Change at LNT shreds profits

Don Hogsett, April 26, 2004

Hit hard by the impact of a change in the way it accounts for vendor allowances, Linens 'n Things recorded a break-even first quarter, with profits skidding down by 98.6 percent, to $30,000 from $2.1 million last year.

Even so, it was a stronger performance than Wall Street had expected, and the break-even quarter improved on analysts' expectations of a small loss of 2 cents a share, compared with a year-before profit of 5 cents a share. Excluding the effects of the accounting change, the retailer would have recorded a profit of $4.9 million, more than double the $2.1 million it earned the preceding year.

Helped by continued expansion, sales at the home furnishings superstore jumped 15.1 percent, to $552.8 million from $480.5 million during the same period a year ago. Same-store sales improved by 4.7 percent.

Skewing the year-over-year earnings comparison at Linens 'n Things was a change in the way the retailer accounts for the substantial amount of cash it gets from suppliers each fiscal quarter in the form of vendor allowances.

Indeed, providing a specific number, Linens 'n Things reported vendor allowances totaled $7.9 million during the opening quarter. Without that $7.9 million, Linens 'n Things made only $30,000 during the quarter.

In a further impact, the accounting change affects the company's expense levels and expense ratio — operating costs measured as a percentage of sales. Linens 'n Things has used the vendor allowances to reduce its operating costs, improving its profit performance. Helped by vendor allowances, operating costs totaled $212.6 million, or 38.5 percent of sales during the first quarter of this year. Without that assistance from suppliers, costs climbed to $220.4 million, or 39.9 percent of sales.

Commenting on the company's sales and merchandising performance, Norman Axelrod, chairman and CEO, said, "Overall, we are encouraged by our current performance and by the increased traffic coming into our stores, which we believe stem from the steady progress we are making on our initiatives."

During the opening quarter, the company accelerated its expansion plans, opening 21 new stores, compared with 16 in the same period a year ago. For all of this year, Linens 'n Things plans to open about 45 to 50 new stores in the United States and Canada.

Looking ahead to the second quarter, the retailer said it expects earnings per share, including the accounting change, of 8 to 9 cents per share, down from 13 cents last year.

Without the accounting change, earnings would rise to 15 or 16 cents per share.

Linens 'n Things

Qtr. 4/3 (x000) 2004 2003 % chg
Sales $552,800 $480,471 15.1
Oper. income (EBIT) 64a 3,440a -98.1
Net income 30a 2,078 -98.6
Per share (diluted) 0.00a 0.11 --
Average gross margin 39.9% 40.1% --
SG&A expenses 39.9%a 39.4% --
a-Lower first-quarter 2004 earnings and operating profits, and higher SG&A expenses, reflect a change in accounting for vendor allowances. During the period, Linens 'n Things recorded vendor allowances of $7.9 million on a pre-tax basis, which, under the accounting change, are not applied to cost of goods sold, SG&A expenses, or net income. If the vendor allowances are included, SG&A expense is $212.6 million instead of $220.4 million. Measured as a percentage of sales, SG&A expense is 38.5 percent instead of 39.9 percent, a reduction of 140 basis points, or 1.4 percentage points. Including the vendor allowances, operating profit is $7.9 million instead of $64,000. Net income is $4.9 million instead of $30,000; and earnings per fully diluted share is $0.11 instead of $0.00.

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