merchandising strategy, the emphasis on retail store cost controls, the effects of macroeconomic trends such as consumer spending, and the impacts of more experienced retail store managers and increased local advertising. Since the determination of future cash flows is an estimate of future performance, there may be future impairments in the event that future cash flows do not meet expectations. During Fiscal 2020 and Fiscal 2019, we recorded total non-cash impairment charges within continuing and discontinued operations of$319.3 million and$85.8 million , respectively, to reduce the net carrying value of certain long-lived tangible assets to their estimated fair value. Of these amounts,$109.6 million and$45.4 million in Fiscal 2020 and Fiscal 2019, respectively, are included within Restructuring and other related charges in the consolidated statements of operations. There have been no impairment losses recorded on our finite-lived intangible assets for any of the periods presented. See Notes 8 and 10 to the accompanying consolidated financial statements for a further discussion of impairments of long-lived assets.
Income Taxes
Income taxes are provided using the asset and liability method. Under this method, income taxes (i.e., deferred tax assets and liabilities, current taxes payable/refunds receivable and tax expense) are recorded based on amounts refundable or payable in the current year, and include the results of any differences betweenU.S. GAAP and tax reporting. Deferred income taxes reflect the tax effect of net operating loss, capital loss and general business credit carry forwards and the net tax effects of temporary differences between the carrying amount of assets and liabilities for financial statement and income tax purposes, as determined under enacted tax laws and rates. We account for the financial effect of changes in tax laws or rates in the period of enactment. Valuation allowances are established when management determines that it is more-likely-than-not that some portion or all of a deferred tax asset will not be realized. This determination requires significant judgment by management. Tax valuation allowances are analyzed quarterly and adjusted as events occur, or circumstances change, that warrant adjustments to those balances. We have evaluated all evidence, both positive and negative, with currently available information to determine sources of taxable income that the Company can use in order to recognize its deferred tax assets. This includes taxable income in carryback years if permitted by tax law, future reversals of existing taxable temporary differences (i.e. deferred tax liabilities), tax planning strategies and future taxable income exclusive of taxable temporary differences (i.e. forecasted book income). The Company is in a cumulative loss position and has determined that it does not have sufficient taxable income, therefore, a valuation allowance has been recognized on a portion of our deferred tax asset. A valuation allowance is a non-cash charge, which does not eliminate the deferred tax asset but instead reduces the benefit we expect to realize from it in the future. We also establish a reserve for uncertain tax positions. If we consider that a tax position is more-likely-than-not of being sustained upon audit, based solely on the technical merits of the position, we recognize the tax benefit. We measure the tax benefit by determining the largest amount that is greater than 50% likely of being realized upon settlement, presuming that the tax position is examined by the appropriate taxing authority that has full knowledge of all relevant information. These assessments can be complex and we often obtain assistance from external advisors. We regularly monitor our position and subsequently recognize the tax benefit if (i) there are changes in tax law or analogous case law that sufficiently raise the likelihood of prevailing on the technical merits of the position to more-likely-than-not, (ii) the statute of limitation expires or (iii) there is a completion of an audit resulting in a settlement of that tax year with the appropriate agency. 42 --------------------------------------------------------------------------------
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
See Note 5 to the accompanying consolidated financial statements for a description of certain recently issued or proposed accounting standards which may impact our financial statements in future reporting periods.
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