dear tutor, i need you help to write the audit planning memo for this company (le chateau inc)

ANNUAL REPORT 20 15 CORPORATE PROFILE Le Chteau is a leading Canadian specialty retailer offering contemporary fashion apparel, accessories and footwear to style-conscious women and men. Our brand's success is built on quick identification of and response to fashion trends through our design, product development and vertically integrated operations. Le Chteau brand name merchandise is sold exclusively through our 211 retail locations located in Canada. In addition, the Company has 4 stores under license in the Middle East. Le Chteau's web-based marketing is further broadening the Company's customer base among Internet shoppers in both Canada and the United States. Le Chteau, committed to research, design and product development, manufactures approximately 30% of the Company's apparel in its own Canadian production facilities. A N N U A L R E P O RT 2 0 15 1 ONTARIO - SCARBOROUGH TOWN CENTRE BRITISH COLUMBIA - GUILDFORD TOWN CENTRE ONTARIO - YORKDALE SHOPPING CENTRE QUEBEC - FAIRVIEW POINTE-CLAIRE STORES AND SQUARE FOOTAGE J A N U ARY 3 0 , 2 0 1 6 J AN U ARY 3 1 , 2 0 1 5 STORES SQUARE FOOTAGE STORES SQUARE FOOTAGE ONTARIO 68 381,621 71 396,597 QUEBEC 65 356,518 68 375,507 ALBERTA 27 163,539 28 167,409 BRITISH COLUMBIA 22 125,259 24 130,120 MANITOBA 8 39,998 8 39,998 SASKATCHEWAN 7 29,957 7 29,957 NOVA SCOTIA 5 25,251 6 35,326 NEW BRUNSWICK 5 20,738 5 20,738 NEWFOUNDLAND 3 15,314 3 15,314 PRINCE EDWARD ISLAND 1 3,480 1 3,480 211 1,161,675 221 1,214,446 TOTAL CANADA TOTAL UNITED STATES TOTAL LE CHTEAU STORES SALES (in '000) 1 5,027 211 1,161,675 222 1,219,473 350,000 200,000 120,000 150,000 80,000 100,000 0 0 14 15 10,000 0 -15,000 -20,000 -30,000 -40,000 40,000 50,000 20,000 5,000 0 -5,000 0 -10,000 160,000 250,000 CASH FLOW FROM OPERATIONS (in '000) 10,000 200,000 300,000 13 NET LOSS (in '000) SHAREHOLDERS' EQUITY (in '000) 13 14 15 -10,000 -20,000 13 A N N U A L R E P O RT 2 0 15 14 15 3 13 14 15 FINANCIAL HIGHLIGHTS FISCAL YEARS ENDED January 30, 2016 January 31, 2015 January 25, 2014 January 26, 2013 January 28, 2012 (52 weeks) (53 weeks) (52 weeks) (52 weeks) (52 weeks) Sales 236,876 250,210 274,840 274,827 302,707 Loss before income taxes Net loss Per share - basic (35,745) (35,745) (1.19) (40,392) (38,676) (1.34) (21,708) (15,986) (0.59) (12,186) (8,717) (0.34) (2,982) (2,386) (0.10) (1.19) 29,964 (1.34) 28,968 (0.59) 27,289 (0.34) 25,659 (0.10) 0.43 24,789 80,686 60,354 168,490 83,268 91,983 181,327 74,889 125,099 210,858 84,841 139,798 220,210 90,345 143,105 233,794 3.24 0.09 1.24:1 3.25 0.13 0.61:1 2.20 0.20 0.37:1 2.79 0.19 0.27:1 3.13 0.32 0.32:1 (14,161) 9,115 211 1,161,675 (6,824) 8,527 222 1,219,473 (3,356) 6,318 229 1,249,643 6,036 9,237 235 1,281,954 (11,304) 23,755 243 1,284,248 RESULTS Per share - diluted Dividends per share Average number of shares outstanding (000) FINANCIAL POSITION Working capital Shareholders' equity Total assets FINANCIAL RATIOS Current ratio Quick ratio Long-term debt to equity (1) OTHER STATISTICS (units as specified) Cash flow from (used for) operations (in '000) Capital expenditures (in '000) Number of stores at year-end Square footage SHAREHOLDERS' INFORMATION TICKER SYMBOL: CTU.A LISTING: TSX (1) Including current and long-term portion of credit facility and long-term debt. (2) Excluding shares held by officers and directors of the Company. NUMBER OF PARTICIPATING SHARES OUTSTANDING (AS OF JUNE 3, 2016): 25,403,762 Class A Subordinate Voting Shares 4,560,000 Class B Voting Shares FLOAT: (2) 13,386,709 Class A Shares held by the public A N N U A L R E P O RT 2 0 15 5 MESSAGE TO SHAREHOLDERS Over the past few years, the retail landscape has radically evolved. Consumer shopping habits have changed in a revolutionary manner. The advent of e-commerce has played a transformative role and Le Chteau was among the first Canadian retailer to exploit its potential. In light of this evolution, the high concentration of stores in large urban markets - a successful model in the pre-digital world - is no longer required. Consequently, in light of this transformation, Le Chteau's strategy is to continue to recalibrate its retail network and close underperforming stores. The pace of store closures continues to be dedicated in large part by the end of leases. Our company's strategy began to respond to a new wave of challenges in 2012. In the face of significant new competition, the Company embarked on a major product repositioning and rebranding. In tandem with that initiative, the Company launched a store renovation program, and in August 2015 began a marketing campaign across Canada in collaboration with Sid Lee. This led to the \"Le Chteau of Montral\" brand refreshing. Consumers rediscovered our brand and products, and indications are that the campaign will carry a sustainable impact. Taking into account the closure of 11 stores, total sales for the 52-week period ended January 30, 2016 decreased 5.3% to $236.9 million from $250.2 million for the 53-week period ended January 31, 2015. For the same period, comparable store sales, which are defined as sales generated by stores that have been open for at least one year, decreased 1.9%. Included in comparable stores sales are online sales which increased 34.8% for the year. Adjusted earnings before interest, taxes, depreciation and amortization for the 52-week period amounted to ($12.8 million), compared with ($17.1 million) last year. The improvement of $4.3 million in adjusted EBITDA for 2015 was primarily attributable to a decrease of $3.9-million in SG&A expenses, as well as an increase of $428,000 in gross margin dollars. Consequently, in light of the above-mentioned changes and the challenging environment in the retail industry, the Company closed eleven stores in 2015. At year-end, the Company operated 211 stores including 65 fashion outlets. For the same period, total floor space was 1,162,000 square feet compared to 1,219,000 square feet at the end of the preceding year. In 2016, the Company is planning to close approximately fourteen stores and expects its total square footage to decline to approximately 1,100,000 square feet. Over the next three years, the Company plans on reducing its retail floor space by over 200,000 square feet, which represents approximately 40 stores. The closures will occur predominantly among the fashion outlets. Clearly, our e-commerce platform has become central to our strategy and we are making the investments to support its growth. While the contribution from online sales remains a small percentage of overall sales, the e-commerce platform continues to gain traction and is expanding customer reach. We remain confident in our business plan and maintain a positive outlook about the future of our brand. We have proven many times over that Le Chteau's business model is durable, resilient and authoritative. We know our customers; we know their needs. Despite many challenges, Le Chteau de Montreal has all the talent, ambition and strategic skills to maintain its leadership in the retail world. My gratitude goes to all the employees of Le Chteau de Montral, and my deepest appreciation to our shareholders for their continued support of our vision. Our commitment is to provide continued fashion leadership and renewed shareholder growth in the years to come. JANE SILVERSTONE SEGAL, B.A.LLL Chairman and Chief Executive Officer A N N U A L R E P O RT 2 0 15 7 MANAGEMENT'S DISCUSSION AND ANALYSIS April 15, 2016 The 2015 and 2013 years refer to the 52-week periods ended January 30, 2016 and January 25, 2014, respectively, while the 2014 year refers to the 53-week period ended January 31, 2015. The 2016 year refers to the 52-week period ending January 28, 2017. Management's Discussion and Analysis (\"MD&A\") should be read in conjunction with the audited consolidated financial statements and notes to the consolidated financial statements for the year ended January 30, 2016. All amounts in this report and in the tables are expressed in Canadian dollars, unless otherwise indicated. The audited consolidated financial statements have been prepared in accordance with International Financial Reporting Standards (\"IFRS\") and with the accounting policies included in the notes to the audited consolidated financial statements for the year ended January 30, 2016. Additional information relating to the Company, including the Company's Annual Information Form, is available online at www.sedar.com. SELECTED ANNUAL INFORMATION (IN THOUSANDS OF DOLLARS EXCEPT PER SHARE AMOUNTS) 2015 $ (52 weeks) Sales Loss before income taxes Net loss Net loss per share Basic Diluted Total assets Credit facility(1) Long term debt(1) Cash flow used for operations(2) Comparable store sales increase (decrease) % Square footage of gross store space at year end Regular stores Outlet stores Total Number of stores at year end Regular stores Outlet stores Total (1) (2) 9 (53 weeks) 2013 $ (52 weeks) 236,876 250,210\t274,840 (35,745) (40,392) (21,708) (35,745) (38,676) (15,986) (1.19) (1.34) (0.59) (1.19) (1.34) (0.59) 168,490 181,327 210,858 44,906 48,411\t30,767 30,018 7,843\t15,830 (14,161) (6,824)\t(3,356) (1.9)% (9.0)% 0.6% 701,395 460,280 1,161,675 831,846 853,864 387,627 395,779 1,219,473 1,249,643 146 180 185 65 42 44 211 222\t229 Includes current and long-term portion. After net change in non-cash working capital items related to operations. A N N U A L R E P O RT 2 0 15 2014 $ SALES Comparable store sales, which are defined as sales generated by stores that have been open for at least one year, decreased 1.9% for the year ended January 30, 2016 (see non-GAAP measures below). Included in comparable stores sales are online sales which increased 34.8% for the year. Total sales for the 52-week period ended January 30, 2016 decreased 5.3% to $236.9 million from $250.2 million for the 53-week period ended January 31, 2015. On a comparable week basis, the total sales for the 52-week period ended January 30, 2016 decreased 4.0%, with 11 fewer stores in operations, compared to the 52-week period ended January 31, 2015. In 2015, this decrease not only reflects an on-going highly competitive general retail landscape, but also the notable decline in Alberta, impacted by its economic conditions. Sales for 2015 also continued to be negatively impacted by reduced store traffic which reflects in part new shopping habits of customers via our e-commerce platform. Starting in 2012, in response to significant new competition, the Company embarked on a major product repositioning and rebranding project. In conjunction with the project, the Company initiated a store renovation program and in August 2015, launched a marketing campaign across Canada in collaboration with Sid Lee which led to the \"Le Chteau of Montral\" brand refreshing. The campaign combined TV, billboards and social media and raised brand awareness. Consumers rediscovered our brand and products, and we believe this will have a sustainable impact. Direct benefits of the media campaign were reflected in the sales of the Ladies and Footwear divisions with year-over-year increases of 3.9% and 11.1% in comparable store sales for the second half of 2015, respectively. Overall, we remain optimistic about the opportunity to grow our business and improve our margins. In October 2011, the Company introduced its first new concept store with a gradual rollout plan to the top-tier markets and malls. New concept stores are designed to provide an elevated experience consistent with the evolving brand through more sophisticated materials, furniture and fixtures. As of year-end, the new concept has now been rolled out to 20 stores. In addition to the new store at the Guildford Town Centre in British Columbia that opened on March 17, 2016, the Company plans to launch another 2 new concept stores during the year. Over the past few years, the retail landscape has evolved and consumer shopping habits have changed significantly with e-commerce. In light of this evolution, the high concentration of stores in large urban markets - a successful model in the pre-digital world - is no longer required. Consequently, in light of these changes and situation, our strategy is to continue to recalibrate our retail network and close underperforming stores. During 2015, the Company closed 11 stores. As at January 30, 2016, the Company operated 211 stores including 65 fashion outlet stores. Total floor space at the end of the year was 1,162,000 square feet compared to 1,219,000 square feet at the end of the preceding year. In 2016, the Company is planning to close approximately 14 stores and expects its total square footage to decline to approximately 1,100,000 square feet. Over the next three years, the Company plans on reducing its retail floor space by over 200,000 square feet representing approximately 40 stores, predominantly coming from the fashion outlet stores. Le Chteau's vertically integrated approach makes it unique, as a major Canadian retailer that not only designs and develops, but also manufactures its own brand name clothing. The Company currently manufactures approximately 30% of the Company's apparel (excluding footwear and accessories) in its state-of-the-art production facilities located in Montreal, which have long provided it with several key competitive advantages - short lead times and flexibility; improved cost control; the ability to give its customers what they want, when they want it; and allowing the Company to remain connected to the market throughout changing times. 10 TOTAL SALES BY DIVISION ( I N THO USANDS OF DOLLARS) The Company operates in a single business segment which is the retail of apparel, accessories and footwear aimed at fashionconscious women and men. The following table summarizes the Company's sales by division: Ladies' Clothing Men's Clothing Footwear Accessories % CHANGE 2015 2014 2013 2015-2014\t2014-2013 $\t$ $ % % (52 weeks) (53 weeks) (52 weeks) 138,830 143,229 156,150 39,473 42,685 48,215 30,017\t29,967 31,026 28,556\t34,329 39,449 236,876\t250,210 274,840 (3.1) (7.5) 0.2 (16.8) (5.3) (8.3) (11.5) (3.4) (13.0) (9.0) E-commerce: The e-commerce business with its cross channel capabilities reported a sales increase of 34.8% compared to the same period last year. While the contribution from online sales remains a relatively small percentage of overall sales, the e-commerce platform continues to gain traction and is expanding customer reach. Licensing: The Company is currently involved in a licensing arrangement with a retail developer in the Middle East to expand the number of Le Chteau branded stores in the region. As at January 30, 2016, there were 4 stores under licensee arrangement, one of which is in the Dubai Mall, United Arab Emirates. TOTAL SALES BY REGION (IN THOUSANDS OF DOLLARS) Ontario Quebec Prairies British Columbia Atlantic United States % CHANGE 2015 2014 2013 2015-2014\t2014-2013 $\t$ $ % % (52 weeks) (53 weeks) (52 weeks) 80,370 82,245 90,576 60,633 64,459 72,533 53,709 59,744 63,512 29,031 29,207 32,511 12,031 13,537 14,501 1,102 1,018 1,207 236,876\t250,210 274,840 (2.3) (5.9) (10.1) (0.6) (11.1) 8.3 (5.3) (9.2) (11.1) (5.9) (10.2) (6.6) (15.7) (9.0) In 2015, from a geographic perspective, the economies of some provinces were clearly negatively impacted by difficult market conditions in the resource sector. Excluding stores closures, British Columbia, Ontario and Quebec, representing over 70% of total sales, have performed relatively well compared to other provinces. A N N U A L R E P O RT 2 0 15 11 EARNINGS Earnings (loss) before interest, income taxes, depreciation, amortization, write-off and/or impairment of property and equipment, and gain on disposal of property and equipment (\"Adjusted EBITDA\") (see non-GAAP measures below) for the year ended January 30, 2016 amounted to $(12.8) million, compared to $(17.1) million last year. The improvement of $4.3 million in adjusted EBITDA for 2015 was primarily attributable to a decrease of $3.9 million in selling, general and administrative (\"SGA\") expenses, as well as an increase of $428,000 in gross margin dollars. SG&A expenses decreased due to reductions in store operating costs and head office expenses, offset by our Canada-wide media campaign that started in August 2015. The increase of $428,000 in gross margin dollars was the result of an increase in gross margin percentage to 64.2% from 60.6% in 2014, offset by the 5.3% decline in sales for 2015. The gross margin improvement for 2015 resulted from reduced promotional activity and fewer write-downs of finished goods inventory, partially offset by the pressure of the weaker Canadian dollar on merchandise purchased. For the year ended January 30, 2016, the Company recorded net write-downs of inventory totaling $300,000, compared to $5.3 million the previous year. The reduced amount reflects our on-going efforts over the past few years to reduce and improve the mix of inventory. Net loss for the 2015 year amounted to $35.7 million or $(1.19) per share, compared to $38.7 million or $(1.34) per share in 2014. Depreciation and amortization decreased to $16.5 million from $17.7 million in 2014, due to the reduced investments in non-financial assets over the last 2 years of $9.1 million and $8.5 million, respectively. Write-off and impairment of property and equipment relating to store closures, store renovations and underperforming stores decreased to $2.5 million in 2015 from $3.3 million last year. Finance costs increased to $3.9 million in 2015 from $2.9 million in 2014 as a result of additional borrowings during the current year. There was no income tax recovery recorded in 2015 due to the unrecognized benefit on the Canadian tax losses generated for the year ended January 30, 2016. LIQUIDITY AND CAPITAL RESOURCES The Company's liquidity follows a seasonal pattern based on the timing of inventory purchases and capital expenditures. The Company's credit facility, including the current portions, net of cash (bank indebtedness), amounted to $45.5 million as at January 30, 2016, compared with $47.2 million as at January 31, 2015. Cash flows used for operating activities amounted to $14.2 million in 2015, compared with $6.8 million the previous year. The increase of $7.4 million was primarily the result of (a) a decrease of $2.8 million in non-cash working capital requirements, (b) a decrease in $4.4 million in income tax refunded net of income tax recovery, and (c) a decrease of $1.6 million in provision/amortization for onerous contracts, offset by (d) a decrease of $1.6 million in the net loss before depreciation, amortization, write-off and impairment of property and equipment and gain on disposal of property and equipment. Long-term debt, including the current portion, amounted to $30.0 million as at January 30, 2016, compared with $7.8 million as at January 31, 2015. The increase in long-term debt is attributable to the new long-term debt financing totaling $27.5 million (see related party transactions below), net of $3.3 million of unamortized fair value adjustment and net of repayments of $2.0 million made during 2015. As at January 30, 2016, the long-term debt to equity ratio increased to 1.24 from 0.61:1 as at January 31, 2015. Debt includes the credit facility and long-term debt for purposes of the long-term debt to equity ratio. 12 On June 5, 2014, the Company renewed its asset based credit facility for a three-year term ending on June 5, 2017 with a limit of $80.0 million. The revolving credit facility is collateralized by the Company's cash, cash equivalents, marketable securities, credit card balances in transit and inventories, as defined in the agreement. The facility consists of revolving credit loans, which include both a swing line loan facility limited to $15.0 million and a letter of credit facility limited to $15.0 million. The available borrowings bear interest at a rate based on the Canadian prime rate, plus an applicable margin ranging from 0.50% to 1.00%, or a banker's acceptance rate, plus an applicable margin ranging from 1.75% to 2.25%. The Company is required to pay a standby fee ranging from 0.25% to 0.375% on the unused portion of the revolving credit. As at January 30, 2016, the effective interest rate on the outstanding balance was 3.1% (2014 - 3.4%). The Credit Agreement requires the Company to comply with certain non-financial covenants, including restrictions with respect to the payment of dividends and the purchase of the Company's shares under certain circumstances. As at January 30, 2016, the Company had drawn $45.3 million (2014 - $48.8 million) under this credit facility and had outstanding standby letters of credit totaling $2.5 million (2014 - $3.0 million) which reduced the availability under this credit facility. A portion of the amount drawn under this facility is presented as a current liability based on the Company's estimate of what it expects to settle in the next 12 months. Financing costs related to obtaining the above facility have been deferred and netted against the amounts drawn under the facility, and are being amortized over the term of the facility. On April 1, 2015 and June 22, 2015, the Company borrowed an additional $5.0 million and $15.0 million, respectively, from a company that is directly controlled by a director of the Company. These secured loans currently bear interest at a variable rate, payable monthly, equal to the lesser of (i) the prime rate of the Royal Bank of Canada multiplied by two and (ii) 7.5% (the $5.0 million loan originally had a fixed rate of interest of 7.5% but such rate was modified on June 22, 2015). The loans are repayable, in full, on January 31, 2020, and subject to the terms of its revolving credit facility, the Company may prepay the loans, in whole or in part, at any time without premium or penalty. On January 15, 2016, the Company entered into a loan agreement for $10.0 million from a company that is directly controlled by a director of the Company, of which $7.5 million was drawn on that date and the balance of $2.5 million drawn subsequent to year end on February 12, 2016. The financing is in the form of a secured loan which bears a variable rate of interest, payable monthly, equal to the lesser of (i) the prime rate of the Royal Bank of Canada multiplied by two and (ii) 7.5%. The loan is repayable at maturity on January 31, 2020, and subject to the terms of its revolving credit facility, may be prepaid, in whole or in part, at any time without premium or penalty. These loans will provide the Company with additional capital and financing flexibility, with proceeds being used primarily for working capital purposes, including the financing of expenditures related to the Company's store renovation program. The loans are secured by all the Company's assets and are subordinated in terms of ranking and repayment to the Company's $80.0 million revolving credit facility. A N N U A L R E P O RT 2 0 15 13 Cash provided by operating activities was used in the following financing and investing activities: 1. Capital expenditures of $9.1 million, consisting of: CAPITAL EXPENDITURES (IN THOUSANDS OF DOLLARS) 2015 2014 2013 $ $ $ New stores (NIL stores; 2014 - 1 store; 2013 - 1 store) Renovated stores (5 stores; 2014 - 5 stores; 2013 - 3 stores) Information technology Warehousing equipment Head office - leasehold improvements Other 433 582 5,634 6,515 3,561 1,671 1,016 1,486 168 262 1,148 494 563\t427 9,115 8,527\t6,318 2. Long-term debt and finance lease obligation repayments of $2.0 million The following table identifies the timing of undiscounted contractual obligations as well as operating lease commitments due as at January 30, 2016: CONTRACTUAL OBLIGATIONS (IN THOUSANDS OF DOLLARS) Total $ Bank indebtedness Credit facility Trade and other payables Long-term debt Finance lease obligations Operating leases 545 45,306 17,865 32,489 848 174,432 271,485 Less than 1 year $ 1-5 years $ After 5 years $ 545 13,344 17,865 848 38,173 70,775 31,962 32,489 104,868 169,319 31,391 31,391 For 2016, the projected capital expenditures are $7.5 to $8.0 million, of which $4.0 to $4.5 million is expected to be used for the renovation of 3 to 5 existing stores, with $3.5 million to be used for investments in information technology and infrastructure. Management expects to be able to continue financing the Company's operations and its capital expenditure requirements through cash flow from operations and long-term debt as well as the asset based credit facility of up to $80.0 million. Aside from the letters of credit outstanding, the Company did not have any other off-balance sheet financing arrangements as at January 30, 2016. 14 FINANCIAL POSITION Working capital amounted to $80.7 million as at January 30, 2016, compared to $83.3 million as at January 31, 2015. Total inventories as at January 30, 2016 decreased 1.5% to $113.6 million from $115.4 million as at January 31, 2015. For the year ended January 30, 2016, the Company recorded net write-downs of inventory totaling $300,000, compared to $5.3 million the previous year. As part of the Company's inventory management plan, the Company continues to use 65 outlets (460,000 square feet) in its network to sell prior season discounted merchandise. In addition, the on-line outlet division has also played an important role in the selling of these goods. Shareholders' equity amounted to $60.4 million at year-end compared to $92.0 million the previous year. Book value per share amounted to $2.01 as at January 30, 2016, compared to a book value per share of $3.07 as at January 31, 2015. DIVIDENDS AND OUTSTANDING SHARE DATA In 2015 and 2014, the Company did not declare any dividends on the Class A subordinate voting and Class B voting shares. As at April 15, 2016, there were 25,403,762 Class A subordinate voting and 4,560,000 Class B voting shares outstanding. Furthermore, there were 2,703,500 options outstanding with exercise prices ranging from $0.31 to $4.59, of which 1,406,400 options were exercisable. On June 18, 2014, a $5.0 million loan payable to a company that is directly controlled by the Chairman and Chief Executive Officer and director of the Company was converted into 2,617,801 Class A subordinate voting shares. NON-GAAP MEASURES In addition to discussing earnings measures in accordance with IFRS, this MD&A provides adjusted EBITDA as a supplementary earnings measure, which is defined as earnings (loss) before interest, income taxes, depreciation, amortization, write-off and/or impairment of property and equipment, and gain on disposal of property and equipment. Adjusted EBITDA is provided to assist readers in determining the ability of the Company to generate cash from operations and to cover financial charges. It is also widely used for valuation purposes for public companies in our industry. The following table reconciles adjusted EBITDA to loss before income tax recovery for the years ended January 30, 2016 and January 31, 2015: 2015\t2014 (In thousands of dollars) $\t$ Loss before income tax recovery (35,745)\t(40,392) Depreciation and amortization 16,518 17,707 Write-off and impairment of property and equipment 2,504 3,263 Gain on disposal of property and equipment (590) Finance costs 3,922 2,900 Finance income (10) (18) Adjusted EBITDA (12,811)\t(17,130) A N N U A L R E P O RT 2 0 15 15 The Company also discloses comparable store sales which are defined as sales generated by stores that have been open for at least one year on a comparable week basis. Comparable store sales exclude sales from stores converted to outlet or clearance stores during the year of conversion. The following table reconciles comparable store sales to total sales disclosed in the audited consolidated statements of loss for the years ended January 30, 2016 and January 31, 2015: 2015\t2014 (In thousands of dollars) $\t$ Comparable store sales - Regular stores 178,933 180,377 Comparable store sales - Outlet stores 41,799 44,582 Total comparable store sales 220,732\t224,959 Non-comparable store sales 16,144 25,251 Total sales 236,876\t250,210 The above measures do not have a standardized meaning prescribed by IFRS and may not be comparable to similar measures presented by other companies. RELATED PARTY TRANSACTIONS The consolidated financial statements include the financial statements of Le Chteau Inc. and its wholly-owned U.S. subsidiary, Chteau Stores Inc, incorporated under the laws of the State of Delaware. Key management of the Company includes the Chief Executive Officer, President and Vice-Presidents, as well as the non-executive Directors. The compensation earned by key management in aggregate was as follows: 2015\t2014 (In thousands of dollars) $\t$ Salaries and short-term benefits 3,836 3,368 Stock-based compensation 350\t594 4,186\t3,962 Companies that are directly or indirectly controlled by a director sublease real estate from the Company. Total amounts earned under the sublease during the year amounted to $34,000 (2014 - $206,000). During the year ended January 28, 2012, the Company borrowed $10.0 million from a company that is directly controlled by a director of the Company. The loan amount outstanding as at January 31, 2015 was $5.0 million and bore interest at an annual rate of 5.5%, payable monthly, with capital repayment payable at maturity in January 31, 2016. On April 1, 2015, the loan was amended to extend its maturity from January 31, 2016 to January 31, 2020 and to secure it on the same basis as the new $5.0 million loan described below. The loan was to bear interest at an annual rate of 7.5% for the period from February 1, 2016 to January 31, 2020 and is no longer convertible into Class A subordinate voting shares of the Company at the option of the Company. On June 22, 2015, the loan was further amended to bear a variable rate of interest equal to the lesser of (i) the prime rate of the Royal Bank of Canada multiplied by two and (ii) 7.5%. These amendments were accounted for as a debt modification with no accounting impact to recognize on the date of the revised agreements. 16 On April 1, 2015, the Company borrowed $5.0 million from a company that is directly controlled by a director of the Company. The financing is in the form of a secured loan which bore interest at an annual rate of 7.5% and is repayable at maturity on January 31, 2020. Subject to the terms of its revolving credit facility, the Company may prepay the loan, in whole or in part, at any time without premium or penalty. The loan was measured at its fair value on the date of inception with an effective interest rate of 9.6%. The fair value of the loan, which amounted to $4.6 million, was estimated using discounted future cash flows. The residual value between the principal amount of the loan and the fair value was recorded as contributed surplus. On June 22, 2015, the loan was amended to bear a variable rate of interest, payable monthly, equal to the lesser of (i) the prime rate of the Royal Bank of Canada multiplied by two and (ii) 7.5%. This amendment was accounted for as a debt modification with no accounting impact to recognize on the date of the revised agreement. On June 22, 2015, the Company borrowed $15.0 million from a company that is directly controlled by a director of the Company. The financing is in the form of a secured loan which bears a variable rate of interest, payable monthly, equal to the lesser of (i) the prime rate of the Royal Bank of Canada multiplied by two and (ii) 7.5%. The loan is repayable at maturity on January 31, 2020, and subject to the terms of its revolving credit facility, may be prepaid, in whole or in part, at any time. The loan was measured at its fair value on the date of inception with an effective interest rate of 9.6%. The fair value of the loan, which amounted to $12.8 million, was estimated using discounted future cash flows. The residual value between the principal amount of the loan and the fair value was recorded as contributed surplus. On January 15, 2016, the Company entered into a loan agreement for $10.0 million from a company that is directly controlled by a director of the Company, of which $7.5 million was drawn on that date and the balance of $2.5 million drawn subsequent to year end on February 12, 2016. The financing is in the form of a secured loan which bears a variable rate of interest, payable monthly, equal to the lesser of (i) the prime rate of the Royal Bank of Canada multiplied by two and (ii) 7.5%. The loan is repayable at maturity on January 31, 2020, and subject to the terms of its revolving credit facility, may be prepaid, in whole or in part, at any time. The loan was measured at its fair value on the date of inception with an effective interest rate of 9.6%. The fair value of the loan drawn on January 15, 2016, which amounted to $6.5 million, was estimated using discounted future cash flows. The residual value between the principal amount of the loan and the fair value was recorded as contributed surplus. These loans will provide the Company with additional capital and financing flexibility, with proceeds being used primarily for working capital purposes, including the financing of expenditures related to the Company's store renovation program. The loans are secured by all the Company's assets and are subordinated in terms of ranking and repayment to the Company's $80.0 million revolving credit facility. For the year ended January 30, 2016, the Company recorded interest expense of $1.3 million (2014 - $355,000). Amounts payable to related parties as at January 30, 2016 totalled $131,000 (2014 - nil). There are no guarantees provided or received with respect to these transactions. ACCOUNTING STANDARDS IMPLEMENTED IN 2015 There were no new accounting standards implemented during the year ended January 30, 2016. NEW STANDARDS NOT YET EFFECTIVE IFRS 16, \"Leases\" replaces the requirements of IAS 17 \"Leases\". This new standard is a major revision of the way in which companies account for leases and will no longer permit off balance sheet leases. Adoption of IFRS 16 is mandatory and will be effective for annual periods beginning on or after January 1, 2019. Early application is permitted for companies that also apply IFRS 15, \"Revenue from contracts with customers\". The Company has not yet assessed the future impact of this new standard on its consolidated financial statements. A N N U A L R E P O RT 2 0 15 17 IFRS 15, \"Revenue from contracts with customers\" replaces the requirements of IAS 11, \"Construction Contracts\Assume that you are the engagement manager conducting the financial statement audit of your selected company. You are required to prepare a planning memorandum. You can assume that the financial statements included in the annual report are not yet audited and you are responsible for planning the audit of these statements. Use the information provided in the company's Annual Report and other publicly documents relevant to your planning process. State any assumptions you find it necessary to make. You are not to contact the organization or interview people for this project. You also should not contact the actual auditors as they will need to keep all the client information confidential. The memo should be no more than two (2) pages in length using normal margins and a font size no less than 10 and larger than 12. The memo should include (but not limited to): Risk assessment; Business information; Review of risk areas; Approach; Materiality; Preliminary analytics; and Suggested Procedures Audit Planning Memo Date: To: From: Subject: XXX Audit Team XXX, Audit Manager Indigo Books & Music Inc. Audit Since we have elected to move forward with the audit of Indigo Books & Music Inc. there are many factors to keep in mind while conducting the audit. This memo gives a breakdown of some issues to consider while auditing the company's books. Retail Risks Indigo is a retail company that operates in Canada, with a head office in Ontario, but has dealings with the U.S., which means they deal with cyclical revenues which tend to peek in the 4 th quarter of each year with the holidays. Due to this fact they face an environmental risk of retail sales dropping and effects of recession and inflation. Part of the scope of the audit is to determine how well Indigo is positioned to withstand this potential risk. Also part of this is their primary business focus has, as is evident in their name, always been on book sales. While this market faces deteriorations we should also focus on how the company has made strides to try to diversify in order to mitigate this risk. While carrying out the audit we should consider how their financial statements look compared to other companies in this category of industry. The management has made in roads to the gift merchandise market and plans to focus more attention on this segment of their sales. Because of the growing decline in book sales Indigo has seen some drops in revenue. As part of the audit Investigate as to how much of the company sales are coming from book sales versus gift and other merchandise sales, which will determine how reliable their sales numbers are in budgeting, and the amount of risk of sales moving forward. Another risk for the company is their current terms with their suppliers; since this not only affects their margins, but their ability to return unsold items, which affects inventory. These terms, as well as their accounts payable, should be audited to determine if they pose a risk to future revenues, or unsold inventory that must be sold at a loss. By contacting suppliers and comparing their receivables to Indigo payables while allow us to determine if proper IFRS accounting procedures are being used. Inventory distribution and Internal controls The largest thing to consider in a retail business is what they are selling, and in the case of Indigo Books & Music Inc. we need to make this a large part of the scope of our audit as the inventories account for almost 40% of total assets. Through this audit we will focus on the 97 superstores as it accounts for 70% of revenues, but still consider the 134 small format stores, as well as the distribution centre. The superstores have more floor space for books than the small format stores, and have also been reorganized to allow for more gift merchandise. Because of this they pose a greater risk due to the large volume of product on the floor and the greater percent of revenues the stores produce. The company made significant investments in their distribution network and its internal controls. So the actual system of distribution should be audited by testing if the system has improved the speed of distribution as this has had a large impact on the inventory levels in stores, since it allows merchandise to be ordered and sent to stores on a timelier basis according to Indigo. By monitoring orders sent and received from start to finish we will see if the system handles orders timely to ensure stores receive the products needed to continue to produce revenue, and if the orders prepared and shipped securely through the distribution network. On top of looking at the distribution centre we will do an inventory count on 40% of superstores and 20% of small format locations, all in their major markets. This will give us statistical evidence that inventory levels are correct at their busiest stores, which will allow us to determine how accurate and reliable the new system is in inventory management and if it has created more risk for the company. Another focus during the count will be the food product and how it is stored and handled by the employees and if these pose any risk for future lawsuits from internal issues with bad products making it to the shelves. This will be done by observing procedures for receiving, storing and putting product on the floor; also the inventory management procedures dealing with due date checks. Loyalty program and gift card liabilities As part of a new point based loyalty program, Indigo has incurred a new liability for the points which are given to customers. With an increase of 1.6 million members of the program to 5.8 million members by the end of this year, this is a significant thing to consider as it is a liability which equates to $13.7 million in deferred revenue. The impairment methods chosen based on past redemption should be reviewed to make sure it fits with IFRS and is reasonable in its follow through. Another significant liability is in the unredeemed gift cards, which increased from $42.7 million to $47.1 million this year. This is because of increased sales of gift cards according to the company statements, and accounts for almost 20% of the company liabilities. The impairment of this liability should be reviewed to be sure they are following IFRS and doing so in a reasonable amount based on past redemption cycles. Going over the impairment schedule and the age of the gift cards will be used to confirm impairment has been dealt with properly. The current year's gift card sales should be reviewed to ensure that sales were actually made and payment was received, or written off as donations for legitimate charities. Discontinued Operations Though the sale of the Kobo brand and technology took place last year, as it was for $315 Million US, it needs to be reviewed how that sale was presented on the books. This sale allowed for a large inflow of cash and a gain for the company, which presents an accounting risk in how it was presented in the company's books. Since the company removed a portion of liabilities, assets and amortization, all of which was attributed to the Kobo brand, we need to ensure that proper amounts were removed from the books by reviewing accounting entries done for this discontinued operation. Another point to consider is how this will affect Indigo's current and future online book sales, what kind of deal they have set up with Rakuten Inc., who purchased the shares in Kobo. To confirm this is done correctly we need to review the section of the deal that split up their online book and e-reader sales and ensure they are recognizing the appropriate amount of revenue for online book sales, and e-readers sold, as well as any royalties due for continued use of the Kobo brand in their stores. Equity We will also focus of the audit on the equity portion of the balance sheet, as the company recently paid dividends of $11.1 million, while only showing a $4.3 million net income this year, which was largely because of the Kobo sale. The fact to focus on is that last year's return on equity was 18.62% and this year's is 1.22%, because of the gain from discontinued operations surpassing the loss from continuing operations last year. These transactions should be reviewed to ensure that they conform to practices of IFRS for dealing with the large sale and any dividend payouts, tax consequences because of the sheer size of the event and any possible future implications for taxes, or legal issues. We will also review the changes to the equity section in the last year, as the company earned a net income of $66 million, while the equity section of the balance sheet decreased by $5.3 million. Overall With revenues closing in on $1 billion dollars, and total assets of $500 million, materiality needs to be considered. When dealing with a company this size, the audit materiality standard of 5 to 10 % of net sales should be used when considering any misstatements on the financial statements. However if small discrepancies' are discovered in an account like inventory across the country, this would be considered material. The plan moving forward is to begin our audit looking at inventory and retail risks as they appear to pose the largest risks in a retail company like Indigo Books & Music Inc. Our secondary focus will be the liabilities and deferred revenues of their loyalty and gift card programs and how they are handled to ensure they are presented fairly. Lastly we will look at the Equity portion of the Balance Sheet and the dividend payouts that occurred because of the sale of discontinued operations of Kobo, and how this affects future sales and shareholders. Audit Planning Memo Date: To: From: Subject: XXX Audit Team XXX, Audit Manager Indigo Books & Music Inc. Audit Since we have elected to move forward with the audit of Indigo Books & Music Inc. there are many factors to keep in mind while conducting the audit. This memo gives a breakdown of some issues to consider while auditing the company's books. Retail Risks Indigo is a retail company that operates in Canada, with a head office in Ontario, but has dealings with the U.S., which means they deal with cyclical revenues which tend to peek in the 4 th quarter of each year with the holidays. Due to this fact they face an environmental risk of retail sales dropping and effects of recession and inflation. Part of the scope of the audit is to determine how well Indigo is positioned to withstand this potential risk. Also part of this is their primary business focus has, as is evident in their name, always been on book sales. While this market faces deteriorations we should also focus on how the company has made strides to try to diversify in order to mitigate this risk. While carrying out the audit we should consider how their financial statements look compared to other companies in this category of industry. The management has made in roads to the gift merchandise market and plans to focus more attention on this segment of their sales. Because of the growing decline in book sales Indigo has seen some drops in revenue. As part of the audit Investigate as to how much of the company sales are coming from book sales versus gift and other merchandise sales, which will determine how reliable their sales numbers are in budgeting, and the amount of risk of sales moving forward. Another risk for the company is their current terms with their suppliers; since this not only affects their margins, but their ability to return unsold items, which affects inventory. These terms, as well as their accounts payable, should be audited to determine if they pose a risk to future revenues, or unsold inventory that must be sold at a loss. By contacting suppliers and comparing their receivables to Indigo payables while allow us to determine if proper IFRS accounting procedures are being used. Inventory distribution and Internal controls The largest thing to consider in a retail business is what they are selling, and in the case of Indigo Books & Music Inc. we need to make this a large part of the scope of our audit as the inventories account for almost 40% of total assets. Through this audit we will focus on the 97 superstores as it accounts for 70% of revenues, but still consider the 134 small format stores, as well as the distribution centre. The superstores have more floor space for books than the small format stores, and have also been reorganized to allow for more gift merchandise. Because of this they pose a greater risk due to the large volume of product on the floor and the greater percent of revenues the stores produce. The company made significant investments in their distribution network and its internal controls. So the actual system of distribution should be audited by testing if the system has improved the speed of distribution as this has had a large impact on the inventory levels in stores, since it allows merchandise to be ordered and sent to stores on a timelier basis according to Indigo. By monitoring orders sent and received from start to finish we will see if the system handles orders timely to ensure stores receive the products needed to continue to produce revenue, and if the orders prepared and shipped securely through the distribution network. On top of looking at the distribution centre we will do an inventory count on 40% of superstores and 20% of small format locations, all in their major markets. This will give us statistical evidence that inventory levels are correct at their busiest stores, which will allow us to determine how accurate and reliable the new system is in inventory management and if it has created more risk for the company. Another focus during the count will be the food product and how it is stored and handled by the employees and if these pose any risk for future lawsuits from internal issues with bad products making it to the shelves. This will be done by observing procedures for receiving, storing and putting product on the floor; also the inventory management procedures dealing with due date checks. Loyalty program and gift card liabilities As part of a new point based loyalty program, Indigo has incurred a new liability for the points which are given to customers. With an increase of 1.6 million members of the program to 5.8 million members by the end of this year, this is a significant thing to consider as it is a liability which equates to $13.7 million in deferred revenue. The impairment methods chosen based on past redemption should be reviewed to make sure it fits with IFRS and is reasonable in its follow through. Another significant liability is in the unredeemed gift cards, which increased from $42.7 million to $47.1 million this year. This is because of increased sales of gift cards according to the company statements, and accounts for almost 20% of the company liabilities. The impairment of this liability should be reviewed to be sure they are following IFRS and doing so in a reasonable amount based on past redemption cycles. Going over the impairment schedule and the age of the gift cards will be used to confirm impairment has been dealt with properly. The current year's gift card sales should be reviewed to ensure that sales were actually made and payment was received, or written off as donations for legitimate charities. Discontinued Operations Though the sale of the Kobo brand and technology took place last year, as it was for $315 Million US, it needs to be reviewed how that sale was presented on the books. This sale allowed for a large inflow of cash and a gain for the company, which presents an accounting risk in how it was presented in the company's books. Since the company removed a portion of liabilities, assets and amortization, all of which was attributed to the Kobo brand, we need to ensure that proper amounts were removed from the books by reviewing accounting entries done for this discontinued operation. Another point to consider is how this will affect Indigo's current and future online book sales, what kind of deal they have set up with Rakuten Inc., who purchased the shares in Kobo. To confirm this is done correctly we need to review the section of the deal that split up their online book and e-reader sales and ensure they are recognizing the appropriate amount of revenue for online book sales, and e-readers sold, as well as any royalties due for continued use of the Kobo brand in their stores. Equity We will also focus of the audit on the equity portion of the balance sheet, as the company recently paid dividends of $11.1 million, while only showing a $4.3 million net income this year, which was largely because of the Kobo sale. The fact to focus on is that last year's return on equity was 18.62% and this year's is 1.22%, because of the gain from discontinued operations surpassing the loss from continuing operations last year. These transactions should be reviewed to ensure that they conform to practices of IFRS for dealing with the large sale and any dividend payouts, tax consequences because of the sheer size of the event and any possible future implications for taxes, or legal issues. We will also review the changes to the equity section in the last year, as the company earned a net income of $66 million, while the equity section of the balance sheet decreased by $5.3 million. Overall With revenues closing in on $1 billion dollars, and total assets of $500 million, materiality needs to be considered. When dealing with a company this size, the audit materiality standard of 5 to 10 % of net sales should be used when considering any misstatements on the financial statements. However if small discrepancies' are discovered in an account like inventory across the country, this would be considered material. The plan moving forward is to begin our audit looking at inventory and retail risks as they appear to pose the largest risks in a retail company like Indigo Books & Music Inc. Our secondary focus will be the liabilities and deferred revenues of their loyalty and gift card programs and how they are handled to ensure they are presented fairly. Lastly we will look at the Equity portion of the Balance Sheet and the dividend payouts that occurred because of the sale of discontinued operations of Kobo, and how this affects future sales and shareholders