Item 7. Management’s Discussion and Analysis
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following discussion summarizes the significant factors affecting our consolidated operating results, financial condition, liquidity and cash flows as of and for the periods presented below. The following discussion and analysis should be read in conjunction with our Consolidated Financial Statements, including the notes thereto, appearing elsewhere in this Annual Report.
In addition to historical information, this discussion and analysis contains forward-looking statements based on current expectations that involve risks, uncertainties and assumptions, such as our plans, objectives, expectations and intentions as further described under the caption above entitled “Cautionary Statement Regarding Forward-Looking Statements.” Our actual results or other events and the timing of events may differ materially from those anticipated in these forward-looking statements as a result of various factors, including those set forth in Item 1A, Risk Factors and elsewhere in this Annual Report.
General
We are a nationally recognized off-price retailer of high-quality, branded merchandise at everyday low prices. We opened our first store in Burlington, New Jersey in 1972, selling primarily coats and outerwear. Since then, we have expanded our store base to 1007 stores as of February 3, 2024 in 46 states, Washington D.C. and Puerto Rico. We have diversified our product categories by offering an extensive selection of in-season, fashion-focused merchandise at up to 60% off other retailers’ prices, including: women’s ready-to-wear apparel, menswear, youth apparel, baby, beauty, footwear, accessories, home, toys, gifts and coats. We sell a broad selection of desirable, first-quality, current-brand, labeled merchandise acquired directly from nationally-recognized manufacturers and other suppliers.
Executive Summary
Store Openings, Closings and Relocations
During Fiscal 2023, we opened 104 new stores, inclusive of 13 relocations, and closed 11 stores, exclusive of the aforementioned relocations, bringing our store count as of February 3, 2024 to 1007 stores. We continue to pursue our growth plans and invest in capital projects that meet our financial requirements. During the fiscal year ending February 1, 2025 (Fiscal 2024), we plan to open approximately 100 net new stores.
Fiscal Year Ended
Our fiscal year ends on the Saturday closest to January 31. We report fiscal years under a 52/53-week format and as a result, certain fiscal years will contain 53 weeks. The fiscal year ended February 3, 2024 (“Fiscal 2023”) included 53 weeks, while the fiscal years ended January 28, 2023 (“Fiscal 2022”) and January 29, 2022 (“Fiscal 2021”) each included 52 weeks. The fiscal year ending February 1, 2025 (“Fiscal 2024”) will have 52 weeks.
Ongoing Initiatives for Fiscal 2024
We continue to focus on a number of ongoing initiatives aimed at increasing our overall profitability. These initiatives include, but are not limited to:
• Driving Comparable Store Sales Growth.
We strive to increase comparable store sales through the following initiatives:
• More Effectively Chasing the Sales Trend. We plan sales using conservative comparable store sales growth, holding and controlling liquidity, closely analyzing the sales trend by business, and remaining ready to chase that trend. We believe that these actions will also allow us to take more advantage of great opportunistic buys.
• Operating with Leaner Inventories. We are planning to carry less inventory in our stores going forward compared to historical levels, which we believe should result in the customer finding a higher mix of fresh receipts and great merchandise values. We believe that this should drive faster turns and lower markdowns, while simultaneously improving our customers’ shopping experience.
• Investment in Merchandising Capabilities. We plan to continue investing in training and coaching, improved tools and reporting, incremental headcount, especially in growing or under-developed businesses, and other forms of
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merchant support. We believe that these investments should improve our ability to strengthen vendor relationships, source great merchandise buys, more accurately assess value, and better forecast and chase the sales trend.
• Enhancing Existing Categories and Introducing New Categories. We have opportunities to expand our offerings in certain existing categories, such as ladies’ apparel, beauty, and home merchandise, and maintain the flexibility to introduce new categories as we expand our merchandising capabilities.
• Expanding and Enhancing Our Retail Store Base.
We intend to expand and enhance our retail store base through the following initiatives:
• Adhering to a Market Focused and Financially Disciplined Real Estate Strategy. We have grown our store base consistently since our founding in 1972. We believe there is significant opportunity to expand our retail store base in the United States. As a result of our smaller store prototype, we have identified numerous market opportunities that we believe will allow us to operate 2,000 stores over the long term. Beginning in Fiscal 2024, we expect to average about 100 net new stores per year through Fiscal 2028, for a total of 500 net new stores over the five-year period.
• Enhancing the Store Experience. We continue to invest in select store relocations and downsizes to improve the customer experience, taking into consideration the age, size, sales, and location of a store. Relocations provide an opportunity, upon lease expirations, to right-size our stores, improve our competitive positioning, incorporate our new prototype store designs and reduce occupancy costs. Downsizes provide an opportunity to right-size our stores, within our existing space, improve co-tenancy, incorporate our new store designs and reduce occupancy costs.
• Enhancing Operating Margins.
We intend to increase our operating margins through the following initiatives:
• Improving Operational Flexibility. Our store and supply chain teams must continue to respond to the sales chase, enhancing their ability at flexing up and down based on trends, and allowing us to maximize leverage on sales.
• Optimizing Markdowns. We believe that our markdown system allows us to maximize sales and gross margin dollars based on forward-looking sales forecasts, sell-through targets and exit dates. Additionally, as we plan to carry less inventory in our stores compared to historical levels, we expect to drive faster turns, which should reduce the amount of markdowns taken compared to historical levels.
• Optimizing the Supply Chain. We believe that our transportation initiatives will lead to lower freight costs compared to recent levels, and that our efficiency and labor productivity initiatives will result in lower supply chain costs over the next several years. We also believe there are longer-term supply chain opportunities through investments in automation.
• Challenging Expenses to Drive Operating Leverage. We believe sales growth will drive fixed cost operating leverage. In addition, by more conservatively planning our comparable store sales growth, we are forcing even tighter expense control throughout all areas of our business. We believe that this should put us in a strong position to drive favorable operating leverage on any sales ahead of the plan. Additionally, we plan to continue challenging the processes and operating norms throughout the organization with the belief that this will lead to incremental efficiency improvements and savings.
Uncertainties and Challenges
As we strive to increase profitability, there are uncertainties and challenges that we face that could have a material impact on our revenues or income.
General Economic Conditions. There remains a high level of uncertainty in the current macroeconomic and geopolitical environments, and prolonged inflationary pressures continue to negatively impact the discretionary spending of the low-income shopper, our core customer. In addition to inflation, consumer spending habits, including spending for the merchandise that we sell, are affected by, among other things, prevailing global economic conditions, the costs of basic necessities and other goods, levels of employment, salaries and wage rates, prevailing interest rates, reductions in government benefits and lower tax refunds, housing costs, energy costs, commodities pricing, income tax rates and policies, consumer confidence and consumer perception of economic conditions. In addition, consumer purchasing patterns are generally influenced by consumers’ disposable income, credit availability and debt levels.
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A broad, protracted slowdown or downturn in the U.S. economy, an extended period of high unemployment or inflation rates, an uncertain domestic or global economic outlook or a financial crisis could adversely affect consumer spending habits resulting in lower net sales and profits than expected on a quarterly or annual basis. Conversely, if inflation continues to decline next year, it could benefit our core customers who have been impacted by the higher cost of living since early 2022, and if economic growth slows, it could cause moderate and higher-income shoppers to become more value conscious. Both of these developments, if they occur, would be expected to improve our business. Consumer confidence is also affected by the domestic and international political situation. Our financial condition and operations could be impacted by changes in government regulations in areas including, but not limited to, taxes and healthcare. Ongoing international trade and tariff negotiations could have a direct impact on our income and an indirect impact on consumer prices. The outbreak or escalation of war, or the occurrence of terrorist acts or other hostilities in or affecting the U.S., or public health issues such as pandemics or epidemics, could lead to a decrease in spending by consumers. In addition, natural disasters, public health issues, industrial accidents and acts of war or conflicts in various parts of the world (such as the conflict in Ukraine or the Hamas-Israel war), could have the effect of disrupting supplies and raising prices globally which, in turn, may have adverse effects on the world and U.S. economies and lead to a downturn in consumer confidence and spending.
We closely monitor our net sales, gross margin and expenses. We have performed scenario planning such that if our net sales decline for an extended period of time, we have identified variable costs that could be reduced to partially mitigate the impact of these declines. If we were to experience adverse economic trends and/or if our efforts to counteract the impacts of these trends are not sufficiently effective, there could be a negative impact on our financial performance and position in future fiscal periods.
Seasonality of Sales and Weather Conditions . Our business, like that of most retailers, is subject to seasonal influences. In the second half of the year, which includes the back-to-school and holiday seasons, we generally realize a higher level of sales and net income.
Weather continues to be a contributing factor to the sale of our merchandise. Generally, our sales are higher if the weather is cold during the Fall and warm during the early Spring. Sales of cold weather clothing are generally increased by early cold weather during the Fall, while sales of warm weather clothing are generally increased by early warm weather conditions in the Spring. Although we have diversified our product offerings, we believe traffic to our stores is still driven, in part, by weather patterns.
Competition and Margin Pressure. We believe that in order to remain competitive with retailers, including off-price retailers and discount stores, we must continue to offer brand-name merchandise at a discount to prices offered by other retailers as well as an assortment of merchandise that is appealing to our customers.
The U.S. retail apparel and home furnishings markets are highly fragmented and competitive. We compete for business with department stores, off-price retailers, internet retailers, specialty stores, discount stores, wholesale clubs, and outlet stores as well as with certain traditional, full-price retail chains that have developed off-price concepts. At various times throughout the year, traditional full-price department store chains and specialty shops offer brand-name merchandise at substantial markdowns, which can result in prices approximating those offered by us at our Burlington Stores. We anticipate that competition will increase in the future. Therefore, we will continue to look for ways to differentiate our stores from those of our competitors.
The U.S. retail industry continues to face increased pressure on margins as overall challenging retail conditions have led consumers to be more value conscious. Additionally, lower-to-moderate income shoppers continue to face economic pressure due to higher cost of living. Our strategy to chase the sales trend allows us the flexibility to purchase less pre-season merchandise with the balance purchased in-season and opportunistically. It also provides us with the flexibility to shift purchases between suppliers and categories. We believe that this enables us to obtain better terms with our suppliers, which we expect will help offset any rising costs of goods.
While freight rates are now moderating compared to Fiscals 2022 and 2021, we have experienced inflationary pressure in our supply chain and with respect to raw materials and finished goods, as well as in occupancy and other operating costs. There can be no assurance that we will be able to offset inflationary pressure in the future by increasing prices or through other means, or that our business will not be negatively affected by continued inflation in the future.
Key Performance and Non-GAAP Measures
We consider numerous factors in assessing our performance. Key performance and non-GAAP measures used by management include net income, Adjusted Net Income, Adjusted EBITDA, Adjusted EBIT, comparable store sales, gross margin, inventory, store payroll and liquidity.
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Net income . We earned net income of $339.6 million during Fiscal 2023 compared with $230.1 million during Fiscal 2022. This increase was primarily driven by higher sales and increased gross margin rate. Refer to the section below entitled “Results of Operations” for further explanation.
Adjusted Net Income, Adjusted EBITDA and Adjusted EBIT : Adjusted Net Income, Adjusted EBITDA and Adjusted EBIT are non-GAAP financial measures of our performance.
We define Adjusted Net Income as net income, exclusive of the following items, if applicable: (i) net favorable lease costs; (ii) loss on extinguishment of debt; (iii) costs related to debt amendments; (iv) impairment charges; (v) amounts related to certain litigation matters; and (vi) other unusual or non-recurring expenses, losses, charges or gains, all of which are tax effected to arrive at Adjusted Net Income.
We define Adjusted EBITDA as net income, exclusive of the following items, if applicable: (i) interest expense; (ii) interest income; (iii) loss on extinguishment of debt; (iv) costs related to debt amendments; (v) income tax expense; (vi) depreciation and amortization; (vii) net favorable lease costs; (viii) impairment charges; (ix) amounts related to certain litigation matters; and (x) other unusual or non-recurring expenses, losses, charges or gains
We define Adjusted EBIT as net income, exclusive of the following items, if applicable: (i) interest expense; (ii) interest income; (iii) loss on extinguishment of debt; (iv) costs related to debt amendments; (v) income tax expense; (vi) impairment charges; (vii) net favorable lease costs; (viii) amounts related to certain litigation matters; and (ix) other unusual or non-recurring expenses, losses, charges or gains.
We present Adjusted Net Income, Adjusted EBITDA and Adjusted EBIT because we believe they are useful supplemental measures in evaluating the performance of our business and provide greater transparency into our results of operations. In particular, we believe that excluding certain items that may vary substantially in frequency and magnitude from what we consider to be our core operating results are useful supplemental measures that assist investors and management in evaluating our ability to generate earnings and leverage sales, and to more readily compare core operating results between past and future periods.
We believe that these non-GAAP measures provide investors helpful information with respect to our operations and financial condition. Other companies in the retail industry may calculate these non-GAAP measures differently such that our calculation may not be directly comparable.
Adjusted Net Income has limitations as an analytical tool, and should not be considered either in isolation or as a substitute for net income or other data prepared in accordance with GAAP. Among other limitations, Adjusted Net Income does not reflect the following items, net of their tax effect:
• net favorable lease costs;
• losses on extinguishment of debt;
• costs related to debt amendments;
• impairment charges on long-lived assets;
• amounts charged for certain litigation matters; and
• other unusual or non-recurring expenses, losses, charges or gains.
During Fiscal 2023, Adjusted Net Income improved $112.6 million to $393.4 million. This increase was primarily driven by higher sales and increased gross margin rate. Refer to the section below entitled “Results of Operations” for further explanation.
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The following table shows our reconciliation of net income to Adjusted Net Income for Fiscal 2023, Fiscal 2022 and Fiscal 2021:
(unaudited)
(in thousands)
Fiscal Year Ended
February 3,
January 28,
January 29,
2024
2023
2022
(53 Weeks)
Reconciliation of net income to Adjusted Net Income:
Net income
$
339,649
$
230,123
$
408,839
Net favorable lease costs (a)
15,263
18,591
21,914
Loss on extinguishment of debt (b)
38,274
14,657
156,020
Costs related to debt amendments (c)
97
—
3,419
Impairment charges - long-lived assets
6,367
21,402
7,748
Litigation matters (d)
1,500
10,500
—
Tax effect (e)
(7,770
)
(14,503
)
(24,741
)
Adjusted Net Income
$
393,380
$
280,770
$
573,199
(a) Net favorable lease costs represent the non-cash expense associated with favorable and unfavorable leases that were recorded as a result of purchase accounting related to the April 13, 2006 Bain Capital acquisition of Burlington Coat Factory Warehouse Corporation (the Merger Transaction). These expenses are recorded in the line item “Selling, general and administrative expenses” in our Consolidated Statements of Income.
(b) Amounts relate to the partial repurchases of the 2.25% Convertible Senior Notes due 2025 (2025 Convertible Notes) in Fiscal 2023 and Fiscal 2022, the exchange of a portion of the 2025 Convertible Notes in Fiscal 2023, and the redemption of the Secured Notes in Fiscal 2021.
(c) Fiscal 2023 amount relates to the Term Loan Credit Agreement amendment in the second quarter of Fiscal 2023 changing one of the reference rates under the Term Loan Credit Agreement from the Adjusted LIBOR Rate to the Adjusted Term SOFR Rate. Fiscal 2021 amount represents costs incurred in connection with the review and execution of refinancing opportunities.
(d) Represents amounts charged for certain litigation matters.
(e) Tax effect is calculated based on the effective tax rates (before discrete items) for the respective periods, adjusted for the tax effect for the impact of items (a) through (d).
Adjusted EBIT and Adjusted EBITDA have limitations as analytical tools, and should not be considered either in isolation or as a substitute for net income or other data prepared in accordance with GAAP. Among other limitations, Adjusted EBIT does not reflect:
• net interest expense;
• net favorable lease costs;
• losses on the extinguishment of debt;
• costs related to debt issuances and amendments;
• amounts charged for certain litigation matters;
• impairment charges on long-lived assets;
• income tax expense; and
• other unusual or non-recurring expenses, losses, charges or gains.
Adjusted EBITDA is further adjusted for cash requirements for replacement of assets. Although depreciation and amortization are non-cash charges, the assets being depreciated and amortized will likely have to be replaced in the future
During Fiscal 2023, Adjusted EBIT improved $150.7 million to $581.0 million. During Fiscal 2023, Adjusted EBITDA improved $187.4 million to $888.1 million. These increases were primarily driven by higher sales and increased gross margin rate. Refer to the section below entitled “Results of Operations” for further explanation.
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The following table shows our reconciliation of net income to Adjusted EBIT and Adjusted EBITDA for Fiscal 2023, Fiscal 2022 and Fiscal 2021:
(unaudited)
(in thousands)
Fiscal Year Ended
February 3,
January 28,
January 29,
2024
2023
2022
(53 Weeks)
Reconciliation of net income to Adjusted EBIT and Adjusted EBITDA
Net income
$
339,649
$
230,123
$
408,839
Interest expense
78,399
66,474
67,502
Interest income
(24,633
)
(8,799
)
(189
)
Net favorable lease costs (a)
15,263
18,591
21,914
Loss on extinguishment of debt (b)
38,274
14,657
156,020
Costs related to debt amendments (c)
97
—
3,419
Impairment charges - long-lived assets
6,367
21,402
7,748
Litigation matters (d)
1,500
10,500
—
Income tax expense
126,124
77,386
136,459
Adjusted EBIT
581,040
430,334
801,712
Depreciation and amortization
307,064
270,398
249,217
Adjusted EBITDA
$
888,104
$
700,732
$
1,050,929
(a) Net favorable lease costs represent the non-cash expense associated with favorable and unfavorable leases that were recorded as a result of purchase accounting related to the Merger Transaction. These expenses are recorded in the line item “Selling, general and administrative expenses” in our Consolidated Statements of Income.
(b) Amounts relate to the partial repurchases of the 2025 Convertible Notes in Fiscal 2023 and Fiscal 2022, the exchange of a portion of the 2025 Convertible Notes in Fiscal 2023, and the redemption of the Secured Notes in Fiscal 2021.
(c) Fiscal 2023 amount relates to the Term Loan Credit Agreement amendment in the second quarter of Fiscal 2023 changing one of the reference rates under the Term Loan Credit Agreement from the Adjusted LIBOR Rate to the Adjusted Term SOFR Rate. Fiscal 2021 amount represents costs incurred in connection with the review and execution of refinancing opportunities.
(d) Represents amounts charged for certain litigation matters.
Comparable Store Sales . Comparable store sales measure performance of a store during the current reporting period against the performance of the same store in the corresponding period of a prior year. Due to the impact of the COVID-19 pandemic in Fiscal 2020, we are using Fiscal 2019 as the comparable previous year period when calculating comparable store sales for Fiscal 2021. The method of calculating comparable store sales varies across the retail industry. As a result, our definition of comparable store sales may differ from other retailers.
We define comparable store sales as merchandise sales of those stores commencing on the first day of the fiscal month one year after the end of their grand opening activities, which normally conclude within the first two months of operations. If a store is closed for seven or more days during a month, our policy is to remove that store from our calculation of comparable store sales for any such month, as well as during the month(s) of their grand re-opening activities. The table below depicts the change in our comparable store sales during Fiscal 2023, Fiscal 2022 and Fiscal 2021, all of which are calculated on a 52-week basis.
Fiscal Year Ended
Change in Comparable Store Sales
February 3, 2024
4%
January 28, 2023
-13%
January 29, 2022
15%
Various factors affect comparable store sales, including, but not limited to, weather conditions, current economic conditions, the timing of our releases of new merchandise and promotional events, the general retail sales environment, consumer preferences and buying trends, changes in sales mix among distribution channels, competition, and the success of marketing programs.
Gross Margin . Gross margin is the difference between net sales and the cost of sales. Our cost of sales and gross margin may not be comparable to those of other entities, since some entities may include all of the costs related to their buying and distribution
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functions, certain store-related costs and other costs, in cost of sales. We include certain of these costs in the line items “Selling, general and administrative expenses” and “Depreciation and amortization” in our Consolidated Statements of Income. We include in our “Cost of sales” line item all costs of merchandise (net of purchase discounts and certain vendor allowances), inbound freight, distribution center outbound freight and certain merchandise acquisition costs, primarily commissions and import fees. Gross margin as a percentage of net sales expanded to 42.5% during Fiscal 2023, compared with 40.4% during Fiscal 2022, driven primarily by higher merchandise margins and improved freight costs. Product sourcing costs, which are included in selling, general and administrative expenses, increased approximately 20 basis points as a percentage of net sales.
Inventory . Inventory at February 3, 2024 decreased to $1,087.8 million from $1,182.0 million at January 28, 2023. This decrease primarily relates to a decrease in reserve inventory and a decrease in comparable store inventory, partially offset by 80 net new stores since the end of Fiscal 2022.
Reserve inventory includes all inventory that is being stored for release either later in the season, or in a subsequent season. We intend to use our reserve merchandise to effectively chase sales trends.
In order to better serve our customers and maximize sales, we continue to refine our merchandising mix and inventory levels within our stores. By appropriately managing our inventories, we believe we will be better able to deliver a continual flow of fresh merchandise to our customers.
Store Payroll as a Percentage of Net Sales . Store payroll as a percentage of net sales measures our ability to manage our payroll in accordance with increases or decreases in net sales. The method of calculating store payroll varies across the retail industry. As a result, our store payroll as a percentage of net sales may differ from other retailers. We define store payroll as regular and overtime payroll for all store personnel as well as regional and territory personnel, exclusive of payroll charges related to corporate and warehouse employees. Store payroll as a percentage of net sales was 8.2% and 8.0% during Fiscal 2023 and Fiscal 2022, respectively.
Liquidity. Liquidity measures our ability to generate cash. Management measures liquidity through cash flow, which is the measure of cash generated from or used in operating, financing, and investing activities. Cash and cash equivalents, including restricted cash and cash equivalents, increased $46.2 million during Fiscal 2023, compared with a decrease of $218.5 million during Fiscal 2022. Refer to the section below entitled “Liquidity and Capital Resources” for further explanation.
Results of Operations
The following table sets forth certain items in the Consolidated Statements of Income as a percentage of net sales for the periods indicated.
Percentage of Net Sales
Fiscal Year Ended
February 3,
January 28,
January 29,
2024
2023
2022
Net sales
100.0
%
100.0
%
100.0
%
Other revenue
0.2
0.2
0.2
Total revenue
100.2
100.2
100.2
Cost of sales
57.5
59.6
58.4
Selling, general and administrative expenses
33.9
33.1
30.8
Costs related to debt amendments
0.0
—
0.0
Depreciation and amortization
3.2
3.1
2.7
Impairment charges - long-lived assets
0.1
0.2
0.1
Other income - net
(0.4
)
(0.3
)
(0.1
)
Loss on extinguishment of debt
0.4
0.2
1.7
Interest expense
0.8
0.8
0.7
Total costs and expenses
95.5
96.7
94.3
Income before income tax expense
4.7
3.5
5.9
Income tax expense
1.3
0.9
1.5
Net income
3.4
%
2.6
%
4.4
%
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Performance for Fiscal Year Ended February 3, 2024 (Fiscal 2023) Compared with Fiscal Year Ended January 28, 2023 (Fiscal 2022)
Net sales
Net sales improved $1,024.4 million, or 11.8%, to $9,709.0 million, primarily driven by 80 net new stores since the end of Fiscal 2022, an increase of 4% in comparable store sales during Fiscal 2023, and additional sales of $138.0 million from the 53rd week in Fiscal 2023.
Cost of sales
Cost of sales as a percentage of net sales decreased to 57.5% during Fiscal 2023, primarily driven by higher merchandise margins and improved freight costs. On a dollar basis, cost of sales increased $412.3 million, or 8.0%, primarily driven by our overall increase in sales.
Selling, general and administrative expenses
The following table details selling, general and administrative expenses for Fiscal 2023 compared with Fiscal 2022.
(in millions)
Fiscal Year Ended
February 3, 2024
Percentage
of
Net Sales
January 28, 2023
Percentage
of
Net Sales
$ Variance
% Change
Store related costs
$
1,972.6
20.3
%
$
1,739.7
20.0
%
$
232.9
13.4
%
Product sourcing costs
780.3
8.0
677.8
7.8
102.5
15.1
Corporate costs
353.4
3.6
300.7
3.5
52.7
17.5
Marketing and strategy costs
53.7
0.6
47.0
0.5
6.7
14.3
Other selling, general and administrative expenses
128.3
1.4
112.2
1.3
16.1
14.3
Selling, general and administrative expenses
$
3,288.3
33.9
%
$
2,877.4
33.1
%
$
410.9
14.3
%
The increase in selling, general and administrative expenses as a percentage of net sales was primarily driven by increased incentive compensation, store payroll, product sourcing costs, and a 20 basis point impact for costs related to acquiring store leases from Bed, Bath & Beyond (as described below). The dollar basis increase was primarily due to the same drivers listed above as well as costs incurred during the 53rd week of Fiscal 2023.
During Fiscal 2023, we acquired 64 store leases directly from Bed, Bath & Beyond. We started paying rent immediately upon acquisition for all of the stores. 32 of these stores were opened during Fiscal 2023, with the remaining planned to be open during the first half of Fiscal 2024. This transaction resulted in $18.4 million of selling, general and administrative expenses related to occupancy of unopened stores during Fiscal 2023.
Depreciation and amortization
Depreciation and amortization expense amounted to $307.1 million during Fiscal 2023, compared with $270.4 million during Fiscal 2022. The increase in depreciation and amortization expense was primarily driven by capital expenditures related to new and non-comparable stores, our supply chain investments, and costs incurred during the 53rd week of Fiscal 2023.
Impairment charges—long-lived assets
Impairment charges related to long-lived assets were $6.4 million and $21.4 million during Fiscal 2023 and Fiscal 2022, respectively, related to unrecoverable fixed assets at eleven underperforming stores and unrecoverable lease assets at three of those stores during Fiscal 2023, compared to four stores sold below carrying value as well as impairment of store-level assets and lease assets at twelve stores during Fiscal 2022.
The recoverability assessment related to these store-level assets requires various judgments and estimates, including estimates related to future revenues, gross margin rates, store expenses and other assumptions. We base these estimates upon our past and expected future performance. We believe our estimates are appropriate in light of current market conditions. However, future
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impairment charges could be required if we do not achieve our current revenue or cash flow projections for each store. Refer to Note 6, “Impairment Charges,” for further discussion.
Other income, net
Other income, net improved $14.0 million to $40.9 million during Fiscal 2023. The improvement in other income was primarily driven by increased interest income from higher interest rates, the sale of certain state tax credits, and income earned during the 53rd week of Fiscal 2023, partially offset by gains on real estate sales in Fiscal 2022 as well as insurance claims in Fiscal 2022.
Loss on Extinguishment of Debt
During Fiscal 2023, we entered into separate, privately negotiated exchange agreements with certain holders of the 2025 Convertible Notes, whereby the holders exchanged $241.2 million in aggregate principal amount of 2025 Convertible Notes held by them for $255.0 million in aggregate principal amount of 2027 Convertible Notes, as well as $110.3 million in aggregate principal amount of 2025 Convertible Notes held by them for $133.3 million in cash. These exchanges resulted in aggregate pre-tax debt extinguishment charges of $38.3 million. During Fiscal 2022, we entered into separate, privately negotiated exchange agreements with certain holders of the 2025 Convertible Notes, whereby the holders exchanged $64.6 million in aggregate principal amount of 2025 Convertible Notes held by them for $78.2 million in cash. These exchanges resulted in aggregate pre-tax debt extinguishment charges of $14.7 million. Refer to Note 7, “Long Term Debt,” for further discussion regarding our debt transactions.
Interest expense
Interest expense increased $11.9 million to $78.4 million. The increase was driven by a higher interest rate on the unhedged portion of the term loan, as well as costs incurred during the 53rd week, partially offset by a lower average balance of 2025 Convertible Notes and a lower interest rate on the 2027 Convertible Notes compared to the 2025 Convertible Notes that were extinguished.
Our average interest rates and average balances related to our variable rate debt for Fiscal 2023 compared with Fiscal 2022 are summarized in the table below:
Fiscal Year Ended
February 3,
January 28,
2024
2023
Average balance – ABL Line of Credit (in millions)
$
—
$
—
Average interest rate – ABL Line of Credit
—
—
Average balance – Term Loan Facility (in millions) (a)
$
942.5
$
952.2
Average interest rate – Term Loan Facility
7.2%
4.0%
(a) Excludes original issue discount
Income tax expense
Income tax expense was $126.1 million for Fiscal 2023 compared with $77.4 million for Fiscal 2022. The effective tax rate was 27.1% related to pretax income of $465.8 million for Fiscal 2023, and 25.2% related to pretax income of $307.5 million for Fiscal 2022. The increase in income tax expense and tax rate is due to higher pre-tax income and the disallowance of certain debt extinguishment costs related to the partial repurchase of the 2025 Convertible Notes during Fiscal 2023.
Net income
We earned net income of $339.6 million during Fiscal 2023 compared with net income of $230.1 million for Fiscal 2022. This increase was primarily driven by higher sales and increased gross margin rate.
Performance for Fiscal Year Ended January 28, 2023 (Fiscal 2022) Compared with Fiscal Year Ended January 29, 2022 (Fiscal 2021)
For a discussion related to Fiscal 2022 performance compared to Fiscal 2021 performance, refer to Part II, Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” included in our Annual Report on Form 10-K for the fiscal year ended January 28, 2023 (Fiscal 2022 10-K).
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Liquidity and Capital Resources
Our ability to satisfy interest and principal payment obligations on our outstanding debt will depend largely on our future performance which, in turn, is subject to prevailing economic conditions and to financial, business and other factors beyond our control. If we do not have sufficient cash flow to service interest and principal payment obligations on our outstanding indebtedness, and if we cannot borrow or obtain equity financing to satisfy those obligations, our business and results of operations will be materially adversely affected. We cannot be assured that any replacement borrowing or equity financing could be successfully completed on terms similar to our current financing agreements, or at all. Refer to "Debt and Hedging" below for recent debt transactions completed.
We believe that cash generated from operations, along with our existing cash and our ABL Line of Credit, will be sufficient to fund our expected cash flow requirements and planned capital expenditures for at least the next twelve months as well as the foreseeable future. However, there can be no assurance that we would be able to offset potential declines in our comparable store sales with savings initiatives in the event that the economy declines.
As market conditions warrant, we may, from time to time, repurchase our outstanding debt securities in the open market, in privately negotiated transactions, by tender offer, by exchange transaction or otherwise. Such repurchases, if any, will depend on prevailing market conditions, our liquidity and other factors and may be commenced or suspended at any time. The amounts involved and total consideration paid may be material.
Cash Flows
Cash Flows for Fiscal 2023 Compared with Fiscal 2022
We generated $46.2 million of cash flows during Fiscal 2023 compared with a use of $218.5 million during Fiscal 2022.
Net cash provided by operating activities amounted to $868.7 million and $596.4 million during Fiscal 2023 and Fiscal 2022, respectively. The increase in our operating cash flows was primarily driven by higher sales and margin in Fiscal 2023, as well as changes in working capital.
Net cash used in investing activities was $503.7 million and $423.1 million during Fiscal 2023 and Fiscal 2022, respectively. This change was primarily the result of an increase in capital expenditures related to our stores (new stores, remodels and other store expenditures and an increase in lease acquisition costs, as a result of our acquisition of 64 Bed, Bath & Beyond stores.
Net cash used in financing activities was $318.8 million during Fiscal 2023 compared to $391.7 million during Fiscal 2022. This change was primarily driven by additional debt issued on the Convertible Notes exchange and lower share repurchases, partially offset by increased convertible debt repayments.
Changes in working capital also impact our cash flows. Working capital equals current assets (exclusive of restricted cash) minus current liabilities. We had working capital at February 3, 2024 of $298.2 million compared with $365.3 million at January 28, 2023. The decrease in working capital was primarily driven by decreased inventory and increased other current liabilities (primarily accrued payroll and fixed assets), partially offset by increased prepaid assets (primarily prepaid rent due to timing) and increased cash balance.
Cash Flows for Fiscal 2022 Compared with Fiscal 2021
For a discussion of our cash flows for Fiscal 2022 compared to Fiscal 2021, refer to Part II, Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” included in our Fiscal 2022 10-K.
Capital Expenditures
For Fiscal 2023, capital expenditures, net of $14.6 million of landlord allowances, amounted to $522.5 million (inclusive of accrued capital expenditures). These capital expenditures include approximately $291.0 million, net of the previously mentioned landlord allowances, for store expenditures (new stores, remodels and other store expenditures). In addition, we made capital expenditures of $116.4 million to support our supply chain initiatives, with the remaining capital to support information technology and other business initiatives. We incurred capital expenditures of $427.0 million (inclusive of accrued capital expenditures), net of approximately $23.1 million of landlord allowances, during Fiscal 2022.
We estimate that we will spend approximately $750 million, net of approximately $40 million of landlord allowances, in capital expenditures during Fiscal 2024, including approximately $340 million, net of the previously mentioned landlord allowances, for store expenditures (new stores, remodels and other store expenditures). In addition, we estimate that we will spend approximately $210
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million to support our supply chain initiatives, with the remaining capital used to support our information technology and other business initiatives.
Share Repurchase Program
On February 16, 2022, our Board of Directors authorized the repurchase of up to an additional $500.0 million of common stock, which was authorized to be executed through February 2024. As of the end of Fiscal 2023, we had $115.4 million remaining under this share repurchase authorization.
On August 15, 2023, our Board of Directors authorized the repurchase of up to an additional $500 million of common stock, which is authorized to be executed through August 2025. As of the end of Fiscal 2023, we had $500.0 million remaining under this share repurchase authorization.
During Fiscal 2023, we repurchased 1,354,031 shares of common stock for $231.9 million under our share repurchase program.
We are authorized to repurchase shares of our outstanding common stock from time to time on the open market or in privately negotiated transactions under our repurchase program. The timing and amount of stock repurchases will depend on a variety of factors, including the market conditions as well as corporate and regulatory considerations. Our share repurchase program may be suspended, modified or discontinued at any time, and we have no obligation to repurchase any amount of our common stock under the program.
Dividends
We currently do, and intend to continue to, retain all available funds and any future earnings to fund all of the Company's capital expenditures, business initiatives, and to support any potential opportunistic capital structure initiatives. Therefore, at this time, we do not anticipate paying cash dividends in the near term. Our ability to pay dividends on our common stock will be limited by restrictions on the ability of our subsidiaries to pay dividends or make distributions under the terms of current and any future agreements governing our indebtedness. Any future determination to pay dividends will be at the discretion of our Board of Directors, subject to compliance with covenants in our current and future agreements governing our indebtedness, and will depend upon our results of operations, financial condition, capital requirements and other factors that our Board of Directors deems relevant.
In addition, since we are a holding company, substantially all of the assets shown on our Consolidated Balance Sheets are held by our subsidiaries. Accordingly, our earnings, cash flow and ability to pay dividends are largely dependent upon the earnings and cash flows of our subsidiaries and the distribution or other payment of such earnings to us in the form of dividends.
Debt and Hedging
As of February 3, 2024, our obligations, inclusive of original issue discount, include $933.4 million under our Term Loan Facility, $453.2 million of 2025 Convertible Notes and 2027 Convertible Notes, and no outstanding borrowings on our ABL Line of Credit. Our debt obligations also include $29.1 million of finance lease obligations as of February 3, 2024. Refer to Note 7 to our Consolidated Financial Statements, “Long Term Debt,” for an overview of the terms and conditions of these instruments.
Term Loan Facility
On May 11, 2023, we amended the Term Loan Credit Agreement to change one of the reference interest rates for borrowings under the Term Loan Facility from the Term Loan Adjusted LIBOR Rate to the Adjusted Term SOFR Rate (as defined in the Term Loan Credit Agreement), effective as of July 1, 2023. The Adjusted Term SOFR Rate includes a credit spread adjustment of 0.11% for an interest period of one-month’s duration, 0.26% for an interest period of three-months’ duration and 0.43% for an interest period of six-months’ duration, with a floor of 0.00%.
At February 3, 2024, our borrowing rate related to the Term Loan Facility was 7.4%.
ABL Line of Credit
On June 26, 2023, we entered into an amendment to the credit agreement governing our ABL Line of Credit, which increased the sublimit for letters of credit thereunder from $150 million to $250 million. The letter of credit sublimit will automatically be reduced to (i) $237.5 million on April 1, 2024, (ii) $225 million on July 1, 2024, (iii) $212.5 million on October 1, 2024, and (iv) $200
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million on January 1, 2025. BCFWC and the agent may extend the foregoing dates under clauses (i) through (iii), as long as the sublimit is reduced to $200 million no later than January 1, 2025.
At February 3, 2024, we had $708.8 million available under the ABL Line of Credit. We did not have any borrowings during Fiscal 2023.
2025 Convertible Notes
On April 16, 2020, we issued $805.0 million of 2025 Convertible Notes. The 2025 Convertible Notes have an initial conversion rate of 4.5418 shares per $1,000 principal amount of 2025 Convertible Notes (equivalent to an initial conversion price of approximately $220.18 per share of the Company’s common stock), subject to adjustment if certain events occur.
The 2025 Convertible Notes are general unsecured obligations of the Company. The 2025 Convertible Notes bear interest at a rate of 2.25% per year, payable semi-annually in cash, in arrears on April 15 and October 15 of each year, beginning on October 15, 2020. The 2025 Convertible Notes will mature on April 15, 2025, unless earlier converted, redeemed or repurchased.
During the first quarter of Fiscal 2022, we entered into separate, privately negotiated exchange agreements with certain holders of the 2025 Convertible Notes. Under the terms of the exchange agreements, the holders exchanged $64.6 million in aggregate principal amount of 2025 Convertible Notes held by them for $78.2 million in cash. These exchanges resulted in aggregate pre-tax debt extinguishment charges of $14.7 million.
During the first quarter of Fiscal 2023, we entered into separate, privately negotiated exchange agreements with certain holders of the 2025 Convertible Notes. Under the terms of the exchange agreements, the holders exchanged $110.3 million in aggregate principal amount of 2025 Convertible Notes held by them for $133.3 million in cash. These exchanges resulted in aggregate pre-tax debt extinguishment charges of $24.6 million.
Prior to the close of business on the business day immediately preceding January 15, 2025, the 2025 Convertible Notes will be convertible at the option of the holders only upon the occurrence of certain events and during certain periods. Thereafter, the 2025 Convertible Notes will be convertible at the option of the holders at any time until the close of business on the second scheduled trading day immediately preceding the maturity date. The 2025 Convertible Notes have an initial conversion rate of 4.5418 shares per $1,000 principal amount of 2025 Convertible Notes (equivalent to an initial conversion price of approximately $220.18 per share of our common stock), subject to adjustment if certain events occur. The initial conversion price represents a conversion premium of approximately 32.50% over $166.17 per share, the last reported sale price of our common stock on April 13, 2020 (the pricing date of the offering) on the New York Stock Exchange. During the first quarter of Fiscal 2021, the Company made an irrevocable settlement election for any conversions of the 2025 Convertible Notes. Upon conversion, we will pay cash for the principal amount. For any excess above principal, we will deliver shares of its common stock. We were not permitted to redeem the 2025 Convertible Notes prior to April 15, 2023. From and after April 15, 2023, we are able to redeem for cash all or any portion of the 2025 Convertible Notes, at our option, if the last reported sale price of the Company’s common stock is equal to or greater than 130% of the conversion price for a specified period of time, at a redemption price equal to 100% of the principal aggregate amount of the 2025 Convertible Notes to be redeemed, plus accrued and unpaid interest, if any, to, but excluding, the redemption date.
Holders of the 2025 Convertible Notes may require us to repurchase their 2025 Convertible Notes upon the occurrence of certain events that constitute a fundamental change under the indenture governing the 2025 Convertible Notes at a purchase price equal to 100% of the principal amount thereof, plus accrued and unpaid interest to, but excluding, the date of repurchase. In connection with certain corporate events or if we issue a notice of redemption, it will, under certain circumstances, increase the conversion rate for holders who elect to convert their 2025 Convertible Notes in connection with such corporate event or during the relevant redemption period for such 2025 Convertible Notes.
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2027 Convertible Notes
On September 12, 2023, we closed the issuance of approximately $297.1 million aggregate principal amount of our 2027 Convertible Notes pursuant to separate, privately negotiated exchange and subscription agreements with a limited number of holders of our 2025 Convertible Notes and certain investors, in each case pursuant to exemptions from registration under the Securities Act of 1933. We exchanged approximately $241.2 million in aggregate principal amount of the 2025 Convertible Notes for approximately $255.0 million in aggregate principal amount of the 2027 Convertible Notes. These exchanges resulted in aggregate pre-tax debt extinguishment charges of $13.6 million. We also issued approximately $42.1 million in aggregate principal amount of 2027 Convertible Notes in a private placement to certain investors. An aggregate of up to 1,422,568 shares of common stock may be issued upon conversion of the 2027 Convertible Notes, which number is subject to adjustment up to an aggregate of 1,911,372 shares following certain corporate events that occur prior to the maturity date or if we issue a notice of redemption, and which is also subject to certain anti-dilution adjustments.
The 2027 Convertible Notes bear interest at a rate of 1.25% per year, payable semi-annually in arrears on June 15 and December 15 of each year, beginning on December 15, 2023. The 2027 Convertible Notes will mature on December 15, 2027, unless earlier converted, redeemed or repurchased.
Prior to the close of business on the business day immediately preceding September 15, 2027, the 2027 Convertible Notes will be convertible at the option of the holders only upon the occurrence of certain events and during certain periods. Thereafter, the 2027 Convertible Notes will be convertible at the option of the holders at any time until the close of business on the second scheduled trading day immediately preceding the maturity date. The 2027 Convertible Notes have an initial conversion rate of 4.8560 shares per $1,000 principal amount of 2027 Convertible Notes (equivalent to an initial conversion price of approximately $205.93 per share of our common stock), subject to adjustment if certain events occur. The initial conversion price represents a conversion premium of approximately 32.50% over $155.42 per share, the last reported sale price of our common stock on September 7, 2023 on The New York Stock Exchange. Upon conversion, we will pay cash up to the aggregate principal amount of 2027 Convertible Notes being converted, and pay (and deliver, if applicable) cash, shares of our common stock or a combination thereof, at its election, in respect of the remainder (if any) of our conversion obligation in excess of such aggregate principal amount. We will not be able to redeem the 2027 Convertible Notes prior to December 20, 2025. On or after December 20, 2025 and prior to the 21st scheduled trading day immediately preceding December 15, 2027, we will be able to redeem for cash all or any portion of the 2027 Convertible Notes, at our option, if the last reported sale price of our common stock is equal to or greater than 130% of the conversion price for a specified period of time, at a redemption price equal to 100% of the aggregate principal amount of the 2027 Convertible Notes to be redeemed, plus accrued and unpaid interest, if any, to, but excluding, the redemption date.
If we undergo a fundamental change, subject to certain conditions, holders of the 2027 Convertible Notes may require us to repurchase for cash all or any portion of our 2027 New Convertible Notes. The fundamental change repurchase price will be 100% of the aggregate principal amount of the 2027 Convertible Notes to be repurchased plus any accrued and unpaid interest to, but excluding, the fundamental change repurchase date.
Hedging
On June 24, 2021, the Company terminated its previous interest rate swap and entered into a new interest rate swap. The new interest rate swap, which hedges $450 million of variable rate exposure under our Term Loan Facility, is designated as a cash flow hedge and expires on June 24, 2028. Refer to Note 8, “Derivative Instruments and Hedging Activities,” for further discussion regarding our derivative transactions.
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Certain Information Concerning Material Cash Requirements
The following table sets forth certain information regarding our obligations to make future payments under current contracts as of February 3, 2024:
Payments Due By Period
Total
1 Year
2-3 Years
4-5 Years
Thereafter
(in thousands)
Debt obligations(1)
$
1,390,603
$
9,614
$
175,383
$
1,205,606
$
—
Interest on debt obligations(2)
259,007
63,064
117,578
78,365
—
Finance lease obligations(3)
40,851
5,733
7,244
7,087
20,787
Operating lease obligations(4)
4,216,082
586,885
1,146,564
977,448
1,505,185
Purchase obligations(5)
1,304,465
1,304,465
—
—
—
Other(6)
4,574
3,603
971
—
—
Total
$
7,215,582
$
1,973,364
$
1,447,740
$
2,268,506
$
1,525,972
(1) Represents future principal payments on outstanding borrowings as of February 3, 2024.
(2) Represents interest payments on (i) the outstanding balance of the Term Loan Facility, with an interest rate of 7.4% as of January 28, 2023; (ii) $450.0 million interest rate swap with a SOFR rate of 2.16%; (iii) the outstanding balance of the 2025 Convertible Notes, with an interest rate of 2.25%; and (iv) the outstanding balance of the 2027 Convertible Notes, with an interest rate of 1.25%.
(3) Finance lease obligations include future interest payments.
(4) Represents minimum rent payments for operating leases under the current terms.
(5) Represents commitments to purchase goods that have not been received as of February 3, 2024. The table above excludes estimated commitments for services to be used in our business of up to approximately $165 million over the next five years.
(6) Represents severance payments in the normal course of business that are included in the line item “Selling, general and administrative expenses” in our Consolidated Statements of Income.
Our agreements with three former employees to pay their respective beneficiaries $1.0 million upon their deaths for a total of $3.0 million is not reflected in the table above because the timing of the payments is unpredictable.
The table above excludes ASC Topic No. 740 “Income Taxes” (Topic No. 740) liabilities which represent uncertain tax positions related to temporary differences. The total Topic No. 740 liability was $10.1 million, inclusive of $7.0 million of interest and penalties included in our total Topic No. 740 liability neither of which is presented in the table above as we are not certain if and when these payments would be required.
The table above excludes our irrevocable letters of credit guaranteeing payment and performance under certain leases, insurance contracts, debt agreements, merchandising agreements and utility agreements in the amount of $75.8 million as of February 3, 2024.
As of February 3, 2024, insurance reserves amounted to $94.8 million. These amounts are excluded from the table above as we are not certain if and when these payments would be required.
Critical Accounting Policies and Estimates
Our Consolidated Financial Statements have been prepared in accordance with GAAP. We believe there are several accounting policies that are critical to understanding our historical and future performance as these policies affect the reported amounts of revenues and other significant areas that involve management’s judgments and estimates. The preparation of our Consolidated Financial Statements requires management to make estimates and assumptions that affect (i) the reported amounts of assets and liabilities; (ii) the disclosure of contingent assets and liabilities at the date of the Consolidated Financial Statements; and (iii) the reported amounts of revenues and expenses during the reporting period. On an ongoing basis, management evaluates its estimates and judgments, including those related to revenue recognition, inventories, long-lived assets, intangible assets, goodwill, insurance reserves and income taxes. Historical experience and various other factors that are believed to be reasonable under the circumstances form the basis for making estimates and judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. As events continue to evolve and additional information becomes available, our estimates may change materially in future periods. A critical accounting estimate meets two criteria: (1) it requires assumptions about highly uncertain matters and (2) there would be a material effect on the Consolidated Financial Statements from either using a different, although reasonable, amount within the range of the estimate in the current period or from reasonably likely period-to-period changes in the estimate.
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While there are a number of accounting policies, methods and estimates affecting our Consolidated Financial Statements as addressed in Note 1 to our Consolidated Financial Statements, “Summary of Significant Accounting Policies,” areas that are particularly critical and significant include:
Revenue Recognition . While our revenue recognition does not involve significant judgment, it represents an important accounting policy. We record revenue at the time control of goods are transferred to the customer, which we determine to be at point of sale and delivery of merchandise, net of allowances for estimated future returns, which is estimated based on historical return rates. We present sales, net of sales taxes, in our Consolidated Statements of Income. We account for layaway sales in compliance with ASC Topic No. 606 “Revenue from Contracts with Customers.” Layaway sales are recognized upon delivery of merchandise to the customer. The amount of cash received upon initiation of the layaway is recorded as a deposit liability within the line item “Other current liabilities” in our Consolidated Balance Sheets. Stored value cards (gift cards and store credits issued for merchandise returns) are recorded as a liability at the time of issuance, and the related sale is recorded upon redemption.
We estimate and recognize stored value card breakage income in proportion to actual stored value card redemptions. We determine an estimated stored value card breakage rate by continuously evaluating historical redemption data. Breakage income is recognized on a monthly basis in proportion to the historical redemption patterns for those stored value cards for which the likelihood of redemption is remote.
Inventory . Our inventory is valued at the lower of cost or market using the retail inventory method. Under the retail inventory method, the valuation of inventory and the resulting gross margin are determined by applying a calculated cost to retail ratio to the retail value of inventory. The retail inventory method is an averaging method that results in valuing inventory at the lower of cost or market provided markdowns are taken timely to reduce the retail value of inventory. Inherent in the retail inventory method calculation are certain significant management judgments and estimates including merchandise markups, markdowns and shortage, which significantly impact the ending inventory valuation as well as the resulting gross margin. Management believes that our retail inventory method provides an inventory valuation which approximates cost using a first-in, first-out assumption and results in carrying value at the lower of cost or market. We reserve for aged inventory based on historical trends and specific identification. Our aged inventory reserve contains uncertainties as the calculations require management to make assumptions and to apply judgment regarding a number of factors, including market conditions, the selling environment, historical results and current inventory trends. A 1% change in the dollar amount of retail markdowns would have resulted in an increase in markdown dollars, at cost, of approximately $2.9 million for Fiscal 2023.
Estimates are used to record inventory shortage at retail stores between physical inventories. Actual physical inventories are conducted at least annually to calculate actual shortage. While we make estimates on the basis of the best information available to us at the time the estimates are made, over accruals or under accruals of shortage may be identified as a result of the physical inventory counts, requiring adjustments.
Insurance Reserves . We have risk participation agreements with insurance carriers with respect to workers’ compensation, general liability insurance and health insurance. Pursuant to these arrangements, we are responsible for paying individual claims up to designated dollar limits. The amounts included in our costs related to these claims are estimated and can vary based on changes in assumptions or claims experience included in the associated insurance programs. For example, changes in legal trends and interpretations, as well as changes in the nature and method of how claims are settled, can impact ultimate costs. An increase in workers’ compensation claims by employees, health insurance claims by employees or general liability claims may result in a corresponding increase in our costs related to these claims. Insurance reserves amounted to $94.8 million and $86.2 million at February 3, 2024 and January 28, 2023, respectively.
Recent Accounting Pronouncements
There were no new accounting standards that had a material impact on the Company’s Consolidated Financial Statements during Fiscal 2023.
In December 2023, the FASB issued ASU 2023-09 "Income Taxes (Topics 740): Improvements to Income Tax Disclosures" to expand the disclosure requirements for income taxes, specifically related to the rate reconciliation and income taxes paid. ASU 2023-09 is effective for annual reporting periods beginning after December 15, 2024, with early adoption permitted and can be applied on either a prospective or retroactive basis. We are currently determining the impact that ASU 2023-09 will have on the Company's consolidated financial statement disclosures.
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Fluctuations in Operating Results
We expect that our revenues and operating results may fluctuate from fiscal quarter to fiscal quarter or over the longer term. Certain of the general factors that may cause such fluctuations are discussed in Item 1A, Risk Factors and elsewhere in this Annual Report.
Inflation
While freight rates are now moderating, we have experienced inflationary pressure in our supply chain and with respect to raw materials and finished goods, as well as in occupancy, wages, and other operating costs. There can be no assurance that we will be able to offset inflationary pressure in the future, or that our business will not be negatively affected by continued inflation in the future. We may not be able to adequately increase our prices over time to offset increased costs, whether due to inflation or otherwise. Any decreases in consumer discretionary spending could result in a decrease in store traffic and same store sales, all of which could negatively affect our business, operations, liquidity, financial results and/or stock price, particularly if consumer spending levels are depressed for a prolonged period of time.
The U.S. retail industry continues to face increased pressure on margins as commodity prices increase and the overall challenging retail conditions have led consumers to be more value conscious. Additionally, lower-to-moderate income shoppers continue to face economic pressure due to higher cost of living. Our strategy of chasing sales, in which we purchase both pre-season and in-season merchandise, allows us the flexibility to purchase less pre-season with the balance purchased in-season and opportunistically. It also provides us the flexibility to shift purchases between suppliers and categories. This enables us to obtain better terms with our suppliers, which we expect to help offset the expected rising costs of goods.
Market Risk
We are exposed to market risks relating to fluctuations in interest rates. Our borrowings contain floating rate obligations and are subject to interest rate fluctuations. The objective of our financial risk management is to minimize the negative impact of interest rate fluctuations on our earnings and cash flows. We manage interest rate risk through the use of our interest rate swap contracts.
As more fully described in Note 8 to our Consolidated Financial Statements, “Derivative Instruments and Hedging Activities,” we enter into interest rate derivative contracts to manage interest rate risks associated with our long term debt obligations. The effective portion of changes in the fair value of derivatives designated and that qualify as cash flow hedges is recorded in the line item “Accumulated other comprehensive income” on the Consolidated Balance Sheets and is subsequently reclassified into earnings in the period that the hedged forecasted transaction affects earnings. We continue to have exposure to interest rate risks to the extent they are not hedged.
Item 7A. Quantitative and Qualitat ive Disclosures About Market Risk
We are exposed to certain market risks as part of our ongoing business operations. Primary exposures include changes in interest rates, as borrowings under our ABL Line of Credit and Term Loan Facility bear interest based on SOFR, in each case plus an applicable borrowing margin. The interest rate of our Term Loan Facility is also dependent on the prime rate, and the federal funds rate as further discussed in Note 7 to our Consolidated Financial Statements, “Long Term Debt.” During Fiscal 2022, an amendment to the ABL Line of Credit replaced the LIBOR-based interest rate benchmark provisions with interest rate benchmark provisions based on a term secured overnight financing rate (SOFR) or a daily SOFR rate (in the case of daily SOFR, available for borrowings up to $100 million, or up to the full amount of the commitments if the term SOFR rate is not available). Additionally, during Fiscal 2023, we amended the Term Loan Credit Agreement changing from Adjusted LIBOR Rate to the Adjusted Term SOFR Rate.
We manage our interest rate risk through the use of interest rate derivative contracts. For our floating-rate debt, interest rate changes generally impact our earnings and cash flows, assuming other factors are held constant.
On June 24, 2021, we terminated our previous interest rate swap and entered into a new interest rate swap. The new interest rate swap, which hedges $450.0 million of variable rate exposure under our Term Loan Facility, is designated as a cash flow hedge and expires on June 24, 2028. During the second quarter of Fiscal 2023, we amended our interest rate swap to be based on SOFR rather than LIBOR, which resulted in an updated swap rate of 2.16%. This amendment was covered under the guidance in ASU 2020-04, Reference Rate Reform ("ASC 848") and did not impact the hedge accounting relationship. Refer to Note 8, “Derivative Instruments and Hedging Activities,” for further discussion regarding our derivative transactions.
We have unlimited interest rate risk related to borrowings on our variable rate debt in excess of the notional principal amount of our interest rate swap contract.
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At February 3, 2024, we had $937.4 million of floating-rate debt, exclusive of original issue discount. Based on $937.4 million outstanding as floating-rate debt, a one percentage point interest rate increase or decrease as of February 3, 2024 ( after considering our interest rate swap contract and assuming current borrowing level remains constant), would cause an increase or decrease, respectively, to cash interest expense of $4.9 million per year. This sensitivity analysis assumes our mix of financial instruments and all other variables will remain constant in future periods. These assumptions are made in order to facilitate the analysis and are not necessarily indicative of our future intentions.
Our ability to satisfy our interest payment obligations on our outstanding debt will depend largely on our future performance, which, in turn, is in part subject to prevailing economic conditions and to financial, business and other factors beyond our control. If we do not have sufficient cash flow to service our interest payment obligations on our outstanding indebtedness and if we cannot borrow or obtain equity financing to satisfy those obligations, our business and results of operations will be materially adversely affected. We cannot be assured that any replacement borrowing or equity financing could be successfully completed.
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