Sally Beauty Supply 2007 Annual Report Download - page 34

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Our ability to generate the significant amount of cash needed to service all of our debt and our ability to refinance all or a portion of our indebtedness or
obtain additional financing depend on many factors beyond our control.
Our ability to make scheduled payments on, or to refinance our obligations under, our debt will depend on our financial and operating performance, which, in
turn, will be subject to prevailing economic and competitive conditions and to the financial and business factors, many of which may be beyond our control,
described under "—Risks Relating to Our Business" above.
If our cash flow and capital resources are insufficient to fund our debt service obligations, we may be forced to reduce or delay capital expenditures, sell assets,
seek to obtain additional equity capital or restructure our debt. In the future, our cash flow and capital resources may not be sufficient for payments of interest on
and principal of our debt, and such alternative measures may not be successful and may not permit us to meet our scheduled debt service obligations.
We cannot assure you that we will be able to refinance any of our indebtedness or obtain additional financing, particularly because of our high levels of debt and
the debt incurrence restrictions imposed by the agreements governing our debt, as well as prevailing market conditions. In the absence of such operating results
and resources, we could face substantial liquidity problems and might be required to dispose of material assets or operations to meet our debt service and other
obligations. Our senior credit facilities and the indentures governing the Notes restrict our ability to dispose of assets and use the proceeds from any such
dispositions. We cannot assure you we will be able to consummate those sales, or if we do, what the timing of the sales will be or whether the proceeds that we
realize will be adequate to meet debt service obligations when due.
An increase in interest rates would increase the cost of servicing our debt and could reduce our profitability.
A significant portion of our outstanding debt, including under our senior credit facilities, bears interest at variable rates. As a result, an increase in interest rates,
whether because of an increase in market interest rates or a decrease in our creditworthiness, would increase the cost of servicing our debt and could materially
reduce our profitability and cash flows. The impact of such an increase would be more significant for us than it would be for some other companies because of
our substantial debt.
A decrease in interest rates would increase our interest expense (due to our interest rate swaps) and could reduce our profitability.
We have entered into two interest rate swap agreements with a notional amount of $150.0 million and $350.0 million. These interest rate swap agreements relate
to $500.0 million of the $1,070.0 million term loans A and B due in fiscal years 2013 and 2014, respectively, to manage our risk associated with changing
interest rates. Please see Note 13 of the "Notes to Consolidated Financial Statements" in "Item 8—Financial Statements and Supplementary Data" of this report
and "Item 7A—Quantitative & Qualitative Disclosure About Market Risk—Interest rate risk" for a discussion of interest rate swap agreements. We utilize
interest rate swaps to manage our financial risk associated with changing interest rates and account for them under Statement of Financial Accounting Standards,
or SFAS, No. 133,Accounting for Derivative Instruments and Hedging Activities, as amended, or SFAS 133. SFAS 133 requires that all derivatives be marked to
market (fair value). Our current interest rate swap agreements do not qualify as hedges and therefore, the change in fair value of the interest rate swap
agreements, which are adjusted quarterly, are recorded in the consolidated statements of earnings. The marked to market impact of the swap agreements on
interest expense was an increase of approximately $3.0 million for fiscal year 2007. Future changes in the fair value of the interest rate swap agreements will
continue to increase or decrease our interest expense and could have the potential to affect our profitability.
27
Source: Sally Beauty Holding, 10-K, November 29, 2007