Pier 1 2007 Annual Report Download - page 55

tax-exempt bonds mature in the year 2026. The Company’s interest rates on the loans are based on the bond
interest rates, which are market driven, reset weekly and are similar to other tax-exempt municipal debt issues.
The Company’s weighted average effective interest rates, including commitment fees of 1.0%, were 5.2% and
4.1% for fiscal 2007 and 2006, respectively.
In February 2006, the Company issued $165,000,000 of 6.375% convertible senior notes due 2036 (the
“Notes”) in a private placement, and subsequently registered the Notes with the Securities and Exchange
Commission in June 2006. The Notes bear interest at a rate of 6.375% per year until February 15, 2011 and at
a rate of 6.125% per year thereafter. Interest is payable semiannually in arrears on February 15 and August 15
of each year, and commenced August 15, 2006. The Notes are convertible into cash and, if applicable, shares
of the Company’s common stock based on an initial conversion rate, subject to adjustments, of 65.8328 shares
per $1,000 principal amount of Notes (which represents an initial conversion price of approximately $15.19 per
share representing a 40% conversion premium at issuance). Holders of the Notes may convert their Notes only
under the following circumstances: (1) during any fiscal quarter (and only during such fiscal quarter)
commencing after May 27, 2006, if the last reported sale price of the Company’s common stock is greater
than or equal to 130% of the conversion price per share of common stock for at least 20 trading days in the
period of 30 consecutive trading days ending on the last trading day of the preceding fiscal quarter; (2) if the
Company has called the Notes for redemption; or (3) upon the occurrence of specified corporate transactions.
In general, upon conversion of a Note, a holder will receive cash equal to the lesser of the principal amount of
the Note or the conversion value of the Note plus common stock of the Company for any conversion value in
excess of the principal amount. As of March 3, 2007, the maximum number of shares that could be required
to be issued to net share settle the conversion of the Notes was 10,862,412 shares. The Company may redeem
the Notes at its option on or after February 15, 2011 for cash at 100% of the principal amount. Additionally,
the holders of the Notes may require the Company to purchase all or a portion of their Notes under certain
circumstances as defined by the agreement, in each case at a repurchase price in cash equal to 100% of the
principal amount of the repurchased Notes at February 15, 2011, February 15, 2016, February 15, 2021,
February 15, 2026 and February 15, 2031, or if certain fundamental changes occur. The Notes are fully and
unconditionally guaranteed, on a joint and several basis, by all of the Company’s material domestic
consolidated subsidiaries.
In connection with the issuance of the Notes, the Company purchased a call option with respect to its
common stock. If the call option, which expires February 15, 2011, is exercised by the Company, it must be
net share settled and in all cases, the Company would receive shares. This transaction has no effect on the
terms of the Notes, but is intended to reduce the potential dilution upon future conversion of the Notes by
effectively increasing the initial conversion price to $17.09 per share, representing a 57.5% conversion
premium at issuance. The call option is exercisable under the same circumstances, which can trigger
conversion under the Notes. In fiscal 2006, the cost of $9,145,000 of the purchased call option was included in
shareholders’ equity, along with the partially offsetting tax benefit of the call option of $3,396,000.
EITF Issue No. 00-19, “Accounting for Derivative Financial Instruments Indexed to, and Potentially
Settled in, a Company’s Own Stock” (“EITF 00-19”), provides guidance for distinguishing between when a
financial instrument should be accounted for permanently in equity, temporarily in equity or as an asset or
liability. The conversion feature of the Notes and the call option each meet the requirements of EITF 00-19 to
be accounted for as equity instruments. Therefore, the conversion feature has not been accounted for as a
derivative, which would require a mark-to-market adjustment each period. In the event the debt is exchanged,
the transaction will be accounted for with the cash payment of principal reducing the recorded liability and the
issuance of common shares recorded in shareholders’ equity. In addition, the premium paid for the call option
has been recorded as additional paid-in capital in the accompanying consolidated balance sheet and is not
accounted for as a derivative. Incremental net shares for the Note conversion feature will be included in the
Company’s future diluted earnings per share calculations for those periods in which the Company’s average
common stock price exceeds $15.19 per share.
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Pier 1 Imports, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)