DSW 2011 Annual Report Download - page 28

Table of Contents
season of fiscal 2010, which resulted in a reduction of markdown activity and improved merchandise margins. This improvement was offset in the fall
season due to a challenging comparison against record merchandise margin rates in the comparable period. The reduction in the fall season margin rate
was expected as a result of our inventory being positioned to achieve double digit comparable sales growth. Store occupancy expense for the DSW
segment decreased as a percentage of net sales to 11.1%
for fiscal 2010 from 12.9% for last year primarily as a result of increased average store sales
and decreased in dollars as a result of expense saving initiatives.
Gross profit for the leased business division increased as a percentage of net sales for fiscal 2010 due to a reduction in markdown activity driven by
continued enhancements to the clearance markdown process and better alignment our inventory position to sales demand.
Operating Expenses. Operating expenses as a percentage of net sales were 21.7% and 27.5% for fiscal 2010 and fiscal 2009
, respectively. We
increased our marketing expenses to drive sales and have continued investing in our infrastructure resulting in additional depreciation expense.
Operating expenses related to pre-
merger RVI decreased $62.8 million primarily due to a reduction of bad debt expense of $2.7 million during fiscal
2010 due to an initial distribution from the debtors’
estates, compared to an increase in bad debt expense of $57.3 million during fiscal 2009 due to the
bankruptcy filing of Filene’
s Basement on May 4, 2009 for notes receivable held by RVI. This was partially offset by $4.0 million accrued for the
complaint filed by Value City Holdings, Inc., and related entities.
Change in Fair Value of Derivatives. During fiscal 2010 and 2009, the Company recorded a non-cash charge of $14.6 million and $16.8 million
,
respectively, representing the changes in fair value of warrants. During fiscal 2010 and 2009, the Company recorded a non-cash charge of
$34.4
million and $49.7 million
, respectively, representing the change in the fair value of the conversion feature of the PIES. The Company utilizes the
Black-Scholes pricing model
to estimate the fair value of the derivatives. The change in the fair value of the derivatives is primarily due to the
increases in the RVI and DSW stock prices.
Interest Expense, Net.
Interest expense, net of interest income, was 0.6% and 0.7%
as a percentage of net sales for fiscal 2010 and 2009, respectively.
The increase in interest income was primarily a result of the reversal of interest reserves related to uncertain tax positions which were released during
fiscal 2010.
Non
-operating Income (Expense), Net. Non-operating income, net of non-operating expense, for fiscal 2010
resulted from a gain on the sale of a fully
impaired auction rate security which was sold during fiscal 2010 . Non-operating expense for fiscal 2009 resulted from other-than-
temporary
impairments related to auction rate securities partially offset by realized gains related to the sale of preferred shares.
Income Taxes.
Fiscal 2010 reflects a 53.6% effective tax rate as compared to a 22.5% fiscal 2009 effective rate. The 2010 and 2009 tax rates reflect the
impact of a non-cash charge for the change in fair value on the mark to market accounting for the warrants.
Income from Discontinued Operations
- Value City Department Stores. The $2.7 million and $9.5 million
reduction in the loss from discontinued
operations in fiscal 2010 and fiscal 2009, respectively, was primarily due to revaluation of guarantees due to
changes in facts and circumstances related
to the guarantees .
(Loss) Income from Discontinued Operations - Filene’s Basement. The $3.9 million
increase in the gain from discontinued operations during fiscal
2010 is primarily due to an initial distribution from the debtor’s estates. In fiscal 2009, the income from Filene’s Basement of $50.4 million
was
comprised of the gain on the disposition of Filene’s Basement of $81.9 million partially offset by the loss from Filene’
s Basement operations of $31.5
million. The gain on the disposition of Filene’s Basement was due to the write-off of the investment in Filene’
s Basement partially offset by the
recording of guarantees, other expenses relating to the disposition of Filene’s Basement and income tax benefit of $2.9 million in the aggregate.
Noncontrolling interests.
For fiscal 2010 and fiscal 2009, net income was impacted by $40.7 million
and $20.4 million, respectively, to reflect that
portion of the income attributable to DSW minority shareholders.
Non-GAAP Financial Measures
DSW utilizes merchandise margin, a non-GAAP financial measure, to explain its gross profit performance. Management believes this non-
GAAP
measure is an indication of the Company’
s performance as the measure provides a consistent means of comparing performance between periods and
competitors as retailers differ on their inclusion in cost of sales. Management uses this non-
GAAP measure to assist in the evaluation of the
performance of our segments and to make operating decisions. Within Management’s
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