Leslie's, Inc. 10-K

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations. The following discussion and analysis of our financial condition and results of operations should be read together with the section titled “Selected Financial Data” and our consolidated financial statements and related notes, which are included elsewhere in this Annual Report on Form 10-K. This discussion may contain forward-looking statements based upon current expectations that involve risks and uncertainties. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of various factors, including those set forth under “Risk Factors” or in other sections of this Annual Report on Form 10-K. We operate on a fiscal calendar that results in a fiscal year consisting of a 52- or 53-week period ending on the Saturday closest to September 30th. In a 52-week fiscal year, each quarter contains 13 weeks of operations; in a 53-week fiscal year, each of the first, second and third quarters includes 13 weeks of operations and the fourth quarter includes 14 weeks of operations. References to fiscal year 2020 and fiscal year 2019 refer to the fiscal years ended October 3, 2020 and September 28, 2019. Fiscal y ear 2020 included 53 weeks of operations. Fiscal year 2019 included 52 weeks of operations. Our Company We are the largest and most trusted direct-to-consumer brand in the nearly $11 billion U.S. pool and spa care industry, serving residential, professional, and commercial consumers. Founded in 1963, we are the only direct-to-consumer pool and spa care brand with national scale, operating an integrated marketing and distribution ecosystem powered by a physical network of 936 branded locations and a robust digital platform. We offer an extensive assortment of professional-grade products, the majority of which are exclusive to Leslie’s, as well as certified installation and repair services, all of which are essential to the ongoing maintenance of pools and spas. Our dedicated team of associates, pool and spa care experts, and experienced service technicians are passionate about empowering our consumers with the knowledge, products, and solutions necessary to confidently maintain and enjoy their pools and spas. The considerable scale of our integrated marketing and distribution ecosystem, which is powered by our direct-to-consumer network, uniquely enables us to efficiently reach and service every pool and spa in the continental United States. We operate primarily in the pool and spa aftermarket industry which is one of the most fundamentally attractive consumer categories given its scale, predictability, and growth outlook. We have a highly predictable, recurring revenue model, as evidenced by our 57 consecutive years of sales growth. More than 80% of our assortment is comprised of non-discretionary products essential to the care of residential and commercial pools and spas. Our assortment includes chemicals, equipment and parts, cleaning and maintenance equipment, and safety, recreational, and fitness-related products. We also offer important essential services, such as equipment installation and repair for residential and commercial consumers. Consumers receive the benefit of extended vendor warranties when purchasing product through our locations or when our certified in-field technicians install or repair equipment on-site. We offer complimentary, commercial-grade in-store water testing and analysis via our proprietary AccuBlue ® system, which increases consumer engagement, conversion, basket size, and loyalty, resulting in higher lifetime value. Our water treatment expertise is powered by data and intelligence accumulated from the millions of water tests we have performed over our history, positioning us as the most trusted water treatment service provider in the industry. Due to the non-discretionary nature of our products and services, our business has historically delivered strong, uninterrupted growth and profitability in all market environments, including the Great Recession and the COVID-19 pandemic. We have a legacy of leadership and disruptive innovation. Since our founding in 1963, we have been the leading innovator in our category and have provided our consumers with the most advanced pool and spa care available. As we have scaled, we have leveraged our competitive advantages to strategically reinvest in our business and intellectual property to develop new value-added capabilities. Over the course of our history, we have pioneered complimentary in-store water testing, offered complimentary in-store equipment repair services, introduced the industry’s first loyalty program, and developed an expansive platform of owned and exclusive brands. These differentiated capabilities allow us to meet the needs of any pool and spa owner, whether they care for their pool or spa themselves or rely on a professional, whenever, wherever, and however they choose to engage with us. Key Factors and Measures We Use to Evaluate Our Business We consider a variety of financial and operating measures in assessing the performance of our business. The key GAAP measures we use are sales, gross profit and gross margin, selling, general and administrative expenses, and operating income. The key non-GAAP measures we use are comparable sales, comparable sales growth, adjusted EBITDA, adjusted net income, and adjusted net income per share. 33 Sales We offer a broad range of products that consists of regularly purchased, non-discretionary pool and spa maintenance items such as chemicals, equipment, cleaning accessories and parts, as well as installation and repair services for pool and spa equipment. Our offering of proprietary, owned and third-party brands across diverse product categories drives sales growth by attracting new consumers and encouraging repeat visits from our existing consumers. Revenue from merchandise sales at retail locations is recognized at the point of sale, revenue from services are recognized when the services are rendered and revenue from e-commerce merchandise sales is generally recognized upon shipment of the merchandise. Revenue is recorded net of related discounts and sales tax. Payment from retail customers is generally at the point of sale and payment terms for commercial customers are based on the Company’s credit requirements and generally have terms of less than 60 days. When we receive payment from a consumer before the consumer has taken possession of the merchandise or the service has been performed, the amount received is recorded as deferred revenue or as a customer deposit until the sale or service is complete. Sales are impacted by product mix and availability, as well as promotional and competitive activities and the spending habits of our consumers. Growth of our sales is primarily driven by comparable sales growth and expansion of our locations in existing and new markets. Comparable Sales and Comparable Sales Growth We measure comparable sales growth as the increase or decrease in sales recorded by the comparable base in any reporting period, compared to sales recorded by the comparable base in the prior reporting period. The comparable base includes sales through our locations and through our e-commerce websites and third-party marketplaces. Comparable sales is a key measure used by management and our board of directors to assess our financial performance. We consider a new or acquired location comparable in the first full month after it has completed 52 weeks of sales. Closed locations become non-comparable during their last partial month of operation. Locations that are relocated are considered comparable at the time the relocation is complete. Comparable sales are not calculated in the same manner by all companies, and accordingly, are not necessarily comparable to similarly titled measures of other companies and may not be an appropriate measure for performance relative to other companies. The number of new locations reflects the number of locations opened during a particular reporting period. New locations require an initial capital investment in location build-outs, fixtures, and equipment, which we amortize over time as well as cash required for inventory. We opened or acquired 10 locations in fiscal year 2020, 28 locations in fiscal year 2019, and 38 locations in fiscal year 2018. We consolidated operations in certain markets and closed 26 locations in fiscal year 2020, 16 locations in fiscal year 2019, and 5 locations in fiscal year 2018. As of October 3, 2020, we operate 936 retail locations in 37 states across the United States. We own 27 locations and lease the remainder of our locations. Our initial lease terms are typically five years with options to renew for multiple successive five-year periods. We evaluate new opportunities in new and existing markets based on the number of pools and spas in the market, competition, our existing locations, availability and cost of real estate, and distribution cost, and operating costs of our locations. We review performance of our locations on a regular basis and evaluate opportunities to strategically close locations to improve our profitability. Our limited investment costs in individual locations and our ability to transfer sales to our extensive network of remaining locations and e-commerce websites allows us to improve profitability as a result of any strategic closures. Gross Profit and Gross Margin Gross profit is equal to our sales less our cost of merchandise and services sold. Cost of merchandise and services sold reflects the direct cost of purchased merchandise, costs to package certain chemical products, including direct materials and labor, costs to provide services, including labor and materials, as well as distribution and occupancy costs. The direct cost of purchased merchandise includes vendor rebates, which are generally treated as a reduction of merchandise costs. We recognize such vendor rebates at the time the obligations to purchase products or perform services have been completed, and the related inventory has been sold. Distribution costs include warehousing and transportation expenses, including costs associated with third-party fulfillment centers used to ship merchandise to our e-commerce consumers. Occupancy costs include the rent, common area maintenance, real estate taxes, and 34 depreciation and amortization costs of all retail locations. These costs are significant and can be expected to continue to increase as our company grows. Gross margin is gross profit as a percentage of our sales. Gross margin is impacted by merchandise costs, pricing and promotions, product mix and availability, inflation, and service costs, which can vary. Our proprietary brands, custom-formulated products, and vertical integration provide us with cost savings, as well as greater control over product availability and quality as compared to other companies in the industry. Gross margin is also impacted by the costs of distribution and occupancy costs, which can vary. Our gross profit is variable in nature and generally follows changes in sales. The components of our cost of merchandise and services sold may not be comparable to the components of cost of sales or similar measures of other companies. As a result, our gross profit and gross margin may not be comparable to similar data made available by other companies. Selling, General and Administrative Expenses Our selling, general and administrative expenses, or SG&A, include selling and operating expenses at our retail locations and corporate-level general and administrative expenses. Selling and operating expenses at retail locations include payroll, bonus and benefit costs for personnel, supplies, and credit and debit card processing costs. Corporate expenses include payroll, bonus, and benefit costs for our corporate and field support functions, marketing and advertising, insurance, utilities, occupancy costs related to our corporate office facilities, professional services, and depreciation and amortization for all assets, except those related to our retail locations and distribution operations, which are included in cost of merchandise and services sold. Selling and operating expenses generally vary proportionately with sales and the change in the number of locations. In contrast, general and administrative expenses are generally not directly proportional to sales and the change in the number of locations, but will be expected to increase over time to support the needs of our growing company. The components of our SG&A may not be comparable to the components of similar measures of other companies. Operating Income Operating income is gross profit less SG&A. Operating income excludes interest expense, income tax expense, and other expenses, net. We use operating income as an indicator of the productivity of our business and our ability to manage expenses. Adjusted EBITDA Adjusted EBITDA is a key measure used by management and our board of directors to assess our financial performance. Adjusted EBITDA is also frequently used by analysts, investors and other interested parties to evaluate companies in our industry, when considered alongside other GAAP measures. We use adjusted EBITDA to supplement GAAP measures of performance to evaluate the effectiveness of our business strategies, to make budgeting decisions and to compare our performance against that of other companies using similar measures. 35 Adjusted EBITDA is defined as earnings before interest (including amortization of debt costs), taxes, depreciation, amortization, loss ( gain) on disposition of fixed assets, management fees, equity-based compensation expense, mark-to-market on interest rate cap, and special items. Adjusted EBITDA is not a recognized measure of financial performance under GAAP but is used by some investors to determine a company’s ability to service or incur indebtedness. Adjusted EBITDA is not calculated in the same manner by all companies, and accordingly, is not necessarily comparable to similarly entitled measures of other companies and may not be an appropriate measure for performance relative to other companies. Adjusted EBITDA should not be construed as an indicator of a company’s operating performance in isolation from, or as a substitute for, net income (loss), cash flows from operations or cash flow data, all of which are prepared in accordance with GAAP. We have presented a djusted EBITDA solely as supplemental disclosure because we believe it allows for a more complete analysis of results of operations. Adjusted EBITDA is not intended to represent, and should not be considered more meaningful than, or as an alternative to, measures of operating performance as determined in accordance with GAAP. In the future , we may incur expenses or charges such as those added back to calculate a djusted EBITDA. Our presentation of a djusted EBITDA should not be construed as an inference that our future results will be unaffected by these items. Adjusted Net Income and Adjusted Net Income per Share Adjusted net income and adjusted net income per share are additional key measures used by management and our board of directors to assess our financial performance. Adjusted net income and adjusted net income per share are also frequently used by analysts, investors, and other interested parties to evaluate companies in our industry, when considered alongside other GAAP measures. Adjusted net income is defined as net income adjusted to exclude loss (gain) on disposition of assets, management fees, equity-based compensation expense, mark-to-market on interest rate cap, and special items. Adjusted net income per share is defined as adjusted net income divided by the weighted average number of common shares outstanding. Factors Affecting the Comparability of our Results of Operations Our results over the past three years have been affected by, among other events, the following events, which must be understood in order to assess the comparability of our period-to-period financial performance and condition. Impact of COVID-19 We are closely monitoring the impact of COVID-19 on all aspects of our business and in all of our locations. As of October 3, 2020, we operated 936 locations in 37 states and all locations are currently open. During the twelve months ended October 3, 2020, we maintained operations in nearly all of our markets as an ‘essential’ business, as defined by various federal, state, and local authorities, by providing essential products and services that maintain the safety and sanitization of homes and businesses. Certain of our locations were temporarily closed or restricted to curbside service only. These closures and restrictions did not have a material impact on our performance during the twelve months ended October 3, 2020. We remain committed to supporting federal, state, and local mandates to prevent the spread of COVID-19 while we operate our business and to do our part in protecting public health. We help keep our communities safe from serious public health risks by providing essential products and services. Water that is not properly maintained can serve as a breeding ground for potentially fatal bacteria and viruses. As a business, the health and safety of our consumers, communities, and associates remain our highest priority, and we continue to take all precautions recommended by the Centers for Disease Control and Prevention to ensure their safety and well-being. We have proactively implemented extensive measures in response to COVID-19 throughout our business operations, including: • Required team members who are experiencing symptoms or have been in close contact with someone who has symptoms or has been exposed to the coronavirus to stay home; • Improved employee benefits related to COVID-19 conditions; 36 • Distributed personal protective equipment and implemented temperature monitoring protocols, including the installation of contactless temperature scanners in our corporate offices and distribution centers; • Enhanced facility cleaning including routine sanitization of high touch surfaces; • Implemented social distancing guidelines and capacity restrictions in our locations and reduced operating hours; • Encouraged contactless payments and introduced curbside pickup and contact-free service calls; • Incurred front line recognition pay for associates in our locations, distribution centers, and service technicians during the third and fourth quarters of 2020; • Executed remote workforce plan for associates in our corporate offices; and • Enacted mandatory travel restrictions. We have also closely coordinated with our vendor partners to minimize the impact of supply disruptions and maintain the flow of essential products to meet the elevated demand from consumers in the current environment. The full impact of COVID-19 on our financial and operating performance will depend significantly on the duration and severity of the pandemic, the actions taken to contain or mitigate its impact, and the change in consumer behaviors. It is not possible to predict the likelihood, timing, or severity of the aforementioned direct and indirect impacts of COVID-19 on our business. We may further restrict the operations of our locations and distribution facilities and these measures could have a material impact on our sales and earnings. COVID-19 could also lead to significant disruption to our supply chain for products we sell and could have a material impact on our sales and earnings. Business Acquisitions In January 2018, we acquired a provider of supplies and services for swimming pools, spas, and above ground pools, and related equipment. The acquisition included five locations in Pennsylvania. In May 2018, we acquired a pool and spa parts distributor headquartered in Tucson, Arizona. The acquisition included inventory and assets at facilities located in Arizona and Tennessee. In January 2019, we acquired a provider of supplies and services for swimming pools, spas, barbecues, and fireplaces based in Washington. The acquisition included nine locations in the Pacific Northwest and expanded our physical presence to 36 states. In October 2019, we acquired a provider of supplies and services for spas, swim spas, and saunas based in Oregon. The acquisition included six locations in the Pacific Northwest and expanded our physical presence to 37 states. The consolidated financial statements include the results of operations of the acquisitions since their respective acquisition dates. The acquisitions did not have a material impact on our financial position or results of operations, either individually or in the aggregate. The total purchase consideration was allocated to the assets acquired and liabilities assumed at their estimated fair values as of the date of acquisition, as determined by management. The excess of the purchase price over the amounts allocated to assets acquired and liabilities assumed has been recorded as goodwill. Incremental Public Company Expenses As a newly public company we will incur significant expenses on an ongoing basis that we did not incur as a private company. Those costs include additional director and officer liability insurance expenses, as well as third-party and internal resources related to accounting, auditing, Sarbanes-Oxley Act compliance, legal, and investor and public relations expenses. These costs will generally be expensed under SG&A in the consolidated statement of operations. 37 Results of Operations The following tables summarize key components of our results of operations for the periods indicated, both in dollars and as a percentage of our sales. We derived the consolidated statements of operations for fiscal year 2020, fiscal year 2019 and fiscal year 2018 from our consolidated financial statements. Our historical results are not necessarily indicative of the results that may be expected in the future. Results of Operations Fiscal Year Ended October 3, September 28, September 29, (dollars in thousands, except per share amounts) 2020 2019 2018 Sales $ 1,112,229 $ 928,203 $ 892,600 Cost of merchandise and services sold 651,516 548,463 535,464 Gross profit 460,713 379,740 357,136 Selling, general and administrative expenses 314,338 258,152 241,669 Operating income 146,375 121,588 115,467 Other expense: Interest expense 84,098 98,578 91,656 Other expenses, net 1,089 7,453 1,759 Total other expense 85,187 106,031 93,415 Income before taxes 61,188 15,557 22,052 Income tax expense 2,627 14,855 4,926 Net income $ 58,561 $ 702 $ 17,126 Percentage of Sales(1) (%) (%) (%) Sales 100.0 100.0 100.0 Cost of merchandise and services sold 58.6 59.1 60.0 Gross Margin 41.4 40.9 40.0 Selling, general and administrative expenses 28.3 27.8 27.1 Operating income 13.2 13.1 12.9 Interest expense 7.6 10.6 10.3 Other expenses, net 0.1 0.8 0.1 Total other expense 7.7 11.4 10.5 Income before taxes 5.5 1.7 2.5 Income tax expense 0.2 1.6 0.6 Net income 5.3 0.1 1.9 Other financial and operations data: Number of new and acquired locations 10 28 38 Number of locations open at end of period 936 952 940 Comparable Sales Growth(2) 18.0 % 0.4 % (1.3 )% Adjusted EBITDA(3) $ 182,770 $ 160,003 $ 151,799 Adjusted EBITDA as a percentage of sales(3) 16.4 % 17.2 % 17.0 % Adjusted net income(3) $ 64,973 $ 12,765 $ 22,927 Adjusted net income per share $ 0.42 $ 0.08 $ 0.15 (1) Components may not add to totals due to rounding. (2) See the section titled “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Key Factors and Measures We Use to Evaluate Our Business.” (3) The tables below provide a reconciliation from our net income to adjusted EBITDA and net income to adjusted net income for fiscal year 2020, fiscal year 2019, and fiscal year 2018. 38 Results of Operations Fiscal Year Ended October 3, September 28, September 29, 2020 2019 2018 Net income $ 58,561 $ 702 $ 17,126 Interest expense 84,098 98,578 91,656 Income tax expense 2,627 14,855 4,926 Depreciation and amortization expenses (a) 28,925 30,424 31,611 Loss on disposition of assets (b) 785 1,751 1,057 Management fee (c) 4,900 4,533 3,223 Equity-based compensation expense (d) 1,785 2,130 1,785 Mark-to-market on interest rate cap (e) 22 4,288 (3,045 ) Other (f) 1,067 2,742 3,460 Adjusted EBITDA $ 182,770 $ 160,003 $ 151,799 Results of Operations Fiscal Year Ended October 3, September 28, September 29, 2020 2019 2018 Net income $ 58,561 $ 702 $ 17,126 Loss on disposition of assets (b) 785 1,751 1,057 Management fee (c) 4,900 4,533 3,223 Equity-based compensation expense (d) 1,785 2,130 1,785 Mark-to-market on interest rate cap (e) 22 4,288 (3,045 ) Other (f) 1,067 2,742 3,460 Tax effects of these adjustments (g) (2,147 ) (3,381 ) (206 ) Adjusted net income $ 64,973 $ 12,765 $ 23,400 (a) Includes depreciation related to our distribution centers and stores, which is included within the cost of merchandise and services sold line item in our consolidated statements of operations. (b) Consists of loss on disposition of assets associated with store closures or the sale of property and equipment. (c) Represents amounts paid or accrued in connection with our management services agreement. The management services agreement terminated upon the completion of our IPO. (d) Represents non-cash charges related to equity-based compensation. (e) Includes non-cash charges related to the change in fair value of our interest rate cap agreements. (f) Other non-recurring, non-cash or discrete items as determined by management, such as transaction related costs, personnel-related costs, legal expenses, strategic project costs, and miscellaneous costs. (g) Represents the tax effect of the total adjustments based on our statutory tax rate for each fiscal year. Fiscal Year 2020 Compared to Fiscal Year 2019 Impact of 53 rd week Fiscal year 2020 included a 53 rd week, which added approximately $18.0 million in sales, $1.5 million in net income, and $3.0 million in adjusted EBITDA. Sales Sales increased to $1,112.2 million in fiscal year 2020 from $928.2 million in fiscal year 2019, an increase of $184.0 million or 19.8%. The increase was the result of a comparable sales increase of 18.0% and non-comparable sales growth primarily attributable to acquisitions and the 53 rd week. The comparable sales increase of $163.3 million in fiscal year 2020 was driven by an increase in consumer demand across all product categories due to higher use of residential pools and spas. We believe that COVID-19 has accelerated secular trends in consumer behavior and has favorably impacted our sales. While the duration and effects of the COVID-19 pandemic are uncertain, we anticipate that the changes in consumer behavior will continue for the foreseeable future. 39 Gross Profit and Gross Margin Gross profit increased to $460.7 million in fiscal year 2020 from $379.7 million in fiscal year 2019, an increase of $81.0 million or 21.3%. Gross profit increased by $72.4 million related to higher comparable sales and by $8.8 million related to higher non-comparable sales, and was partially offset by $0.2 million in higher occupancy expenses. Gross margin increased to 41.4% in fiscal year 2020 compared to 40.9% in fiscal year 2019, an increase of 51 basis points. Selling, General and Administrative Expenses SG&A increased to $314.3 million in fiscal year 2020 from $258.2 million in fiscal year 2019, an increase of $56.2 million or 21.8%. The increase in SG&A was primarily driven by increased costs related to higher sales volume of $20.6 million, higher compensation expense of $10.9 million, expenses associated with COVID-19 of $8.6 million for temporary wage increases and personal protective equipment, expenses related to strategic consolidations of certain locations of $3.5 million, one-time bonus incentive accruals of $2.9 million, and higher general and administrative expenses of $9.7 million partially driven by higher spend related to information systems. As a percentage of sales, SG&A increased to 28.3% in fiscal year 2020 compared to 27.8% in fiscal year 2019, an increase of 45 basis points. Total Other Expense Total other expense decreased to $85.2 million in fiscal year 2020 from $106.0 million in fiscal year 2019, a decrease of $20.8 million. The decrease in fiscal year 2020 was primarily driven by lower interest expense on our floating rate debt of $14.5 million, a reduction in fair market valuation adjustments related to our interest rate cap agreements of $4.3 million, and a reduction of other expenses of $2.0 million. Income Taxes We recorded an income tax expense of $2.6 million in fiscal year 2020 and an expense of $14.9 million in fiscal year 2019, a decrease of $12.2 million. The change in income tax expenses was the result of higher pre-tax income during fiscal year 2020 and was more than offset by the impact of limitations on interest expense deductibility in accordance with section 163(j) of the Tax Cuts and Jobs Act of 2017 in each period. Net Income and Net Income per Share Consequently, net income increased to $58.6 million in fiscal year 2020 from an income of $0.7 million in fiscal year 2019, an increase of $57.9 million. Net income per share increased to $0.37 in fiscal year 2020 from a net income per share of $0.00 in fiscal year 2019. Adjusted EBITDA Adjusted EBITDA increased to $182.8 million in fiscal year 2020 from $160.0 million in fiscal year 2019, an increase of $22.8 million or 14.2%. The increase is due primarily to our increase in comparable sales and an improvement in gross margin. Adjusted EBITDA as a percentage of sales decreased to 16.4% in fiscal year 2020 compared to 17.2% in fiscal year 2019, a decrease of 81 basis points. Adjusted Net Income and Adjusted Net Income per Share Adjusted net income increased to $65.0 million in fiscal year 2020 from an adjusted net income of $12.8 million in fiscal year 2019, an increase of $52.2 million. Adjusted net income per share increased to $0.42 in fiscal year 2020 from an adjusted net income per share of $0.08 in fiscal year 2019. 40 Fiscal Year 2019 Compared to Fiscal Year 2018 Sales Sales increased to $928.2 million in fiscal year 2019 from $892.6 million in fiscal year 2018, an increase of $35.6 million or 4.0%. This increase was driven primarily by a $31.9 million increase related to non-comparable sales related to acquisitions and higher comparable sales of $3.7 million. Comparable sales increased by 0.4% in fiscal year 2019 when compared to the prior year. Gross Profit and Gross Margin Gross profit increased to $379.7 million in fiscal year 2019 from $357.1 million in fiscal year 2018, an increase of $22.6 million or 6.3%. Gross profit increased by $18.0 million related to higher comparable sales and by $8.8 million related to higher non-comparable sales. The increase in gross profit was partially offset by higher occupancy expenses of $2.6 million and higher distribution expenses of $1.6 million. Gross margin increased to 40.9% in fiscal year 2019 compared to 40.0% in fiscal year 2018, an increase of 90 basis points. Selling, General and Administrative Expenses SG&A increased to $258.2 million in fiscal year 2019 from $241.7 million in fiscal year 2018, an increase of $16.5 million or 6.8%. The increase in SG&A was primarily driven by costs related to higher sales volume of $8.8 million, higher compensation expense of $5.2 million, and higher corporate support expenses of $2.5 million. As a percentage of sales, SG&A increased to 27.8% in fiscal year 2019 compared to 27.1% in fiscal year 2018, an increase of 74 basis points. Total Other Expense Total other expense increased to $106.0 million in fiscal year 2019 from $93.4 million in fiscal year 2018, an increase of $12.6 million. The increase was primarily driven by higher interest expense on our floating rate debt of $6.9 million, the impact related to the change in fair value of our interest rate cap agreements of $7.3 million, and partially offset by lower other expenses of $1.6 million. Income Taxes Income tax expense increased to $14.9 million in fiscal year 2019 from $4.9 million in fiscal year 2018. The increase in income tax expense and the effective tax rate is related to a higher valuation allowance recorded in the current year due to limitations on interest expense deductibility in accordance with section 163(j) of the Tax Cuts and Jobs Act of 2017. As of September 28, 2019 and September 29, 2018, we recorded a deferred tax asset of $17.9 million and $5.7 million, respectively, and a valuation allowance of $16.8 million and $5.7 million, respectively, related to our interest expense limitation. Net Income and Net Income per Share Consequently, net income decreased to $0.7 million in fiscal year 2019 from $17.1 million in fiscal year 2018, a decrease of $16.4 million. Net income per share decreased to $0.00 in fiscal year 2019 compared to $0.11 in fiscal year 2018. Adjusted EBITDA Adjusted EBITDA increased to $160.0 million in fiscal year 2019 compared to $151.8 million in fiscal year 2018, an increase of $8.2 million or 5.4%. The increase in adjusted EBITDA primarily related to the incremental sales associated with an increase in our non-comparable sales and an improvement in gross margin. Adjusted EBITDA as a percentage of sales increased to 17.2% in fiscal year 2019 compared to 17.0% in fiscal year 2018, an increase of 23 basis points. 41 Adjusted Net Income and Adjusted Net Income Per Share Adjusted net income decreased to $12.8 million in fiscal year 2019 compared to $23.4 million in fiscal year 2018, a decrease of $10.1 million. Adjusted net income per share decreased to $0.08 in fiscal year 2019 compared to $0.15 in fiscal year 2018. Seasonality and Quarterly Fluctuations Our business is highly seasonal. In general, sales and earnings are highest during our fiscal year third and fourth quarters, which include April through September and represent the peak months of swimming pool use. In fiscal year 2020, we generated 77% of our sales and 109% of our adjusted EBITDA in the third and fourth quarters of our fiscal year. Sales are substantially lower during our fiscal first and second quarters. We have a long track record of investing in our business throughout the year, including in operating expenses, working capital, and capital expenditures related to new locations and other growth initiatives. While these investments drive performance during the primary selling season in our third and fourth fiscal quarters, they have a negative impact during our first and second fiscal quarters. We experience a build-up of inventory and accounts payable during the fiscal first and second quarters of the year in anticipation of the peak swimming pool supply selling season. We negotiate extended payment terms with certain of our primary suppliers as we receive merchandise in December through March and we pay for merchandise in April through July. As a result of lower sales volumes during our fiscal first and second quarters, we reach peak borrowing during our fiscal second quarter. The principal external factor affecting our business is weather. Hot weather can increase purchases of chemicals and other non-discretionary products, purchases of discretionary products, and can drive increased activity around installation and repair services we offer. Unseasonably cool weather or significant amounts of rainfall during the peak sales season can reduce chemical consumption in pools and spas and decrease consumer purchases of our products and services. In addition, unseasonably early or late warming trends can increase or decrease the length of the pool season and impact timing around pool openings and closings and, therefore, our total sales and timing of our sales. We generally open new locations before our peak selling season begins and we close locations after our peak selling season ends. We expect that our quarterly results of operations will fluctuate depending on the timing and amount of sales contributed by new locations. Liquidity and Capital Resources Overview Our primary sources of liquidity are net cash provided by operating activities and availability under our ABL Credit Facility. Historically, we have funded working capital requirements, capital expenditures, payments related to acquisitions, and debt service requirements with internally generated cash on hand and through our ABL Credit Facility. Cash and cash equivalents consist primarily of cash on deposit with banks. Cash and cash equivalents totaled $157.1 million as of October 3, 2020, $90.9 million as of September 28, 2019, and $77.6 million as of September 29, 2018. As of October 3, 2020, September 28, 2019, and September 29, 2018, we did not have any outstanding borrowings under our ABL Credit Facility. On August 13, 2020, we entered into an agreement to amend our ABL Credit Facility to extend the final maturity to August 13, 2025 and increase our borrowing capacity to $200 million, subject to certain restrictions. Our primary working capital requirements are for the purchase of inventory, payroll, rent, other facility costs, distribution costs, and general and administrative costs. Our working capital requirements fluctuate during the year, driven primarily by seasonality and the timing of inventory purchases. Our capital expenditures are primarily related to infrastructure-related investments, including investments related to upgrading and maintaining our information technology systems, ongoing location improvements, expenditures related to our distribution centers, and new location openings. We expect to fund capital expenditures from net cash provided by operating activities. 42 Based on our growth plans, we believe our cash and cash equivalents position, net cash provided by operating activities and availability under our ABL Credit Facility will be adequate to finance our working capital requirements, planned capital expenditures, and debt service over the next 12 months. In the future, we may also allocate capital toward additional strategic acquisitions. If cash provided by operating activities and borrowings under our ABL Credit Facility are not sufficient or available to meet our capital requirements, then we will be required to obtain additional equity or debt financing in the future. There can be no assurance equity or debt financing will be available to us if we need it or, if available, the terms will be satisfactory to us. As of October 3, 2020, outstanding standby letters of credit totaled $11.6 million and, after considering borrowing base restrictions, we had $125.5 million of available borrowing capacity under the terms of the ABL Credit Facility. As of October 3, 2020, we were in compliance with the covenants under the ABL Credit Facility, the Term Loan, and the Senior Unsecured Notes. Summary of Cash Flows A summary of our cash flows from operating, investing, and financing activities is presented in the following table (in thousands): Fiscal Year Ended October 3, September 28, September 29, 2020 2019 2018 Net cash provided by operating activities $ 103,409 $ 57,821 $ 43,280 Net cash used in investing activities (26,811 ) (36,996 ) (40,219 ) Net cash used in financing activities (10,425 ) (7,495 ) (24,386 ) Net increase (decrease) in cash and cash equivalents $ 66,173 $ 13,330 $ (21,325 ) Cash Provided by Operating Activities Net cash provided by operating activities increased to $103.4 million in fiscal year 2020 from $57.8 million in fiscal year 2019, an increase of $45.6 million or 78.8%. The increase was primarily driven by a $57.9 million increase in net income, a $2.8 million decrease related to changes in operating assets and liabilities, and a decrease in non-cash adjustments of $9.5 million. The changes in operating assets and liabilities was driven by changes in working capital, including an increase in accounts payable and accrued expenses primarily related to compensation expense accruals and payment timing for other expenses, lower inventories resulting from higher sales volume in the current year period, lower accounts receivable related to reduced commercial account activity and improved collection of vendor receivables. The increase in cash flows related to working capital was partially offset by an increase in prepaid expenses and an increase in income tax payable. The increase in non-cash adjustments primarily related to a change in deferred income taxes. Net cash provided by operating activities increased to $57.8 million in fiscal year 2019 from $43.3 million in fiscal year 2018, an increase of $14.5 million or 33.6%. The increase was primarily driven by a $33.3 million increase related to changes in operating assets and liabilities and partially offset by a $16.4 million decrease in net income. The changes in operating assets and liabilities were driven by changes in by working capital, including an increase in accounts payable and accrued expenses primarily related to compensation expense accruals and payment timing of rent and other expenses, and an increase in income tax payable. Cash Used in Investing Activities Net cash used in investing activities decreased to $26.8 million in fiscal year 2020 from $37.0 million in fiscal year 2019, a decrease of $10.2 million. The decrease in net cash used in investing activities relates to fewer new locations and a reduction in investments related to acquisitions in the current year period. Our net cash used in investing activities related to the acquisitions included $6.2 million in fiscal year 2020 and $9.6 million in fiscal year 2019. 43 Net cash used in investing activities decreased to $37.0 million for f iscal y ear 2019 from $40.2 million for f iscal y ear 2018, a decrease of $3.2 million. The decrease in net cash used in investing activities relates to fewer new locations and a reduction in investments related to the acquisitions in the current year period. Our net cash used in investing activities related to acquisitions included $9.6 million in f iscal y ear 2019 and $11.8 million in f iscal y ear 2018. Cash Used in Financing Activities Net cash used in financing activities increased to $10.4 million in fiscal year 2020 from $7.5 million for fiscal year 2019, an increase of $2.9 million. The increase in net cash used in financing related to an increase of $4.2 million of mandatory payments on our Term Loan offset by a decrease of $1.2 million in payments of declared dividends. Net cash used in financing activities decreased to $7.5 million for fiscal year 2019 from $24.4 million for fiscal year 2018, a decrease of $16.9 million. The decrease in net cash used in 2019 is primarily the result of fewer mandatory payments on our Term Loan during year. Contractual Obligations and Other Commitments The following table summarizes our contractual cash obligations as of October 3, 2020: Payments Due By Period (in millions) Total 2021 2022 2023 2024 2025 Thereafter Term Loan $ 811.1 $ 8.3 $ 8.3 $ 794.5 $ — $ — $ — Senior Unsecured Notes 390.0 - - - 390.0 - - Purchase commitments (1) 340.5 112.6 70.9 67.2 50.2 33.9 5.7 Operating lease obligations (2) 243.2 68.0 59.1 46.9 34.0 19.9 15.3 Letters of credit 11.6 11.6 - - - - - ABL Credit Facility (3) 4.7 0.8 0.8 0.8 0.8 0.8 0.7 Total $ 1,801.1 $ 201.3 $ 139.1 $ 909.4 $ 475.0 $ 54.6 $ 21.7 ( 1 ) Purchase obligations include all legally binding contracts and primarily relate to firm commitments for inventory purchases. Purchase orders that are not binding agreements are excluded from the table above. (2) Operating lease obligations relate to our stores, office, distribution, and manufacturing facilities. All of these obligations require cash payments to be made by us over varying periods of time. Certain leases are renewable at our option for periods of one to ten years and certain of these arrangements are cancelable on short notice while others require payments upon early termination. ( 3 ) We are required to pay a commitment fee of 0.375% based on the unused portion of the ABL Credit Facility. Off-Balance Sheet Arrangements We did not have any off-balance sheet arrangements as of October 3, 2020. Critical Accounting Policies and Estimates Our consolidated financial statements have been prepared in accordance with GAAP. The preparation of our consolidated financial statements and notes to consolidated financial statements requires us to make estimates that affect the reported amounts of assets, liabilities, sales and expenses, and related disclosures of contingent assets and liabilities. We base these estimates on historical results and various other assumptions believed to be reasonable, all of which form the basis for making estimates concerning the carrying values of assets and liabilities that are not readily available from other sources. Actual results may differ from these estimates. Our significant accounting policies are described in Note 2 to our consolidated financial statements included elsewhere in this Annual Report on Form 10-K. We believe that the following critical accounting policies affect the most significant estimates and management judgments used in preparing the consolidated financial statements. 44 Vendor Rebates Many of our vendor arrangements provide for us to receive specified amounts of consideration when we achieve various measures. These measures generally relate to the volume of purchases from our vendors. We generally account for vendor programs as a reduction of the prices of the vendor’s products and therefore a reduction of inventory until we sell the product, at which time we recognize such consideration as a reduction of cost of merchandise and services sold in our consolidated statement of operations. Certain programs offering advertising support are recorded as a reduction to selling, general and administrative expenses in the consolidated statement of operations. For certain arrangements, we estimate the amount earned based on our latest projection of total purchases. We update our estimates each period to reflect actual purchase levels and any changes to our projection of total purchases. Goodwill and Other Intangibles We review goodwill and indefinite-lived intangible assets for impairment annually or on an interim basis whenever events or changes in circumstances indicate the fair value of such assets may be below their carrying amount. For goodwill, we may first make a qualitative assessment of whether it is more likely than not that a reporting unit’s fair value is less than its carrying value. The qualitative impairment assessment includes considering various factors including macroeconomic conditions, industry and market conditions, cost factors, and any reporting unit specific events. If it is determined through the qualitative assessment that the reporting unit’s fair value is more likely than not greater than its carrying value, the quantitative impairment assessment is not required. If the qualitative assessment indicates it is more likely than not that the reporting unit’s fair value is not greater than its carrying value, we must perform a quantitative impairment assessment. If it is determined a quantitative assessment is necessary, we would compare the fair value of the reporting unit to the respective carrying value, which includes goodwill. If the fair value of the reporting unit exceeds its carrying value, goodwill is not considered impaired. If the carrying value is higher than the fair value, the difference would be recognized as an impairment loss. Similar to our test for impairment of goodwill, we may first make a qualitative assessment of whether it is more likely than not that an indefinite-lived intangible assets’ fair value is less than its carrying value to determine whether it is necessary to perform a quantitative impairment assessment. If it is determined a quantitative assessment is necessary, we would compare their estimated fair values to their carrying values. We would recognize an impairment charge when the estimated fair value of the indefinite-lived intangible asset is less than its carrying value. We annually evaluate whether the trade names continue to have an indefinite life. Income Taxes We account for income taxes under the asset and liability method, which requires the recognition of deferred tax assets and liabilities for the future tax consequences attributable to differences between the financial statement carrying amounts and tax bases of existing assets and liabilities. Deferred tax assets, including the benefit of net operating loss and tax credit carryforwards, are evaluated based on the guidelines for realization and are reduced by a valuation allowance if it is deemed more likely than not that such assets will not be realized. We consider several factors in evaluating the realizability of our deferred tax assets, including the nature, frequency and severity of recent losses, the remaining years available for carryforwards, changes in tax laws, the future profitability of the operations in the jurisdiction, and tax planning strategies. The ultimate realization of deferred tax assets can be dependent upon the generation of future taxable income during the periods in which the associated temporary differences became deductible. On a quarterly basis, we evaluate whether it is more likely than not that our deferred tax assets will be realized in the future and conclude whether a valuation allowance must be established. Self-Insurance We are self-insured for certain losses related to health, workers’ compensation and general liability insurance, although we maintain stop-loss coverage with third-party insurers to limit our liability exposure. Liabilities associated with these losses are estimated in part by considering historical claim experience, industry factors, severity factors and other assumptions. We review and update these reserves on a quarterly basis. 45 Inventory Valuation Inventories consist of merchandise held for sale and are stated at the lower of cost or net realizable value. When evidence exists that the net realizable value of inventory is lower than its cost, the difference is recorded in cost of merchandise and services sold in our consolidated statement of operations as a loss in the period in which it occurs. We provide provisions for losses related to inventories based on historical purchase cost, selling price, margin, and current business trends. The estimates have calculations that require us to make assumptions based on the current rate of sales, age, salability of inventory, and profitability of inventory, all of which may be affected by changes in our merchandising mix and consumer preferences. We do not believe there is a reasonable likelihood that there will be a material change in the assumptions we use to calculate our inventory provisions. However, if actual results are not consistent with our estimates and assumptions, we may be exposed to losses or gains that could be material. We review and update these reserves on a quarterly basis. Recent Accounting Pronouncements For information regarding recent accounting pronouncements, see Note 2 to our consolidated financial statements.