S-1/A 1 ds1a.htm FORM S-1 AMENDMENT NO. 4 Form S-1 Amendment No. 4
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Index to Financial Statements

As filed with the Securities and Exchange Commission on July 18, 2011

Registration No. 333-173775

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

Amendment No. 4

to

FORM S-1

REGISTRATION STATEMENT

UNDER

THE SECURITIES ACT OF 1933

 

 

TEAVANA HOLDINGS, INC.

(Exact Name of Registrant as Specified in Its Charter)

 

 

 

Delaware   5499   20-1946316

(State or Other Jurisdiction of

Incorporation or Organization)

 

(Primary Standard Industrial

Classification Code Number)

 

(I.R.S. Employer

Identification Number)

3630 Peachtree Road NE, Suite 1480

Atlanta, GA 30326

(404) 995-8200

(Address, Including Zip Code, and Telephone Number, Including Area Code, of Registrant’s Principal Executive Offices)

 

 

Daniel P. Glennon

Executive Vice President, Chief Financial Officer

Teavana Holdings, Inc.

3630 Peachtree Road NE, Suite 1480

Atlanta, GA 30326

(404) 995-8200

(Name, Address, Including Zip Code, and Telephone Number, Including Area Code, of Agent For Service)

 

 

Copies to:

Christopher C. Paci, Esq.

DLA Piper LLP (US)

1251 Avenue of the Americas

New York, NY 10020

Telephone: (212) 335-4970

Fax: (212) 884-8470

 

Michael J. Schiavone, Esq.

Shearman & Sterling LLP

599 Lexington Avenue

New York, NY 10022

Telephone: (212) 848-4000

Fax: (646) 848-7179

 

 

Approximate date of commencement of proposed sale to the public: As soon as practicable after the effective date of this Registration Statement.

If any of the securities being registered on this form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933, check the following box.    ¨

If this form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.    ¨

If this form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.    ¨

If this form is a post-effective amendment filed pursuant to Rule 462(d) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.    ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b¬2 of the Exchange Act.

 

Large accelerated filer   ¨         Accelerated filer   ¨
Non-accelerated filer   x    (Do not check if a smaller reporting company)      Smaller reporting company   ¨

 

 

CALCULATION OF REGISTRATION FEE

 

 

Title of Each Class of

Securities to be Registered

 

Amount to be
Registered(1)

 

Proposed

Maximum

Offering Price

Per Unit(2)

 

Proposed

Maximum
Aggregate

Offering Price(2)

  Amount of
Registration Fee(3)

Common Stock, par value $0.00003 per share

  8,214,287   $15.00   $123,214,305   $14,306
 
(1) Includes shares which the underwriters have the option to purchase to cover overallotments, if any.
(2) Estimated solely for the purpose of calculating the registration fee pursuant to Rule 457(a) under the Securities Act of 1933, as amended.
(3) In connection with its filing on Form S-1 on April 28, 2011, the Registrant paid an aggregate filing fee of $11,610 with respect to the registration of common stock with a proposed maximum aggregate offering price of $100,000,000. Concurrently with the filing of this Amendment No. 4 to the Registration Statement, the Registrant has transmitted $2,696, representing the additional filing fee payable with respect to the $23,214,305 increase in the proposed maximum aggregate offering price set forth herein.

 

 

The Registrant hereby amends this Registration Statement on such date or dates as may be necessary to delay its effective date until the Registrant shall file a further amendment which specifically states that this Registration Statement shall thereafter become effective in accordance with Section 8(a) of the Securities Act of 1933 or until the Registration Statement shall become effective on such date as the Commission, acting pursuant to said Section 8(a), may determine.

 

 

 


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Index to Financial Statements

The information in this preliminary prospectus is not complete and may be changed. We and the selling stockholders may not sell these securities until the registration statement filed with the Securities and Exchange Commission is effective. This preliminary prospectus is not an offer to sell these securities and it is not soliciting an offer to buy these securities in any state where the offer or sale is not permitted.

 

Subject to Completion, Dated July 18, 2011

7,142,858 Shares

LOGO

Common Stock

 

 

This is the initial public offering of shares of common stock of Teavana Holdings, Inc.

Teavana Holdings, Inc. is offering 1,071,429 shares of common stock. The selling stockholders identified in this prospectus are offering an additional 6,071,429 shares of common stock. We will not receive any proceeds from the sale of shares by the selling stockholders.

Prior to this offering, there has been no public market for our common stock. It is currently estimated that the initial public offering price per share will be between $13.00 and $15.00.

We have been approved to list our common stock on the New York Stock Exchange under the symbol “TEA.”

 

 

See “Risk Factors” beginning on page 9 to read about factors you should consider before buying shares of our common stock.

 

 

Neither the Securities and Exchange Commission nor any state securities commission has approved or disapproved of these securities or passed upon the adequacy or accuracy of this prospectus. Any representation to the contrary is a criminal offense.

 

 

 

     Per Share      Total  

Initial public offering price

   $                    $                

Underwriting discount

   $                    $                

Proceeds, before expenses, to Teavana Holdings, Inc.

   $                    $                

Proceeds, before expenses, to the selling stockholders

   $                    $                

The underwriters may also exercise their option to purchase up to an additional 1,071,429 shares from the selling stockholders, at the public offering price, less the underwriting discount, for 30 days after the date of this prospectus to cover overallotments, if any.

 

 

The underwriters expect to deliver the shares against payment in New York, New York on                     , 2011.

 

BofA Merrill Lynch

 

  Goldman, Sachs & Co.

Morgan Stanley      Piper Jaffray

 

William Blair & Company      Stifel Nicolaus Weisel    

Prospectus dated                     , 2011.


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Index to Financial Statements

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Index to Financial Statements

TABLE OF CONTENTS

 

     Page  

Prospectus Summary

     1   

Risk Factors

     9   

Special Note Regarding Forward-Looking Statements

     23   

Use of Proceeds

     24   

Dividend Policy

     24   

Capitalization

     25   

Dilution

     27   

Unaudited Pro Forma Consolidated Financial Data

     29   

Selected Consolidated Financial and Other Data

     32   

Management’s Discussion and Analysis of Financial Condition and Results of Operations

     36   

Business

     57   

Management

     74   

Compensation Discussion and Analysis

     79   

Certain Relationships and Related Party Transactions

     93   

Principal and Selling Stockholders

     96   

Description of Capital Stock

     99   

Shares Eligible for Future Sale

     103   

Material US Federal Income and Estate Tax Considerations for Non-US Holders of Common Stock

     105   

Underwriting

     108   

Legal Matters

     114   

Experts

     114   

Where You Can Find More Information

     114   

Index to Consolidated Financial Statements

     F-1   

 

 

Neither we, the selling stockholders nor the underwriters have authorized anyone to provide you with information that is different from that contained in this prospectus or any free-writing prospectus prepared by or on our behalf. We do not, and the selling stockholders and the underwriters do not, take any responsibility for, and can provide no assurances as to, the reliability of any information that others provide to you. We and the selling stockholders are offering to sell, and seeking offers to buy, shares of common stock only in jurisdictions where offers and sales are permitted. The information contained in this prospectus is accurate only as of the date of this prospectus, regardless of the time of delivery of this prospectus or of any sale of the common stock.

Until                     , 2011 (25 days after the commencement of this offering), all dealers that buy, sell or trade shares of our common stock, whether or not participating in this offering, may be required to deliver a prospectus. This delivery requirement is in addition to the obligation of dealers to deliver a prospectus when acting as underwriters and with respect to their unsold allotments or subscriptions.

For investors outside the United States: Neither we, the selling stockholders nor the underwriters have done anything that would permit this offering or possession or distribution of this prospectus in any jurisdiction where action for that purpose is required, other than in the United States. Persons outside the United States who come into possession of this prospectus must inform themselves about, and observe any restrictions relating to, the offering and the distribution of this prospectus outside of the United States.

Some of the industry and market data contained in this prospectus are based on independent industry publications or other publicly available information, which we believe is reliable but have not independently verified, while other information is based on our internal sources. Certain information regarding the global tea market is derived from Mintel International Group Limited’s report entitled Tea and RTD Teas, May 2010 and other market research conducted by Mintel and Euromonitor International.

Our registered trademarks include Teavana®, our Teavana logo design and the names of most of the varieties of specially blended teas that we sell. All other registered trademarks or service marks appearing in this prospectus are trademarks or service marks of others.

We operate on a fiscal calendar widely used in the retail industry that results in a given fiscal year consisting of a 52- or 53-week period ending on the Sunday closest to January 31 of the following year. For example, references to “fiscal 2010” refer to the fiscal year ended January 30, 2011. Fiscal 2008, fiscal 2009 and fiscal 2010 each consist of 52-week periods.

 

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PROSPECTUS SUMMARY

This summary highlights selected information contained elsewhere in this prospectus. This summary does not contain all the information that you should consider before deciding to invest in our common stock. You should read the entire prospectus carefully, including “Risk Factors” and our consolidated financial statements and notes to those consolidated financial statements, before making an investment decision.

Our Company

Teavana is a rapidly growing specialty retailer offering more than 100 varieties of premium loose-leaf teas, authentic artisanal teawares and other tea-related merchandise. We believe we are one of the world’s largest branded, multi-channel specialty tea retailers. We offer our products through 161 company-owned stores in 35 states and 19 franchised stores primarily in Mexico, as well as through our website, www.teavana.com. With an average transaction size of $36, we believe customers view our products as an affordable and healthy indulgence as they are able to purchase the best teas and teawares from around the world at relatively modest prices.

Our mission is to establish Teavana as the most recognized and respected brand in the tea industry by expanding the culture of tea across the world. Key elements of our distinctive business strategy are to:

 

   

develop, source and offer our customers the world’s finest assortment of premium loose-leaf teas and tea-related merchandise;

 

   

create a “Heaven of Tea” retail experience in which our passionate and knowledgeable “teaologists” engage and educate customers about the ritual and enjoyment of tea; and

 

   

locate our stores in high traffic locations within malls, lifestyle centers and other high-sales-volume retail venues.

Teavana was founded in 1997 by our Chairman and Chief Executive Officer, Andrew Mack, and his wife, Nancy Mack, who were inspired by their international travels and passion for tea. In 2004 we partnered with Parallel Investment Partners to obtain equity capital, strategic advice and other resources to support our accelerated growth plans. With our business momentum and expanded resources we were able to attract an experienced senior management team that has led our growth to date and has set the foundation to execute our growth strategy going forward.

We have experienced rapid sales and profit growth during the last five years. We increased our sales from $33.8 million in fiscal 2006 to $124.7 million in fiscal 2010, representing a 38.6% compound annual growth rate. Over that same period, we more than tripled our store base from 47 stores to 146 stores. In fiscal 2010, our sales grew 38.2% over fiscal 2009, while our comparable store sales increased 8.7%. Our net income was $12.0 million in fiscal 2010, representing a 126.9% growth rate over fiscal 2009. In fiscal 2010, our stores averaged sales per gross square foot of approximately $1,000, which we believe is higher than most specialty retail stores in the United States based upon publicly available information.

Our Market Opportunity

We participate in the global tea market which had $56.6 billion of sales in 2009, according to the latest available estimates from Mintel, a global provider of market intelligence. We compete specifically within the loose-leaf tea category of the overall market. Mintel estimates the size of the tea market in the United States to be $5.2 billion with an expected 6% compound annual growth rate through 2014. Tea consumption in the United States is much lower than the rest of the world, with the United States representing only 9% of the global tea market and ranking 22nd among other countries based on per capita loose-leaf and bagged tea consumption. We

 

 

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believe growth of the overall US tea market will be driven primarily by an increasing consumer focus on health and wellness, growing consumer awareness of tea and the continuing emergence of epicurean preferences in food and beverages.

Our Competitive Strengths

We believe that the following strengths differentiate Teavana and create the foundation for continued rapid sales and profit growth:

Market Defining Brand Driving Category Growth. We believe we are one of the world’s largest branded, multi-channel specialty tea retailers. We believe our customers associate the Teavana brand with premium tea products, a distinctive store ambiance and an “East Meets West” healthy living lifestyle. We view the potential growth opportunity in the United States to be substantial, as US consumers have not historically consumed loose-leaf tea at the same level as consumers elsewhere in the world. We believe our leading national presence and focus on educating consumers about the many attractive qualities of loose-leaf tea will help us drive the growth of the loose-leaf tea category in the United States.

“Heaven of Tea” Retail Experience. We believe our unique “Heaven of Tea” retail environment facilitates a highly interactive, informative and immersive customer experience. A key element of the retail experience is our Wall of Tea, where our teaologists invite our customers to experience the aroma, color and texture of any of our approximately 100 varieties of single-estate and specially blended teas. We believe this engaging retail experience introduces new customers to the tea lifestyle, encourages product trial and supports repeat visits and strong customer loyalty.

Deep-Rooted Culture Embracing a Passion for Tea and Career Development. Our culture is centered upon a passion for tea, extensive training, career development and individual enrichment. To ensure the continuity of our culture, and reward high performing team members, we typically promote from within our organization. We have historically experienced limited to no turnover among the members of our senior management team and our regional and area managers. We believe our culture helps build and support a consistent and motivated group of team members that are passionate about providing the “Heaven of Tea” retail experience to our customers.

High-Quality Teas and Tea-Related Merchandise. We offer a unique selection of premium loose-leaf teas, authentic artisanal teawares and other tea-related merchandise in our stores and through our website. Our single-estate and specially blended teas are currently sourced from tea gardens, blenders and brokers in ten countries. Our compelling assortment of teawares and other tea-related merchandise, including Teavana-branded merchandise, is sourced from various tea communities worldwide. We believe our highly differentiated offering provides a foundation for our strong brand and will continue to reinforce our strong market position.

Powerful and Consistent Store Economics. We have a proven and highly profitable store model that has produced consistent financial results and returns. In fiscal 2010, our stores averaged sales of approximately $1,000 per gross square foot. All of our stores were profitable in fiscal 2010 and new stores have historically averaged a payback period of less than one and a half years. Our current store base is balanced across all four regions of the country, with each region producing results in line with the company average. We believe our powerful store model, deep-rooted culture, highly developed store operations and rigorous store selection process drive our consistent store financial results.

Proven and Experienced Senior Management Team. Andrew Mack, our Founder, Chairman and Chief Executive Officer, continuously sets the vision and strategic direction for Teavana and drives our growth and culture. Since 2004, Mr. Mack has assembled a senior management team that brings an average of over 20 years of experience across store operations, merchandising, finance and real estate.

 

 

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Our Growth Strategy

We are pursuing several strategies to continue our profitable growth, including:

Expand Our Store Base Domestically. We believe there is a significant opportunity to expand our store base in the United States from 161 locations to at least 500 stores, having already identified the malls, lifestyle centers and other high-sales-volume retail venues that are suitable locations in which to open Teavana stores. We plan to open approximately 50 stores in fiscal 2011 (including 15 stores opened in the first quarter), 60 stores in fiscal 2012 and to expand to 500 stores by 2015. Our new and existing stores are located in high traffic areas of malls, lifestyle centers and other high-sales-volume retail venues.

Drive Comparable Store Sales. We expect to continue our positive comparable store sales growth by increasing the size and frequency of purchases by our existing customers and attracting new customers. We intend to execute this strategy through our Heaven of Tea retail experience, which allows us to introduce the benefits and enjoyment of our teas and tea-related merchandise to new customers while encouraging our existing customers to transition to our higher-grade teas and higher-end tea-related merchandise.

Expand Our Online Presence. We believe our online platform is an extension of our brand and retail stores, serving as an educational resource and complementary sales channel for our customers. Since fiscal 2007 our online sales have grown at a compound annual growth rate of 56.0% and in fiscal 2010 represented 7.0% of our net sales. We believe we have the opportunity to grow e-commerce sales to at least 10.0% of sales in the future.

Increase Our Highly Attractive Margins. We have increased our operating margins from 7.5% in fiscal 2008 to 18.8% in fiscal 2010, and we believe further opportunities exist to increase our margins. A primary driver of our expected margin expansion will come from the sales mix shift away from tea-related merchandise towards higher margin loose-leaf teas that our stores generally experience as they mature. We expect additional drivers of future margin expansion to include the leveraging of our corporate and other fixed costs as our sales grow and gross margin benefits from our growing scale with suppliers.

Selectively Pursue International Expansion. Given the worldwide popularity of tea, we believe international expansion represents a compelling opportunity for additional growth over the long term. As of May 1, 2011, 17 Teavana stores are operated in Mexico through an international development agreement with our business partner, Casa Internacional. We will continue to selectively expand our global presence either through company-owned stores or by entering into franchise arrangements.

Risk Factors

Investing in our common stock involves a high degree of risk. You should carefully consider the risks described in “Risk Factors” before making a decision to invest in our common stock. If any of these risks actually occurs, our business, financial condition or results of operations would likely be materially adversely affected. In such case, the trading price of our common stock would likely decline, and you may lose all or part of your investment. Below is a summary of some of the principal risks we face:

 

   

we may not be able to successfully implement our growth strategy if we are unable to identify suitable sites for store locations, negotiate acceptable lease terms, hire, train and retain personnel and maintain sufficient levels of cash flow and financing to support our expansion;

 

   

we may not be able to effectively expand and improve our operations, including our distribution center, or manage our existing resources to support our planned expansion;

 

   

we may not be able to maintain recent levels of comparable store sales growth or sales per comparable store;

 

 

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we may lose key management personnel, which could adversely impact our business;

 

   

because our business is highly concentrated in a single, discretionary product category, premium loose-leaf teas and tea-related merchandise, we are vulnerable to changes in consumer preferences and economic conditions that could harm our financial results;

 

   

quality or health concerns about our teas and tea-related merchandise could have an adverse effect on our operating results; and

 

   

we rely on a small number of third-party suppliers and manufacturers to produce our products, and we have limited control over them and may not be able to obtain quality products on a timely basis or in sufficient quantities.

Our Principal Stockholders

Following the consummation of this offering, Andrew Mack, our founder and Chief Executive Officer, will beneficially own approximately 57.9% of our outstanding common stock, or 55.9% if the underwriters exercise their overallotment option to purchase additional shares in full. As a result, Mr. Mack will be able to exercise control over all matters requiring stockholder approval and will have significant control over our management and policies. Additionally, a fund advised by Parallel Investment Partners, LLC will beneficially own approximately 19.9% of our outstanding common stock, or 19.2% if the underwriters exercise their overallotment option to purchase additional shares in full, following the consummation of this offering and will have significant influence over fundamental corporate matters and transactions by virtue of its representation on our Board of Directors. See “Risk Factors—Risks Related to this Offering and Ownership of Our Common Stock” and “Principal and Selling Stockholders.”

In this prospectus we sometimes refer to Parallel Investment Partners, LLC and its affiliates as “Parallel Investment Partners” or “Parallel.” Parallel is a sector-focused, middle market private equity firm that invests in dynamic, entrepreneurial growth companies in North America. Since 1992, the principals of the firm have participated in investing over $600 million in over 35 companies, with a particular emphasis on high growth specialty retail brands, including Dollar Tree Stores, LIDS and Hibbett Sporting Goods. Founded in 1999 as an affiliate of middle market buyout firm Saunders Karp & Megrue, Parallel is headquartered in Dallas, Texas.

Our Corporate Information

In this prospectus, the terms “Teavana,” “we,” “us,” “our” and “the company” refer to Teavana Holdings, Inc. and our consolidated subsidiaries, and the term “store support center” refers to our principal executive offices and store support center located at 3630 Peachtree Road NE, Suite 1480, Atlanta, GA 30326. Our website address is www.teavana.com, and the information contained on or accessible through our website shall not be deemed to be incorporated into this prospectus or the registration statement of which it forms a part. Our telephone number is (404) 995-8200.

 

 

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The Offering

 

Common stock offered by us

1,071,429 shares

 

Common stock offered by the selling stockholders

6,071,429 shares

 

Common stock to be outstanding immediately after this offering

38,040,518 shares

 

Use of proceeds

We estimate that the net proceeds to us from this offering, after deducting the underwriting discount and estimated expenses, will be approximately $12.0 million, assuming an initial public offering price of $14.00 per share, the midpoint of the estimated price range set forth on the cover of this prospectus.

We will not receive any proceeds from the sale of shares by the selling stockholders.

We intend to use the net proceeds from this offering to redeem all outstanding shares of our Series A redeemable preferred stock, to pay offering-related expenses, and to repay all outstanding indebtedness under our amended revolving credit facility. In the event that the net proceeds available to be applied to our credit facility are less than the amount of indebtedness outstanding under it at the closing of this offering, we will pay down that indebtedness by the amount of net proceeds available to be applied. We intend to use any remaining net proceeds for general corporate purposes, including working capital and capital expenditures. See “Use of Proceeds.”

 

Principal stockholders

Upon consummation of this offering, Andrew Mack, our founder and Chief Executive Officer, and a fund advised by Parallel will beneficially own approximately 57.9% and 19.9%, respectively, of our outstanding common stock.

 

  We do not intend to take advantage of the “controlled company” exemption from certain of the corporate governance listing standards of the New York Stock Exchange.

 

Dividend policy

We currently expect to retain future earnings for use in the operation and expansion of our business and do not anticipate paying any cash dividends in the foreseeable future. The declaration and payment of any dividends in the future will be at the discretion of our Board of Directors and will depend on a number of factors, including our earnings, capital requirements, overall financial condition, and contractual restrictions, including under our amended revolving credit facility and other indebtedness we may incur. See “Dividend Policy.”

 

Risk factors

Investing in our common stock involves a high degree of risk. See “Risk Factors” beginning on page 9 of this prospectus for a discussion of factors you should carefully consider before deciding to invest in our common stock.

 

Symbol for trading on New York Stock Exchange

“TEA”

 

 

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The number of shares of common stock that will be outstanding after this offering is based on 36,749,460 shares of our common stock outstanding as of May 1, 2011 and excludes:

 

   

1,622,510 shares of common stock issuable upon the exercise of options outstanding as of May 1, 2011 under our 2004 Management Incentive Plan, with a weighted average exercise price of $1.36 per share, after giving effect to the sale of 219,629 shares in this offering acquired by certain of the selling stockholders upon exercise of options granted to them under that plan;

 

   

600,000 shares of common stock reserved for issuance upon the exercise of options to be granted in connection with this offering under our 2011 Equity Incentive Plan, which we intend to adopt prior to this offering, such options to be granted at an exercise price per share equal to the initial public offering price set forth on the cover page of this prospectus and anticipated to represent approximately 80% of the number of shares reserved for issuance under this plan; and

 

   

150,000 shares of common stock reserved for future issuance under our 2011 Equity Incentive Plan, anticipated to represent approximately 20% of the number of shares reserved for issuance under this plan.

Unless otherwise indicated, the information in this prospectus assumes:

 

   

the filing of our amended and restated certificate of incorporation and the adoption of our amended and restated bylaws, which will occur immediately prior to the consummation of this offering;

 

   

the conversion of all shares of our Class B redeemable common stock into an equal number of shares of Class A common stock immediately prior to the consummation of this offering;

 

   

the reclassification of our Class A common stock as common stock immediately prior to the consummation of this offering;

 

   

the redemption of all shares of our Series A redeemable preferred stock for an aggregate redemption value of $10,683,333;

 

   

a 3.70294176910785 to 1 stock split of our common stock to be effected prior to the consummation of this offering;

 

   

an initial public offering price of $14.00 per share of common stock, the midpoint of the estimated price range set forth on the cover of this prospectus; and

 

   

no exercise by the underwriters of their option to purchase up to 1,071,429 additional shares of common stock from the selling stockholders to cover overallotments, if any.

 

 

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Summary Consolidated Financial and Other Data

The following table presents summary consolidated financial and other data for the periods and at the dates indicated. The consolidated statement of operations and cash flows data for the three fiscal years ended February 1, 2009, January 31, 2010 and January 30, 2011 and the consolidated balance sheet data as of January 31, 2010 and January 30, 2011 have been derived from audited consolidated financial statements included elsewhere in this prospectus. The consolidated balance sheet data as of February 1, 2009 have been derived from audited consolidated financial statements not included in this prospectus. The consolidated statement of operations and cash flows data for the thirteen weeks ended May 2, 2010 and May 1, 2011 and consolidated balance sheet data as of May 1, 2011 have been derived from our unaudited condensed consolidated financial statements appearing elsewhere in this prospectus. You should read these data along with the sections of this prospectus entitled “Selected Consolidated Financial and Other Data” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” and our consolidated financial statements and related notes included elsewhere in this prospectus. Our historical results are not necessarily indicative of results to be expected for any future period.

 

    Fiscal Year Ended     Thirteen Weeks Ended  
    February 1, 2009     January 31, 2010     January 30, 2011     May 2, 2010     May 1, 2011  
         

(unaudited)

 
    (dollars in thousands, except per share and store data)  

Consolidated Statement of Operations Data:

         

Net sales

  $ 63,861      $ 90,262      $ 124,701      $ 25,773      $ 34,939   

Cost of goods sold (exclusive of depreciation shown separately below)

    27,193        36,435        46,275        10,021        12,451   
                                       

Gross profit

    36,668        53,827        78,426        15,752        22,488   

Selling, general and administrative expense

    29,242        38,142        50,571        10,800        14,758   

Depreciation and amortization expense

    2,666        3,489        4,361        973        1,274   
                                       

Income from operations

    4,760        12,196        23,494        3,979        6,456   

Interest expense, net

    2,061        2,435        2,585        623        689   
                                       

Income before income taxes

    2,699        9,761        20,909        3,356        5,767   

Provision for income taxes

    1,502        4,470        8,906        1,429        2,444   
                                       

Net income

  $ 1,197      $ 5,291      $ 12,003      $ 1,927      $ 3,323   
                                       

Net income per share:

         

Basic

  $ 0.03      $ 0.14      $ 0.33      $ 0.05      $ 0.09   

Diluted

  $ 0.03      $ 0.14      $ 0.32      $ 0.05      $ 0.09   

Weighted average shares outstanding:

         

Basic

    36,749,460        36,749,460        36,749,460        36,749,460        36,749,460   

Diluted

    37,095,308        37,322,198        37,725,067        37,471,930        37,728,622   

Pro Forma Consolidated Statement of Operations Data (unaudited):

         

Pro forma interest expense, net (1)

  

  $ 440        $ 90   

Pro forma net income

  

    14,148          3,922   

Pro forma net income per share—Basic

  

    0.38          0.10   

Pro forma net income per share—Diluted

  

  $ 0.37        $ 0.10   

Consolidated Balance Sheet Data (end of period):

         

Cash and cash equivalents

  $ 1,168      $ 1,314      $ 7,901        $ 3,740   

Total assets

    35,353        41,767        64,126          65,802   

Series A redeemable preferred stock (1)

    9,058        10,848        12,992          13,591   

Total debt

    5,535        1,250        1,000          1,000   

Class B redeemable common stock

    15,808        21,888        81,401          87,253   

Total stockholders’ deficit (2)

  $ (7,086   $ (7,706   $ (55,059     $ (57,626

 

 

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    Fiscal Year Ended     Thirteen Weeks Ended  
    February 1, 2009     January 31, 2010     January 30, 2011     May 2, 2010     May 1, 2011  
                      (unaudited)  
   

(dollars in thousands, except per share and store data)

 

Pro Forma Consolidated Balance Sheet Data (end of period) (unaudited):

         

Series A redeemable preferred stock (1)

  

  $ —     

Class B redeemable common stock (2)

  

    —     

Total stockholders’ equity (3)

  

  $ 43,218   

Consolidated Statement of Cash Flows Data:

         

Net cash provided by (used in):

         

Operating activities

  $   4,951      $   11,071      $ 19,397      $ (329   $ 1,142   

Investing activities

    (8,798     (6,640     (12,560     (2,346     (5,056

Financing activities

    4,254        (4,285     (250     2,512        (247
                                       

Increase in cash and cash equivalents

  $ 407      $ 146      $ 6,587      $ (163   $ (4,161

Store Data (unaudited):

         

Number of stores at end of period

    87        108        146        118        161   

Comparable store sales growth for period (4)

    3.0     6.9     8.7     15.7     6.0

Average net sales per comparable store
(in thousands) (5)

  $ 783      $ 808      $ 862      $ 208      $ 213   

Gross square footage at end of period
(in thousands)

    77        95        130        105        145   

Sales per gross square foot (6)

  $ 866      $ 935      $ 994      $ 228      $ 231   

 

(1) Our Series A redeemable preferred stock was issued on December 15, 2004 with a mandatory redemption date upon the earlier of a public offering or December 15, 2011. The Series A redeemable preferred stock had an original redemption value of approximately $10.7 million with annual accretion at a rate of 5%. The cumulative annual accretion of the redemption value will be forgiven at the redemption date if we achieve certain targets. The Series A redeemable preferred stock is listed as a liability on our consolidated balance sheets and condensed consolidated balance sheets due to its mandatory redemption feature. Annual redemption value accretion and accretion of debt discount are included in interest expense on our consolidated statements of operations and condensed consolidated statements of operations. Pro forma interest expense, net income, and net income per share give effect to our redemption of the Series A redeemable preferred stock as if such redemption had occurred on February 1, 2010, and reflect the elimination of approximately $2.1 million of interest expense in fiscal 2010 and approximately $0.6 million during the thirteen weeks ended May 1, 2011, all of which was non-deductible, for income tax purposes. Pro forma Series A redeemable preferred stock at May 1, 2011 gives effect to our redemption of the Series A redeemable preferred stock as if such redemption had occurred on May 1, 2011 and assumes that we achieved the targets in order for the cumulative annual accretion of redemption value to be forgiven, resulting in an effective redemption value of $10.7 million and a reclassification of the cumulative annual accretion of redemption value to additional paid-in capital within stockholders’ equity. See Note 6, “Common and Preferred Stock,” in our consolidated financial statements and Note 4, “Common and Preferred Stock,” in our condensed consolidated financial statements.

 

(2) Because the Class B redeemable common stock is subject to redemption at the option of the holder from and after December 15, 2011 at a redemption price equal to the aggregate fair value of the shares being redeemed, the Class B redeemable common stock is classified on our consolidated balance sheets and condensed consolidated balance sheets as temporary equity, rather than stockholders’ equity, with adjustments to its fair value made at each reporting date. The increase in total stockholders’ deficit from February 1, 2009 to May 1, 2011 reflects the increase in accumulated deficit that results from this classification of our Class B redeemable common stock. Our outstanding shares of Class B redeemable common stock will be automatically converted into an equivalent number of shares of our Class A Common stock upon the consummation of this offering. Pro forma Class B redeemable common stock at May 1, 2011 gives effect to the automatic conversion of the Class B redeemable common stock into Class A common stock, the corresponding reclassification of temporary equity into additional paid-in capital within stockholders’ equity, and the reclassification of all of our Class A common stock into common stock as if such events had occurred on May 1, 2011. See Note 6, “Common and Preferred Stock,” and Note 7, “Fair Value Measurements,” in our consolidated financial statements and Note 4, “Common and Preferred Stock,” in our condensed consolidated financial statements.

 

(3) Pro forma total stockholders’ equity at May 1, 2011 gives effect to the receipt of proceeds from this offering sufficient to redeem the Series A redeemable preferred stock, the redemption of the Series A redeemable preferred stock, the conversion of the Class B redeemable common stock into Class A common stock, the reclassification of the aggregate fair value of the Class B redeemable common stock from temporary equity into additional paid-in capital within stockholders’ equity, the reclassification of the cumulative annual accretion of redemption value to additional paid-in capital within stockholders’ equity and the resulting change from total stockholders’ deficit to total stockholders’ equity, all as described in notes (1) and (2) above, as if such events had occurred on May 1, 2011. See Note 6, “Common and Preferred Stock,” in our consolidated financial statements and Note 4, “Common and Preferred Stock,” in our condensed consolidated financial statements.

 

(4) Comparable store sales include company-owned stores that have been open for at least 15 full fiscal months. Comparability is typically achieved 12 months after the initial three-month period from opening during which new stores typically experience higher-than-average sales volumes. The manner in which we calculate comparable store sales may be different from how other specialty retailers calculate comparable or “same store” sales. Accordingly, data regarding our comparable store sales may not be comparable to similarly titled data made available from other retailers.

 

(5) Average net sales per comparable store is calculated by dividing total sales per period for stores open 15 full fiscal months or more as of the beginning of each respective period by the total number of such stores. This methodology excludes the effects of the initial three-month period of higher-than-average sales volumes.

 

(6) Sales per gross square foot is calculated by dividing total net sales for all stores, comparable and non-comparable, by the average gross square footage for the period. Average gross square footage for the period is calculated by dividing the sum of the total gross square footage at the beginning and at the end of each period by two.

 

 

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RISK FACTORS

Investing in our common stock involves a high degree of risk. You should carefully consider the following risk factors, as well as the other information in this prospectus, before deciding whether to invest in shares of our common stock. If any of the following risks actually occurs, our business, financial condition and results of operations could suffer. In this case, the trading price of our common stock would likely decline and you might lose all or part of your investment in our common stock.

Risks Related to Our Business and Industry

We may not be able to successfully implement our growth strategy on a timely basis or at all, which could harm our results of operations.

Our continued growth depends, in large part, on our ability to open new stores and to operate those stores successfully. We believe there is a significant opportunity to expand our store base in the United States from 161 locations as of May 1, 2011 to at least 500 stores. We plan to open approximately 50 stores in fiscal 2011 (including 15 stores opened in the first quarter) and 60 stores in fiscal 2012.

Our ability to successfully open and operate new stores depends on many factors, including:

 

   

the identification and availability of suitable sites for store locations, primarily in high-traffic shopping malls;

 

   

the negotiation of acceptable lease terms;

 

   

the maintenance of adequate distribution capacity, information systems and other operational system capabilities;

 

   

the hiring, training and retention of store management and other qualified personnel;

 

   

the effective management of inventory to meet the needs of our stores on a timely basis; and

 

   

the availability of sufficient levels of cash flow and financing to support our expansion.

In addition, on a selective basis, we will continue to seek franchisees to operate stores under the Teavana brand in international markets. However, if we are unable to identify suitable franchisees or if our franchisees fail to operate their stores successfully or consistent with our brand image, our international franchising strategy may not enhance our results of operations. New stores contemplated under our existing international development agreement or any future such agreements may not open on the anticipated development schedule or at all.

Accordingly, we cannot assure you that we will achieve our planned growth or, even if we are able to grow our store base as planned, that any new stores will perform as planned. If we fail to successfully implement our growth strategy, we will not be able to sustain the rapid growth in sales and profits growth that we expect, which would likely have an adverse impact on the price of our common stock.

The planned addition of a significant number of new stores each year will require us to expand and improve our operations and could strain our operational, managerial and administrative resources, which may adversely affect our business.

Our growth strategy calls for the opening of a significant number of new stores each year. Our planned expansion will place increased demands on our operational, managerial, administrative and other resources, which may be inadequate to support our expansion. Our senior management team has limited experience opening the number of new stores annually that we contemplate opening in fiscal 2011, 2012 and beyond, and may be unable to effectively address challenges involved with such expansion. Managing our growth effectively will require us to continue to enhance our store management systems, financial and management controls and

 

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information systems and to hire, train and retain regional directors, area managers, store general managers and other personnel. Our planned near-term store growth will also require an expansion of our current distribution center. Implementing new systems, controls and procedures and these additions to our infrastructure and any changes to our existing operational, managerial, administrative and other resources could negatively impact our results of operations and financial condition.

As we expand our store base we may not experience the same sales per square foot, increases in comparable store sales or profitability that we have experienced in the past.

As we continue to expand our store base, it may become more difficult to identify additional suitable sites for new stores and we will target an increasing number of shopping malls with lower average sales per square foot than the malls in which we are currently located. The sales per square foot and net sales from such new locations will likely be lower than our existing stores. While our average sales per comparable store is currently $862,000, our new store model projects average sales per store of $600,000 to $700,000. Additionally, new stores generally have lower gross margins and higher operating expenses, as a percentage of sales, than our more mature stores. New stores may not achieve sustained sales and operating levels consistent with our mature store base on a timely basis or at all. There may be a negative impact on our results from a lower level of gross margin contribution by our new stores, along with the impact of related pre-opening costs. Any failure to successfully open and operate new stores in the time frames and at the sales, cost and gross margin levels estimated by us could result in a decline in our operating results and therefore have an adverse impact on the price of our common stock.

Further, given that we forecast the number of stores that we open each year to become a smaller percentage of our existing store base, first-year sales to be lower than we have historically experienced, and comparable store sales to grow at less than historical rates, we anticipate that our future sales growth will be at less than historical levels. If our future comparable store sales or average sales per square foot decline or fail to meet market expectations, the price of our common stock could decline. A variety of factors affect comparable store sales and average sales per square foot, including current national and regional economic conditions, pricing, inflation and weather conditions. Many retailers have been unable to sustain high levels of comparable store sales growth during and after periods of substantial expansion.

Any decrease in customer traffic in the shopping malls or other locations in which our stores are located could cause our sales to be less than expected.

Our stores are located primarily in enclosed shopping malls and other shopping centers. Net sales at these stores are derived, to a significant degree, from the volume of traffic in those shopping malls and centers and in the surrounding area. Our stores benefit from the current popularity of shopping malls and centers as shopping destinations and their ability to generate consumer traffic in the vicinity of our stores. Our sales volume and traffic may be adversely affected by, among other things:

 

   

economic downturns nationally or regionally;

 

   

high fuel prices;

 

   

changes in consumer demographics;

 

   

a decrease in popularity of shopping malls or of higher-end retail concepts in the shopping malls and centers in which our stores are located;

 

   

the closing of a shopping mall’s “anchor” stores or other key tenants; or

 

   

a deterioration in the financial condition of shopping mall and center operators or developers which could, for example, limit their ability to maintain and improve their facilities.

A reduction in consumer traffic as a result of these or any other factors could have a material adverse effect on us.

 

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In addition, severe weather conditions and other catastrophic occurrences in areas in which we have stores may have a material adverse effect on our results of operations. Such conditions may result in physical damage to our stores, loss of inventory, closure of one or more of our stores or an insufficient labor pool in our markets. Any of these factors may disrupt our business and have a material adverse effect on our financial condition and results of operations.

Our success depends substantially upon the continued retention of our senior management and other key personnel.

Our future success is substantially dependent on the continued service of certain members of our senior management, including Andrew Mack, our founder and Chief Executive Officer, Daniel Glennon, our Executive Vice President and Chief Financial Officer, and Peter Luckhurst, our Executive Vice President of Operations. These executives have been primarily responsible for determining the strategic direction of our business and for executing our growth strategy and are integral to our brand and culture and the positive business reputation we enjoy with our customers and vendors. The loss of the services of any of these executives could have a material adverse effect on our business and prospects, as we may not be able to find suitable individuals to replace them on a timely basis, if at all. In addition, any such departure could be viewed in a negative light by investors and analysts, which could cause the price of our common stock to decline.

If we are unable to attract, assimilate and retain team members that embody our culture, including store personnel and store and area managers and regional directors, we may not be able to grow or successfully operate our business.

Our success depends in part upon our ability to attract, train, assimilate and retain a sufficient number of team members, including store personnel, store managers, area managers and regional directors, who understand and appreciate our culture and are able to represent our brand effectively and establish credibility with our customers. We have historically promoted substantially all of our store managers, area managers and regional directors from our pool of existing team members and expect to continue to rely heavily upon such talent pool to support our growth plans. If we are unable to hire and retain store personnel capable of consistently providing a high level of customer service, as demonstrated by their enthusiasm for our culture, understanding of our customers and knowledge of the loose-leaf tea and tea-related merchandise we offer, our ability to open new stores may be impaired, the performance of our existing and new stores could be materially adversely affected and our brand image may be negatively impacted. Any failure to meet our staffing needs or any material increases in team member turnover rates could have a material adverse effect on our business or results of operations.

We have only one distribution center, and if we encounter difficulties associated with such facility or if it were forced to shut down for any reason, we could face shortages of inventory that would have a material adverse effect on our business operations.

Our only distribution center is located in Stratford, Connecticut. This single distribution center currently supports our entire business. Substantially all of our teas and tea-related merchandise are shipped to the distribution center from our vendors, and then shipped from our distribution center to our stores and e-commerce customers. Our success depends on the timely and frequent receipt of merchandise by our stores, often multiple times per week. The efficient flow of such merchandise requires that we have adequate capacity in our distribution center to support our current level of operations and the anticipated increased levels that may follow from our growth plans. If the operation of our distribution center were to be disrupted or if it were to shut down for any reason or its contents were to be destroyed or damaged, including due to fire, severe weather or other natural disaster, we could face shortages of inventory, resulting in “out-of-stock” conditions in our stores, and would incur additional cost to replace any destroyed or damaged product. Such an event may negatively impact our sales and may cause us to incur significantly higher costs and longer lead times associated with delivering products to our stores and e-commerce customers. This could have a material adverse effect on our business and harm our reputation.

 

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Any failure to expand our distribution center’s capacity on a timely basis would have an adverse effect on our growth strategy and results of operations.

We have identified the need to expand our current distribution center in order to support our near-term growth. We have signed commitments to expand our warehouse in three separate phases to support our growth through the first quarter of 2013 and we have commissioned a study to assess our long-term distribution needs and determine the most efficient strategy to satisfy those needs. If we are unable to successfully implement this near-term and long-term expansion of our distribution capability, the efficient flow of our merchandise could be disrupted, which could materially hurt our business. Our long-term need for increased distribution capacity may require us to obtain additional financing. Appropriate locations or financing for the construction or lease of such additional real estate may not be available at reasonable costs or at all. Our failure to secure additional distribution capacity when necessary could impede our growth plans, as a result of which our financial condition and operating results could be adversely affected.

Because our business is highly concentrated on a single, discretionary product category, premium loose-leaf teas and tea-related merchandise, we are vulnerable to changes in consumer preferences and in economic conditions affecting disposable income that could harm our financial results.

Our business is not diversified and consists primarily of developing, sourcing, marketing and selling premium loose-leaf teas and tea-related merchandise. Consumer preferences often change rapidly and without warning, moving from one trend to another among many retail concepts. Therefore, our business is substantially dependent on our ability to educate US consumers on the many positive attributes of tea, anticipate shifts in consumer tastes and help drive growth of the overall US tea market. Any future shifts in consumer preferences away from the consumption of beverages brewed from premium loose-leaf teas would also have a material adverse effect on our results of operations.

Consumer purchases of specialty retail products, including our products, are historically affected by economic conditions such as changes in employment, salary and wage levels, the availability of consumer credit, inflation, interest rates, tax rates, fuel prices and the level of consumer confidence in prevailing and future economic conditions. These discretionary consumer purchases may decline during recessionary periods or at other times when disposable income is lower. In addition, increases in utility, fuel, commodity price and corporate income tax levels could affect our cost of doing business, including transportation costs of our third-party service providers, causing our suppliers and such service providers to seek to recover these increases through increased prices charged to us. Our financial performance may become susceptible to economic and other conditions in regions or states where we have a significant number of stores. Our continued success will depend, in part, on our ability to anticipate, identify and respond quickly to changing consumer preferences and economic conditions.

Our success depends, in part, on our ability to source, develop and market new varieties of loose-leaf teas and tea-related merchandise that meet our high standards and customer preferences.

We currently offer more than 100 varieties of loose-leaf teas and a wide assortment of tea-related merchandise. Our success depends in part on our ability to continually innovate, develop, source and market new varieties of loose-leaf teas and tea-related merchandise that both meet our standards for quality and appeal to customers’ preferences. Failure to innovate, develop, source, market and price new varieties of tea and tea-related merchandise that consumers want to buy could lead to a decrease in our sales and profitability.

We may experience negative effects to our brand and reputation from real or perceived quality or health issues with our teas and tea-related merchandise, which could have an adverse effect on our operating results.

We believe our customers rely on us to provide them with premium loose-leaf teas and high-quality tea-related merchandise. Concerns regarding the safety of our teas and tea-related merchandise or the safety and quality of our supply chain could cause shoppers to avoid purchasing certain products from us or to seek

 

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alternative sources of tea, even if the basis for the concern has been addressed or is outside of our control. Adverse publicity about these concerns, whether or not ultimately based on fact, and whether or not involving teas or tea-related merchandise sold at our stores, could discourage consumers from buying our teas and tea-related merchandise and have an adverse effect on our brand, reputation and operating results.

Furthermore, the sale of tea entails a risk of product liability claims and the resulting negative publicity. Tea supplied to us may contain contaminants that, if not detected by us, could result in illness or death upon their consumption. We cannot assure you that product liability claims will not be asserted against us or that we will not be obligated to perform product recalls in the future.

We may also be subject to involuntary product recalls or may voluntarily conduct a product recall, such as the recent voluntary recall of our organic peppermint loose-leaf tea following notification by one of our suppliers of possible contamination of its product by Salmonella. The costs associated with any future product recall could, individually and in the aggregate, be significant in any given fiscal year. In addition, any product recall, regardless of direct costs of the recall, may harm consumer perceptions of our teas and tea-related merchandise and have a negative impact on our future sales and results of operations.

Any loss of confidence on the part of our customers in the safety and quality of our teas and tea-related merchandise would be difficult and costly to overcome. Any such adverse effect could be exacerbated by our position in the market as a purveyor of premium loose-leaf teas and high-quality tea-related merchandise and could significantly reduce our brand value. Issues regarding the safety of any teas or tea-related merchandise sold by us, regardless of the cause, could have a substantial and adverse effect on our sales and operating results.

A shortage in the supply, a decrease in quality or an increase in the price of teas and tea-related merchandise as a result of weather conditions, earthquakes, crop disease, pests or other natural or manmade causes outside of our control could impose significant costs and losses on our business.

The supply and price of tea is subject to fluctuation, depending on demand and other factors outside of our control. The supply, quality and price of our teas and tea-related merchandise can be affected by multiple factors in tea-producing countries, including political and economic conditions, civil and labor unrest, adverse weather conditions, including floods, drought and temperature extremes, earthquakes, tsunamis, and other natural disasters and related occurrences. This risk is particularly true with respect to regions or countries from which we source a significant percentage of our products. In extreme cases, entire tea harvests may be lost or production of tea-related merchandise may be negatively impacted in some geographic areas. These factors can increase costs and decrease sales, which may have a material adverse effect on our business, results of operations and financial condition.

On March 11, 2011, northeastern Japan was struck by a severe earthquake, immediately followed by destructive tsunami waves. This natural disaster has been exacerbated by radioactive contamination that resulted from the damage to certain nuclear power plants situated on the coastline hit by the tsunami. It is difficult for us to predict whether the combination of these natural and manmade disasters will have any long-term impact on our sourcing of teas and tea-related merchandise from Japan. If the aftermath of these events were to deteriorate further, we could experience a disruption in the supply of products that we obtain from Japan. Public concerns about potential contamination, whether or not based in fact, could result in a reduction in demand for our products sourced from Japan. Any of these developments could have a material adverse effect on our business, financial condition and results of operations.

Tea may be vulnerable to crop disease and pests, which may vary in severity and effect. The costs to control disease and pest damage vary depending on the severity of the damage and the extent of the plantings affected. Moreover, there can be no assurance that available technologies to control such conditions will continue to be effective. These conditions can increase costs and decrease sales, which may have a material adverse effect on our business, results of operations and financial condition.

 

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Because we rely on a limited number of third-party suppliers and manufacturers to produce the majority of our teas and tea-related merchandise, we may not be able to obtain quality products on a timely basis or in sufficient quantities.

We rely on a limited number of vendors to supply us with single-estate and specially blended teas and tea-related merchandise on a continuous basis. Our financial performance depends in large part on our ability to purchase tea in sufficient quantities at competitive prices from these vendors. We do not have long-term purchase contracts or other contractual assurances of continued supply, pricing or exclusive access to products from these vendors.

Any of our suppliers or manufacturers could discontinue supplying us with loose-leaf tea or tea-related merchandise in sufficient quantities for a variety of reasons. The benefits we currently experience from our supplier and manufacturer relationships could be adversely affected if they:

 

   

raise the prices they charge us;

 

   

discontinue selling products to us;

 

   

sell similar or identical products to our competitors; or

 

   

enter into arrangements with competitors that could impair our ability to sell our suppliers’ products, including by giving our competitors exclusive licensing arrangements or exclusive access to tea blends and other products or limiting our access to such arrangements or blends or other products.

During fiscal 2010, our two largest vendors represented 25% and 15%, respectively, of our total inventory purchases. Any disruption to either of these relationships would have a material adverse effect on our business.

Events that adversely affect our vendors could impair our ability to obtain inventory in the quantities that we desire. Such events include difficulties or problems with our vendors’ businesses, finances, labor relations, ability to import raw materials, costs, production, insurance and reputation, as well as natural disasters or other catastrophic occurrences.

If we experience significant increased demand for our teas and tea-related merchandise, or need to replace an existing vendor, there can be no assurance that additional supplies or additional manufacturing capacity will be available when required on terms that are acceptable to us, or at all, or that any vendor would allocate sufficient capacity to us in order to meet our requirements, fill our orders in a timely manner or meet our strict quality requirements. Even if our existing vendors are able to expand their capacity to meet our needs or we are able to find new sources of supply, we may encounter delays in production, inconsistencies in quality and added costs as a result of the time it takes to train our suppliers and manufacturers in our methods, products and quality control standards. Any delays, interruption or increased costs in the supply of loose-leaf teas or the manufacture of our tea-related merchandise could have an adverse effect on our ability to meet customer demand for our products and result in lower net sales and profitability both in the short and long term.

We may face increased competition from other tea and beverage retailers, which could adversely affect us and our growth plans.

As we continue to drive growth in the loose-leaf tea category in the United States, our success, combined with relatively low barriers to entry, may encourage new competitors to enter the market. The financial, marketing and operating resources of some of these new market entrants may be greater than our own. We must spend significant resources to differentiate our customer experience, which is defined by a wide selection of premium loose-leaf teas, high quality tea-related merchandise and superior customer service from experienced and knowledgeable teaologists who are passionate about tea. Despite these efforts, our competitors may still be successful in attracting our customers.

 

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We rely significantly on information technology systems and any failure, inadequacy, interruption or security failure of those systems could harm our ability to operate our business effectively.

We rely on our information technology systems to effectively manage our business data, communications, point-of-sale, supply chain, order entry and fulfillment, inventory and warehouse management and other business processes. The failure of our systems to perform as we anticipate could disrupt our business and result in transaction errors, processing inefficiencies and the loss of sales, causing our business to suffer. In addition, our information technology systems may be vulnerable to damage or interruption from circumstances beyond our control, including fire, natural disasters, systems failures, viruses and security breaches, including breaches of our transaction processing or other systems that could result in the compromise of confidential customer data. Any such damage or interruption could have a material adverse effect on our business, cause us to face significant fines, customer notice obligations or costly litigation, harm our reputation with our customers, require us to expend significant time and expense developing, maintaining or upgrading our information technology systems or prevent us from paying our vendors or team members, receiving payments from our customers or performing other information technology, administrative or outsourcing services on a timely basis. Recently, data security breaches suffered by well-known companies and institutions have attracted a substantial amount of media attention, prompting new federal and state laws and legislative proposals addressing data privacy and security, as well as increased data protection obligations imposed on merchants by credit card issuers. As a result, we may become subject to more extensive requirements to protect the customer information that we process in connection with the purchase of our products.

In addition, we sell merchandise over the Internet through our website, www.teavana.com. Our website operations may be affected by our reliance on third-party hardware and software providers, technology changes, risks related to the failure of computer systems through which we conduct our website operations, telecommunications failures, electronic break-ins and similar disruptions. Furthermore, our ability to conduct our website operations may be affected by liability for on-line content and state and federal privacy laws.

Fluctuations in our results of operations for the fourth fiscal quarter would have a disproportionate effect on our overall financial condition and results of operations.

Our business is seasonal and, historically, we have realized a higher portion of our net sales, net income and operating cash flows in the fourth fiscal quarter, due to the impact of the holiday selling season. Any factors that harm our fourth fiscal quarter operating results, including disruptions in our supply chain, adverse weather or unfavorable economic conditions, could have a disproportionate effect on our results of operations for the entire fiscal year.

In order to prepare for our peak shopping season, we must order and maintain higher quantities of inventory than we would carry at other times of the year. As a result, our working capital requirements also fluctuate during the year, increasing in the second and third fiscal quarters in anticipation of the fourth fiscal quarter. Any unanticipated decline in demand for our loose-leaf teas and tea-related merchandise during our peak shopping season could require us to sell excess inventory at a substantial markdown, which could diminish our brand and reduce our net sales and gross profit.

Our quarterly results of operations may also fluctuate significantly as a result of a variety of other factors, including the timing of new store openings and the sales contributed by new stores. As a result, historical period-to-period comparisons of our sales and operating results are not necessarily indicative of future period-to-period results. You should not rely on the results of a single fiscal quarter, particularly the fourth fiscal quarter holiday season, as an indication of our annual results or our future performance.

Third-party failure to deliver merchandise from our distribution center to our stores and e-commerce customers could result in lost sales or reduced demand for our teas and tea-related merchandise.

We currently rely upon a national third-party transportation provider for substantially all of our product shipments from our distribution center to our stores and e-commerce customers. Our utilization of its delivery

 

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services for shipments, or those of any other shipping companies we may elect to use, is subject to risks, including increases in fuel prices, which would increase our shipping costs, and employee strikes and inclement weather, which may impact the provider’s ability to provide delivery services that adequately meet our shipping needs. If we change shipping companies, we could face logistical difficulties that could adversely affect deliveries, and we would incur costs and expend resources in connection with such change. Moreover, we may not be able to obtain terms as favorable as those we receive from the national third-party transportation provider that we currently use, which in turn would increase our costs and thereby adversely affect our operating results.

Our ability to source our teas and tea-related merchandise profitably or at all could be hurt if new trade restrictions are imposed or existing trade restrictions become more burdensome.

All of our loose-leaf teas are currently grown, and a substantial majority of our tea-related merchandise is currently manufactured, outside of the United States. The United States and the countries in which our products are produced or sold internationally have imposed and may impose additional quotas, duties, tariffs, or other restrictions or regulations, or may adversely adjust prevailing quota, duty or tariff levels. Countries impose, modify and remove tariffs and other trade restrictions in response to a diverse array of factors, including global and national economic and political conditions, which make it impossible for us to predict future developments regarding tariffs and other trade restrictions. Trade restrictions, including tariffs, quotas, embargoes, safeguards and customs restrictions, could increase the cost or reduce the supply of teas and tea-related merchandise available to us or may require us to modify our supply chain organization or other current business practices, any of which could harm our business, financial condition and results of operations.

Fluctuations in foreign currency exchange rates may affect our price negotiations with our third-party suppliers and manufacturers.

Substantially all of our suppliers and manufacturers are located outside of the United States, and changes in the exchange rates between the US dollar and the Euro, Japanese yen and Chinese Renminbi may have a significant, and potentially adverse, effect on our price negotiations with such parties. If the US dollar weakens against any such currencies, our suppliers and manufacturers may attempt to renegotiate the terms of their arrangements with us, which may have a negative effect on our operating results.

We may not be able to protect our intellectual property adequately, which could harm the value of our brand and adversely affect our business.

We believe that our intellectual property has substantial value and has contributed significantly to the success of our business. In particular, our trademarks, including our registered Teavana and Teavana logo design trademarks and the names of most of the varieties of specially blended teas that we sell, are valuable assets that reinforce the distinctiveness of our brand and our customers’ favorable perception of our stores.

From time to time, third parties have used names similar to ours, have applied to register trademarks similar to ours and, we believe, have infringed or misappropriated our intellectual property rights. Third parties have also, from time to time, opposed our trademarks and challenged our intellectual property rights. We respond to these actions on a case-by-case basis, including where appropriate by commencing litigation.

We cannot assure you that the steps we have taken to protect our intellectual property rights are adequate, that our intellectual property rights can be successfully defended and asserted in the future or that third parties will not infringe upon or misappropriate any such rights. Our trademark rights and related registrations may continue to be challenged in the future and could be canceled or narrowed. Our failure to protect our trademarks could prevent us in the future from challenging third parties who use names and logos similar to our trademarks, which may in turn cause customer confusion, negatively affect customers’ perception of our brand, stores and

 

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products, and adversely affect our sales and profitability. Moreover, intellectual property proceedings and infringement claims could result in a significant distraction for management and have a negative impact on our business.

In addition, although we have also taken steps to protect our intellectual property rights internationally, the laws of certain foreign countries may not protect intellectual property to the same extent as do the laws of the United States. Other entities may have rights to trademarks that contain portions of our marks or may have registered similar or competing marks in foreign countries. There may also be other prior registrations in other foreign countries of which we are not aware. We may need to expend additional resources to defend our trademarks in these countries, and the inability to defend such trademarks could impair our brand or adversely affect the growth of our business internationally.

We are subject to the risks associated with leasing substantial amounts of space and are required to make substantial lease payments under our operating leases. Any failure to make these lease payments when due would likely harm our business, profitability and results of operations.

We do not own any real estate. Instead, we lease all of our company-owned store locations, our store support center in Atlanta, Georgia and our distribution center in Stratford, Connecticut. Our store leases typically have ten-year terms and generally require us to pay relatively high total rent per square foot that is reflective of our small average store square footage and premium locations within the mall or center. Many of our lease agreements have defined escalating rent provisions over the initial term and any extensions. As our stores mature and as we expand our store base, our lease expense and our cash outlays for rent under our lease agreements will increase. Our substantial operating lease obligations could have significant negative consequences, including:

 

   

requiring that an increased portion of our cash from operations and available cash be applied to pay our lease obligations, thus reducing liquidity available for other purposes;

 

   

increasing our vulnerability to adverse general economic and industry conditions;

 

   

limiting our flexibility to plan for or react to changes in our business or in the industry in which we compete; and

 

   

limiting our ability to obtain additional financing.

We depend on cash flow from operations to pay our lease expenses, finance our growth capital requirements and fulfill our other cash needs. If our business does not generate sufficient cash flow from operating activities to fund these requirements, we may not be able to achieve our growth plans, fund our other liquidity and capital needs or ultimately service our lease expenses, which would harm our business.

If an existing or future store is not profitable, and we decide to close it, we may nonetheless remain committed to perform our obligations under the applicable lease including, among other things, paying the base rent for the balance of the lease term. Moreover, even if a lease has an early cancellation clause, we may not satisfy the contractual requirements for early cancellation under that lease. In addition, as our leases expire, we may fail to negotiate renewals on commercially acceptable terms or at all, which could cause us to close stores in desirable locations. Even if we are able to renew existing leases, the terms of such renewal may not be as attractive as the expiring lease, which would materially and adversely affect our results of operations. Of our 161 company-owned stores as of May 1, 2011, two leases expire in fiscal 2011 and two leases expire in fiscal 2012. Our inability to enter into new leases or renew existing leases on terms acceptable to us or be released from our obligations under leases for stores that we close could materially adversely affect us.

 

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Our franchisees may take actions that could harm our business or brand, and franchise regulations and contracts limit our ability to terminate or replace under-performing franchises.

As of May 1, 2011 we had two franchise stores in the United States and 17 franchise stores in Mexico. Franchisees are independent business operators and are not our employees or agents, and we do not exercise control over the day-to-day operations of their retail stores. We provide training and support to franchisees and set and monitor operational standards, but the quality of franchise store operations may fluctuate or decline due to various factors beyond our control. For example, franchisees may not operate stores in a manner consistent with our standards and requirements, or may not hire and train qualified employees, which could harm their sales and, as a result, harm our results of operations or our brand image.

Franchisees, as independent business operators, may from time to time disagree with us and our strategies regarding the business or our interpretation of our respective rights and obligations under applicable franchise agreements. This may lead to disputes with our franchisees from time to time, regarding the collection of royalty payments or other matters related to the franchisee’s operation of the franchise store. Such disputes could divert the attention of our management from our operations, which could cause our business, financial condition, results of operations or cash flows to suffer.

In addition, as a franchisor, we are subject to US federal, US state and foreign laws regulating the offer and sale of franchises. These laws impose registration and extensive disclosure requirements on the offer and sale of franchises, frequently apply substantive standards to the relationship between franchisor and franchisee and limit the ability of a franchisor to terminate or refuse to renew a franchise. We may therefore be required to retain an underperforming franchise and may be unable to replace the franchisee, which could harm our results of operations or our brand image. We cannot predict the nature and effect of any future legislation or regulation or any changes to existing legislation or regulation on our franchise operations.

The terms of our amended revolving credit facility may restrict our current and future operations, which could adversely affect our ability to respond to changes in our business and to manage our operations.

Our amended revolving credit facility contains, and any additional debt financing we may incur would likely contain, covenants requiring us to maintain or adhere to certain financial ratios or limits and covenants that restrict our operations, including limitations on our ability to grant liens, incur additional debt, pay dividends, redeem our common stock, make certain investments and engage in certain merger, consolidation or asset sale transactions. Complying with these covenants could adversely affect our ability to respond to changes in our business and manage our operations. A failure by us to comply with the financial ratios and restrictive covenants contained in our amended revolving credit facility and any future debt instruments could result in an event of default. Upon the occurrence of an event of default, the lenders could elect to declare all amounts outstanding to be due and payable and exercise other remedies as set forth in our amended revolving credit facility and any future debt instruments. If the indebtedness under our amended revolving credit facility and any future debt instruments were to be accelerated, our future financial condition could be materially adversely affected.

Risks Related to this Offering and Ownership of Our Common Stock

No market currently exists for our common stock, and we cannot assure you that an active trading market will develop for such stock.

Prior to this offering, there has been no public market for shares of our common stock. We cannot predict the extent to which investor interest in our company will lead to the development of a trading market on the New York Stock Exchange or otherwise, or how liquid that market might become. If an active market does not develop, you may have difficulty selling any shares of our common stock that you purchase in this initial public offering. The initial public offering price for the shares of our common stock will be determined by negotiations between us, certain of our selling stockholders and the representatives of the underwriters, and may not be indicative of prices that will prevail in the open market following this offering.

 

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Our stock price may be volatile or may decline regardless of our operating performance, and you may not be able to resell your shares at or above the initial public offering price.

After this offering, the market price for our common stock is likely to be volatile, in part because our shares have not been traded publicly. In addition, the market price of our common stock may fluctuate significantly in response to a number of factors, most of which we cannot control, including:

 

   

market conditions or trends in our industry or the economy as a whole and, in particular, in the specialty retail sales environment;

 

   

the timing, performance and successful integration of any new stores that we open;

 

   

seasonal fluctuations;

 

   

changes in key personnel;

 

   

our levels of comparable store sales;

 

   

actions by competitors or other shopping mall tenants;

 

   

the public’s response to press releases or other public announcements by us or third parties, including our filings with the Securities and Exchange Commission, or SEC;

 

   

any future guidance we may provide to the public, any changes in such guidance or any difference between our guidance and actual results;

 

   

changes in financial estimates or recommendations by any securities analysts who follow our common stock; and

 

   

future sales of our common stock by our officers, directors and significant stockholders.

In addition, the stock markets, and in particular the New York Stock Exchange, have experienced extreme price and volume fluctuations that have affected and continue to affect the market prices of equity securities of many retail companies. In the past, stockholders have instituted securities class action litigation following periods of market volatility. If we were involved in securities litigation, we could incur substantial costs and our resources and the attention of management could be diverted from our business.

Future sales of our common stock, or the perception in the public markets that these sales may occur, may depress our stock price.

The market price of our common stock could decline significantly as a result of sales of a large number of shares of our common stock in the market after this offering. The sales, or the perception that these sales might occur, could depress the market price. These sales, or the possibility that these sales may occur, also might make it more difficult for us to sell equity securities in the future at a time and at a price that we deem appropriate.

Upon consummation of this offering, we will have 38,040,518 shares of common stock outstanding. The shares of common stock offered in this offering will be freely tradable without restriction under the Securities Act of 1933, as amended, or the Securities Act, except for any shares of common stock that may be held or acquired by our directors, executive officers and other affiliates, the sale of which will be restricted under the Securities Act. In addition, shares subject to outstanding options under our 2004 Management Incentive Plan and options that we intend to grant prior to this offering under our 2011 Equity Incentive Plan and shares reserved for future issuance under our 2011 Equity Incentive Plan will become eligible for sale in the public market in the future, subject to certain legal and contractual limitations. Moreover, pursuant to the Registration Rights Agreement between us and Teavana Investment LLC, dated as of December 17, 2004, Teavana Investment LLC has the right to require us to register under the Securities Act any shares in our company not sold by it in this offering. See “Certain Relationships and Related Party Transactions—Investment by Teavana Investment LLC—Registration Rights Agreement.” If our existing stockholders sell substantial amounts of our common stock in the public market, or if the public perceives that such sales could occur, this could have an adverse impact on the market price of our common stock, even if there is no relationship between such sales and the performance of our business.

 

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In connection with this offering, we, our directors and executive officers and the selling stockholders have each agreed to lock-up restrictions, meaning that we and they and their permitted transferees will not be permitted to sell any shares of our common stock for 180 days after the date of this prospectus, subject to the exceptions discussed in “Shares Eligible for Future Sale,” without the prior consent of Merrill Lynch, Pierce, Fenner & Smith Incorporated and Goldman, Sachs & Co. Merrill Lynch, Pierce, Fenner & Smith Incorporated and Goldman, Sachs & Co. may, in their sole discretion, release all or any portion of the shares of our common stock from the restrictions in any of the lock-up agreements described above. See “Underwriting.”

Also, in the future, we may issue shares of our common stock in connection with investments or acquisitions. The amount of shares of our common stock issued in connection with an investment or acquisition could constitute a material portion of our then outstanding shares of our common stock.

Approximately 57.9% of our voting power will be controlled by one principal stockholder whose interests may conflict with those of our other stockholders.

Upon consummation of this offering, Andrew Mack, our founder and Chief Executive Officer, will hold approximately 57.9% of our voting power, or 55.9% if the underwriters exercise their overallotment option in full. So long as Mr. Mack continues to hold, directly or indirectly, shares of common stock representing more than 50% of the voting power of our common stock, he will be able to exercise control over all matters requiring stockholder approval, including the election of directors, amendment of our amended and restated certificate of incorporation and approval of significant corporate transactions and will have significant control over our management and policies. Mr. Mack’s control may have the effect of delaying or preventing a change in control of our company or discouraging others from making tender offers for our shares, which could prevent stockholders from receiving a premium for their shares. These actions may be taken even if other stockholders oppose them. The interests of Mr. Mack may not be consistent with your interests as a stockholder.

In addition, a fund advised by Parallel will hold approximately 19.9% of our voting power, or 19.2% if the underwriters exercise their overallotment option in full, and will have significant influence over our management and policies by virtue of its representation on our Board of Directors.

Failure to establish and maintain effective internal controls in accordance with Section 404 of the Sarbanes-Oxley Act of 2002 could have a material adverse effect on our business and stock price.

As a public company, we will be required to document and test our internal control procedures in order to satisfy the requirements of Section 404 of the Sarbanes-Oxley Act of 2002, or Section 404, which will require annual and quarterly management assessments and certifications of the effectiveness of our internal control over financial reporting and, if certain market capitalization thresholds are met, a report by our independent registered public accounting firm that addresses the effectiveness of internal control over financial reporting. During the course of our testing, we may identify deficiencies that we may not be able to remediate in time to meet our deadline for compliance with Section 404. Testing and maintaining internal controls can divert our management’s attention from other matters that are important to the operation of our business. We also expect the regulations to increase our legal and financial compliance costs, make it more difficult to attract and retain qualified officers and members of our Board of Directors, particularly to serve on our audit committee, and make some activities more difficult, time consuming and costly. We may not be able to conclude on an ongoing basis that we have effective internal control over financial reporting in accordance with Section 404 or our independent registered public accounting firm may not be able or willing to issue an unqualified report on the effectiveness of our internal control over financial reporting. If we conclude that our internal control over financial reporting is not effective, we cannot be certain as to the timing of remediation actions and testing or their effect on our operations because there is presently no precedent available by which to measure compliance adequacy.

If we are unable to conclude that we have effective internal control over financial reporting, our independent auditors are unable to provide us with an unqualified report as required by Section 404 or we are required to

 

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restate our financial statements, we may fail to meet our public reporting obligations and investors could lose confidence in our reported financial information, which could have a negative effect on the trading price of our stock.

Some of our operating expenses will increase significantly as a result of operating as a public company, and our management will be required to devote substantial time to complying with public company regulations.

We historically have operated our business as a private company. As a public company, we will incur additional legal, accounting, compliance and other expenses that we have not incurred as a private company. After this offering, we will become obligated to file annual and quarterly information and other reports with the SEC that are specified in Section 13 and other sections of the Securities Exchange Act of 1934, as amended, or the Exchange Act. In addition, we will also become subject to other reporting and corporate governance requirements, including certain requirements of the New York Stock Exchange, which will impose significant compliance obligations upon us. We will need to institute a comprehensive compliance function, establish internal policies, ensure that we have the ability to prepare financial statements that are fully compliant with all SEC reporting requirements on a timely basis, design, establish, involve and retain outside counsel and accountants in the above activities and establish an investor relations function.

The Sarbanes-Oxley Act of 2002, the recently enacted Dodd-Frank Wall Street Reform and Consumer Protection Act, as well as rules subsequently implemented by the SEC and the New York Stock Exchange, have imposed increased regulation and disclosure and have required enhanced corporate governance practices of public companies. Our efforts to comply with evolving laws, regulations and standards in this regard are likely to result in increased administrative expenses and a diversion of management’s time and attention from revenue-generating activities to compliance activities. These changes will require a significant commitment of additional resources. We may not be successful in implementing these requirements, and implementing them could materially adversely affect our business, results of operations and financial condition. If we do not implement such requirements in a timely manner or with adequate compliance, we might be subject to sanctions or investigation by regulatory authorities, such as the SEC or the New York Stock Exchange. Any such action could harm our reputation and the confidence of investors and customers in our company and could materially adversely affect our business and cause our share price to fall.

If securities or industry analysts do not publish research or publish inaccurate or unfavorable research about our business, our stock price and trading volume could decline.

The trading market for our common stock will be influenced by the research and reports that industry or securities analysts publish about us or our business. If one or more of these analysts ceases coverage of our company or fails to publish reports on us regularly, we could lose visibility in the financial markets, which in turn could cause our stock price or trading volume to decline. Moreover, if our operating results do not meet the expectations of the investor community, or one or more of the analysts who cover our company downgrades our stock, our stock price could decline.

If you purchase shares of common stock sold in this offering, you will incur immediate and substantial dilution.

If you purchase shares of common stock in this offering, you will incur immediate and substantial dilution in the amount of $12.97 per share because the initial public offering price of $14.00 is substantially higher than the pro forma net tangible book value per share of our outstanding common stock. This dilution is due in large part to the fact that our earlier investors paid substantially less than the initial public offering price when they purchased their shares. In addition, you may also experience additional dilution upon future equity issuances or the exercise of stock options to purchase common stock granted to our directors, management personnel and consultants under our 2004 Management Incentive Plan and 2011 Equity Incentive Plan. See “Dilution.”

 

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We do not expect to pay any cash dividends for the foreseeable future.

For the foreseeable future, we intend to retain any earnings to finance the development and expansion of our business, and we do not anticipate paying any cash dividends on our common stock. Any determination to pay dividends in the future will be at the discretion of our Board of Directors and will depend upon results of operations, financial condition, contractual restrictions, including under our amended revolving credit facility and other indebtedness we may incur, restrictions imposed by applicable law and other factors our Board of Directors deems relevant. Accordingly, if you purchase shares in this offering, realization of a gain on your investment will depend on the appreciation of the price of our common stock, which may never occur. Investors seeking cash dividends in the foreseeable future should not purchase our common stock.

Certain provisions of our corporate governing documents and Delaware law could discourage, delay or prevent a merger or acquisition at a premium price.

Our amended and restated certificate of incorporation and amended and restated bylaws will contain provisions that may make the acquisition of our company more difficult without the approval of our Board of Directors. These include provisions that:

 

   

authorize the issuance of undesignated preferred stock, the terms of which may be established and the shares of which may be issued without stockholder approval, and which may include super voting, special approval, dividend, or other rights or preferences superior to the rights of the holders of common stock;

 

   

classify our Board of Directors into three separate classes with staggered terms;

 

   

prohibit stockholders from acting by written consent after Mr. Mack ceases to own more than 50% of the total voting power of our shares, which will then require all stockholder actions to be taken at a meeting of our stockholders after such time;

 

   

provide that the Board of Directors is expressly authorized to make, alter, or repeal our amended and restated bylaws; and

 

   

establish advance notice requirements for nominations for elections to our Board of Directors or for proposing matters that can be acted upon by stockholders at stockholder meetings.

In addition, we are governed by Section 203 of the Delaware General Corporation Law which, subject to some specified exceptions, prohibits “business combinations” between a Delaware corporation and an “interested stockholder,” which is generally defined as a stockholder who becomes a beneficial owner of 15% or more of a Delaware corporation’s voting stock, for a three-year period following the date that the stockholder became an interested stockholder. Section 203 could have the effect of delaying, deferring or preventing a change in control that our stockholders might consider to be in their best interests.

These and other provisions of the Delaware General Corporation Law and our amended and restated certificate of incorporation and amended and restated bylaws could delay, defer or prevent us from experiencing a change of control or changes in our Board of Directors and management and may adversely affect our stockholders’ voting and other rights. Any delay or prevention of a change of control transaction or changes in our Board of Directors and management could deter potential acquirors or prevent the completion of a transaction in which our stockholders could receive a substantial premium over the then current market price for their shares of our common stock.

 

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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

This prospectus includes forward-looking statements in addition to historical information. These forward-looking statements are included throughout this prospectus, including in the sections entitled “Prospectus Summary,” “Risk Factors,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” “Business” and “Certain Relationships and Related Party Transactions,” and relate to matters such as our industry, business strategy, goals and expectations concerning our market position, future operations, margins, profitability, capital expenditures, liquidity and capital resources and other financial and operating information. We have used the words “anticipate,” “assume,” “believe,” “continue,” “could,” “estimate,” “expect,” “intend,” “may,” “plan,” “potential,” “predict,” “project,” “future” and similar terms and phrases to identify forward-looking statements in this prospectus.

The forward-looking statements contained in this prospectus are based on management’s current expectations and are subject to uncertainty and changes in circumstances. We cannot assure you that future developments affecting us will be those that we have anticipated. Actual results may differ materially from these expectations due to changes in global, regional or local political, economic, business, competitive, market, regulatory and other factors, many of which are beyond our control. We believe that these factors include those described in “Risk Factors.” Should one or more of these risks or uncertainties materialize, or should any of our assumptions prove incorrect, our actual results may vary in material respects from those projected in these forward-looking statements. Any forward-looking statement made by us in this prospectus speaks only as of the date on which we make it. Factors or events that could cause our actual results to differ may emerge from time to time, and it is not possible for us to predict all of them. We undertake no obligation to publicly update any forward-looking statement, whether as a result of new information, future developments or otherwise, except as may be required by any applicable securities laws.

 

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USE OF PROCEEDS

Assuming an initial public offering price of $14.00 per share (the midpoint of the estimated price range set forth on the cover page of this prospectus), we estimate that we will receive net proceeds from this offering of approximately $12.0 million after deducting the underwriting discount and estimated offering expenses payable by us. We will not receive any proceeds from the sale of shares of our common stock by the selling stockholders, including any shares sold by certain of the selling stockholders in connection with the exercise of the underwriters’ overallotment option to purchase additional shares.

A $1.00 increase (decrease) in the assumed initial public offering price of $14.00 per share would increase (decrease) the net proceeds to us from this offering by approximately $1.0 million, assuming the number of shares offered, as set forth on the cover page of this prospectus, remains the same and after deducting the underwriting discount and estimated offering expenses payable by us.

We intend to use the net proceeds to us from this offering in the following order:

 

   

to redeem all outstanding shares of our Series A redeemable preferred stock, all of which is held by Teavana Investment LLC, for an aggregate redemption value of $10,683,333;

 

   

to pay offering-related expenses of approximately $3.0 million; and

 

   

to repay all of the outstanding indebtedness under our amended revolving credit facility with Fifth Third Bank.

In the event that the net proceeds available to be applied to repay indebtedness outstanding under our amended revolving credit facility are less than the total amount of debt outstanding under it at the closing of this offering, we will pay down that indebtedness by the amount of net proceeds available to be applied. We intend to use any remaining net proceeds for general corporate purposes, including working capital and capital expenditures.

At May 1, 2011, the balance outstanding under our amended revolving credit facility was $1.0 million, and the interest rate with respect to those borrowings on that date was 6.0%. Our amended revolving credit facility expires on April 22, 2016.

The amount and timing of our actual working capital requirements and capital expenditures will depend on numerous factors related to the implementation of our growth plan, including the number of new stores opened in each fiscal period, increased volumes purchased from our vendors, the expansion of our distribution center and other infrastructure investments. Accordingly, our management will have broad discretion in the amount and timing of the application of the net proceeds to our working capital and capital expenditure requirements, and investors will be relying on the judgment of our management regarding such application of the proceeds from this offering.

DIVIDEND POLICY

We have never declared or paid regular cash dividends on our common stock. We currently expect to retain all future earnings for use in the operation and expansion of our business and do not anticipate paying cash dividends in the foreseeable future. The declaration and payment of any dividends in the future will be determined by our Board of Directors, in its discretion, and will depend on a number of factors, including our earnings, capital requirements, overall financial condition, and contractual restrictions, including under our amended revolving credit facility and other indebtedness we may incur.

 

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CAPITALIZATION

The following table sets forth our cash and cash equivalents and capitalization as of May 1, 2011 on:

 

   

an actual basis; and

 

   

an as adjusted basis to give effect to (i) the sale of shares of common stock by us in this offering, after deducting the underwriting discount and estimated offering expenses payable by us, and the application of a portion of the net proceeds therefrom to pay offering-related expenses and repay outstanding indebtedness under our amended revolving credit facility as described under “Use of Proceeds,” (ii) the conversion of our Class B redeemable common stock into Class A common stock, and (iii) the reclassification of all of our Class A common stock into common stock.

You should read this table together with “Selected Consolidated Financial and Other Data,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our financial statements and notes thereto included elsewhere in this prospectus.

 

     As of May 1, 2011  
     Actual     As Adjusted  
    

(unaudited, in thousands)

 

Cash and cash equivalents

   $ 3,740      $ 4,086   
                

Series A redeemable preferred stock, $.0001 par value; 10,683,333 shares authorized, issued and outstanding, actual; no shares issued and outstanding, as adjusted (1)

   $ 13,591      $ —     

Long-term debt

     1,000        —     

Class B redeemable common stock, $.00003 par value; 50,000,000 shares authorized, 9,005,217 shares issued and outstanding, actual; no shares issued and outstanding, as adjusted (2)

     87,253        —     

Stockholders’ (deficit)/equity:

    

Class A common stock, $.00003 par value; 50,000,000 shares authorized, 27,744,243 shares issued and outstanding, actual; no shares issued and outstanding, as adjusted

     1        —     

Common stock, $.00003 par value; no shares authorized, no shares issued and outstanding, actual; 100,000,000 shares authorized, 38,040,518 shares issued and outstanding, as adjusted

     —          1   

Additional paid-in capital (3)

     —          102,190   

Accumulated deficit

       (57,627     (57,627
                

Total stockholders’ (deficit)/equity (3)

     (57,626     44,564   
                

Total capitalization (3)

   $ 44,218      $ 44,564   
                

 

(1) Our Series A redeemable preferred stock was issued on December 15, 2004 with a mandatory redemption date upon the earlier of a public offering or December 15, 2011. The Series A redeemable preferred stock had an original redemption value of approximately $10.7 million with annual accretion at a rate of 5%. The cumulative annual accretion of the redemption value will be forgiven at the redemption date if we achieve certain targets. The Series A redeemable preferred stock is listed as a liability on our consolidated balance sheets and condensed consolidated balance sheets due to its mandatory redemption feature. See Note 6, “Common and Preferred Stock,” in our consolidated financial statements and Note 4, “Common and Preferred Stock,” in our condensed consolidated financial statements.
(2) Our outstanding shares of Class B redeemable common stock will be automatically converted into an equivalent number of shares of our Class A common stock upon the consummation of this offering. The Class B redeemable common stock is subject to redemption at the option of the holder from and after December 15, 2011 at a redemption price equal to the aggregate fair value of the shares being redeemed. Because of this contingent redemption feature, the Class B redeemable common stock is classified on our consolidated balance sheets and condensed consolidated balance sheets as temporary equity, rather than stockholders’ equity, with adjustments to its fair value made at each reporting date. See Note 6, “Common and Preferred Stock,” and Note 7, “Fair Value Measurements,” in our consolidated financial statements and Note 4, “Common and Preferred Stock,” in our condensed consolidated financial statements.

 

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(3) A $1.00 increase (decrease) in the assumed initial public offering price of $14.00 per share (the midpoint of the estimated price range set forth on the cover of this prospectus) would increase (decrease) each of additional paid-in capital, total stockholders’ equity and total capitalization by $1.0 million, assuming the number of shares offered by us, as set forth on the cover of this prospectus, remains the same and after deducting the underwriting discount and estimated offering expenses payable to us.

The number of shares of common stock outstanding set forth in the table above excludes:

 

 

1,622,510 shares of common stock issuable upon the exercise of options outstanding as of May 1, 2011 under our 2004 Management Incentive Plan, with a weighted average exercise price of $1.36 per share, after giving effect to the sale of 219,629 shares in this offering acquired by certain of the selling stockholders upon exercise of options granted to them under that plan;

 

 

600,000 shares of common stock reserved for issuance upon the exercise of options to be granted in connection with this offering under our 2011 Equity Incentive Plan, which we intend to adopt prior to this offering, such options to be granted at an exercise price per share equal to the initial public offering price set forth on the cover page of this prospectus and anticipated to represent approximately 80% of the number of shares reserved for issuance under this plan; and

 

 

150,000 shares of common stock reserved for future issuance under our 2011 Equity Incentive Plan, anticipated to represent approximately 20% of the number of shares reserved for issuance under this plan.

 

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DILUTION

Our consolidated net tangible book value as of May 1, 2011 was $27.2 million, or $0.74 per share of common stock. Consolidated net tangible book value per share represents consolidated tangible assets, less consolidated liabilities, divided by the aggregate number of shares of common stock outstanding, assuming (i) redemption of all of our issued and outstanding shares of Series A redeemable preferred stock, (ii) conversion of each issued and outstanding share of our Class B redeemable common stock into a share of Class A common stock, and (iii) reclassification of each issued and outstanding share of Class A common stock into a share of common stock immediately prior to the consummation of this offering. Following the sale by us of the 1,071,429 shares of common stock in this offering at an assumed initial public offering price of $14.00 per share (the midpoint of the estimated price range set forth on the cover page of this prospectus) and the receipt and application of the net proceeds to us of $12.0 million, our pro forma consolidated net tangible book value at May 1, 2011 would have been $39.2 million, or $1.03 per share. This represents an immediate increase in consolidated net tangible book value to existing stockholders of $0.29 per share and an immediate dilution to new investors of $12.97 per share. Dilution per share represents the difference between the price per share to be paid by new investors for the shares of common stock sold in this offering and the pro forma consolidated net tangible book value per share immediately after this offering. The following table illustrates this dilution on a per share basis:

 

Assumed initial public offering price

   $ 14.00   

Historical consolidated net tangible book value per share as of May 1, 2011

     0.74   

Increase in pro forma net tangible book value per share attributable to new investors

     0.29   

Pro forma consolidated net tangible book value per share after this offering

     1.03   
        

Dilution per share to new investors

   $ 12.97   
        

A $1.00 increase (decrease) in the assumed initial public offering price of $14.00 per share (the midpoint of the estimated price range set forth on the cover page of this prospectus), would increase (decrease) our pro forma consolidated net tangible book value after this offering by $1.0 million and the dilution per share to new investors by $0.97, in each case assuming the number of shares offered by us, as set forth on the cover page of this prospectus, remains the same and after deducting the underwriting discount and estimated offering expenses payable by us.

The following table sets forth the number of shares of common stock purchased, the total consideration paid, or to be paid to us, and the average price per share paid, or to be paid, by existing stockholders (including shares to be sold in the offering acquired by certain of the selling shareholders upon exercise of options granted to them under our 2004 Management Incentive Plan) and by the new investors, at an assumed initial public offering price of $14.00 per share (the midpoint of the estimated price range set forth on the cover page of this prospectus), before deducting the underwriting discount and estimated offering expenses payable by us:

 

     Shares Purchased     Total Consideration     Average
Price

Per
Share
 
     Number      Percent     Amount      Percent    

Existing stockholders

     36,969,089         97.2   $ 27,118         64.4   $ 0.73   

New investors in this offering

     1,071,429         2.8        15,000         35.6        14.00   
                                    

Total

     38,040,518         100   $ 42,118         100  
                                    

Sales by the selling stockholders in this offering will reduce the number of shares held by selling stockholders to 30,897,660 shares, or approximately 81.2% (29,826,231 shares, or approximately 78.4%, if the underwriters exercise their overallotment option in full), and will increase the number of shares held by investors participating in this offering to 7,142,858 shares, or approximately 18.8% (8,214,287 shares, or approximately 21.6%, if the underwriters exercise their overallotment option in full), of the total common stock outstanding after the offering.

 

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The foregoing tables exclude (i) 1,622,510 shares of common stock issuable upon the exercise of options outstanding as of May 1, 2011 granted under our 2004 Management Incentive Plan, with a weighted average exercise price of $1.36 per share, after giving effect to the sale of 219,629 shares in this offering acquired by certain of the selling stockholders upon exercise of options granted to them under that plan, (ii) 600,000 shares of common stock reserved for issuance upon the exercise of options to be granted in connection with this offering under our 2011 Equity Incentive Plan, which we intend to adopt prior to this offering, such options to be granted at an exercise price per share equal to the initial public offering price per share, and (iii) 150,000 shares of common stock reserved for future issuance under our 2011 Equity Incentive Plan. To the extent these options are exercised, there will be further dilution to new investors.

If the underwriters exercise their overallotment option to purchase additional shares of common stock in full, the pro forma consolidated net tangible book value after giving effect to this offering would be $1.40 per share, and the dilution in pro forma consolidated net tangible book value per share to investors in this offering would be $12.60 per share.

 

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UNAUDITED PRO FORMA CONSOLIDATED FINANCIAL DATA

The following unaudited pro forma consolidated financial data have been derived by the application of certain pro forma adjustments to our consolidated financial statements and condensed consolidated financial statements.

The unaudited pro forma consolidated financial data should be read in conjunction with, “Capitalization,” “Use of Proceeds,” “Selected Consolidated Financial and Other Data,” and our consolidated financial statements and condensed consolidated financial statements and related notes included elsewhere in this prospectus. These data may not be comparable to, or indicative of, future performance.

The unaudited pro forma condensed consolidated financial information presented below have been prepared pursuant to the rules and regulations of the SEC. Certain information and certain footnote disclosures normally included in financial statements prepared in accordance with US generally accepted accounting principals have been omitted pursuant to these rules and regulations.

The unaudited pro forma consolidated statement of operations data have been derived from our consolidated statement of operations for the fiscal year ended January 30, 2011 and condensed consolidated statement of operations for the thirteen weeks ended May 1, 2011 and give effect to this offering and the concurrent redemption of the Series A redeemable preferred stock as if these events had occurred on February 1, 2010. The unaudited pro forma consolidated balance sheet data have been derived from our condensed consolidated balance sheet as of May 1, 2011 and give effect to this offering and the concurrent redemption of the Series A redeemable preferred stock and reclassification of the Class B redeemable common stock into permanent equity as if those events had occurred on May 1, 2011.

Pro Forma Consolidated Statement of Operations Data:

 

     Fiscal Year Ended January 30, 2011      Thirteen Weeks Ended May 1, 2011  
     Actual      Pro forma
adjustments
    Pro forma
adjusted
     Actual      Pro forma
adjustments
    Pro forma
adjusted
 
            (unaudited)     (unaudited)      (unaudited)      (unaudited)     (unaudited)  
     (dollars in thousands, except per share data)  

Income from operations

   $ 23,494       $ —        $ 23,494       $ 6,456       $ —        $ 6,456   

Interest expense, net

     2,585         (2,145     440         689         (599     90   
                                                   

Income before income taxes

     20,909         2,145        23,054         5,767         599        6,366   

Provision for income taxes

     8,906         —          8,906         2,444         —          2,444   
                                                   

Net income

   $ 12,003       $ 2,145      $ 14,148       $ 3,323       $ 599      $ 3,922   
                                                   

Net income per share:

               

Basic

   $ 0.33         $ 0.38       $ 0.09         $ 0.10   

Diluted

   $ 0.32         $ 0.37       $ 0.09         $ 0.10   

Weighted average shares outstanding (historical and pro forma):

               

Basic

     36,749,460         763,095        37,512,555         36,749,460         763,095        37,512,555   

Diluted

     37,725,067         763,095        38,488,162         37,728,622         763,095        38,491,717   

Pro forma adjusted weighted average shares outstanding, basic and diluted, as of January 30, 2011 and May 1, 2011 includes an additional 763,095 shares. These additional shares outstanding represent shares of common stock issued at $14.00 per share (the midpoint of the price range set forth on the cover page of this prospectus) to redeem the Series A redeemable preferred stock.

 

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Our Series A redeemable preferred stock was issued on December 15, 2004 with a mandatory redemption date upon the earlier of a public offering or December 15, 2011. Annual redemption value accretion and accretion of the debt discount are included in interest expense on our consolidated statements of operations and condensed consolidated statements of operations. Pro forma interest expense, net income, and net income per share give effect to our redemption of the Series A redeemable preferred stock as if such redemption had occurred on February 1, 2010, and reflect the elimination of approximately $2.1 million and $0.6 million of interest expense, all of which was non-deductible for income tax purposes, in fiscal 2010 and in the thirteen weeks ended May 1, 2011, respectively. See Note 6, “Common and Preferred Stock,” in our consolidated financial statements and Note 4, “Common and Preferred Stock,” in our condensed consolidated financial statements.

Pro Forma Consolidated Balance Sheet Data:

 

     May 1, 2011  
     Actual     Pro forma
adjustments
    Pro forma
adjusted
 
     (unaudited)     (unaudited)     (unaudited)  
     (dollars in thousands)  

Series A Redeemable Preferred Stock, $.0001 par value; 10,683,333 shares authorized, issued and outstanding

   $ 13,591      $ (13,591   $ —     

Class B Redeemable Common Stock, $.00003 par value; 50,000,000 shares authorized, 9,005,217 shares issued and outstanding, actual; no shares authorized, no shares issued and outstanding, pro forma

     87,253        (87,253     —     

Stockholders’ deficit

      

Class A Common Stock, $.00003 par value; 50,000,000 shares authorized, 27,744,243 shares issued and outstanding, actual; no shares issued and outstanding, pro forma

     1        (1     —     

Common Stock, $.00003 par value; no shares authorized, no shares issued and outstanding, actual; 100,000,000 shares authorized, 37,512,556 shares issued and outstanding, pro forma.

     —          1        1   

Additional paid-in capital

     —          100,844        100,844   

Accumulated deficit

     (57,627     —          (57,627
                        

Total stockholders’ (deficit) equity

   $ (57,626   $ 100,844      $ 43,218   
                        

The Series A redeemable preferred stock is listed as a liability on our consolidated balance sheets and condensed consolidated balance sheets due to its mandatory redemption feature. The Series A redeemable preferred stock had an original redemption value of approximately $10.7 million with annual accretion at a rate of 5%. The cumulative annual accretion of the redemption value will be forgiven at the redemption date if we achieve certain targets. Pro forma Series A redeemable preferred stock gives effect to the redemption of the Series A redeemable preferred stock as if such redemption had occurred on May 1, 2011 and assumes that the Company achieved the targets in order for the cumulative annual accretion of redemption value to be forgiven, resulting in an effective redemption value of $10.7 million and a reclassification of the cumulative annual accretion of redemption value to additional paid-in capital within stockholders’ equity. See Note 6, “Common and Preferred Stock,” in our consolidated financial statements and Note 4, “Common and Preferred Stock,” in our condensed consolidated financial statements.

Because the Class B redeemable common stock is subject to redemption at the option of the holder from and after December 15, 2011 at a redemption price equal to the aggregate fair value of the shares being redeemed, the Class B redeemable common stock is classified on our consolidated balance sheets and condensed consolidated balance sheets as temporary equity, rather than stockholders’ equity, with adjustments to its fair value made at each reporting date. Our outstanding shares of Class B redeemable common stock will be automatically converted into an equivalent number of shares of our Class A Common stock upon the consummation of this offering. Pro forma Class B redeemable common stock at May 1, 2011 gives effect to the automatic conversion of the Class B redeemable common stock into Class A common stock, the corresponding reclassification of

 

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temporary equity into additional paid-in capital within stockholders’ equity, and the reclassification of all of our Class A common stock into common stock as if such events had occurred on May 1, 2011. See Note 6, “Common and Preferred Stock,” and Note 7, “Fair Value Measurements,” in our consolidated financial statements and Note 4, “Common and Preferred Stock,” in our condensed consolidated financial statements.

Pro forma total stockholders’ equity at May 1, 2011 gives effect to the receipt of proceeds from this offering sufficient to redeem the Series A redeemable preferred stock, the redemption of the Series A redeemable preferred stock, the conversion of the Class B redeemable common stock into Class A common stock, the reclassification of the aggregate fair value of the Class B redeemable common stock from temporary equity into additional paid-in capital within stockholders’ equity, the reclassification of the cumulative annual accretion of redemption value to additional paid-in capital within stockholders’ equity and the resulting change from total stockholders’ deficit to total stockholders’ equity, all as described above, as if such events had occurred on May 1, 2011. See Note 6, “Common and Preferred Stock,” in our consolidated financial statements and Note 4, “Common and Preferred Stock,” in the condensed consolidated financial statements.

 

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SELECTED CONSOLIDATED FINANCIAL AND OTHER DATA

The following tables set forth selected consolidated financial and other data for the periods and at the dates indicated. The consolidated statement of operations and cash flows data for the fiscal years ended February 1, 2009, January 31, 2010 and January 30, 2011 and selected consolidated balance sheet data as of January 31, 2010 and January 30, 2011 are derived from our audited consolidated financial statements included elsewhere in this prospectus. The consolidated statement of operations and cash flows data for the fiscal year ended February 3, 2008 and selected consolidated balance sheet data as of February 3, 2008 and February 1, 2009 are derived from our audited consolidated financial statements not included elsewhere in this prospectus. The consolidated statement of operations and cash flows data for the fiscal year ended January 28, 2007 and selected consolidated balance sheet data as of January 28, 2007 are derived from our unaudited consolidated financial statements not included elsewhere in this prospectus. The consolidated statement of operations and cash flows data for the thirteen weeks ended May 2, 2010 and May 1, 2011 and consolidated balance sheet data as of May 1, 2011 have been derived from our unaudited condensed consolidated financial statements appearing elsewhere in this prospectus. The historical results presented below are not necessarily indicative of the results to be expected for any future period. You should read this selected consolidated financial data in conjunction with the consolidated and condensed consolidated financial statements and related notes and the information under “Management’s Discussion and Analysis of Financial Condition and Results of Operations” appearing elsewhere in this prospectus.

 

    Fiscal Year Ended     Thirteen Weeks
Ended
 
    January 28,
2007
    February 3,
2008
    February 1,
2009
    January 31,
2010
    January 30,
2011
    May 2,
2010
    May 1,
2011
 
   

(unaudited)

                           

(unaudited)

 
    (dollars in thousands, except per share and store data)  

Consolidated Statement of Operations Data:

             

Net sales

  $ 33,764      $ 47,203      $ 63,861      $ 90,262      $ 124,701      $ 25,773      $ 34,939   

Cost of goods sold (exclusive of depreciation shown separately below)

    15,930        19,972        27,193        36,435        46,275        10,021        12,451   
                                                       

Gross profit

    17,834        27,231        36,668        53,827        78,426        15,752        22,488   

Selling, general and administrative expense

    16,497        22,232        29,242        38,142        50,571        10,800        14,758   

Depreciation and amortization expense

    1,512        2,022        2,666        3,489        4,361        973        1,274   
                                                       

Income (loss) from operations

    (175     2,977        4,760        12,196        23,494        3,979        6,456   

Interest expense, net

    1,273        1,592        2,061        2,435        2,585        623        689   
                                                       

Income (loss) before income taxes

    (1,448     1,385        2,699        9,761        20,909        3,356        5,767   

Provision (benefit) for income taxes

    (103     1,007        1,502        4,470        8,906        1,429        2,444   
                                                       

Net income (loss)

  $ (1,345   $ 378      $ 1,197      $ 5,291      $ 12,003      $ 1,927      $ 3,323   
                                                       

 

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    Fiscal Year Ended     Thirteen Weeks Ended  
    January 28,
2007
    February 3,
2008
    February 1,
2009
    January 31,
2010
    January 30,
2011
    May 2,
2010
    May 1,
2011
 
   

(unaudited)

                           

(unaudited)

 
    (dollars in thousands, except per share and store data)  

Net income (loss) per share:

             

Basic (1)

  $ (0.04   $ 0.01      $ 0.03      $ 0.14      $ 0.33      $ 0.05      $ 0.09   

Diluted (1)

  $ (0.04   $ 0.01      $ 0.03      $ 0.14      $ 0.32      $ 0.05      $ 0.09   

Weighted average shares outstanding:

             

Basic (1)

    36,701,881        36,749,460        36,749,460        36,749,460        36,749,460        36,749,460        36,749,460   

Diluted (1)

    36,701,881        36,750,645        37,095,308        37,322,198        37,725,067        37,471,930        37,728,622   

Pro Forma Consolidated Statement of Operations Data (unaudited):

             

Pro forma interest expense, net (2)

 

  $ 440        $ 90   

Pro forma net income

  

    14,148          3,922   

Pro forma net income per share—Basic

  

    0.38          0.10   

Pro forma net income per share—Diluted

  

  $ 0.37        $ 0.10   

 

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    Fiscal Year Ended     Thirteen
Weeks Ended
 
    January 28,
2007
    February 3,
2008
    February 1,
2009
    January 31,
2010
    January 30,
2011
    May 2,
2010
    May 1,
2011
 
   

(unaudited)

                           

(unaudited)

 
    (dollars in thousands, except per share and store data)  

Consolidated Balance Sheet Data (end of period):

             

Cash and cash equivalents

  $ 1,070      $ 761      $ 1,168      $ 1,314      $ 7,901        $ 3,740   

Total assets

    22,185        25,535        35,353        41,767        64,126          65,802   

Series A redeemable preferred stock (2)

    6,316        7,564        9,058        10,848        12,992          13,591   

Total debt

    1,417        875        5,535        1,250        1,000          1,000   

Class B redeemable common stock

    10,069        12,160        15,808        21,888        81,401          87,253   

Total stockholders’ deficit (3)

  $ (3,276   $ (4,842   $ (7,086   $ (7,706   $ (55,059     $ (57,626

Pro Forma Balance Sheet Data (end of period) (unaudited):

             

Series A redeemable preferred stock (2)

  

  $ —     

Class B redeemable common stock (3)

  

    —     

Total stockholders’ equity (4)

  

  $ 43,218   

Consolidated Statement of Cash Flows Data:

             

Net cash provided by (used in):

             

Operating activities

  $ 2,384      $ 3,767      $ 4,951      $ 11,071      $ 19,397      $ (329   $ 1,142   

Investing activities

    (5,289     (3,529     (8,798     (6,640     (12,560     (2,346     (5,056

Financing activities

    881        (547     4,254        (4,285     (250     2,512        (247
                                                       

Increase (decrease) in cash and cash equivalents

  $ (2,024   $ (307   $ 407      $ 146      $ 6,587      $ (163   $ (4,161

Store Data (unaudited):

             

Number of stores at end of period

    47        59        87        108        146        118        161   

Comparable store sales growth for period (5)

    3.7     8.4     3.0     6.9     8.7     15.7     6.0

Average net sales per comparable store (in thousands) (6)

  $ 802      $ 775      $ 783      $ 808      $ 862      $ 208      $ 213   

Gross square footage at end of period (in thousands)

    43        54        77        95        130        105        145   

Sales per gross square foot (7)

  $ 869      $ 860      $ 866      $ 935      $ 994      $ 228      $ 231   

 

(1) Net income per share and weighted average shares outstanding data for the fiscal year ended February 3, 2008 are unaudited.

 

(2) Our Series A redeemable preferred stock was issued on December 15, 2004 with a mandatory redemption date upon the earlier of a public offering or December 15, 2011. The Series A redeemable preferred stock had an original redemption value of approximately $10.7 million with annual accretion at a rate of 5%. The cumulative annual accretion of the redemption value will be forgiven at the redemption date if we achieve certain targets. The Series A redeemable preferred stock is listed as a liability on our consolidated balance sheets and condensed consolidated balance sheets due to its mandatory redemption feature. Annual redemption value accretion and accretion of debt discount are included in interest expense on our consolidated statements of operations and condensed consolidated statements of operations. Pro forma interest expense, net income, and net income per share give effect to our redemption of the Series A redeemable preferred stock as if such redemption had occurred on February 1, 2010, and reflect the elimination of approximately $2.1 million of interest expense in fiscal 2010 and approximately $0.6 million during the thirteen weeks ended May 1, 2011, all of which was non-deductible, for income tax purposes. Pro forma Series A redeemable preferred stock at May 1, 2011 gives effect to our redemption of the Series A redeemable preferred stock as if such redemption had occurred on May 1, 2011 and assumes that we achieved the targets in order for the cumulative annual accretion of redemption value to be forgiven, resulting in an effective redemption value of $10.7 million and a reclassification of the cumulative annual accretion of redemption value to additional paid-in capital within stockholders’ equity. See Note 6, “Common and Preferred Stock,” in our consolidated financial statements and Note 4, “Common and Preferred Stock,” in our condensed consolidated statements of operations.

 

(3)

Because the Class B redeemable common stock is subject to redemption at the option of the holder from and after December 15, 2011 at a redemption price equal to the aggregate fair value of the shares being redeemed, the Class B redeemable common stock is classified on

 

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  our consolidated balance sheets and condensed consolidated balance sheets as temporary equity, rather than stockholders’ equity, with adjustments to its fair value made at each reporting date. The increase in total stockholders’ deficit from January 28, 2007 to May 1, 2011 reflects the increase in accumulated deficit that results from this classification of our Class B redeemable common stock. Our outstanding shares of Class B redeemable common stock will be automatically converted into an equivalent number of shares of our Class A Common stock upon the consummation of this offering. Pro forma Class B redeemable common stock at May 1, 2011 gives effect to the automatic conversion of the Class B redeemable common stock into Class A common stock, the corresponding reclassification of temporary equity into additional paid-in capital within stockholders’ equity, and the reclassification of all of our Class A common stock into common stock as if such events had occurred on May 1, 2011. See Note 6, “Common and Preferred Stock,” and Note 7, “Fair Value Measurements,” in our consolidated financial statements and Note 4, “Common and Preferred Stock,” in our condensed consolidated financial statements.

 

(4) Pro forma total stockholders’ equity at May 1, 2011 gives effect to the receipt of proceeds from this offering sufficient to redeem the Series A redeemable preferred stock, the redemption of the Series A redeemable preferred stock, the conversion of the Class B redeemable common stock into Class A common stock, the reclassification of the aggregate fair value of the Class B redeemable common stock from temporary equity into additional paid-in capital within stockholders’ equity, the reclassification of the cumulative annual accretion of redemption value to additional paid-in capital within stockholders’ equity and the resulting change from total stockholders’ deficit to total stockholders’ equity, all as described in notes (1) and (2) above, as if such events had occurred on May 1, 2011. See Note 6, “Common and Preferred Stock,” in our consolidated financial statements and Note 4, “Common and Preferred Stock,” in our condensed consolidated financial statements.

 

(5) Comparable store sales include company-owned stores that have been open for at least 15 full fiscal months. Comparability is typically achieved 12 months after the initial three-month period from opening during which new stores typically experience higher-than-average sales volumes. The manner in which we calculate comparable store sales may be different from how other specialty retailers calculate comparable or “same store” sales. Accordingly, data regarding our comparable store sales may not be comparable to similarly titled data made available from other retailers.

 

(6) Average net sales per comparable store is calculated by dividing total sales per period for stores open 15 full fiscal months or more as of the beginning of each respective period by the total number of such stores. This methodology excludes the effects of the initial three-month period of higher-than-average sales volumes.

 

(7) Sales per gross square foot is calculated by dividing total net sales for all stores, comparable and non-comparable, by the average gross square footage for the period. Average gross square footage for the period is calculated by dividing the sum of the total gross square footage at the beginning and at the end of each period by two.

 

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MANAGEMENT’S DISCUSSION AND ANALYSIS OF

FINANCIAL CONDITION AND RESULTS OF OPERATIONS

You should read the following discussion together with “Selected Consolidated Financial and Other Data,” and the consolidated financial statements and related notes included elsewhere in this prospectus. The statements in this discussion regarding expectations of our future performance, liquidity and capital resources and other non-historical statements are forward-looking statements. These forward-looking statements are subject to numerous risks and uncertainties, including, but not limited to, the risks and uncertainties described in “Risk Factors” and “Forward-Looking Statements.” Our actual results may differ materially from those contained in or implied by any forward-looking statements.

We operate on a fiscal calendar widely used in the retail industry that results in a given fiscal year consisting of a 52- or 53-week period ending on the Sunday closest to January 31 of the following year. For example, references to “fiscal 2010” refer to the fiscal year ended January 30, 2011. Fiscal 2008, fiscal 2009 and fiscal 2010 each consist of 52-week periods.

Overview

Teavana is a rapidly growing specialty retailer offering more than 100 varieties of premium loose-leaf teas, authentic artisanal teawares and other tea-related merchandise. We believe we are one of the world’s largest branded, multi-channel specialty tea retailers. We offer our products through 161 company-owned stores in 35 states and 19 franchised stores primarily in Mexico, as well as through our website, www.teavana.com.

Teavana was founded in 1997 by our Chairman and Chief Executive Officer, Andrew Mack, and his wife, Nancy Mack, who were inspired by their international travels and passion for tea. In 2004 we partnered with Parallel Investment Partners to obtain equity capital, strategic advice and other resources to support our accelerated growth plans. With our business momentum and expanded resources we were able to attract an experienced senior management team that has led our growth to date and has set the foundation to execute our growth strategy going forward.

We have experienced rapid sales and profit growth during the last five years. We increased our sales from $33.8 million in fiscal 2006 to $124.7 million in fiscal 2010, representing a 38.6% compound annual growth rate. Over that same period, we more than tripled our store base from 47 stores to 146 stores. In fiscal 2010, our sales grew 38.2% over fiscal 2009, while our comparable store sales increased 8.7%. Our net income was $12.0 million in fiscal 2010, representing a 126.9% growth rate over fiscal 2009. In fiscal 2010, our stores averaged sales per gross square foot of approximately $1,000, which we believe is higher than most specialty retail stores in the United States based upon publicly available information.

We intend to continue our profitable growth in the future. We believe there is a significant opportunity to expand our store base in the United States from 161 locations to at least 500 stores, having already identified the malls, lifestyle centers and other high-sales-volume retail venues that are suitable locations in which to open Teavana stores. As of May 1, 2011, we have executed lease agreements for the opening of 41 stores in fiscal 2011 and three stores in fiscal 2012. We have not executed lease agreements for the remaining store locations we need to reach our expansion target of at least 500 stores. We plan to open approximately 50 stores in fiscal 2011 (including 15 stores opened in the first quarter), 60 stores in fiscal 2012 and to expand to 500 stores by 2015. We expect to continue to drive our comparable store sales by increasing the size and frequency of purchases by our existing customers and attracting new customers. We intend to expand our online presence, which we believe is an extension of our brand and retail stores that allows us to reach new and existing customers and build brand awareness in locations where we currently do not have stores. We expect to increase our operating margins through the continuation of our sales mix shift away from tea-related merchandise towards higher margin loose-leaf teas that our stores generally experience as they mature. We also intend to leverage our corporate and other fixed costs and capture gross margin benefits from our growing scale with suppliers. Finally, given the worldwide popularity of tea, we will selectively pursue international expansion, which we believe represents a compelling opportunity for additional growth over the long term.

 

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We have a proven and highly profitable store model that has produced consistent financial results and returns. We seek to open stores in locations that reinforce the premium image of our brand by targeting high traffic locations within malls, lifestyle centers and other high-sales-volume retail venues. All of our stores were profitable in fiscal 2010 and new stores have historically averaged a payback period of less than one and a half years. Our current store base is balanced across all four regions of the country, with each region producing results in line with the company average. As we continue to expand our store base, we will target an increasing number of shopping malls with lower average sales per square foot than the malls in which we currently are located. As a result, our new store model anticipates a target store size of 900 to 1,000 square feet that achieves annual sales of $600,000 to $700,000 in the first year of operation, which is below the historical average for our new stores. Our new store model also assumes an average new store investment of approximately $200,000 to $250,000. Our new store investment includes our store buildout (net of tenant allowances), inventory and cash pre-opening costs. We anticipate our new store investment under our new store model will be lower than our historical average for new stores given that our average buildout cost per new store has decreased and our average tenant allowance per new store has increased in recent years. We target an average payback period of approximately 18 months on our new store investment.

Given that we forecast the number of stores that we open each year to become a smaller percentage of our existing store base, first-year sales to be lower than we have historically experienced, and comparable store sales to grow at less than historical rates, we anticipate that our future sales growth will be at less than historical levels. Similarly, although we expect our operating margins and our leverage of corporate and other fixed costs to increase in the future, we anticipate that our profit margins will grow at less than our historical growth rate given that we have recently completed initiatives, such as shifting our supply chain from wholesalers to direct sourcing, that have driven significant margin gains that have already largely been realized.

Our planned store expansion will place increased demands on our operational, managerial, administrative and other resources. Managing our growth effectively will require us to continue to enhance our store management systems, financial and management controls and information systems and to hire, train and retain store management and store support center personnel.

We have recently invested capital to continue building the infrastructure necessary to support our future growth, and we expect to incur additional capital expenditures related to expansion of our infrastructure in future periods. In fiscal 2010, we relocated and significantly expanded our store support center. We have identified the need to expand our distribution center in order to support our near-term growth. We have signed commitments to expand our distribution center, for a modest capital outlay, in three separate phases during fiscal 2011 and fiscal 2012 to support our planned growth through the first quarter of fiscal 2013. We have considerable experience expanding our distribution center, having completed similar expansions successfully in fiscal 2009 and fiscal 2010. Further, we have commissioned a study to assess our long-term distribution needs and determine the most efficient strategy to satisfy those needs, which could include the addition of a second distribution center in another region of the United States. The timing and amount of investments in our infrastructure could affect the comparability of our results of operations in future periods.

How We Assess the Performance of Our Business

In assessing the performance of our business and our progress against our growth strategy, we consider a variety of performance and financial measures. The key measures that we utilize to evaluate the performance of our business and the execution of our strategy are set forth below:

Net Sales

Net sales constitute gross sales net of any returns and discounts. Net sales consist of sales from comparable stores and non-comparable stores, and other sales.

 

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The specialty retail industry is cyclical, and consequently our net sales are affected by general economic conditions. Purchases of premium loose-leaf tea and tea-related merchandise can be impacted by a number of factors that influence the levels of consumer spending, including economic conditions and the level of disposable consumer income, consumer debt, interest rates and consumer confidence.

Our business is also seasonal and as a result, our net sales fluctuate from quarter to quarter. Net sales are traditionally highest in the fourth fiscal quarter, which includes the holiday sales period due to holiday purchases from Thanksgiving through the end of December, and tend to be lowest in the second and third fiscal quarters.

Comparable store sales. Comparable store sales include net sales from all stores that have been open for at least 15 full fiscal months, as in our experience our new stores generally open with higher than average sales volumes in the initial months following their opening. This trend usually extends for a period of at least three months, and comparability is typically achieved 12 months after the initial three-month period from the date of opening. There may be variations in the way in which certain other specialty retailers calculate comparable or “same store” sales. As a result, data in this prospectus regarding our comparable store sales may not be comparable to similarly titled data made available from other retailers.

Measuring the change in year-over-year comparable store sales allows us to evaluate how our store base is performing. Various factors affect comparable store sales, including:

 

   

consumer preference, buying and economic trends;

 

   

our ability to anticipate and respond effectively to consumer preference, buying and economic trends;

 

   

our ability to provide a product offering that generates new and repeat visits to our stores;

 

   

the customer experience we provide in our stores;

 

   

the level of traffic near our locations in the shopping malls and centers in which we operate;

 

   

the number of customer transactions and the average ticket in our stores;

 

   

the pricing of our teas and tea-related merchandise;

 

   

the length of time of individual store operations;

 

   

our ability to obtain and distribute products efficiently;

 

   

our opening of new stores in the vicinity of our existing stores; and

 

   

the opening or closing of competitor stores in the vicinity of our stores.

Adverse economic conditions in fiscal 2008 and the beginning of fiscal 2009 resulted in slightly lower comparable store sales growth than in prior periods due to decreased levels of consumer spending, disposable income and confidence. The reduced growth in comparable store sales in fiscal 2008 and fiscal 2009 was offset by our growth in non-comparable store sales resulting in total sales growth in fiscal 2008 and fiscal 2009 consistent with prior years. Improved economic conditions in fiscal 2010 helped drive an increase in our comparable store sales growth in fiscal 2010. We do not anticipate economic conditions in the immediate future to have a significant impact, positively or negatively, on our growth.

Non-comparable store sales. Non-comparable store sales include sales from stores not included in comparable store sales. As we pursue our growth strategy, we expect that a significant percentage of our net sales increase will continue to come from non-comparable store sales. Accordingly, non-comparable store sales is an additional key measure we use to assess the success of our growth strategy.

Other sales. Other sales include sales through our website at www.teavana.com, sales related to our franchised operations, gift card breakage revenue and, through the end of fiscal 2010, wholesale and e-commerce

 

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sales of teas and merchandise under the brand name SpecialTeas (we ceased selling under the SpecialTeas brand name on January 30, 2011). Sales related to our franchised operations consist of: initial franchise fees received in connection with newly franchised stores which are recognized as revenue when the obligations under the related franchise agreement are met; continuing royalty fees; wholesale sales of our teas and tea-related merchandise to franchise stores; and recognition of deferred revenue related to the initial development fee paid at inception by our Mexican partner.

Gross Profit

Gross profit is equal to our net sales minus our cost of goods sold. Gross margin is gross profit as a percentage of our net sales. Cost of goods sold includes the direct costs of our products, freight and shipping costs, distribution center costs and occupancy costs for stores in operation. The components of cost of goods sold may not be comparable to those of other retailers.

Our cost of goods sold is substantially higher in higher-volume quarters because cost of goods sold generally increases as net sales increases. Changes in the product mix of sales, such as shifts in the proportion of tea to merchandise sales, may also impact our overall gross margin. As our stores mature they have historically experienced a sales mix shift away from tea-related merchandise towards higher margin loose-leaf teas, increasing overall gross margins. In general, this trend is the result of the evolution in our customers’ buying patterns as they graduate from purchases with a greater focus on merchandise with which to prepare and enjoy tea towards transactions centered more on replenishing their favorite teas and experimenting with new blends.

Selling, General and Administrative Expense

Selling, general and administrative expense consists primarily of store operating expenses, store pre-opening expenses and other administrative expenses. Store operating expenses are generally the largest component of selling, general and administrative expense and consist of all store expenses other than occupancy-related costs (which are included in cost of goods sold). Store pre-opening costs are expensed as incurred and represent the costs at a store prior to its opening date including occupancy, payroll and other operating costs. Other administrative expenses include professional fees, travel costs, occupancy and payroll costs (both cash and stock-based) for our store support center and other administrative expenses.

Selling, general and administrative expense typically does not vary proportionally with net sales to the same degree as our cost of goods sold. Accordingly, this expense as a percentage of sales is usually higher in lower-volume quarters and lower in higher-volume quarters. We expect that our selling, general and administrative expense will increase in future periods as we selectively add to our corporate and store support functions to support continuing growth and, to a lesser extent, to cover additional legal, accounting, insurance and other regulatory costs as a result of being a public company. The components of selling, general and administrative expense may not be comparable to those of other retailers.

Depreciation and Amortization Expense

Depreciation and amortization expense consists primarily of depreciation of our leasehold improvements and equipment and to a lesser extent, amortization of our finite-lived assets. We expect that depreciation expense will continue to increase as we open more stores.

 

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Results of Operations

The following tables summarize key components of our results of operations for the periods indicated:

 

    Fiscal Year Ended     Thirteen Weeks Ended  
    February 1, 2009     January 31, 2010     January 30, 2011     May 2, 2010     May 1, 2011  
                      (unaudited)  
   

(dollars in thousands, except store data)

 

Consolidated Statement of Operations Data:

         

Net sales

  $   63,861      $   90,262      $   124,701      $   25,773      $   34,939   

Cost of goods sold (exclusive of depreciation shown separately below)

    27,193        36,435        46,275        10,021        12,451   
                                       

Gross profit

    36,668        53,827        78,426        15,752        22,488   

Selling, general and administrative expense

    29,242        38,142        50,571        10,800        14,758   

Depreciation and amortization expense

    2,666        3,489        4,361        973        1,274   
                                       

Income from operations

    4,760        12,196        23,494        3,979        6,456   

Interest expense, net

    2,061        2,435        2,585        623        689   
                                       

Income before income taxes

    2,699        9,761        20,909        3,356        5,767   

Provision for income taxes

    1,502        4,470        8,906        1,429        2,444   
                                       

Net income

  $ 1,197      $ 5,291      $ 12,003      $ 1,927      $ 3,323   
                                       

Percentage of Net Sales:

         

Net sales

    100.0     100.0     100.0     100.0     100.0

Cost of goods sold

    42.6     40.4     37.1     38.9     35.6
                                       

Gross profit

    57.4     59.6     62.9     61.1     64.4

Selling, general and administrative expense

    45.7     42.2     40.6     41.9     42.2

Depreciation and amortization expense

    4.2     3.9     3.5     3.8     3.7
                                       

Income from operations

    7.5     13.5     18.8     15.4     18.5

Interest expense, net

    3.2     2.7     2.1     2.4     2.0
                                       

Income before income taxes

    4.3     10.8     16.8     13.0     16.5

Provision for income taxes

    2.4     4.9     7.1     5.5     7.0
                                       

Net income

    1.9     5.9     9.6     7.5     9.5
                                       

Store Data (unaudited):

         

Number of stores at end of period

    87        108        146        118        161   

Comparable store sales growth for period (1)

    3.0     6.9     8.7     15.7     6.0

Average net sales per comparable store (in thousands) (2)

  $ 783      $ 808      $ 862      $ 208      $ 213   

Gross square footage at end of period (in thousands)

    77        95        130        105        145   

Sales per gross square foot (3)

  $ 866      $ 935      $ 994      $ 228      $ 231   

 

(1) Comparable store sales include company-owned stores that have been open for at least 15 full fiscal months. Comparability is typically achieved 12 months after the initial three-month period from opening during which new stores typically experience higher-than-average sales volumes.
(2) Average net sales per comparable store is calculated by dividing total sales per period for stores open 15 full fiscal months or more as of the beginning of each respective period by the total number of such stores. This methodology excludes the effects of the initial three-month period of higher-than-average sales volumes.
(3) Sales per gross square foot is calculated by dividing total net sales for all stores, comparable and non-comparable, by the average gross square footage for the period. Average gross square footage for the period is calculated by dividing the sum of the total gross square footage at the beginning and at the end of each period by two.

 

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The approximate percentages of net sales derived from our product categories was as follows:

 

     Fiscal Year Ended     Thirteen Weeks Ended  
     February 1, 2009     January 31, 2010     January 30, 2011     May 2, 2010     May 1, 2011  

Product Categories (unaudited):

          

Tea

     51     54     56     59     60

Merchandise

     44     42     40     36     36

Beverage

     5     4     4     5     4
                                        
     100     100     100     100     100

Thirteen Weeks Ended May 1, 2011 Compared to Thirteen Weeks Ended May 2, 2010

Net Sales

Net sales increased by 35.6%, or $9.2 million, to $34.9 million in the thirteen weeks ended May 1, 2011 from $25.7 million in the thirteen weeks ended May 2, 2010, resulting from $7.6 million in non-comparable store sales, a $1.3 million increase in comparable store sales and a $0.3 million increase in other sales.

Non-comparable store sales were $7.6 million in the thirteen weeks ended May 1, 2011 due to sales from 53 stores that were not open as of January 30, 2011 and therefore had not yet become comparable stores in the thirteen weeks ended May 2, 2010. There were 53 non-comparable stores as of May 1, 2011 compared to 33 as of May 2, 2010.

Comparable store sales increased by 6.0%, or $1.3 million, in the thirteen weeks ended May 1, 2011 due to a 7.7% increase in the average transaction size at our comparable stores partially offset by a 1.7% decrease in the number of transactions driven partially by our continued de-emphasis of the beverage product category. Transaction size at our comparable stores increased to $37 in the thirteen weeks ended May 1, 2011 from $34 in the thirteen weeks ended May 2, 2010. There were 108 comparable stores open as of May 1, 2011 compared to 85 as of May 2, 2010.

Other sales increased by $0.3 million in the thirteen weeks ended May 1, 2011 due primarily to an increase of $0.9 million in e-commerce sales partially offset by a decrease of $0.6 million in other sales driven by the elimination of the SpecialTeas brand at the end of fiscal 2010.

Gross Profit

Gross profit increased by 42.8%, or $6.7 million, to $22.5 million in the thirteen weeks ended May 1, 2011 from $15.8 million in the thirteen weeks ended May 2, 2010. Gross margin increased to 64.4% in the thirteen weeks ended May 1, 2011 from 61.1% in the thirteen weeks ended May 2, 2010, due to an increase in product margins primarily in our merchandise category, as well as to the sales mix shift from merchandise towards higher-margin tea that our stores generally experience as they mature.

Selling, General and Administrative Expense

Selling, general and administrative expense increased by 36.6%, or $4.0 million, to $14.8 million in the thirteen weeks ended May 1, 2011 from $10.8 million in the thirteen weeks ended May 2, 2010. As a percentage of net sales, selling, general and administrative expense increased to 42.2% in the thirteen weeks ended May 1, 2011 from 41.9% in the thirteen weeks ended May 2, 2010.

Store operating expenses increased by 39.3%, or $2.9 million, in the thirteen weeks ended May 1, 2011 due primarily to the operation of 161 stores as of this date as compared to the operation of 118 stores as of May 2, 2010. As a percentage of net sales, store operating expenses increased to 28.8% in the thirteen weeks ended May 1, 2011 from 28.0% in the thirteen weeks ended May 2, 2010 due primarily to net sales from stores comprising a larger percentage of our total net sales driven by the elimination of the SpecialTeas brand at the end of fiscal 2010. Store operating expenses as a percentage of net sales from stores remained relatively flat in the thirteen weeks ended May 1, 2011 compared to the thirteen weeks ended May 2, 2010.

 

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Store pre-opening expenses increased by 39.1%, or $0.2 million, in the thirteen weeks ended May 1, 2011 due primarily to the timing of the opening of 15 new stores in the thirteen weeks ended May 1, 2011 compared to the timing of opening 10 new stores in the thirteen weeks ended May 2, 2010. As a percentage of net sales, store pre-opening expenses increased to 2.0% in the thirteen weeks ended May 1, 2011 from 1.9% in the thirteen weeks ended May 2, 2010.

Other administrative expenses increased by 30.0%, or $0.9 million, in the thirteen weeks ended May 1, 2011 due primarily to the increased cost to support 161 stores in this period compared to 118 stores in the thirteen weeks ended May 2, 2010, including an increase in occupancy expense attributable to the relocation and expansion of our store support center in the third and fourth fiscal quarters of 2010. As a percentage of net sales, other administrative expenses decreased to 11.5% in the thirteen weeks ended May 1, 2011 from 12.0% in the thirteen weeks ended May 2, 2010.

Depreciation and Amortization Expense

Depreciation and amortization expense increased by 30.9%, or $0.3 million, to $1.3 million in the thirteen weeks ended May 1, 2011 from $1.0 million in the thirteen weeks ended May 2, 2010 due primarily to capital expenditures of $15.3 million incurred in the fifty-two weeks ended May 1, 2011 to build new stores and, to a lesser extent, for leasehold improvements at our new store support center. As a percentage of net sales, depreciation and amortization expense decreased to 3.7% in the thirteen weeks ended May 1, 2011 from 3.8% in the thirteen weeks ended May 2, 2010.

Interest Expense, Net

Interest expense, net increased by 10.6%, or $0.1 million, to $0.7 million in the thirteen weeks ended May 1, 2011 from $0.6 million in the thirteen weeks ended May 2, 2010 due primarily to an increase in accretion of our Series A redeemable preferred stock. The Series A redeemable preferred stock will be redeemed upon the consummation of this offering. Interest incurred from our revolving credit facility remained relatively flat period over period.

Provision for Income Taxes

Our provision for income taxes increased by 71.0%, or $1.0 million, to $2.4 million in the thirteen weeks ended May 1, 2011 from $1.4 million in the thirteen weeks ended May 2, 2010. The increase in our provision for income taxes was due primarily to an increase of $2.4 million in our income before income taxes. Our effective tax rates were 42.4% and 42.6% for the thirteen weeks ended May 1, 2011 and May 2, 2010, respectively. Our effective tax rate decreased slightly due primarily to non-deductible accretion related to our Series A redeemable preferred stock representing a lower percentage of our income before income taxes in the thirteen weeks ended May 1, 2011 as compared to the thirteen weeks ended May 2, 2010. The Series A redeemable preferred stock will be redeemed upon the consummation of this offering and will not impact our effective tax rate subsequent to this offering.

Net Income

As a result of the foregoing, net income increased by 72.4%, or $1.4 million, to $3.3 million in the thirteen weeks ended May 1, 2011 from $1.9 million in the thirteen weeks ended May 2, 2010. Net income as a percentage of net sales increased to 9.5% in the thirteen weeks ended May 1, 2011 from 7.5% in the thirteen weeks ended May 2, 2010.

 

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Fiscal 2010 Compared to Fiscal 2009

Net Sales

Net sales increased by 38.2%, or $34.4 million, to $124.7 million in fiscal 2010 from $90.3 million in fiscal 2009, resulting from $24.8 million in non-comparable store sales, a $6.5 million increase in comparable store sales and a $3.1 million increase in other sales.

Non-comparable store sales were $24.8 million in fiscal 2010 due to sales from 38 new stores that were not open in fiscal 2009 and sales from three stores that were opened in the last three fiscal months of fiscal 2009 and therefore had not yet become comparable stores in fiscal 2010. There were 41 non-comparable stores as of January 30, 2011 compared to 31 as of January 31, 2010.

Comparable store sales increased by 8.7%, or $6.5 million, in fiscal 2010 due to an 8.1% increase in the average transaction size at our comparable stores and a 0.6% increase in the number of transactions. Transaction size at our comparable stores increased to $36 in fiscal 2010 from $33 in fiscal 2009. There were 105 comparable stores open as of January 30, 2011 compared to 77 as of January 31, 2010.

Other sales increased by $3.1 million due primarily to an increase of $2.6 million in e-commerce sales and to a lesser extent, increases in sales to and royalties from franchisees and revenue from gift-card breakage.

The increase in the tea category as a percentage of net sales and the corresponding decrease in the merchandise category in fiscal 2010 were due primarily to the sales mix shift towards tea that our stores generally experience as they mature.

Gross Profit

Gross profit increased by 45.7%, or $24.6 million, to $78.4 million in fiscal 2010 from $53.8 million in fiscal 2009. Gross margin increased to 62.9% in fiscal 2010 from 59.6% in fiscal 2009, due primarily to the sales mix shift from merchandise towards higher-margin tea that our stores generally experience as they mature. The improvement in gross margin was also driven by an increase in product margins primarily in our merchandise category, as well as a reduction of our store occupancy costs as a percentage of net sales.

Selling, General and Administrative Expense

Selling, general and administrative expense increased by 32.6%, or $12.4 million, to $50.6 million in fiscal 2010 from $38.1 million in fiscal 2009. As a percentage of net sales, selling, general and administrative expense decreased to 40.6% in fiscal 2010 from 42.2% in fiscal 2009.

Store operating expenses increased by 32.9%, or $8.4 million, in fiscal 2010 due primarily to the operation of 146 stores as of January 30, 2011 compared to the operation of 108 stores as of January 31, 2010. As a percentage of net sales, store operating expenses decreased to 27.3% in fiscal 2010 from 28.3% in fiscal 2009.

Store pre-opening expenses increased by 96.0%, or $0.8 million, in fiscal 2010 due primarily to the timing of the opening of 38 new stores in fiscal 2010 compared to the timing of the opening of 21 new stores in fiscal 2009. As a percentage of net sales, store pre-opening expenses increased to 1.3% in fiscal 2010 from 0.9% in fiscal 2009.

Other administrative expenses increased by 27.3%, or $3.2 million, in fiscal 2010 due primarily to the increased cost to support 146 stores in fiscal 2010 compared to 108 stores in fiscal 2009, including an increase in occupancy expense attributable to the relocation and expansion of our store support center in fiscal 2010. As a percentage of net sales, other administrative expenses decreased to 12.0% in fiscal 2010 from 13.0% in fiscal 2009.

 

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Depreciation and Amortization Expense

Depreciation and amortization expense increased by 25.0%, or $0.9 million, to $4.4 million in fiscal 2010 from $3.5 million in fiscal 2009. The increase in depreciation and amortization expense was due primarily to capital expenditures of $12.6 million incurred in fiscal 2010 to build new stores and, to a lesser extent, for leasehold improvements at our new store support center. As a percentage of net sales, depreciation and amortization expense decreased to 3.5% in fiscal 2010 from 3.9% in fiscal 2009.

Interest Expense, Net

Interest expense, net increased by 6.2%, or $0.2 million, to $2.6 million in fiscal 2010 from $2.4 million in fiscal 2009 due primarily to an increase of approximately $0.4 million in accretion from our Series A redeemable preferred stock, partially offset by a decrease in interest expense of approximately $0.2 million on our revolving credit facility due to a lower average balance of borrowings throughout fiscal 2010. The Series A redeemable preferred stock will be redeemed upon the consummation of this offering.

Provision for Income Taxes

Our provision for income taxes increased by 99.2%, or $4.4 million, to $8.9 million in fiscal 2010 from $4.5 million in fiscal 2009. The increase in our provision for income taxes was due primarily to the $11.1 million increase in our income before income taxes. Our effective tax rates were 42.6% and 45.8% for fiscal 2010 and fiscal 2009, respectively. Our effective tax rate decreased due primarily to non-deductible accretion related to our Series A redeemable preferred stock representing a lower percentage of our income before income taxes in fiscal 2010 than in fiscal 2009. The Series A redeemable preferred stock will be redeemed upon the consummation of this offering and will not impact our effective tax rate subsequent to this offering.

Net Income

As a result of the foregoing, net income increased by 126.9%, or $6.7 million, to $12.0 million in fiscal 2010 from $5.3 million in fiscal 2009. Net income as a percentage of net sales increased to 9.6% in fiscal 2010 from 5.9% in fiscal 2009.

Fiscal 2009 Compared to Fiscal 2008

Net Sales

Net sales increased by 41.3%, or $26.4 million, to $90.3 million in fiscal 2009 from $63.9 million in fiscal 2008, resulting from $20.4 million in non-comparable store sales, a $3.5 million increase in comparable store sales and a $2.5 million increase in other sales.

Non-comparable store sales were $20.4 million in fiscal 2009 due to sales from 21 new stores that were not open in fiscal 2008 and sales from ten stores that were opened in the last three months of fiscal 2008 and therefore had not yet become comparable stores in fiscal 2009. There were 31 non-comparable stores open as of January 31, 2010 compared to 34 as of February 1, 2009.

Comparable store sales increased by 6.9%, or $3.5 million, in fiscal 2009 due primarily to a 13.2% increase in the average transaction size at our comparable stores, partially offset by a 6.3% decrease in the number of transactions. Transaction size at our comparable stores increased to $32 in fiscal 2009 compared to $29 in fiscal 2008. The number of transactions decreased primarily due to our continued de-emphasis of the beverage product category. There were 77 comparable stores open as of January 31, 2010 compared to 53 as of February 1, 2009.

Other sales increased by $2.5 million due primarily to an increase of $2.2 million in e-commerce sales and, to a lesser extent, increases in sales to and royalties from franchisees.

 

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The increase in the tea category as a percentage of net sales and the corresponding decrease in the merchandise category in fiscal 2009 were due primarily to the sales mix shift towards tea that our stores generally experience as they mature.

Gross Profit

Gross profit increased by 46.8%, or $17.2 million, to $53.8 million in fiscal 2009 from $36.7 million in fiscal 2008. Gross margin increased to 59.6% in fiscal 2009 from 57.4% in fiscal 2008, due primarily to the sales mix shift from merchandise towards higher-margin tea that our stores generally experience as they mature. The improvement in gross margin was also driven by an increase in product margins primarily in our merchandise category.

Selling, General and Administrative Expense

Selling, general and administrative expense increased by 30.4%, or $8.9 million, to $38.1 million in fiscal 2009 from $29.2 million in fiscal 2008. As a percentage of net sales, selling, general and administrative expense decreased to 42.2% in fiscal 2009 from 45.7% in fiscal 2008.

Store operating expenses increased by 36.6%, or $6.8 million, in fiscal 2009 due primarily to the operation of 108 stores as of January 31, 2010 compared to the operation of 87 stores as of February 1, 2009. As a percentage of net sales, store operating expenses decreased to 28.3% in fiscal 2009 from 29.3% in fiscal 2008.

Store pre-opening expenses decreased by 24.9%, or $0.3 million, in fiscal 2009 due primarily to the timing of the opening of 21 new stores in fiscal 2009 compared to the timing of the opening of 28 new stores in fiscal 2008. As a percentage of net sales, store pre-opening expenses decreased to 0.9% in fiscal 2009 from 1.8% in fiscal 2008.

Other administrative expenses increased by 24.9%, or $2.4 million, in fiscal 2009 due primarily to the increased cost to support 108 stores in fiscal 2009 compared to 87 stores in fiscal 2008. As a percentage of net sales, other administrative expenses decreased to 13.0% in fiscal 2009 from 14.7% in fiscal 2008.

Depreciation and Amortization Expense

Depreciation and amortization expense increased by 30.9%, or $0.8 million, to $3.5 million in fiscal 2009 from $2.7 million in fiscal 2008. The increase in depreciation and amortization expense was due primarily to capital expenditures of $6.6 million incurred in fiscal 2009 to build new stores. As a percentage of net sales, depreciation and amortization expense decreased to 3.9% in fiscal 2009 from 4.2% in fiscal 2008.

Interest Expense, Net

Interest expense, net increased by 18.2%, or $0.3 million, to $2.4 million in fiscal 2009 from $2.1 million in fiscal 2008 due primarily to a $0.3 million increase in accretion related to our Series A redeemable preferred stock. The Series A redeemable preferred stock will be redeemed upon the consummation of this offering.

Provision for Income Taxes

Our provision for income taxes increased by 197.6%, or $3.0 million, to $4.5 million in fiscal 2009 from $1.5 million in fiscal 2008. The increase in our provision for income taxes was due primarily to the $7.1 million increase in our income before income taxes. Our effective tax rates were 45.8% and 55.7% for fiscal 2009 and fiscal 2008, respectively. Our effective tax rate decreased due primarily to non-deductible accretion related to our Series A redeemable preferred stock representing a lower percentage of our income before income taxes in fiscal 2009 than in fiscal 2008. The Series A redeemable preferred stock will be redeemed upon the consummation of this offering and will not impact our effective tax rate subsequent to this offering.

 

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Net Income

As a result of the foregoing, net income increased by $4.1 million to $5.3 million in fiscal 2009 from $1.2 million in fiscal 2008. Net income as a percentage of net sales increased to 5.9% in fiscal 2009 from 1.9% in fiscal 2008.

Selected Quarterly and Other Financial Data

The following table sets forth selected unaudited consolidated quarterly data for each of the four quarters in fiscal 2009 and 2010, respectively, and the thirteen weeks ended May 1, 2011. In our opinion, the following selected unaudited consolidated quarterly statements of operations data have been prepared on the same basis as the audited consolidated financial statements included in this prospectus and reflect all necessary adjustments, consisting only of normal recurring adjustments, necessary for fair presentation of these data. You should read this information together with our consolidated financial statements and related notes appearing elsewhere in this prospectus. Operating results for any fiscal quarter are not necessarily indicative of results for the full year. Historical results are not necessarily indicative of results to be expected for future periods.

 

    Fiscal 2009     Fiscal 2010     Fiscal 2011  
    First
Quarter
    Second
Quarter
    Third
Quarter
    Fourth
Quarter
    First
Quarter
    Second
Quarter
    Third
Quarter
    Fourth
Quarter
    First
Quarter
 
   

(unaudited)

(dollars in thousands, except store data)

 

Net sales

  $   17,990      $   17,261      $   18,693      $   36,318      $   25,773      $   22,982      $   24,746      $   51,200      $   34,939   

Gross profit

    10,417        9,818        10,648        22,944        15,752        13,526        14,509        34,639        22,488   

Income from operations

    1,056        383        635        10,122        3,979        1,657        1,278        16,580        6,456   

Net income (loss)

  $ 252      $ (123   $ (13   $ 5,175      $ 1,927      $ 579      $ 340      $ 9,157      $ 3,323   

Percentage of net sales:

                 

Net sales

    100.0     100.0     100.0     100.0     100.0     100.0     100.0     100.0     100.0

Gross profit

    57.9     56.9     57.0     63.2     61.1     58.9     58.6     67.7     64.4

Income from operations

    5.9     2.2     3.4     27.9     15.4     7.2     5.2     32.4     18.5

Net income (loss)

    1.4     (0.7 %)      (0.1 %)      14.2     7.5     2.5     1.4     17.9     9.5

Selected store data:

                 

Number of stores at end of period

    92        101        107        108        118        128        141        146        161   

Comparable store sales growth for period (1)

    1.4     5.5     10.7     8.7     15.7     6.9     5.9     7.5     6.0

 

(1) Comparable store sales include company-owned stores that have been open for at least 15 full fiscal months. Comparability is typically achieved 12 months after the initial three-month period from opening during which new stores generally experience higher-than-average sales volumes.

Liquidity and Capital Resources

Our primary sources of liquidity are cash flows from operations and borrowings under our amended revolving credit facility. Our primary cash needs are for capital expenditures and working capital.

Capital expenditures typically vary depending on the timing of new store openings and infrastructure-related investments. During fiscal 2011, we plan to spend approximately $16.4 million on capital expenditures. We expect to devote approximately 80% of our capital expenditure budget to construct and open 50 new stores and renovate a small number of existing stores approaching the end of their lease terms, with the remainder projected to be spent on expansion of our distribution center and continued investment in our information technology systems.

Our primary working capital requirements are for the purchase of store inventory and payment of payroll, rent and other store operating costs. Our working capital requirements fluctuate during the year, rising in the

 

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second and third fiscal quarters as we take title to increasing quantities of inventory in anticipation of our peak shopping season in the fourth fiscal quarter. Fluctuations in working capital are also driven by the timing of new store openings.

Historically we have funded our capital expenditures and working capital requirements during the fiscal year with borrowings under our revolving credit facility, which we have typically paid down at the end of the fiscal year with cash generated during our peak selling season in the fourth quarter. Our utilization of our revolving credit facility, and therefore the amount of indebtedness outstanding under it, has tended to be highest in the beginning of the fourth quarter of each fiscal year.

While adverse economic conditions in fiscal 2008 and fiscal 2009 impacted our comparable store sales growth, these conditions did not materially affect our liquidity or capital resources. The adverse economic conditions did not materially affect our liquidity or capital resources because our increased net income resulted in increased net cash provided by operating activities and we were able to access committed financing through our revolving credit facility.

We believe that our cash position, net cash provided by operating activities and availability under our amended revolving credit facility, together with the proceeds from this offering, will be adequate to finance our planned capital expenditures and working capital requirements for the foreseeable future.

Cash Flows

A summary of our cash flows from operating, investing and financing activities is presented in the following table:

 

    Fiscal Year Ended     Thirteen Weeks Ended  
    February 1, 2009     January 31, 2010     January 30, 2011     May 2, 2010     May 1, 2011  
                      (unaudited)  
   

(dollars in thousands)

 

Cash flows provided by (used in):

         

Operating activities

  $ 4,951      $   11,071      $ 19,397      $ (329   $ 1,142   

Investing activities

    (8,798     (6,640     (12,560     (2,346     (5,056

Financing activities

    4,254        (4,285     (250     2,512        (247
                                       

Increases (decreases) in cash and cash equivalents

  $ 407      $ 146      $ 6,587      $ (163   $ (4,161
                                       

 

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Operating Activities

Cash flows from operating activities consist primarily of net income adjusted for non-cash items, including depreciation and amortization expense, non-cash interest expense, stock-based compensation expense, deferred taxes and the effect of working capital changes.

 

    Fiscal Year Ended     Thirteen Weeks Ended  
    February 1, 2009     January 31, 2010     January 30, 2011     May 2, 2010     May 1, 2011  
                      (unaudited)  
   

(dollars in thousands)

 

Cash flows from operating activities:

         

Net income

  $ 1,197      $ 5,291      $ 12,003      $ 1,927      $ 3,323   

Adjustments to reconcile net income to net cash provided by operating activities:

         

Depreciation and amortization expense

    2,666        3,489        4,361        973        1,274   

Non-cash interest expense

    1,709        1,925        2,279        570        633   

Deferred income taxes

    (610     532        (253     —          —     

Stock-based compensation

    207        169        157        34        37   

Other

    —          —          130        —          140   

Change in working capital

    (218     (335     720        (3,833     (4,265
                                       

Net cash provided by (used in) operating activities

  $   4,951      $   11,071      $   19,397      $ (329   $   1,142   
                                       

Net cash provided by (used in) operating activities increased by $1.5 million to $1.2 million in cash provided by operating activities in the thirteen weeks ended May 1, 2011 from $0.3 million in cash used in operating activities in the thirteen weeks ended May 2, 2010, due primarily to a $1.4 million increase in net income and, to a lesser extent, a $0.5 million increase in depreciation and amortization expense, non-cash interest expense, stock based compensation and other, partially offset by a decrease in the change in working capital of approximately $0.4 million related to increases in inventory purchases, coupled with tax payments during the thirteen weeks ended May 1, 2011.

Net cash provided by operating activities increased by $8.3 million to $19.4 million in fiscal 2010 from $11.1 million in fiscal 2009, due primarily to a $6.7 million increase in net income and, to a lesser extent, a $2.4 million increase in depreciation and amortization expense, non-cash interest expense, change in working capital and other, partially offset by a decrease of approximately $0.8 million related to deferred income taxes and stock-based compensation.

Net cash provided by operating activities increased by $6.1 million to $11.1 million in fiscal 2009 from $5.0 million in fiscal 2008, due primarily to a $4.1 million increase in net income and, to a lesser extent, a $2.2 million increase in depreciation, non-cash interest expense and deferred income taxes, partially offset by a decrease of approximately $0.2 million related to stock-based compensation and changes in working capital.

Investing Activities

Cash flows from investing activities consist primarily of capital expenditures for new and, to a lesser extent, existing stores, as well as for investments in our store support center, information technology systems and our distribution center to support our planned growth.

Capital expenditures increased by $2.7 million to $5.1 million in the thirteen weeks ended May 1, 2011 from $2.4 million in the thirteen weeks ended May 2, 2010. This increase was due primarily to the timing and

 

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number of new store build-outs. We opened 15 new stores in the thirteen weeks ended May 1, 2011 compared to 10 new stores in the thirteen weeks ended May 2, 2010.

Capital expenditures increased by $6.0 million, to $12.6 million in fiscal 2010 from $6.6 million in fiscal 2009. This increase was due primarily to the opening of 38 new stores, and to a lesser extent, to the relocation and expansion of our store support center.

Capital expenditures decreased by $2.2 million, to $6.6 million in fiscal 2009 from $8.8 million in fiscal 2008. This decrease was due primarily to the timing and number of new store build-outs, as well as cost savings in our average store build-out cost. We opened 21 new stores in fiscal 2009 compared to 28 new stores in fiscal 2008.

Financing Activities

Cash flows from financing activities consist primarily of borrowings and payments on our revolving credit facility and its related financing costs, and to a lesser extent, payments on our term loan and note payable.

 

    Fiscal Year Ended     Thirteen Weeks Ended  
    February 1, 2009     January 31, 2010     January 30, 2011     May 2, 2010     May 1, 2011  
                      (unaudited)  
   

(dollars in thousands)

 

Cash flows from financing activities:

         

Proceeds from revolving credit facility

  $ 50,946      $ 93,980      $ 132,239     $ 29,815      $ 35,510   

Payments on revolving credit facility

    (45,661     (98,265     (132,239     (27,303     (35,510

Payment of initial public offering costs

    —          —          —          —          (247

Payments on note payable

    —          —          (250     —          —     

Repayment of term loan

    (625     —          —          —          —     

Cash paid for financing costs

    (406     —          —          —          —     
                                       

Net cash provided by (used in) financing activities

  $ 4,254      $ (4,285   $ (250   $ 2,512      $ (247
                                       

Net cash provided by (used in) financing activities decreased by $2.8 million to $0.3 million in net cash used in financing activities in the thirteen weeks ended May 1, 2011 from $2.5 million in net cash provided by financing activities in the thirteen weeks ended May 2, 2010. This decrease was due primarily to the reduction in outstanding net proceeds from our revolving credit facility of $2.5 million as of May 1, 2011, partially offset by payments related to initial public offering costs of approximately $0.3 million during the thirteen weeks ended May 1, 2011.

Net cash used in financing activities decreased by $4.0 million to $0.3 million in fiscal 2010 from $4.3 million in fiscal 2009 due primarily to reductions in net payments on our revolving credit facility of $4.3 million. This decrease in net cash used in financing activities was partially offset by the payment of a $0.3 million note payable in fiscal 2010.

Net cash provided by financing activities decreased by $8.5 million to $4.3 million in net cash used in financing activities in fiscal 2009 from $4.2 million in net cash provided by financing activities in fiscal 2008. This decrease was due primarily to the reduction in net proceeds from our revolving credit facility of $9.6 million partially offset by reduced payments in fiscal 2009 on our term loan and for financing costs related to our revolving credit facility of $1.0 million.

 

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Revolving Credit Facility

On June 12, 2008, we entered into a loan and security agreement with Fifth Third Bank for a three-year revolving credit facility. On April 22, 2011, we entered into an amendment to the existing loan and security agreement, which extends the maturity of this facility until April 22, 2016.

Under the amended revolving credit facility, our borrowing capacity is equal to the lesser of (i) the Maximum Revolving Facility (as defined), less the undrawn face amount of any letters of credit outstanding at the time a drawdown on the revolving credit facility is made, and (ii) the Borrowing Base (as defined). The Maximum Revolving Facility is equal to (i) prior to August 1, 2011, $40.0 million, (ii) from August 1, 2011 to December 31, 2011, $50.0 million, and (iii) on and after December 31, 2011, $40.0 million. The Borrowing Base is defined as the sum of (i) 200% of Consolidated EBITDA (as defined) for the most recent trailing twelve-month period for which financial statements are available, minus (ii) the aggregate undrawn face amount of any letters of credit outstanding at the time a drawdown on the revolving credit facility is made, minus (iii) such reserves as may be established by the lender in its Permitted Discretion (as defined) but not to exceed 35% of the Borrowing Base. The credit facility includes a $5.0 million sublimit for the issuance of letters of credit.

Indebtedness incurred under the amended revolving credit facility bears interest at a rate of LIBOR (subject to a minimum level of 1.5%) plus an applicable margin of 4.50% or at a rate of the lender’s base commercial lending rate plus an applicable margin of 3.00%. The weighted-average interest rate on average outstanding borrowings under our revolving credit facility for fiscal 2010 was 3.5%. Our excess borrowing capacity was $23.6 million as of January 30, 2011, with $1.0 million outstanding under our revolving credit facility and undrawn face amounts on letters of credit of $0.4 million as of that date.

Our weighted average borrowing rate on average outstanding borrowings under our revolving credit facility for the thirteen weeks ended May 1, 2011 was 3.75%. Our excess borrowing capacity was $38.0 million as of May 1, 2011, with $1.0 million outstanding under our revolving credit facility and approximately $1.0 million in undrawn face amounts on letters of credit as of that date.

The amended loan and security agreement includes certain financial covenants. The financial covenants include the requirements to: (i) maintain a ratio of Consolidated Free Cash Flow to Consolidated Fixed Charges (as such terms are defined); (ii) maintain a ratio of Debt (as defined) to Consolidated EBITDA; (iii) limit our annual Consolidated Capital Expenditures (as defined); and (iv) limit our Consolidated Net Capital Expenditures (defined as Consolidated Capital Expenditures minus a specified amount of capital expenditures related to new-store openings determined on the basis of our Consolidated Leverage Ratio).

The amended loan and security agreement includes customary negative and affirmative covenants. The negative covenants include, among others, limitations on: indebtedness; the payment of dividends; liens; the disposition of assets; consolidations and mergers; loans and investments; transactions with affiliates; restricted payments; sale-leaseback transactions; incurrence of certain restrictions by subsidiaries; other negative pledges; and foreign assets. The affirmative covenants include, among others, the requirement to provide audited annual and unaudited monthly financial statements, quarterly and annual compliance certificates, and other financial and operating information.

Indebtedness incurred under both the amended loan and security agreement and the original loan and security agreement is collateralized by substantially all of our assets.

As of May 1, 2011, we were in compliance with the financial covenants and other covenants applicable to us under the amended loan and security agreement.

 

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Off-Balance Sheet Arrangements

As of and for the three fiscal years ended January 30, 2011 and as of and for the thirteen weeks ended May 1, 2011, except for operating leases entered into in the normal course of business, we were not party to any material off-balance sheet arrangements that are reasonably likely to have a current or future effect on our financial condition, net sales, expenses, results of operations, liquidity, capital expenditures or capital resources.

Contractual Obligations and Commitments

The following table summarizes our contractual obligations as of January 30, 2011, and the effect such obligations are expected to have on our liquidity and cash flows in future periods.

 

     Payments due by Period  
     Total
Obligations
     < 1 Year      2 - 3 Years      4 - 5 Years      Thereafter  
     (dollars in thousands)  

Series A redeemable preferred stock (1)

   $ 10,683       $   10,683       $ —         $ —         $ —     

Long-term debt obligations

     1,000         —           —           —           1,000   

Operating lease obligations (2)

     111,250         12,314         25,873         26,317         46,746   

Construction-related obligations

     1,651         1,651         —           —           —     

Purchase obligations (3)

     11,510         11,510         —           —           —     
                                            

Total contractual obligations

   $   136,094       $ 36,158       $   25,873       $   26,317       $   47,746   
                                            

 

(1) Our Series A redeemable preferred stock is subject to mandatory redemption upon the earlier of the redemption date of December 15, 2011 or a public offering. The amounts shown above assume that we achieve the targets required for the annual accretion of the redemption value on the Series A redeemable preferred stock to be forgiven, resulting in an effective redemption value of $10,683.
(2) Operating lease obligations reflect base rent and exclude insurance, taxes, maintenance and other related leasing costs. Other related leasing costs, including insurance, taxes, and maintenance, comprise approximately 40% of the base rent obligation.
(3) Purchase obligations consist primarily of inventory purchase orders. Our inventory purchase orders are cancellable with limited or no recourse available to the vendor until the inventory is shipped to us.

Since January 30, 2011, we have entered into 12 new retail leases with an average term of 10 years and other lease modifications that have future minimum lease payments of approximately $7.1 million.

Critical Accounting Policies and Estimates

Overview

We have identified the policies below as critical to our business operations and understanding of our results of operations. The impact and any associated risks related to these policies on our business operations are discussed throughout “Management’s Discussion and Analysis of Financial Condition and Results of Operations” where such policies affect our reported and expected financial results. Our consolidated financial statements, which have been prepared in accordance with US generally accepted accounting principles, require us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues, expenses, cash flows and related disclosures. We base our estimates on historical experience and various other assumptions that we believe to be reasonable under the circumstances. Actual results may differ from these estimates. For a detailed discussion on the application of these and other accounting policies, See Note 1, “Business and Summary of Significant Accounting Policies,” in our consolidated financial statements included elsewhere in this prospectus.

We believe that our most critical accounting policies relate to the following:

 

   

Inventory

 

   

Income Taxes

 

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Self-Funded Insurance

 

   

Fair Value Measurements

 

   

Stock-based Compensation

Inventory

Our inventory consists of tea and tea-related merchandise and is stated at the lower of cost (weighted-average method for stores and FIFO for warehouse) or market (net realizable value). Market value is determined based on replacement cost. We use the reserve method to account for obsolete inventory and inventory shrinkage. The reserve method requires judgment based on inventory balances and historical trends of product sales and product mix. We believe that our assumptions are reasonable based on our experience, although actual results may have a positive or negative material impact on the net realizable value of inventory. We directly import the majority of our inventory and include the related costs of freight to our distribution center and shipping costs from our distribution center to our stores in our capitalized cost of inventory.

Income Taxes

We use the asset and liability method of accounting for income taxes under which deferred tax assets and liabilities are provided on temporary differences between the tax basis of assets and liabilities and their reported amounts in the financial statements at the enacted tax rate expected to be in effect when the taxes are actually paid. The value of our deferred tax assets assumes that we will be able to generate sufficient future taxable income in certain tax jurisdictions, based on estimates and assumptions. If these estimates and related assumptions change in the future, we may be required to record a valuation allowance against our deferred tax assets resulting in an increase to our provision for income taxes.

In January 2007, we adopted new accounting guidance for income taxes with respect to unrecognized tax positions as set forth by the Financial Accounting Standards Board, or FASB, in Accounting Standards Codification, or ASC, 740, Accounting for Income Taxes (“ASC 740”). As a result of the new guidance, a tax position is recognized as a benefit only if it is “more likely than not” that the tax position would be sustained in a tax examination, with a tax examination being presumed to occur under ASC 740. The amount recognized is the largest amount of tax benefit that has a greater than 50% cumulative likelihood of being realized on examination. For tax positions not meeting the “more likely than not” test, no tax benefit is recorded. We recognize interest and penalties associated with unrecognized tax positions within our provision for income taxes. The accounting for ASC 740-10 will continue to require significant judgment by management in accounting for uncertainty in income taxes recognized in the financial statements. Additionally, resolution of these uncertainties in a manner inconsistent with our expectations could have a material impact on our results of operations. See Note 1, “Business and Summary of Significant Accounting Policies,” in our consolidated financial statements included elsewhere in this prospectus.

Self-Funded Medical Insurance

In fiscal 2010, we moved from a fully insured to a self-funded medical insurance plan. We contracted with an administrative service company, or a “third party administrator,” to supervise and administer the program and act as its fiduciary and representative. We have reduced our risk under this self-funded plan by purchasing both specific and aggregate stop-loss insurance coverage for individual claims and total annual claims in excess of prescribed limits. We record estimates for claim liabilities based on information provided by the third-party administrator, historical claims experience, the life cycle of claims, expected costs of claims incurred but not paid, and expected costs to settle unpaid claims. Actual claims experience may differ from our initial estimates. This liability is subject to a total limitation that varies based on employee enrollment and factors that are established at each annual contract renewal. Costs related to the administration of the plan and related claims are expensed as incurred.

 

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As facts change, it may become necessary to make adjustments to assumptions used in the calculation of the related liability that could be material to our results of operations and financial condition.

Fair Value Measurements

The guidance for fair value measurements establishes the authoritative definition of fair value, sets out a framework for measuring fair value and outlines the required disclosures regarding fair value measurements. Fair value is the price that would be received to sell an asset or paid to transfer a liability in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants at the measurement date. We use a three-tier fair value hierarchy based upon observable and non-observable inputs as follows:

 

   

Level 1: Quoted market prices in active markets for identical assets or liabilities.

 

   

Level 2: Inputs other than Level 1 that are either directly or indirectly observable.

 

   

Level 3: Unobservable inputs developed using the Company’s estimates and assumptions which reflect those that market participants would use.

Our financial instruments consist primarily of our Class B redeemable common stock, classified as temporary equity in our consolidated balance sheets, which is measured using Level 3 inputs.

Significant Factors in Determining Fair Value. Because there is no public market for our common stock, determining the fair value of our common stock requires us to make complex and subjective judgments. To determine the fair value of our common stock, we consider many factors, including the following:

 

   

our historical financial performance;

 

   

our expected future financial performance;

 

   

our financial condition at the valuation date;

 

   

the lack of marketability of our common stock;

 

   

the valuation multiples of recent merger and acquisition transactions involving comparable companies;

 

   

valuation multiples of comparable publicly-traded companies;

 

   

the anticipation and likelihood of a potential liquidity event such as the sale of the business or initial public offering;

 

   

the condition of and outlook for our industry;

 

   

the business risks inherent in our business; and

 

   

capital market conditions.

Valuation Methodologies Used in Determining Fair Value. To determine the estimated fair value of our common stock at each grant date for option grants made under our 2004 Management Incentive Plan, we conducted a valuation analysis of our common stock considering the facts noted above and prepared with the assistance of an investment bank that specializes in the retail and restaurant industries. We utilized a combination of valuation methods including an income approach using an analysis of expected future discounted cash flows and a market approach for similar private and public companies. The expected future discounted cash flows analysis identified a level of annual cash flows for a finite number of years and a residual value at the end of the projection period. A discount rate reflecting estimates of investor-required rates of return for similar investments was used to calculate the present value. The market approach used valuation multiples of comparable companies which were applied to our operating results to arrive at a value. We then aggregated and analyzed the valuation results from these valuation methodologies to estimate an expected business enterprise value which was applied to our capital structure to determine a value per common share.

 

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To determine the estimated fair value of our Class B redeemable common stock at each reporting date up to and including January 31, 2010, we applied the valuation of our common stock from the option grant date closest to each respective reporting date since these option grants occurred, on average, within approximately two months of each reporting date.

We did not utilize valuations of our common stock from option grant dates to determine the estimated fair value of our Class B redeemable common stock at January 30, 2011 and May 1, 2011, since the most recent option grant date was November 1, 2009, or 15 and 18 months, respectively, earlier than these reporting dates. To determine the estimated fair value of our Class B redeemable common stock at January 30, 2011 and May 1, 2011, we performed contemporaneous valuations using the market approach under the assumption that we would complete an initial public offering within the first half of fiscal 2011 given we had selected investment banks to assist us in this process and had agreed upon a timeline with these investment banks to complete an initial public offering within this timeframe. These valuations utilized the forecasts we prepared for our selection process with investment banks and the resulting initial public offering valuation metrics and methodologies presented to us by these investment banks. In particular, we considered the public market valuations of other high-growth specialty retailers and the corresponding ratios of market value to variables such as current and projected net income and revenue for these comparable companies. We applied these multiples to both our current and projected financial performance to determine our estimated enterprise value. We did not apply a lack of marketability discount to our estimated enterprise value for our common stock given these valuations were performed for reporting dates within six months of our estimated initial public offering date.

The increase in the fair value per share of our common stock from $2.43 at January 31, 2010 to $9.04 at January 30, 2011 was due primarily to a significant increase in anticipated future net income from the forecast performed as of January 31, 2010 to the forecast performed as of January 30, 2011. This increase in future net income in our forecast was driven primarily by our net income exceeding our budgeted amount by 39% in fiscal 2010, our net income growth of 127% from fiscal 2009 to fiscal 2010, our increase in gross and operating margins in fiscal 2010 above our historical and budgeted amounts and our opening of 38 stores in fiscal 2010 representing a 46% increase over the highest number of stores opened in any prior fiscal year. Our successful execution across these key metrics in fiscal 2010 led us to significantly increase our forecasted financial performance in future years which resulted in a significant increase to our estimate of the fair value per share of our common stock from January 31, 2010 to January 30, 2011.

The fair value per share of our common stock at the time of our proposed initial public offering may be substantially above the fair value at January 30, 2011 if we continue to successfully execute our strategy resulting in continued rapid growth in sales and net income and if there is significant demand for our common stock from investors in the initial public offering.

Stock-based Compensation

Our stock-based awards are accounted for under the provisions of FASB ASC Topic 718—Stock Compensation. We measure and recognize stock-based compensation expense based on the fair value measurement for all stock-based payment awards made to our employees and directors, including stock options, over the service period for which the awards are expected to vest. We calculate the fair value of each stock option award on the date of grant using the Black-Scholes option pricing model. The determination of the fair value of stock option awards on the date of grant using an option-pricing model is affected by our stock price as well as a number of assumptions including expected term, expected volatility, risk-free interest rate and dividend yield. As a result, future stock-based compensation expense may differ from our historical amounts.

There are significant judgments and estimates inherent in the determination of fair value. These judgments and estimates include determinations of an appropriate valuation method and the selection of appropriate inputs to be used in the valuation model. The use of alternative assumptions, including expected term, volatility, risk-free interest rate and dividend yield, could cause stock-based compensation to differ significantly from what has

 

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been recorded in the past. Future stock-based compensation cost will increase when we grant additional equity awards to employees. Modifications, cancellations or repurchases of awards may require us to accelerate any remaining unearned stock-based compensation cost or incur additional cost.

Recent Accounting Pronouncements

In addition to the recently adopted accounting pronouncements discussed above in conjunction with our critical accounting policies, we believe the following recently adopted accounting pronouncements are important to an understanding of our consolidated financial statements.

Recently Adopted Accounting Pronouncements

In January 2010, the FASB issued Accounting Standards Update, or ASU, 2010-06 to Topic 820—Fair Value Measurements and Disclosures. This update provided requirements of new disclosures of significant transfers in and out of Levels 1 and 2, and expanded disclosure of activity in Level 3 (see Note 1, “Business and Summary of Significant Accounting Policies,” in our consolidated financial statements). This update also clarified existing disclosures around the level of disaggregation of each class of assets and liabilities, and about fair value inputs and valuation techniques for Level 2 and Level 3. This update was effective for interim and annual reporting periods beginning after December 15, 2009 for existing disclosures and becomes effective for fiscal years beginning after December 15, 2010 for the disclosures about purchases, sales, issuances and settlements in the rollforward activity in Level 3 fair value measurements. Adoption of this update did not have a material impact on our consolidated financial statements.

Accounting Pronouncements Not Yet Adopted

In December 2010, the FASB issued ASU 2010-28 to Topic 350—Intangibles—Goodwill and Other: When to Perform Step 2 of the Goodwill Impairment Test for Reporting Units with Zero or Negative Carrying Amounts. The amendments in this update modify Step 1 of the goodwill impairment test for reporting units with zero or negative carrying amounts. For those reporting units, an entity is required to perform Step 2 of the goodwill impairment test if it is more likely than not that a goodwill impairment exists. Goodwill of a reporting unit is required to be tested for impairment between annual tests if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount. This update is effective starting in the first quarter of 2011 with early adoption not permitted. Adoption of this update did not have a material impact on our consolidated financial statements.

There were various other accounting standards and interpretations issued during the thirteen weeks ended May 1, 2011 that we have not yet been required to adopt, none of which are expected to have a material impact on our consolidated financial statements.

Quantitative and Qualitative Disclosures about Market Risk

Market risk represents the risk of loss that may impact our financial position due to adverse changes in financial market prices and rates. Our market risk exposure results primarily from fluctuations in interest rates, inflation and foreign currency prices in the purchase of our teas and merchandise. In the normal course of business, we are exposed to market risks, including changes in interest rates which affect our debt, as well as cash flows. We may also face additional exchange rate risk in the future.

Interest Rate Risk

Our amended revolving credit facility carries floating interest rates that are tied to LIBOR and our lender’s prime rate, and therefore, our consolidated statements of operations and cash flows will be exposed to changes in interest rates. We do not use derivative financial instruments for speculative or trading purposes, however, this does not preclude our adoption of specific hedging strategies in the future.

 

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Foreign Exchange Risk

We do not currently generate any portion of our net sales in any currency other than the US dollar. We currently source a portion of our inventory of teas and tea-related merchandise in Europe and Japan and incur a limited portion of those related costs in Euro and in Japanese yen. Historically, we have not been impacted materially by fluctuations in the US dollar/Euro and US Dollar/Japanese yen exchange rates and do not expect to be impacted materially for the foreseeable future. However, if our purchases of inventory in Euro and in Japanese yen increase, and to the extent that we commence generating net sales outside of the United States that are denominated in currencies other than the US dollar, our results of operations could be adversely impacted by changes in exchange rates. We do not currently hedge foreign currency fluctuations and do not intend to do so for the foreseeable future.

 

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BUSINESS

Our Company

Teavana is a rapidly growing specialty retailer of premium loose-leaf teas, authentic artisanal teawares and other tea-related merchandise. We believe we are one of the world’s largest branded, multi-channel specialty tea retailers, offering more than 100 varieties of premium loose-leaf teas, teawares such as handcrafted cast-iron, clay and ceramic teapots, and other tea-related merchandise. We offer our products through 161 company-owned stores in 35 states and 19 franchised stores primarily in Mexico, as well as through our website, www.teavana.com.

We believe our customers associate the Teavana brand with premium tea products, a distinctive store ambiance and an “East Meets West” healthy living lifestyle. Our unique specialty retail environment offers new tea enthusiasts and tea connoisseurs alike a highly interactive, informative and immersive experience in teas from around the globe. With an average transaction size of $36, we believe customers view our products as an affordable investment in a healthy indulgence, as they are able to purchase the best teas and teawares from around the world at relatively modest prices. We believe our focus on educating customers in the healthful qualities and pleasures of tea and our position as the largest US specialty tea retailer have enabled us to lead the growth of the domestic loose-leaf tea market, which is a growing segment of the broader $5.2 billion US tea market.

Our mission is to establish Teavana as the most recognized and respected brand in the specialty tea industry by expanding the culture of tea across the world. We have developed a distinctive strategy that we believe will continue to drive category growth, enhance our brand awareness and encourage product sampling and customer loyalty. Key elements of our business strategy are to:

 

   

develop, source and offer our customers the world’s finest assortment of premium loose-leaf teas and tea-related merchandise;

 

   

create a “Heaven of Tea” retail experience in which our passionate and knowledgeable “teaologists” engage and educate customers about the ritual and enjoyment of tea; and

 

   

locate our stores in high traffic locations within malls, lifestyle centers and other high sales volume retail venues.

Teavana was founded in 1997 by our Chairman and Chief Executive Officer Andrew Mack, and his wife, Nancy Mack, who were inspired by their international travels and passion for tea. Their vision was to introduce consumers to the global tea lifestyle, highlighting the aromas, textures, tastes and healthful qualities of loose-leaf teas, while enlightening them on the origin of each tea. Since our founding, we have developed a culture centered on a passion for tea, extensive training, career development and individual enrichment. Our distinct culture has been, and will continue to be, a key driver of our success. To further realize our vision, in 2004 we partnered with Parallel Investment Partners to obtain equity capital, strategic advice and other resources to support our accelerated growth plans. With our business momentum and expanded resources we were able to attract an experienced senior management team that has led our growth to date and has set the foundation to execute our growth strategy going forward.

We have experienced rapid sales and profit growth during the last five years. We increased our sales from $33.8 million in fiscal 2006 to $124.7 million in fiscal 2010, representing a 38.6% compound annual growth rate. Over that same period, we more than tripled our store base from 47 stores to 146 stores. In fiscal 2010, our sales grew 38.2% over fiscal 2009, while our comparable store sales increased 8.7%. Our net income was $12.0 million in fiscal 2010, representing a 126.9% growth rate over fiscal 2009. In fiscal 2010, our stores averaged sales per gross square foot of approximately $1,000, which we believe is higher than most specialty retail stores in the United States based upon publicly available information.

 

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Our Market Opportunity

We participate in the global tea market, which had $56.6 billion of sales in 2009, according to the latest available estimates from Mintel. The global tea market includes three segments: “ready-to-drink,” which is composed of shelf-stable bottled and canned tea, “instant,” which consists of powdered and granulated tea for mixing with water, and “loose-leaf and bagged,” which includes teas for brewing. We currently compete in the loose-leaf and bagged tea segment of the market, and more specifically within the loose-leaf tea category. Mintel estimates the size of the tea market in the United States is $5.2 billion. Tea consumption in the United States is much lower than the rest of the world, with the United States representing only 9% of the global tea market and lagging significantly behind other geographies in cups of tea consumed per capita. Additionally, the US consumer has historically consumed more tea in non-loose-leaf tea formats, which differs from many other countries where the preference is more heavily weighted towards loose-leaf teas.

 

2009 Global Tea Sales    2009 Cups Per Capita Consumption

 

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Source: Mintel

  

 

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Source: Euromonitor International 2010 ©

 

Mintel estimates that retail tea sales in the United States will grow at a 6% compound annual growth rate through 2014. We believe the growth of the overall US tea market will be driven primarily by the following trends:

 

   

Increasing consumer focus on health and wellness: We believe more US consumers are focused on leading healthy lifestyles. As the potential healthful qualities associated with tea are further recognized, we believe consumers will embrace tea as an opportunity to enhance health and wellness in their lives. Additionally, we believe tea demand will be driven by its continued emergence as an alternative to soda and other high-calorie beverages.

 

   

Growing consumer awareness of tea: We believe tea awareness and therefore consumption in the United States has historically been at significantly lower levels than elsewhere in the world. We believe the recent growth of the US tea market has led to tea being more readily available to US consumers than in the past, which in turn increases tea awareness and opportunities for consumers to experience tea. As US consumers become more familiar with tea, we believe they will increasingly incorporate tea into their daily lives.

 

   

Continuing emergence of epicurean preferences in food and beverages: We believe there is a growing consumer preference for innovative flavors in food and beverage. With tea’s diversity of unique flavors, aromas and textures and the ability to incorporate the latest epicurean trends into new tea blends, we believe tea appeals to the growing number of consumers focused on innovative tastes and ingredients.

 

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Our Competitive Strengths

We believe that the following strengths differentiate Teavana and create the foundation for continued rapid sales and profit growth:

Market Defining Brand Driving Category Growth. We believe we are one of the world’s largest branded multi-channel specialty tea retailers offering premium loose-leaf teas and tea-related merchandise through 161 company-owned stores in 35 states and 19 franchised stores primarily in Mexico as of May 1, 2011. We believe our customers associate the Teavana brand with premium tea products, a distinctive store ambiance and an “East Meets West” healthy living lifestyle. We view the potential growth opportunity in the United States to be substantial, as US consumers have not historically consumed loose-leaf tea at the same level as consumers elsewhere in the world, with the United States ranking 22nd among all countries in per capita loose-leaf and bagged tea consumption. The higher per capita consumption of tea throughout the world highlights the potential growth opportunity that exists in the US tea market. We believe our leading national presence and focus on educating consumers about the many attractive qualities of loose-leaf tea positions Teavana to drive the continued growth of the loose-leaf tea category in the United States.

“Heaven of Tea” Retail Experience. We believe we have created a unique “Heaven of Tea” retail environment that provides a highly interactive, informative and immersive customer experience. We utilize a consistent store model designed to create a warm, relaxing ambiance with elegant blond wood fixtures, ceramic tiled floors, soft lighting and soothing Asian music. Our teaologists explain the stories behind our teas and tea-related merchandise, educate our customers on the many ways to enjoy them, and assist with the selection of merchandise appropriate for the way that the customer would like to experience tea. A key element of the retail experience occurs at our Wall of Tea, a substantial display case behind our sales counter holding approximately 100 brightly colored canisters containing our premium single-estate and specially blended teas. As our teaologist pulls down and opens one canister after another, the customer is invited to experience the aroma, color and texture of the teas as each tea’s flavor, caffeine content and healthful qualities are described. We believe this engaging retail experience introduces new customers to the tea lifestyle, encourages product trial and supports repeat visits and strong customer loyalty.

Deep-Rooted Culture Embracing a Passion for Tea and Career Development. We have developed a culture centered on a passion for tea, extensive training, career development and individual enrichment. To ensure the continuity of our culture and to reward high performing team members, we typically promote from within our organization to support our new store growth and other growth initiatives. In 2010, we utilized our internal talent pool to fill nearly 90% of our new store management positions. Historically, we have experienced limited to no turnover among the members of our senior management team and our regional and area managers. We believe our culture helps build and support a consistent and motivated group of team members that are passionate about providing the “Heaven of Tea” retail experience to our customers.

High-Quality Teas and Tea-Related Merchandise. We offer a unique selection of premium loose-leaf teas, authentic artisanal teawares and other tea-related merchandise in our stores and through our website. Our single-estate and specially blended teas are currently sourced from tea gardens, blenders and brokers in ten countries. We have long-standing collaborative relationships with our major tea vendors that span on average approximately ten years. We work closely with our tea blenders to continually bring our customers a fresh selection of high-quality, flavored tea blends that reflect the most current epicurean trends. Our compelling assortment of teawares and other tea-related merchandise is sourced from various tea communities worldwide. We also collaborate with our suppliers to design and develop Teavana branded tea-related merchandise. We believe our highly differentiated offering provides a foundation for our strong brand and will continue to reinforce our market-leading position.

Powerful and Consistent Store Economics. We have a proven and highly profitable store model that has produced consistent financial results and returns. In fiscal 2010, our stores averaged sales of approximately $1,000 per gross square foot. All of our stores were profitable in fiscal 2010 and new stores have historically averaged a payback period of less than one and a half years. Our current store base of 161 stores in 35 states

 

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is balanced across all four regions of the country, with each region producing results in line with the company average. We believe our powerful store model, deep-rooted tea enthusiast culture, highly developed store operations and a rigorous store selection process drive our consistent store financial results.

Proven and Experienced Senior Management Team. Since founding our company, Andrew Mack, our Chairman and Chief Executive Officer, has set the vision and strategic direction for Teavana and continues to drive our growth and culture. Since 2004, Mr. Mack has assembled a proven and experienced senior management team that has demonstrated its capabilities at executing our long-term growth plans. In 2005, we hired Daniel Glennon, our Executive Vice President and Chief Financial Officer, and Peter Luckhurst, our Executive Vice President of Operations. Our senior management team brings an average of over 20 years of experience across a broad range of disciplines, including store operations, merchandising, finance and real estate. We believe our senior management team is a key driver of our success and is well-positioned to execute our strategy.

Our Growth Strategy

We are pursuing several strategies to continue our profitable growth, including:

Expand Our Store Base Domestically. We believe there is a significant opportunity to expand our store base in the United States from 161 locations to at least 500 stores, having already identified the malls, lifestyle centers and other high-sales-volume retail venues that are suitable locations in which to open new Teavana stores. We believe our disciplined approach to expansion, founded upon a rigorous site selection process supported by our real estate team’s deep expertise, maximizes the prospects for successful new store openings. We also utilize our proprietary real estate database and customized store regression model to support our site selection process. As of May 1, 2011, we have executed lease agreements for the opening of 41 stores in fiscal 2011 and three stores in fiscal 2012. We have not executed lease agreements for the remaining store locations we need to reach our expansion target of at least 500 stores. We plan to open approximately 50 stores in fiscal 2011 (including 15 stores opened in the first quarter), 60 stores in fiscal 2012 and to expand to 500 stores by 2015.

Our store base is balanced geographically across the four regions of the United States. We plan to continue our penetration of these four regions with a focus on high traffic locations within malls, lifestyle centers and other high-sales-volume retail venues. We believe the consistent performance of our store portfolio across geographies supports the portability of the Teavana brand and store model into a wide range of markets.

Drive Comparable Store Sales. We expect to continue to drive our comparable store sales by increasing the size and frequency of purchases by our existing customers and attracting new customers. We expect to execute this strategy by continuing to offer a compelling selection of premium loose-leaf teas, authentic artisanal teawares and other tea-related merchandise. Our Heaven of Tea retail experience allows us to introduce the benefits and enjoyment of our teas and tea-related merchandise to new customers while encouraging our existing customers to transition to our higher-grade teas and higher-end tea-related merchandise.

Expand Our Online Presence. We believe our online platform is an extension of our brand and retail stores, serving as an educational resource and complementary sales channel for our customers. This platform also allows us to reach new customers and build brand awareness in locations where we currently do not have stores. Since fiscal 2007 our online sales have grown at a compound annual growth rate of 56.0% and in fiscal 2010 represented 7.0% of our net sales. We believe we have the opportunity to grow e-commerce sales to at least 10.0% of sales in the future. To help support this growth, we recently introduced an online replenishment program which automatically sells and delivers any teas selected by a customer on a periodic basis as chosen by the customer. In addition, we are pursuing a number of initiatives to drive more traffic to our website, including expanding and leveraging our social media, in-store and direct marketing programs.

 

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Increase Our Highly Attractive Margins. We have increased our operating margins from 7.5% in fiscal 2008 to 18.8% in fiscal 2010, and we believe further opportunities exist to increase our margins. A primary driver of our expected margin expansion will come from the continuation of our sales mix shift away from tea-related merchandise towards higher margin loose-leaf teas that our stores generally experience as they mature. In general, this trend is consistent with the evolution in our customers’ buying patterns as they graduate from purchases with a greater focus on merchandise with which to prepare and enjoy tea towards transactions centered more on replenishing their favorite teas and experimenting with new blends. We expect that additional drivers of future margin expansion will include the leveraging of our corporate and other fixed costs as our sales grow and gross margin benefits from our growing scale with suppliers.

Selectively Pursue International Expansion. Given the worldwide popularity of tea, we believe international expansion represents a compelling opportunity for additional growth over the long term. As of May 1, 2011, 17 Teavana stores are operated in Mexico through an international development agreement with our business partner, Casa Internacional. We will continue to selectively expand our global presence either through company-owned stores or by entering into franchise arrangements.

Our Retail Platform

We currently offer our premium loose-leaf teas and tea-related merchandise through our US retail store base, online platform, and international and domestic franchise stores.

Our Stores

We currently operate 161 stores in 35 states. We focus on high traffic locations in malls and lifestyle centers with top-tier co-tenants. In fiscal 2010, our average store was approximately 888 square feet, our comparable stores averaged net sales of approximately $862,000 and our stores averaged sales per gross square foot of approximately $1,000.

We have aggressively pursued new store growth, having more than tripled our store base from 47 to 161 stores from fiscal 2006 to the thirteen weeks ended May 1, 2011. The following table shows the growth in our network of stores for fiscal 2008 through the thirteen weeks ended May 1, 2011:

 

     Fiscal Year      Thirteen Weeks Ended  
     2008      2009      2010      May 1, 2011  

Stores open at beginning of year

     59         87         108         146   

Stores opened

     28         21         38         15   

Stores closed

     0         0         0         0   
                                   

Stores open at end of year

     87         108         146         161   
                                   

Gross square footage (in thousands)

     77         95         130         145   

 

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As illustrated by the following map, our store base is balanced geographically across the four regions of the United States, with each region producing results in line with our company average.

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Additionally, we have two franchised stores in the United States. Unless otherwise approved by us, our franchisees are required to sell only products purchased from us. Opening new franchise stores in the United States is not currently part of our future strategy.

Distinctive Retail Experience

Our stores offer a unique “Heaven of Tea” retail environment that provides a highly interactive, informative and immersive customer experience. We utilize a consistent store design to create our warm, relaxing ambiance featuring elegant blond wood fixtures, ceramic tiled floors, soft lighting and soothing Asian music. Our store atmosphere is meant to encourage customers to slow down and interact with our teaologists around the pleasures of tea and enjoy their retail experience.

To help drive traffic into our stores, we station a sample cart of prepared teas at the front entrance at which our teaologists encourage passing mall shoppers to sample one of our premium teas. Our passionate teaologists then engage with the customer to encourage the customer to enter our store. In our store, the teaologist seeks to understand the customer’s previous experience with tea and educates the customer about our products and the stories behind them. The teaologist will often discuss with the customer the many ways to enjoy our loose-leaf teas and tea-related merchandise and assist with merchandise selection. A key element of the retail experience occurs at our Wall of Tea, a substantial display case behind our sales counter holding approximately 100 brightly colored tin canisters containing varieties of our premium single-estate and specially blended teas. As our teaologist pulls down and opens one canister after another, the customer is invited to experience the aroma, color and texture of the teas as each tea’s flavor, caffeine content and healthful qualities are described. We believe this engaging retail experience introduces new customers to the tea lifestyle, encourages product trial and supports repeat visits and strong customer loyalty.

 

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Site Selection and Expansion

We seek to open stores in locations that reinforce the premium image of our brand and support the consistent execution of our strategy, targeting high traffic locations within malls, lifestyle centers and other high sales-volume retail venues.

We employ a rigorous analytical process to identify new store locations. We target locations based on market characteristics, mall productivity, demographic characteristics, including income and education levels, the presence of key anchor stores and co-tenants, population density and other key characteristics. We have built a proprietary retail mall database which we use for comparison purposes and employ a proprietary regression model to evaluate projected store sales and profitability based on a number of critical inputs incorporating trade area demographics, mall tenant productivity and total anchor sales. Members of our real estate team spend considerable time evaluating prospective sites before bringing a proposal to our real estate committee. Our real estate committee, which includes our Chief Executive Officer, our two Executive Vice Presidents and our Vice President, Real Estate, approves all of our locations before a lease is signed.

We believe there is a significant opportunity to expand our store base in the United States from 161 locations to at least 500 stores, having already identified the malls, lifestyle centers and other high-sales-volume retail venues that are suitable locations in which to open new Teavana stores. We plan to open approximately 50 stores in fiscal 2011 (including 15 stores opened in the first quarter), 60 stores in fiscal 2012 and to expand to 500 stores by 2015. As we continue to expand our store base, it may become more difficult to identify additional suitable sites for new stores and we will target an increasing number of shopping malls with lower average sales per square foot than the malls in which we currently are located. As a result, our new store model anticipates a target store size of 900 to 1,000 square feet that achieves annual sales of $600,000 to $700,000 in the first year of operation, which is below the historical average of our new stores. Our new store model also assumes an average new store investment of approximately $200,000 to $250,000. Our new store investment includes our store buildout (net of tenant allowances), inventory and cash pre-opening costs. We anticipate our new store investment under our new store model will be lower than our historical average for new stores given that our average buildout cost per new store has decreased and our average tenant allowance per new store has increased in recent years. We target an average payback period of approximately 18 months on our initial investment.

Our dedicated team of new store opening trainers is exclusively focused on ensuring a consistent new store opening process. The new store opening trainers train new team members for two weeks through the first weekend after a new store opening. The area manager then is on-site for the next two weeks to complete the new store opening process. We believe this consistent process allows us to seamlessly open new stores while enabling our field management team to focus on driving the performance of our existing stores.

Store Staffing and Operations

Each of our stores is managed by a general manager, an assistant manager and two team leads who oversee an average of eight to ten team members in each store. Each general manager is responsible for the day-to-day operations of his or her store, including the unit’s operating results, maintaining a clean and appealing store environment and the hiring, training and development of personnel. We also employ area managers, who are responsible for overseeing the operations of approximately ten stores, and regional directors, who are each responsible for overseeing approximately eight area managers and the operations of approximately 80 stores.

We are guided by a philosophy that recognizes performance, allowing us to identify and reward team members who meet our high performance standards. We provide our store general managers with a number of analytical tools to support our store operations and assist them in attaining optimum store performance. These tools include production tools and labor scheduling programs, all of which ensure that we match staffing levels to sales volume. We provide incentive bonuses to team members, assistant managers, general managers and area managers. Bonuses for store personnel, store managers and area managers are based upon achieving specified operating and financial performance goals.

 

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Our Online Platform

Our online platform is primarily comprised of our website, www.teavana.com, through which we provide educational resources for tea consumers and the ability to purchase the full range of our teas and tea-related merchandise. We established our current online platform in fiscal 2007 and in fiscal 2010, online sales represented 7.0% of net sales.

To replicate our “Heaven of Tea” retail experience online, our website features our full assortment of premium loose-leaf teas, tea-related merchandise and tea gift sets. Online customers can view our virtual Wall of Tea that allows them to select teas from our assortment and read about the ingredients and healthful qualities that pertain to the tea they have selected. In addition to being able to purchase our premium teas on a one-time basis, our customers can also establish automatic purchase and delivery of their favorite teas through our recently introduced online replenishment program. To drive increased sales through our online platform, we utilize online-specific marketing and promotional programs, such as our current offer for free shipping on orders above $50. We also utilize various social media and mobile applications as part of our online platform, including a mobile website, iPhone and iPad applications, a Facebook fan page and a presence on Twitter. In addition, we employ banner advertisements, search engine optimization and pay-per-click arrangements to help drive traffic to our website.

Through our online platform, we can target a broader audience of customers and tea enthusiasts who may not live near one of our retail locations. We believe our online platform and our stores are complementary, as our online platform provides our store customers an additional channel through which to purchase our teas and tea-related merchandise while also helping drive awareness of and traffic to our stores.

International

According to Mintel, the global tea market (exclusive of the United States) is $51.4 billion as compared to the US market of $5.2 billion. We intend to participate in the international tea market by selectively expanding our global presence either through company-owned stores or by entering into franchise arrangements with companies that have significant experience and proven success in a target country.

We currently have 17 franchised stores in Mexico through an international development agreement with Casa Internacional del Te, S.A. de C.V. The agreement with Casa Internacional grants the exclusive right to open franchised Teavana locations in that country for a term of 15 years. Unless otherwise approved by us, our partner is required to sell only our products. These stores carry a similar selection of tea and tea-related merchandise but have a higher percentage of beverage sales than our domestic stores.

Our Culture

We have developed a distinctive culture that inspires in our team members a passion for tea and the tea lifestyle. Our culture is also focused on extensive training, career development and individual enrichment. We believe our culture allows us to attract passionate and motivated team members who are driven to succeed and share our vision of creating in our stores a “Heaven of Tea” experience for our customers.

Passion for Tea. We believe our passionate team members are a major element of our “Heaven of Tea” retail experience. We seek to recruit, hire, train, retain and promote qualified and enthusiastic team members who share our passion for tea and strive to deliver an extraordinary retail experience to our customers.

Extensive Training. We have specific training and certification requirements for all new team members, including undergoing in-store and classroom training that takes place over a 21-day period after the date of hire. This rigorous process helps ensure that all team members educate our customers and execute our standards accurately and consistently. As team members progress to the assistant manager and general manager levels, they undergo an additional four weeks of training in sales, operations and management at our store support center.

 

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Career Development and Individual Enrichment. We actively track and reward team member performance, which we believe incentivizes excellence and helps us identify top performers and thus maintain a sufficient talent pool to support our growth. Nearly all of our store general managers and area managers are promoted from within our organization. We are guided by a philosophy that recognizes performance, allowing us to identify and reward team members who meet our high performance standards, and provide incentive bonuses to team members, assistant managers, general managers and area managers based upon store sales, profit and customer service standards.

We believe our culture allows us to attract and retain committed team members, as evidenced by our low full-time team member turnover rate. Historically, we have experienced minimal turnover among our regional and area managers. Additionally, we have had no turnover among our senior management team. We believe the knowledge and passion of our team members is critical in enabling us to acquire new customers at our stores and strengthen customer loyalty. We believe motivated and educated team members lead to satisfied customers who, in turn, lead to increased net sales and profitability.

To support the tea culture globally, we donate 1% of annual profits to the Cooperative for Assistance and Relief Everywhere, Inc., or “CARE,” through our Teavana Equatrade program. CARE seeks to overcome poverty by funding programs supporting dignity, tolerance and social justice. We believe that giving back to tea-growing regions worldwide helps the global tea community thrive.

Our Teas and Tea-Related Merchandise

We offer in our stores and through our website more than 100 varieties of premium loose-leaf teas, teawares such as handcrafted cast-iron, clay and ceramic tea pots, and other tea-related merchandise. We also offer a selection of fresh-brewed teas. With an average transaction size of $36, we believe customers view our products as an affordable investment in a healthy indulgence as they are able to purchase the best teas and teawares from around the world at relatively modest prices. Tea, tea-related merchandise and beverages accounted for 56%, 40% and 4% of total net sales, respectively, in fiscal 2010.

Teas

We provide our customers a diverse selection of over 100 premium loose-leaf teas from around the world. Our overall tea selection is comprised of approximately 20% single-estate teas and 80% specially blended teas. Our offering is comprised of teas from the following three main groups:

 

   

Single-estate teas. Our single-estate teas, which are teas that originate wholly from an individual tea plantation, estate or garden, are produced from the Camellia sinensis bush. We offer four types of single-estate teas—white, green, oolong, and black—each with its own distinctive characteristics arising from the climate, soil, altitude, growing conditions, when and how the tea is harvested, and the processing method used.

 

   

Single-estate blended teas. We offer blends that combine our single-estate teas with spices, herbs, flower petals, essential oils of fruits and other flavorings. We work in close collaboration with third-party blenders to develop our specially blended teas, and spend significant amounts of time perfecting the balance of flavors, aromas and colors to create unique teas that we believe will appeal to our customers

 

   

Herbal blended teas. Herbal teas are not technically “teas,” as they are not produced from the Camellia sinensis bush, but are herbal infusions generally made from other sources such as the Rooibos bush and Honeybush from South Africa, the Maté shrub from Argentina and other ingredients including dried fruits, herbs and even flowers. Herbal teas, aside from maté, are generally caffeine-free and can be brewed individually or blended with other types of tea to create an aromatic and flavorful beverage.

 

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Our Wall of Tea displays our teas in seven color-coded categories. Each type of tea has its own distinctive appearance, color, flavor, aroma, caffeine content and healthful qualities. We encourage our customers to experiment with mixing more than one type of tea together to create their own unique blends. Once a customer has selected one or more teas, our teaologist scoops and measures the customer’s desired tea selections from the tea canisters on the Wall of Tea. The minimum amount of tea that we sell is a two-ounce quantity. In addition to selling our teas in loose-leaf format, we also offer our teas in prepackaged formats as part of gift collections.

Following is a description of each of the seven categories of loose-leaf teas that we offer:

 

LOGO    White teas and white tea based blends. Primarily produced in limited quantities in the Fujian province of China, white teas are considered a rare delicacy and are the world’s costliest. White teas are known for their subtlety, complexity, and delicacy. Unlike all other teas, white tea is unprocessed. Once gathered, the leaves are withered and dried. White tea yields a clear infusion with a fresh aroma and smooth flavor. Representative
unblended white teas include Silver Needle and Silver Yin Zhen Pearls. Representative white tea based blends include Youthberry White Tea, Strawberry Misaki White Tea, Peach Momotaro Artisan Tea, Queen of Babylon White Tea and Snow Geisha White Tea. Prices for white teas and white tea based blends currently range from approximately $10 to $22 per two-ounce quantity.
LOGO    Green teas and green tea based blends. Primarily produced in China and Japan, green teas are referred to as “non-fermented” teas. The freshly picked leaves are allowed to dry and are then heat-treated to arrest any fermentation. China green teas are processed differently from their counterparts in Japan. Chinese green teas give a pale green to pale yellow infusion. In Japan, leaves are greener and more vibrant in tone than in China,
and therefore give an infusion that is brighter in color, running from jade green to light yellow. The infusion is aromatic and fresh-tasting. Our unblended Japanese green teas include Imperial Gyokuro, the most precious and expensive variety, Matcha, a powdered tea used to make a thick, nourishing brew, and Sencha, Japan’s most popular everyday variety. Representative unblended Chinese green teas include Huang Shan Mao Feng Reserve Green Tea and Emperor’s Clouds and Mist. Representative green tea based blends include Golden Jade Green Tea, Gyokuro Genmaicha Green Tea, Peachberry Jasmine Sutra Green Tea, Jasmine Dragon Phoenix Pearls Green Tea, Blackberry Mojito Green Tea, and Fruta Bomba Green Tea. Prices for green teas and green tea based blends currently range from approximately $5 to $20 per two-ounce quantity.
LOGO    Oolong teas and oolong tea based blends. Oolong teas are referred to as “semi-fermented” teas and are principally produced in China and Taiwan (commonly known as “Formosa” in the tea industry). China oolong leaves are wilted, shaken and then allowed to ferment until they achieve approximately 20% oxidation, at which point the fermentation is stopped by “firing” (heating in a hot roasting pan). Formosa oolong
leaves generally undergo a longer fermentation period (60-70%), and are therefore blacker in appearance than China oolongs. China oolong teas yield a lighter infusion, while Formosa oolongs produce a richer liqueur. Representative unblended oolongs include Phoenix Mountain Dan Cong Oolong Tea and Monkey Picked Oolong Tea. Representative Oolong tea based blends include Jasmine Oolong Tea, Prosperous Peach Oolong Tea, Six Summits Oolong Tea, Anjou Pear-adise Oolong, Kamiya Papaya Oolong and Yumberry Wulong. Prices for Oolong teas and Oolong tea based blends currently range from approximately $8 to $25 per two-ounce quantity.

 

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LOGO    Black teas and black tea based blends. Black teas are produced primarily in India, Sri Lanka and China. While the methods and varieties for producing black tea vary considerably between the different tea-growing regions, the process always involves four basic steps: withering, rolling, fermenting and firing (or drying). All black teas give a colored infusion, from pale orange to reddish brown, and range in taste from fresh and
light to strong and full-bodied. Black teas from different regions are often blended to achieve refined, balanced combinations of aroma and strength. Representative unblended black teas include Golden Imperial Lotus Black Tea, Himalayan Splendor Black Tea and Golden Monkey Black Tea. Representative black tea based blends include English Breakfast Black, Assam Breeze Flavored Black, Cha Yen Thai Flavored Black, Earl Grey Crème Black and Peach Cran-Tango Flavored Black. Prices for black teas and black tea based blends currently range from approximately $3 to $40 per two-ounce quantity.
LOGO    Rooibos based blends. Rooibos teas are a naturally sweet and sometimes nutty herbal infusion made from the South African Rooibos bush (“Red Bush” in Afrikaans) and are often referred to as Red Tea or African Red Tea. The rooibos tea processing method involves harvesting the Rooibos leaves, followed by grinding and bruising of the leaves. Then the Rooibos leaves are left to ferment and dried to yield a reddish brown needle-
like tea. Green Rooibos tea does not have a fermentation step and thus has a lighter taste than red Rooibos teas. Both varieties of Rooibos tea are caffeine-free. We offer a number of Rooibos based blended infusions, including Rooibos Chai Rooibos Tea, Blueberry Bliss Rooibos Tea, Rooibos Tropica Rooibos Tea, Tulsi Dosha Chai Rooibos Tea, Lemon Lime Kampai Rooibos Tea and Cocoa Praline Tart Rooibos Tea. Prices for Rooibos based blended infusions currently range from approximately $5 to $8 per two-ounce quantity.
LOGO    Maté based blends. Maté teas are made from the South American yerba mate plant. Most yerba mate comes from Argentina. The leaves and stems of yerba mate are harvested and then blanched, dried, aged, and finally milled or cut. The final yerba mate tea product contains a natural energy booster. A cup of Maté tea has approximately the same amount of caffeine as a cup of coffee. We offer a number of Maté based blended infusions, including JavaVana Maté, MateVana, My Morning Maté, Raspberry Riot
Lemon Maté and Samurai Chai Maté. Prices for Maté based blended infusions currently range from approximately $6 to $7 per two-ounce quantity.

LOGO

   Other herbal based blends. In addition to Rooibos- and Mate-based blends, we offer herbal infusions made from a variety of ingredients including dried fruits, hibiscus, and rosehips. Representative selections from our assortment of herbal based blended infusions include Strawberry Lemonade Herbal Tea, Azteca Fire Herbal Tea, Dokudami Umami Herbal Tea, Honeybush Vanilla Herbal Tea, Swiss Vervaine Melange Herbal
Tea and Pineapple Kona Pop Herbal Tea. Prices for our herbal based blended infusions currently range from approximately $5 to $9 per two-ounce quantity.

Tea-Related Merchandise

We offer in our stores and through our website a carefully selected assortment of artisanal teawares and other tea-related merchandise that provide our customers the ability to brew and consume our premium loose-leaf teas and more broadly experience tea cultures from around the globe. The majority of our tea-related merchandise is Teavana-branded. We offer a selection of our teas and tea-related merchandise in the form of prepackaged gift sets.

Our teawares and other tea-related merchandise are grouped into five main categories: teapots, tea cups and mugs, tea accessories, tea décor and media, and tea foods.

 

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Category

 

Products Offered

    

Select Product Highlights

Teapots   Cast-iron, clay, bone-china, ceramic and glass teapots      Our teapots and teapot sets range from the traditional to the modern. Our Tetsubin teapots are handmade in Japan of solid cast-iron with a fully enameled inside, and are intricately decorated with Japanese symbols. Our Yixing clay teapots, many of which are decorated with flowers and other traditional motifs, are forged by artisans from Yixing clay, a red clay uniquely found in the Jiangsu province of China. Crafted by artisans in Korea, our Celadon teapots are made by layering different colors of clay using centuries-old techniques. Our high-quality bone china teapots and teapot sets are fired multiple times for a high gloss lustrous surface and then hand-painted and finished with gold accents. For customers with modern tastes, we offer a line of earthenware teapots with contemporary designs and finished with five coats of handpainted glaze, combining everyday elegance with serviceability. Prices for our teapots and teapot sets currently range from approximately $28 to $190.
Tea Cups and Mugs   Cast-iron, ceramic and glass tea cups; infuser mugs; travel tea cups      Our cast-iron cups are handcrafted and decorated by specialty artisans in Japan and match our cast-iron teapots. Our handcrafted ceramic tea cups range from traditional Yixing clay to modern Japanese designs. In our line of glass tea cups, our Petite Fleur Suspendu Four-Cup Glass Tea Set consists of luminous spherical double-walled glass tea cups that are mouth-blown by skilled artisans. Our stylish and classical Joli glass mug is made of heat resistant borosilicate glass, and comes with a removable clear glass infuser that allows better viewing of the expanding tea leaves as they infuse. Prices for our tea cups and mugs currently range from approximately $7 to $30.
Tea Accessories   Teamakers; tea kettles and hot water dispensers; tea trays; teapot trivets and coasters; teapot warmers; tea storage tins      Our Teavana Perfect TeaMaker, which provides an efficient, simple and clean way to steep tea, uses a patented drain mechanism to strain the tea into the user’s cup and keep the leaves in the tea maker. Among our tea kettles and hot water dispensers, we carry our own brand (such as the Teavana Perfect Tea Kettle, which is made of superior quality brushed stainless steel) as well as third-party brands, including the Breville Variable Temperature Kettle (which features preset temperatures for each type of tea) and the Zojirushi Hybrid Water Heater. At the very high end of this product category, we carry the Breville One Touch Teamaker, which heats water to the correct temperature for brewing the desired tea, lowers the tea basket automatically into the water, and, at the correct time, auto-lifts the basket to prevent oversteeping. Our line of handcrafted Japanese lacquerware tea trays, cast-iron trivets and cast-iron and lacquerware comes in a wide range of colors and styles. Prices for our tea accessories currently range from approximately $4 to $250.

 

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Category

 

Products Offered

    

Select Product Highlights

Tea Décor and Media   Tea-infused aromatic candles; Asian-inspired table statuettes; tea towels and napkins; books on the history and culture of tea; global music CDs      We offer a range of Asian-inspired decorations to bring the culture of tea to the home or office. These include our Dancing Ganesh Resin Statue, Chinese Lion Statues, Kuan Yin (the goddess of mercy and compassion in Chinese Buddhism) on Rock Statue, and several varieties of Buddha statues, which are crafted of resin or cold cast bronze and individually polished, antiqued and painted with color accents and decorated with intricate details bringing the culture of tea to your atmosphere. Among the aromatic candles we offer, our White Ayurvedic Chai Aromatic Candle features a rare combination of expertly crafted notes of clove bud oil, cinnamon bark, cassia, cedar wood and Brazilian orange spices that is inspired by the ancient Hindu healing system. We also sell a selection of books related to the history of tea, tea serving customs, and other topics related to the tea lifestyle and tea-inspired music CDs from cultures around the world. Prices for our tea décor and media currently range from approximately $12 to $150.
Tea Foods   Artisanal honeys; German rock cane sugar; tea-infused cookies; tea-infused mints      We offer unprocessed German rock sugar and a variety of artisanal honeys, many of them organic, raw and/or unfiltered, to add sweetness to tea beverages brewed from our loose-leaf teas. We also offer a selection of tea-infused cookies and mints to complement the enjoyment of our loose-leaf teas. Prices for our tea foods currently range from approximately $4 to $8.

Beverages

We offer made-to-order fresh-brewed teas in each of our stores. Our customers may select any of the varieties of loose-leaf single-estate and blended teas that we offer. Customers can choose to have their beverage served hot or cold.

Product Selection, Development and Sourcing

We select and develop an extensive offering of premium loose-leaf teas, authentic artisanal teawares and other tea-related merchandise. Our merchandising team travels across global tea regions seeking superior teas and high quality traditional tea merchandise. Our merchandising team consists of a vice president of merchandising and category managers, who leverage our company’s extensive experience selecting and developing our tea and tea-related merchandise. Our product offering reflects tea communities in Japan, China, India, South Korea and Europe and we are constantly exploring different tea cultures from which to introduce new teas and tea-related merchandise to our customers. We also work with our supplier partners to develop special tea blends and innovative products that we sell on an exclusive basis. We believe this combination of product selection and product development differentiates us from other specialty tea retailers and helps drive our continued strong financial results.

Teas

Our merchandising team selects the highest grades of single-estate teas sourced from tea gardens and brokers in tea-producing regions around the world. We have well established relationships with some of the industry’s most experienced and influential tea brokers and tea gardens and work closely with these suppliers to select our single-estate teas. Multiple times a year, our merchandising team travels to tea-growing regions worldwide to select the best harvested teas and, working through brokers or directly with growers, oversees their preparation for shipment. Our merchandising team has spent years developing the sophisticated palate necessary to distinguish the characteristics desired in the highest-quality teas, and tastes, or “cups,” each sample before purchasing and again before accepting delivery. Although most tea trades in the commodity market, premium

 

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loose-leaf teas of the quality we seek trade on a negotiated basis at a substantial premium to commodity tea prices. Tea supply and price can be affected by multiple factors, including weather, political and economic conditions, and currency fluctuations.

Our merchandising team also focuses on the creation of our special tea blends using multiple varieties of single-estate teas and herbal teas, which are combined with spices, herbs, flower petals, essential oils of fruits and other natural flavorings. Each type of tea that we sell has a distinctive appearance, flavor, aroma, color, caffeine content and healthful qualities. We have long-standing collaborative relationships with tea blenders from across the globe with whom we collaborate to develop our blends. Our team spends significant amounts of time cupping blends under development to perfect the balance of flavors, aromas and colors. To provide our customers a fresh tea selection over time, we introduce new teas at least two to three times per year, and seek to replace 10-20% of our Wall of Tea selections every year.

Tea-Related Merchandise

Our merchandising team selects high quality tea-related merchandise to enhance the enjoyment and experience of tea for our customers. We travel throughout the world seeking out what we believe is the finest tea-related merchandise available. We believe that the artisanal products that we select are best-in-class in their countries of origin.

We develop a variety of Teavana-branded merchandise in close collaboration with numerous factories and foundries. Our branded products are customized to our specifications and we choose only the finest, high-quality products to introduce as Teavana-branded merchandise. We believe that by offering the finest quality products, our customers naturally associate the Teavana brand with distinction and excellence.

Quality Control

As part of our quality control, we test our teas and tea-related merchandise to ensure compliance with our stringent quality standards. We perform extensive sampling of teas during the buying process. In addition, our teas undergo rigorous testing based on specifications established by European Union regulations for the presence of pesticides and heavy metal residues. We have implemented a program for third-party testing of a sample of each batch of teas received at our distribution center. We also have strict quality controls around the manufacture of our tea-related merchandise, and require certificates confirming that all such merchandise is lead-free.

Sourcing

We do not own or operate any tea estates, blending operations or manufacturing facilities; instead, we source our products from over 100 vendors across the globe. During fiscal 2010, our two largest vendors represented approximately 25% and 15%, respectively, of our total purchases of inventory goods. Approximately 90% of our purchases are paid for in US dollars, with the balance being denominated primarily in Euros and Japanese yen.

Distribution

We distribute our loose-leaf teas and tea-related merchandise to our stores and our e-commerce customers from our distribution center in Stratford, Connecticut. Our products are typically shipped to our stores via a third-party national transportation provider multiple times per week.

We have identified the need to expand our distribution center in order to support our near-term growth. We have signed commitments to expand our distribution center, for a modest capital outlay, in three separate phases during fiscal 2011 and fiscal 2012 to support our growing operations through the first quarter of fiscal 2013. We have considerable experience expanding our distribution center, having completed similar expansions

 

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successfully in fiscal 2009 and fiscal 2010. Further, we have commissioned a study to assess our long-term distribution needs and to determine the most efficient strategy to satisfy those needs, which could include the addition of a second distribution center in another region of the United States.

Marketing and Advertising

We believe that our high traffic store locations and the interactive, informative and immersive experience that we offer our customers enable us to spend less on conventional advertising than many other retailers. Our marketing strategy currently emphasizes utilization of our website and social media and mobile applications to create a community of tea enthusiasts, build customer loyalty and promote our brand awareness. For example, we provide updates on teas, tea news, tea-making, tea gift ideas and related topics via our “Heaven of Tea” blog on our website, our Facebook page and our presence on Twitter. In December 2009, we introduced our PerfecTea Touch® application, which can be downloaded free of charge on the Apple iPhone and iPad. This application enables customers to shop our teas and tea-related merchandise, locate a store and obtain information on blending our teas, and provides them with built-in music-accompanied timers to help brew the perfect cup of tea. Additionally, we utilize banner advertisements, search engine optimization and pay-per-click arrangements to help drive traffic to our website.

We have built an email customer database with approximately 300,000 individual customer names as of January 30, 2011, substantially all of which belong to households that placed an Internet order with us or made a store purchase from us during the previous 24 months. We utilize this list to send direct marketing messages via email to these customers to highlight new tea arrivals and announce promotional events. We do not sell or provide any information from our customer database to third parties.

Management Information Systems

Our management information systems provide a full range of business process support to our stores, our store operations and store support center teams. We believe our systems provide us with enhanced operational efficiencies, scalability, increased management control and timely reporting that allow us to identify and respond to trends in our business. We utilize a combination of industry standard and customized software systems to provide various functions related to:

 

   

point of sales;

 

   

inventory management;

 

   

warehouse management; and

 

   

accounting and financial reporting.

We believe our management information systems benefit us through enhanced customer service, more efficient operations and increased control over our business. Through our point of sale system we are able to facilitate the operations of our stores and through our warehouse management systems we can efficiently manage our inventory of loose-leaf teas and tea-related merchandise from our store support center.

Competition

The US tea market is highly fragmented. We compete directly with a large number of relatively small independently-owned tea retailers. Additionally, relatively low barriers to entry in the tea and beverage retail market may encourage other tea and beverage retailers who may have greater financial, marketing and operating resources than we do to enter the specialty tea retail market. As we continue to expand geographically, we expect to encounter additional regional and local competitors.

 

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In the event that other tea and beverage retailers enter into the specialty tea retail market, we believe that we will differentiate ourselves on the basis of our market-defining brand, the “Heaven of Tea” retail experience offered to customers in our stores, our deep-rooted culture focused on a passion for tea and career development, the high quality of our teas and tea-related merchandise, and our proven and experienced senior management team, all of which are competitive strengths that we believe contribute toward offsetting the relatively low barriers to entry noted above.

We also compete indirectly with other vendors of loose-leaf, bagged and ready-to-drink teas, such as supermarkets, club stores, wholesalers and internet suppliers, as well as with houseware retailers and suppliers that offer teawares and related accessories.

In addition, we compete with numerous other mall-based retailers for retail real estate locations for our stores.

Trademarks and Other Intellectual Property

We regard intellectual property and other proprietary rights as important to our success. We own several trademarks and service marks that have been registered with the US Patent and Trademark Office, including Teavana®, and the names of most of the varieties of single-estate teas and specially blended teas that we sell. We have also registered trademarks on our stylized logos. We have applications pending with the US Patent and Trademark Office for a number of additional marks, including Heaven of Tea and Wall of Tea and a number of varieties of our single-estate teas and blended teas. We also own domain names, including www.teavana.com, for our primary trademarks and own unregistered copyright rights in our website content. In addition, we have registered or made application to register one or more of our marks in a number of foreign countries and expect to continue to do so in the future as we expand internationally. There can be no assurance that we can obtain the registration for the marks in every country where registration has been sought.

We also rely upon trade secrets and know-how to develop and maintain our competitive position. We protect our intellectual property rights through a variety of methods including trademark and trade secret laws, as well as confidentiality agreements and proprietary information agreements with vendors, team members, consultants and others who have access to our proprietary information.

We must constantly protect against any infringement by competitors. If a competitor infringes on our trademark rights, we may have to litigate to protect our rights, in which case, we may incur significant expenses and divert significant attention from our business operations.

Government Regulation

We are subject to labor and employment laws, laws governing advertising, privacy laws, safety regulations and other laws, including consumer protection regulations that regulate retailers and/or govern the promotion and sale of merchandise and the operation of stores and warehouse facilities. We monitor changes in these laws and believe that we are in material compliance with applicable laws.

Insurance

We use a combination of insurance and self-insurance for a number of risk management activities including workers’ compensation, general liability, automobile liability, and employee-related health care benefits. We believe that we have adequately reserved for our self-insurance liability related to medical coverage of our team members. We evaluate our insurance requirements on an ongoing basis to ensure we maintain adequate levels of coverage.

 

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Employees

As of May 1, 2011, we employed 448 full-time and 1,622 part-time employees, of whom 1,961 were employed in our retail channel and 109 were employed in corporate, distribution and direct channel support functions. None of our employees is represented by a labor union. We consider our relationship with our employees to be very good.

Properties

We do not own any real property. Our store support center is located in Atlanta, Georgia and is leased under a lease agreement expiring in 2024. The approximately 30,000 square foot space includes a simulated store that provides a forum for planning, visual and marketing concepts prior to their execution in our stores.

Our approximately 80,000 square foot distribution center is located in Stratford, Connecticut. Our distribution center is leased under a lease agreement expiring in 2016 and 2020 (as to different portions of the facility).

As of May 1, 2011, we operated 161 stores in 35 states. All of our stores are leased from third parties and the leases typically have ten-year terms. Some of our leases have early cancellation clauses, which permit the lease to be terminated by us or the landlord if certain sales levels are not met in specific periods or if a shopping center does not meet specified occupancy standards. In addition to future minimum lease payments, some of our store leases provide for additional rental payments based on a percentage of net sales if sales at the respective stores exceed specified levels, as well as the payment of common area maintenance charges, real property insurance and real estate taxes. Many of our lease agreements have defined escalating rent provisions over the initial term and any extensions.

Legal Proceedings

We are subject to various legal proceedings and claims which arise in the ordinary course of our business. Although the outcome of these and other claims cannot be predicted with certainty, management does not believe that the ultimate resolution of these matters will have a material adverse effect on our financial condition or on our results of operations.

 

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MANAGEMENT

Executive Officers and Directors

The following table sets forth information regarding our executive officers, directors and director nominees, as of the date of this prospectus:

 

Name

   Age     

Position

Andrew T. Mack

     46       Chairman of the Board, Chief Executive Officer

Daniel P. Glennon

     42       Executive Vice President, Chief Financial Officer

Peter M. Luckhurst

     56       Executive Vice President, Operations

Juergen W. Link

     50       Vice President, Distribution

Robert A. Shapiro

     64       Vice President, Real Estate

F. Barron Fletcher III

     44       Director

Michael J. Nevins

     48       Director

Thomas A. Saunders III

     75       Director Nominee

John E. Kyees

     64       Director Nominee

Robert J. Dennis

     57       Director Nominee

Executive Officers

Andrew T. Mack founded Teavana in 1997 and has served as our Chief Executive Officer since that time. Mr. Mack has also served as our Chairman of the Board of Directors since 2010. Prior to founding Teavana, Mr. Mack held various management positions in the restaurant industry. Mr. Mack is a graduate of East Tennessee State University where he received a B.B.A in Marketing. We believe that Mr. Mack is qualified to serve on our Board of Directors due to the perspective, experience, and operational expertise in the retailing business which he has developed as our founder and Chief Executive Officer.

Daniel P. Glennon has served as our Executive Vice President, Chief Financial Officer since 2010 and served as our Chief Financial Officer from 2005 through 2010. Previously, Mr. Glennon was a manager at Marakon Associates and an auditor at Arthur Andersen LLP and served as the chief financial officer or vice president of finance of three small or early-stage corporations. Mr. Glennon graduated from the University of Georgia with a B.B.A. in Accounting and from Harvard Business School with an M.B.A. Mr. Glennon is a certified public accountant.

Peter M. Luckhurst has served as our Executive Vice President, Operations since 2010 and served as our Vice President for Stores from 2005 to 2010. Previously, Mr. Luckhurst was with HMV North America for 15 years, most recently as its President. Mr. Luckhurst is a graduate of the University of Aston in Birmingham where he received a B.Sc. in Behavioral Science.

Juergen W. Link has served as our Vice President, Distribution since 2005. Previously, Mr. Link was the founder and President of SpecialTeas Inc. from 1996 to 2005. Mr. Link is a graduate of the University of Munich with a degree in Business Management.

Robert A. Shapiro has served as our Vice President, Real Estate since 2005. Previously, Mr. Shapiro was Senior Vice President of Real Estate & Property Development for Zale Corporation. Mr. Shapiro graduated from the University of Denver with a B.A. in International Studies.

 

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Directors and Director Nominees

F. Barron Fletcher III has served as a Director since 2004. Mr. Fletcher is the founder of Parallel Investment Partners, where he has served as the managing partner since 1999. Prior to founding Parallel, Mr. Fletcher was a partner with Saunders Karp & Megrue, a $1.2 billion private equity firm focused on high growth, middle market consumer companies, where he worked actively with both Dollar Tree, Inc. and Hibbett Sporting Goods, Inc. during the firm’s ownership. Mr. Fletcher also serves as a member of the boards of specialty retailers Mealey’s Furniture, Inc., The Fragrance Outlet, Inc. and USA Discounters, Inc. Mr. Fletcher is a graduate of Yale University, where he received a B.A. in both Mathematics and Economics. We believe that Mr. Fletcher is qualified to serve on our Board of Directors due to his extensive management experience, his expertise with retailing companies, and his service on the boards of directors of a range of other companies.

Michael J. Nevins has served as a Director since 2004. Mr. Nevins served as a Senior Vice President-Leasing for the Macerich Company from 2005 to 2011 where he oversaw a substantial portfolio of properties. Mr. Nevins is a graduate of Kenyon College where he received a B.A. in Economics. We believe that Mr. Nevins is qualified to serve on our Board of Directors due to his operational experience in the retailing business and his background providing guidance and counsel to us as a Director during the company’s growth.

Thomas A. Saunders III has been nominated, and has agreed to serve, as a member of our Board of Directors effective upon the consummation of this offering. Mr. Saunders has been the President of Ivor & Co., LLC, a private investment company, since 2000. Mr. Saunders was a founder of Saunders Karp & Megrue Partners, once a major investor in Dollar Tree, Inc. Before founding Saunders Karp & Megrue Partners in 1990, Mr. Saunders was a Managing Director of Morgan Stanley & Co. from 1974 to 1989. Mr. Saunders currently serves as a member of the boards of directors of Dollar Tree and Hibbett Sporting Goods. Mr. Saunders graduated from the Virginia Military Institute with a B.S. in Electrical Engineering and from the University of Virginia with an M.B.A. We believe that Mr. Saunders is qualified to serve on our Board of Directors due to his extensive background in and experience with retail companies, along with his service on the boards of directors of other private and public companies.

John E. Kyees has been nominated, and has agreed to serve, as a member of our Board of Directors effective upon the consummation of this offering. Mr. Kyees served as the Chief Investor Relations Officer of Urban Outfitters, Inc. in 2010 and as Chief Financial Officer from 2003 to 2010. Mr. Kyees has over 30 years of experience as a chief financial officer, including nine years of experience serving as chief financial officer for a public company. Mr. Kyees is currently a director and member of the audit committee of Casual Male Retail Group, Inc., a publicly-traded specialty retailer of men’s clothing. Mr. Kyees is also currently a director and chairman of the audit and compensation committees of Vera Bradley, Inc., a publicly-traded luggage and handbag retailer. Mr. Kyees graduated from the University of Kansas with a B.S. in Business Administration and from the University of Detroit with an M.B.A. We believe that Mr. Kyees is qualified to serve on our Board of Directors due to his extensive background with retail companies, his financial expertise developed as a chief financial officer, and his service on the boards of directors of other companies.

Robert J. Dennis has been nominated, and has agreed to serve, as a member of our Board of Directors effective upon the consummation of this offering. Mr. Dennis is the chairman of the board of directors of Genesco Inc., a publicly traded specialty retailer. Mr. Dennis has been the President and Chief Executive Officer of Genesco Inc. since 2008 and served as its President and Chief Operating Officer from 2006 through 2008. He has over 25 years of experience in the retail industry, including his tenure at Genesco Inc., three years as Chief Executive Officer of Hat World, Inc. prior to its acquisition by Genesco Inc., three years in a senior position with Asbury Automotive and 13 years with McKinsey & Company, becoming a partner and a leader of the firm’s North American Retail Practice. Mr. Dennis graduated from Rensselaer Polytechnic Institute with a B.S. in biochemistry and an M.S. in organic chemistry. In addition, Mr. Dennis graduated from Harvard Business School with an M.B.A. We believe that Mr. Dennis is qualified to serve on our Board of Directors due to his broad experience and operational background in the retail business, along with his service on the board of directors of Genesco Inc.

 

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Board Composition

Our Board of Directors currently consists of three directors: Messrs. Mack, Fletcher and Nevins. Concurrently with the consummation of this offering, Messrs. Dennis, Kyees and Saunders shall also be appointed as directors.

We have determined that each of Messrs. Dennis, Kyees, Nevins and Saunders is an independent director within the meaning of the applicable rules of the SEC and the New York Stock Exchange, and that each of Messrs. Dennis, Kyees and Nevins is also an independent director under Rule 10A-3 of the Exchange Act for the purpose of audit committee membership. In addition, our Board of Directors has determined that Mr. Kyees is a financial expert within the meaning of the applicable rules of the SEC and the New York Stock Exchange.

Board Committees

Our Board of Directors has established the following committees: an audit committee, a compensation committee and a nominating and corporate governance committee. Upon consummation of this offering, each member of these committees will be independent as defined under the rules of the SEC and the New York Stock Exchange as currently in effect, and we intend to comply with additional requirements to the extent they become applicable to us. Our Board of Directors may from time to time establish other committees.

Audit Committee

Our audit committee oversees our corporate accounting and financial reporting process. Among other matters, our audit committee:

 

   

is responsible for the appointment, compensation and retention of our independent auditors and reviews and evaluates the auditors’ qualifications, independence and performance;

 

   

oversees our auditors’ audit work and reviews and pre-approves all audit and non-audit services that may be performed by them;

 

   

reviews and approves the planned scope of our annual audit;

 

   

monitors the rotation of partners of the independent auditors on our engagement team as required by law;

 

   

reviews our financial statements and discusses with management and our independent auditors the results of the annual audit and the review of our quarterly financial statements;

 

   

reviews our critical accounting policies and estimates;

 

   

oversees the adequacy of our accounting and financial controls;

 

   

annually reviews the audit committee charter and the committee’s performance;

 

   

reviews and approves all related-party transactions; and

 

   

establishes and oversees procedures for the receipt, retention and treatment of complaints regarding accounting, internal controls or auditing matters and oversees enforcement, compliance and remedial measures under our code of conduct.

The current members of our audit committee are Messrs. Fletcher and Nevins. Upon the consummation of this offering, our audit committee will consist of Messrs. Kyees, Dennis and Nevins, with Mr. Kyees serving as the chairman of our audit committee and our audit committee financial expert as currently defined under applicable SEC rules. We believe that the composition of our audit committee meets the criteria for independence under, and the functioning of our audit committee complies with, the applicable requirements of the New York Stock Exchange and the SEC rules and regulations.

Our Board of Directors will adopt a written charter for our audit committee, which will be available on our website at www.teavana.com upon the consummation of this offering.

 

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Compensation Committee

Our compensation committee reviews, recommends and approves policy relating to compensation and benefits of our officers and directors, administers our stock option and benefit plans and reviews general policy relating to compensation and benefits. Duties of our compensation committee include:

 

   

reviewing and approving corporate goals and objectives relevant to compensation of our directors, chief executive officer and other executive officers;

 

   

evaluating the performance of the chief executive officer and other executive officers in light of those goals and objectives;

 

   

based on this evaluation, determining and approving the Chief Executive Officer’s compensation and recommending to our Board of Directors the proposed compensation of our other executive officers;

 

   

administering the issuance of stock options and other awards to executive officers and directors under our compensation plans; and

 

   

reviewing and evaluating, at least annually, the performance of the compensation committee and its members, including compliance of the compensation committee with its charter.

Upon the consummation of this offering, our compensation committee will consist of Messrs. Dennis, Kyees and Nevins, with Mr. Dennis serving as the chairman of our compensation committee. We believe that the composition of our compensation committee following this offering will meet the criteria for independence under, and the functioning of our compensation committee will comply with, the applicable requirements of the New York Stock Exchange and the SEC rules and regulations.

Our Board of Directors will adopt a written charter for our compensation committee, which will be available on our website at www.teavana.com upon the consummation of this offering.

Nominating and Corporate Governance Committee

We do not currently have a nominating and corporate governance committee; however, we plan to establish a nominating and corporate governance committee prior to the consummation of this offering. Upon consummation of this offering, our nominating and corporate governance committee will consist of Messrs. Saunders, Dennis, Kyees and Nevins, with Mr. Saunders serving as the chairman of our nominating and corporate governance committee. Our nominating and corporate governance committee identifies individuals qualified to become directors; recommends to our Board of Directors director nominees for each election of directors; develops and recommends to our Board of Directors criteria for selecting qualified director candidates; considers committee member qualifications, appointment and removal; recommends corporate governance guidelines applicable to us; and provides oversight in the evaluation of our Board of Directors and each committee. We believe that the composition of our nominating and corporate governance committee meets the criteria for independence under, and the functioning of our nominating and corporate governance committee complies with, the applicable requirements of the New York Stock Exchange and the SEC rules and regulations.

Our Board of Directors will adopt a written charter for our nominating and corporate governance committee, which will be available on our website at www.teavana.com upon the consummation of this offering.

Compensation Committee Interlocks and Insider Participation

None of our executive officers serves as a member of the board of directors or compensation committee of any other entity that has one or more executive officers who serve on our Board of Directors or compensation committee.

 

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Code of Business Conduct and Ethics

We will adopt a code of business conduct and ethics applicable to our principal executive, financial and accounting officers and all persons performing similar functions. A copy of that code will be available on our website at www.teavana.com upon consummation of this offering. We expect that any amendments to such code, or any waivers of its requirements, will be disclosed on our website.

Director Compensation

Prior to this offering, members of our Board of Directors have not received cash compensation for their services as directors, except for the reimbursement of reasonable and documented costs and expenses incurred by directors in connection with attending any meetings of the Board of Directors or any committee thereof. Parallel, of which Mr. Fletcher is the founder and managing partner, has received fees from us, as well as reimbursement of reasonable out-of-pocket expenses incurred by it, for advisory services performed by Parallel pursuant to a letter agreement. See “Certain Relationships and Related Party Transactions—Advisory Services Agreement.” At least one of our directors has received equity grants from us in prior fiscal years for his services provided as a director, as discussed in more detail in the next paragraph.

We did not pay any cash or equity compensation to members of our Board of Directors during fiscal 2010 because all of our directors other than Mr. Nevins were either employees of our company or affiliated with our stockholder, Teavana Investment LLC. In fiscal 2005 and fiscal 2009, we granted to Mr. Nevins non-qualified stock options to purchase 37,029 shares and 18,515 shares of our Class A common stock at exercise prices of $1.12 per share and $2.43 per share, respectively.

After the consummation of this offering, our executive officers who are members of our Board of Directors and the directors who continue to provide services to, or are affiliated with, Parallel or funds advised by Parallel will not receive compensation from us for their service on our Board of Directors. Accordingly, Messrs. Mack and Fletcher will not receive compensation from us for their service on our Board of Directors. Only those directors who are considered independent directors under the corporate governance rules of the New York Stock Exchange will be eligible to receive compensation from us for their service on our Board of Directors. Messrs. Nevins, Saunders, Kyees and Dennis and other independent directors will be paid quarterly in arrears the following amounts:

 

   

a base annual retainer of $50,000 in cash;

 

   

an additional annual retainer of $35,000 in cash to the chairman of the audit committee; and

 

   

an additional annual retainer of $25,000 in cash to each of the chairmen of the compensation committee and the corporate governance and nominating committee.

In addition, upon initial election to our Board of Directors, each independent director will be granted an option to purchase 7,500 shares of our common stock, or such other amount as our compensation committee may from time to time determine. For each year of continued service thereafter, each independent director will be granted an annual option to purchase 2,000 shares of our common stock, or such other amount as our compensation committee may from time to time determine. Each grant will be subject to the same terms as those of our employees as described in the disclosure summarizing our 2011 Equity Incentive Plan. See “Compensation Discussion and Analysis—Stock Option and Other Compensation Plans—2011 Equity Incentive Plan.” We will also reimburse directors for reasonable expenses incurred to attend meetings of our Board of Directors or committees.

Director and Officer Indemnification Agreements

We have entered into indemnification agreements with each of our current directors and executive officers. These agreements require us to indemnify these individuals to the fullest extent permitted under Delaware law against liabilities that may arise by reason of their service to us, and to advance expenses incurred as a result of any proceeding against them as to which they could be indemnified. We also intend to enter into indemnification agreements with our future directors and executive officers.

 

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COMPENSATION DISCUSSION AND ANALYSIS

The following discussion describes and analyzes our executive compensation structure and our compensation for our named executive officers for fiscal 2010, who include Andrew T. Mack, our Chairman and Chief Executive Officer (“CEO”), Daniel P. Glennon, our Executive Vice President, Chief Financial Officer (“CFO”), and Peter M. Luckhurst, our Executive Vice President, Operations, Juergen W. Link, our Vice President, Distribution, and Robert A. Shapiro, our Vice President, Real Estate (collectively, our “NEOs” or our “named executive officers”). Detailed information regarding compensation paid to our named executive officers in fiscal 2010 is set forth in the “Summary Compensation Table” below.

Compensation Philosophy and Objectives

Our intent and philosophy in determining compensation packages at the time of hiring new executives has been based in part on providing compensation sufficient to enable us to attract the talent necessary to further develop our business, while at the same time being prudent in the management of our cash and equity in light of the stage of the development of our company. Compensation of our NEOs after the initial period following their hiring has been influenced by the amounts of compensation that we initially agreed to pay them, as well as by our evaluation of their subsequent performance, changes in their levels of responsibility, prevailing market conditions, the financial condition and prospects of our company and our attempt to maintain some level of internal equity in the compensation of existing executives relative to the compensation paid to more recently hired executives.

We compensate our NEOs with a combination of base salaries, cash bonuses, long-term equity compensation and other compensation. We think this combination of cash, bonus and equity awards is largely consistent with the forms of compensation provided by other companies with whom we compete for executive talent, and, as such, is a package that is consistent with the expectations of our executives and of the market for executive talent. Although we do not engage in benchmarking or use the services of an independent compensation consultant, our Board of Directors may also consider compensation levels with comparable positions in our industry and market to evaluate the total compensation decisions that it makes for our officers. The primary objectives of our executive compensation program are as follows:

 

   

to attract and retain talented and experienced executives in our industry;

 

   

to reward executives whose knowledge, skills and performance are critical to our success;

 

   

to ensure fairness among the executive management team by recognizing the individual contributions each executive officer makes to our success; and

 

   

to align the interests of our executive officers and stockholders by incentivizing executive officers to increase stockholder value and rewarding executive officers when stockholder value increases.

Elements of Compensation

Our current executive compensation program consists of the following key components:

Base salary

The primary component of compensation of our executive officers has historically been base salary. Base salary represents the most basic, fixed portion of our NEOs’ compensation and is an important element of designing a compensation program to attract and retain talented executive officers. We believe that we must maintain a base salary that is sufficiently competitive to position us to attract talented and experienced executives, and that it is important that our NEOs believe that over time they will continue to earn a salary that they regard as competitive. Base salaries are reviewed at the end of each fiscal year by our CEO (other than with respect to his own base salary) and Board of Directors and salary increases typically take effect at the beginning of the first quarter of the following fiscal year, unless business circumstances require otherwise.

 

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Cash bonuses

We offer our executive officers the opportunity to participate in an annual cash bonus plan to align the financial incentives of our executive officers, including our NEOs, with our short-term operating plan and long-term strategic objectives and the interests of the company and our stockholders. Typically, the bonuses for our executive officers are linked to the achievement of certain of our annual financial objectives. These bonus opportunities allow us to reward our executive officers only if we achieve the goals pre-set by our Board of Directors.

Prior to the beginning of each fiscal year, our Board of Directors, in consultation with the CEO other than with respect to himself, determines the financial objectives upon which annual bonuses for the fiscal year will be based, and establishes a target award for each executive officer. After the end of the fiscal year, the Board of Directors, in consultation with the CEO (other than with respect to himself), determines the extent to which the financial objective(s) were met, and calculates the formula payout level for each executive officer. In addition, our CEO evaluates each executive officer’s overall individual performance (other than his own) and makes recommendations to the Board of Directors regarding the formula bonus payout level described above. Our Board of Directors takes into account the CEO’s recommendations and conducts the same analysis for the CEO, and determines the final bonus amounts.

Long-term equity compensation

Our equity program, which we have historically administered through our 2004 Management Incentive Plan, is designed to be sufficiently competitive to allow us to attract and retain talented executives. We have historically used non-qualified stock options as the form of equity award for executives. Because we award stock options with an exercise price equal to the fair market value of our common stock on the date of grant, these options will have value to our NEOs only if the market price of our common stock increases after the date of grant. Our stock option awards generally vest and become exercisable at a rate of 25% each year, commencing with the first anniversary of the grant. Our Board of Directors believes that these stock option awards align the interests of our named executive officers with those of the company and its stockholders, because they create the incentive to build stockholder value over the long-term. In addition, our Board of Directors believes the vesting provisions of our equity awards enhances our ability to retain our executives. In order to attract and retain highly-qualified executives, we generally compare our equity compensation program to compensation programs provided by other private equity-backed companies in our market.

We generally grant stock options to executive officers in connection with their hiring. The size of the initial stock option award is determined based on the executive’s position with us and takes into consideration the executive’s base salary and other compensation. The initial stock option awards are intended to provide the executive with an incentive to build value in the organization over an extended period of time, while remaining consistent with our overall compensation philosophy. We may also grant additional stock option grants in recognition of a commendable performance and in connection with a significant change in responsibilities, past performance and anticipated future contributions of the executive officer, the executive’s overall compensation package and the executive’s existing equity holdings. Stock options are granted with an exercise price equal to the fair value of our stock on the applicable date of grant. Following the consummation of this offering, we expect to determine fair value for purposes of stock option pricing based on the most recent closing price of our common stock on the New York Stock Exchange.

In conjunction with this offering, we intend to adopt the 2011 Equity Incentive Plan and grant Messrs. Mack, Glennon, Luckhurst, Link and Shapiro additional stock options, as discussed in “—Actions Taken Subsequent to Fiscal 2010.”

Other compensation

We also provide limited other executive benefits and perquisites and limited change in control benefits to our named executive officers as described further under “—Fiscal 2010 Compensation Decisions” below.

 

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Compensation Decision Process

Historic

Prior to this offering, we were a privately-held company with a relatively small number of stockholders. As a result, we have not been subject to any stock exchange listing or SEC rules requiring a majority of our Board of Directors to be independent. Since our formation, our Board of Directors has overseen the compensation of our executive officers and our executive compensation programs and initiatives. While we have had a Compensation Committee of the Board of Directors, this committee has acted primarily in an advisory role, assisting the Board of Directors in compensation matters. The Board of Directors has also sought, and received, significant input from our CEO with regard to the performance and compensation of executives other than himself. In addition, certain of our directors prior to this offering had significant experience with private equity-backed companies and the executive compensation practices of such companies, and have applied this knowledge and experience to their judgments regarding our compensation decisions.

Post-offering

Prior to the consummation of this offering, we expect our Board of Directors to adopt a charter for the Compensation Committee that is compliant with the applicable requirements of the New York Stock Exchange and the SEC rules and regulations. In accordance with the new charter, the Compensation Committee will determine and approve the annual compensation of our CEO and recommend to the Board of Directors proposed compensation for our other executive officers, and will regularly report its compensation decisions to the full Board of Directors. The Compensation Committee will also administer our equity compensation plans, including our 2011 Equity Incentive Plan, which will become effective prior to the consummation of this offering. The Compensation Committee has not yet made significant decisions about the process that it will employ in performing these functions. As we gain experience as a public company, we expect that the specific direction, emphasis and components of our executive compensation program will continue to evolve. Accordingly, the compensation paid to our named executive officers for fiscal 2010 may not necessarily be indicative of how we may compensate our named executive officers following this offering.

Fiscal 2010 Compensation Decisions

Base Salary

In past years, the Board of Directors has reviewed the base salaries of our NEOs in the fourth quarter of each fiscal year, taking into account their general knowledge of the compensation practices within our industry, our CEO’s base salary recommendations, the scope of each NEO’s performance, individual contributions, responsibilities, experience, prior salary level and, in the case of a promotion, current position. As part of our annual review process, our Board of Directors approved annual increases in base salary for each of our NEOs effective at the beginning of fiscal 2010. These increases were 4.0% for all our NEOs and took into account accomplishments of each individual during the prior fiscal year. Mr. Mack’s base salary increased from $315,000 to $327,600; Mr. Glennon’s base salary increased from $200,000 to $208,000; Mr. Luckhurst’s base salary increased from $200,000 to $208,000; Mr. Link’s base salary increased from $180,000 to $187,200; and Mr. Shapiro’s base salary increased from $174,500 to $181,480. During the course of fiscal 2010, the Board of Directors increased each of Messrs. Glennon’s and Luckhurst’s base salary to $250,000 in connection with their respective promotions to Executive Vice President.

Subsequent to this offering, we expect our Compensation Committee to conduct an annual review of each NEO’s base salary, with input from our CEO (other than with respect to himself), and to make adjustments, including downward adjustments, as it determines to be reasonable and necessary to reflect the scope of a NEO’s performance, individual contributions, responsibilities, experience, prior salary level, position (in the case of a promotion) and market conditions.

 

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Cash Bonus

Our Board of Directors adopted an annual cash bonus plan for fiscal 2010 in order to reward the performance of our executive officers in achieving our financial and strategic objectives. Under the fiscal 2010 bonus plan, our Board of Directors established threshold, target and maximum bonus amounts (expressed as a percentage of base salary) for each of our NEOs that would become payable upon the achievement of the applicable performance metric. The Board of Directors designed the bonus program so that the performance goals, even at the threshold level, would require a significant level of performance, and the target and maximum bonus amounts would be substantially more difficult to achieve. The following table shows the 2010 bonus targets as a percentage for each NEO’s base salary:

 

Named Executive Officer

   Threshold Bonus
Amount
    Target Bonus
Amount
    Maximum Bonus
Amount
 
   (as a percentage of base salary)  

Andrew T. Mack

     15.0     30.0     40.0

Daniel P. Glennon

     12.5     25.0     35.0

Peter M. Luckhurst

     12.5     25.0     35.0

Juergen W. Link

     10.0     20.0     30.0

Robert A. Shapiro

     10.0     20.0     30.0

For fiscal 2010, the Board of Directors utilized as the objective performance metric our achievement of Adjusted EBITDA targets. The Board of Directors chose Adjusted EBITDA as the objective performance metric as this metric tracks both company earnings and cash flow and is indicative of our overall market value. For purposes of our cash bonus plan for fiscal 2010, Adjusted EBITDA is defined as earnings before interest, tax, depreciation and amortization, excluding fees paid to Parallel pursuant to the advisory services fee agreement with Parallel and reimbursement of travel-related expenses incurred to attend meetings of the Board of Directors. The Board of Directors determined that use of Adjusted EBITDA was more appropriate than EBITDA as the objective performance metric because Adjusted EBITDA excludes the impact of certain categories of Board-related expenses over which our NEOs had no control in the period.

For purposes of our cash bonus plan for fiscal 2010, the Adjusted EBITDA targets were set at threshold, target and maximum amounts as follows:

 

    

Adjusted EBITDA

 
     (dollar amounts in millions)  

Threshold

   $   19.1   

Target

     20.1   

Maximum

   $ 24.1 (1) 

 

(1) Represents the maximum Adjusted EBITDA amount for all NEOs other than Mr. Mack. The maximum Adjusted EBITDA for Mr. Mack was $26.1 million.

The Adjusted EBITDA performance metric was applied to all our NEOs, with the Board of Directors reserving the right, in the case of Messrs. Luckhurst and Shapiro, to make a negative adjustment based on the NEO’s performance against additional specified operating metrics. In the case of Mr. Luckhurst, the applicable operating metrics were field contributions, store payroll and other store operating costs. In the case of Mr. Shapiro, the applicable operating metric was average capital expenditures for new stores. At the time the Adjusted EBITDA performance metrics were set, our Board of Directors believed that the metrics were challenging and that the achievement of the performance metrics at the target level would require superior performance.

 

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In making its award decisions, the Board of Directors took into account that our actual Adjusted EBITDA for fiscal 2010 of $28.3 million exceeded the Adjusted EBITDA target amount of $20.1 million by over $8 million, or approximately 41%. The Board of Directors determined that because our financial performance exceeded the Adjusted EBITDA maximum amount, each of our NEOs was awarded the maximum payout under the 2010 bonus plan. In light of Messrs. Luckhurst’s and Shapiro’s performance against their respective specified operating metrics, the Board did not make a negative adjustment to their payouts. The actual payouts to each NEO were as follows:

 

Named Executive Officer

   Target Bonus
Amount
     Actual Bonus
Amount
 

Andrew T. Mack

   $ 98,280       $ 131,040   

Daniel P. Glennon

     55,029         77,040   

Peter M. Luckhurst

     55,029         77,040   

Juergen W. Link

     37,440         56,160   

Robert A. Shapiro

   $ 36,960       $ 54,444   

Long-Term Equity Based Compensation

In fiscal 2010, our Board of Directors did not grant any equity awards to our executive officers.

Other Executive Benefits and Perquisites

We provide the following benefits to our executive officers:

 

   

health, disability and life insurance;

 

   

vacation, personal holidays and sick days; and

 

   

a 401(k) plan.

Unlike our other eligible employees, for our executive officers, we pay the entire amount of the health insurance premiums. We also carry a separate disability insurance policy for our executive officers. We pay the entire premiums for our executive officers who are eligible for this additional disability insurance policy. We believe these benefits are generally consistent with those offered by other companies with which we compete for executive talent.

Severance and Change in Control

We provide limited benefits to certain of our NEOs upon termination and changes in control, as summarized below.

Employment Agreements. We are party to existing employment agreements with Messrs. Mack and Link, which were amended and restated as of April 22, 2011. We have entered into employment agreements with Messrs. Glennon and Luckhurst dated as of April 22, 2011. See “—Agreements with Executives.” The amended and restated employment agreements with Messrs. Mack and Link and the employment agreements with Messrs. Glennon and Luckhurst provide for severance and other benefits which are designed to provide economic protection so that an executive can remain focused on our business without undue personal concern in the event that his position is eliminated or significantly altered by us, which is particularly important in light of the executives’ leadership roles at the company. The Board of Directors believes that providing severance or similar benefits is common among similarly situated companies and remains essential to recruiting and retaining key executives, which is a fundamental objective of our executive compensation program. For more information regarding the potential payments and benefits that would have been provided to our named executive officers in connection with a termination of employment on January 30, 2011 had Messrs. Mack’s and Link’s amended and restated employment agreements and Messrs. Glennon’s and Luckhurst’s employment agreements been in effect on such date, please see “—Potential Payments upon Termination or Change in Control,” below.

 

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Change in Control Provisions. The prospect of a change in control of the company can cause significant distraction and uncertainty for executive officers and, accordingly, the Board of Directors believes that appropriate change in control provisions in equity award agreements are important tools for aligning executives’ interests in change in control transactions with those of our stockholders by allowing our executive officers to focus on strategic transactions that may be in the best interest of our stockholders without undue concern regarding the effect of such transactions on their continued employment.

Accordingly, upon a change in control or a qualified public offering (as such terms are defined in the applicable award agreement), any unvested stock options granted pursuant to the 2004 Management Incentive Plan automatically and immediately vest, and the holder of such options may exercise such options in whole or in part thereafter. This offering constitutes a qualified public offering and therefore 100% of the unvested stock options of Mr. Link will become vested. For a discussion of the impact of a change of control on equity awards that may be made under the 2011 Equity Incentive Plan, which we intend to adopt prior to the consummation of this offering, see “—2011 Equity Incentive Plan—Change in Control.”

For more information regarding the potential payments and benefits that would be provided to our named executive officers in connection with a change in control on January 30, 2011, please see “—Potential Payments upon Termination or Change in Control,” below.

Other Compensation Practices and Policies

Tax Considerations

Section 162(m) of the Internal Revenue Code of 1986, as amended (“Code”), generally disallows a federal income tax deduction to public corporations for compensation greater than $1 million paid for any fiscal year to the corporation’s Chief Executive Officer, a Chief Financial Officer and to the three most highly compensated executive officers other than the Chief Executive Officer and Chief Financial Officer. As we are not currently publicly-traded, our Board of Directors has not previously taken the deductibility limit imposed by Section 162(m) into consideration in setting compensation. We expect that our Compensation Committee will adopt a policy at some point in the future that, where reasonably practicable, will seek to qualify the variable compensation paid to our executive officers for an exemption from the deductibility limitations of Section 162(m). Until such policy is implemented, our Compensation Committee may, in its judgment, authorize compensation payments that do not consider the deductibility limit imposed by Section 162(m) when it believes that such payments are appropriate to attract and retain executive talent. Under a transition rule, for a limited period of time after a company becomes publicly held, the deduction limits do not apply to any compensation paid pursuant to a compensation plan or agreement that existed when the company was not publicly held.

Policy regarding the timing of equity awards

As a privately-owned company, there has been no market for our common stock. Accordingly, in fiscal 2010, we had no program, plan or practice pertaining to the timing of stock option grants to executive officers coinciding with the release of material non-public information. We do not, as of yet, have any plans to implement such a program, plan or practice after becoming a public company. However, we intend to implement policies to ensure that equity awards are granted at fair market value on the date of grant.

Stock Ownership Policies

We have not established stock ownership or similar guidelines with regard to our executive officers. All of our executive officers currently have a direct or indirect, through their stock option holdings, equity interest in our company, and we believe that they regard the potential returns from these interests as a significant element of their potential compensation for services to us.

 

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Table of Contents
Index to Financial Statements

Recoupment Policy

We currently do not have a recoupment policy to adjust or recover bonuses or incentive compensation paid to executive officers where such bonuses or payments were based on financial statements that were subsequently restated or otherwise amended in a manner that would have reduced the size of such bonuses or payments. Once we are publicly traded, we will become subject to the recoupment requirements under Sarbanes-Oxley, the Dodd-Frank Wall Street Reform and Consumer Protection Act and other applicable laws.

Risk Considerations in Our Compensation Program

We believe that the mix and design of the elements of our employee compensation policies and practices do not motivate imprudent risk taking. Consequently, we are satisfied that any potential risks arising from our employee compensation policies and practices are not reasonably likely to have a material adverse effect on the company.

Actions Taken Subsequent to Fiscal 2010

Employment Arrangements

With effect from April 22, 2011, we entered into amended and restated employment agreements with Messrs. Mack and Link and new employment agreements with Messrs. Glennon and Luckhurst. The terms and conditions of these new or amended and restated employment arrangements are set forth below.

Amended and Restated Employment Agreements with Messrs. Mack and Link. Under Messrs. Mack’s and Link’s amended and restated employment agreements, each of Messrs. Mack’s and Link’s term of employment will be for a period of three years, commencing on the effective date of the amended and restated agreements, subject to automatic renewal for additional one-year terms. Under his amended and restated agreement, Mr. Mack’s base salary is $343,980 (equivalent to his base salary for fiscal 2011). Under his amended and restated agreement, Mr. Link’s base salary is $196,560 (equivalent to his base salary for fiscal 2011). Each of Messrs. Mack and Link will be eligible to participate in all pension, medical, retirement and other benefit plans and programs generally available to our senior officers. Under each o