10-K 1 tru201210k.htm FORM 10-K TRU 2012 10K


 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
 
 
 
  ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the fiscal year ended February 2, 2013 Commission file number 1-11609
 
TOYS “R” US, INC.
(Exact name of registrant as specified in its charter)
 
 
 
Delaware
 
22-3260693
(State or other jurisdiction of
incorporation or organization)
 
(IRS Employer
Identification Number)
 
 
One Geoffrey Way
Wayne, New Jersey
 
07470
(Address of principal executive offices)
 
(Zip code)
(973) 617-3500
(Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) or 12(g) of the Act: None
 
 
 
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    Yes  ¨    No  x
Indicate by check mark whether the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act.    Yes  x    No  ¨
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  ¨    No  ¨
(Note: As a voluntary filer not subject to the filing requirements of Section 13 or 15(d) of the Exchange Act, the registrant has filed all reports pursuant to Section 13 or 15(d) of the Exchange Act during the preceding 12 months as if the registrant were subject to such filing requirements.)
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  ¨
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.    x
Indicate by checkmark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definition of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one)
Large accelerated filer
 
¨
  
Accelerated filer
 
¨
 
 
 
 
Non-accelerated filer
 
x  (Do not check if a smaller reporting company)
  
Smaller reporting company
 
¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).    Yes  ¨    No  x
As of March 13, 2013, there were outstanding 49,212,913 shares of common stock, $0.001 par value per share, of Toys “R” Us, Inc., none of which were publicly traded.
DOCUMENTS INCORPORATED BY REFERENCE
None
 




Forward-Looking Statements
This Annual Report on Form 10-K, the other reports and documents that we have filed or may in the future file with the Securities and Exchange Commission and other publicly released materials and statements, both oral and written, that we have made or may make in the future, may contain “forward looking” statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, and such disclosures are intended to be covered by the safe harbors created thereby. These forward looking statements reflect our current views with respect to, among other things, our operations and financial performance. All statements herein or therein that are not historical facts, including statements about our beliefs or expectations, are forward-looking statements. We generally identify these statements by words or phrases, such as “anticipate,” “estimate,” “plan,” “project,” “expect,” “believe,” “intend,” “foresee,” “forecast,” “will,” “may,” “outlook” or the negative version of these words or other similar words or phrases. These statements discuss, among other things, our strategy, store openings, integration and remodeling, the development, implementation and integration of our Internet business, future financial or operational performance, projected sales or earnings per share for certain periods, comparable store net sales from one period to another, cost savings, results of store closings and restructurings, outcome or impact of pending or threatened litigation, domestic or international developments, amount and allocation of future capital expenditures, growth initiatives, inventory levels, cost of goods, selection and type of merchandise, marketing positions, implementation of safety standards, future financings, estimates regarding future effective tax rates, and other goals and targets and statements of the assumptions underlying or relating to any such statements.
These statements are subject to risks, uncertainties and other factors, including, among others, the seasonality of our business, competition in the retail industry, changes in our product distribution mix and distribution channels, general economic factors in the United States and other countries in which we conduct our business, consumer spending patterns, our ability to implement our strategy, the availability of adequate financing, access to trade credit, changes in consumer preferences, our dependence on key vendors for our merchandise, political and other developments associated with our international operations, costs of goods that we sell, labor costs, transportation costs, domestic and international events affecting the delivery of toys and other products to our stores, product safety issues including product recalls, the existence of adverse litigation, changes in laws that impact our business, our substantial level of indebtedness and related debt-service obligations, restrictions imposed by covenants in our debt agreements and other risks, uncertainties and factors set forth under Item 1A entitled “RISK FACTORS” of this Annual Report on Form 10-K and in our other reports and documents filed with the Securities and Exchange Commission. In addition, we typically earn a disproportionate part of our annual operating earnings in the fourth quarter as a result of seasonal buying patterns and these buying patterns are difficult to forecast with certainty. These factors should not be construed as exhaustive, and should be read in conjunction with the other cautionary statements that are included in this report. We believe that all forward-looking statements are based on reasonable assumptions when made; however, we caution that it is impossible to predict actual results or outcomes or the effects of risks, uncertainties or other factors on anticipated results or outcomes and that, accordingly, one should not place undue reliance on these statements. Forward-looking statements speak only as of the date they were made, and we undertake no obligation to update these statements in light of subsequent events or developments unless required by the Securities and Exchange Commission’s rules and regulations. Actual results may differ materially from anticipated results or outcomes discussed in any forward-looking statement.





INDEX
 
 
 
 
 
 
PAGE
PART I.
 
 
 
 
Item 1.
Item 1A.
Item 1B.
Item 2.
Item 3.
Item 4.
 
 
PART II.
 
 
 
 
Item 5.
Item 6.
Item 7.
Item 7A.
Item 8.
Item 9.
Item 9A.
Item 9B.
 
 
PART III.
 
 
 
 
Item 10.
Item 11.
Item 12.
Item 13.
Item 14.
 
 
PART IV.
 
Item 15.
 
 
 
 
 
 





PART I

ITEM 1.
BUSINESS
As used herein, the “Company,” “we,” “us,” or “our” means Toys “R” Us, Inc., and its consolidated subsidiaries, except as expressly indicated or unless the context otherwise requires. Our fiscal year ends on the Saturday nearest to January 31 of each calendar year. This Annual Report on Form 10-K focuses on our last three fiscal years ended as follows: fiscal 2012 ended February 2, 2013; fiscal 2011 ended January 28, 2012; and fiscal 2010 ended January 29, 2011. With the exception of fiscal 2012, which includes 53 weeks, all other fiscal years presented include 52 weeks. References to 2012, 2011 and 2010 are to our fiscal years unless otherwise specified.
Our Business
We are the leading global specialty retailer of toys and juvenile products as measured by Net sales. Toys “R” Us is recognized as the toy and juvenile (including baby) authority. We sell a variety of products in the core toy, entertainment, juvenile, learning and seasonal categories through our retail locations and the Internet. Our brand names are highly recognized in North America, Europe and Asia, and our expertise in the toy and juvenile retail space, our broad range of product offerings, our substantial scale and geographic footprint and our strong vendor relationships account for our market-leading position and distinguish us from the competition. We believe we offer the most comprehensive year-round selection of toys and juvenile products among omnichannel retailers, including a broad assortment of private label and exclusive merchandise unique to our stores.
As of February 2, 2013, we operated 1,540 stores and licensed an additional 163 stores. These stores are located in 36 countries and jurisdictions around the world under the Toys “R” Us, Babies “R” Us and FAO Schwarz banners. In addition, we operate Toys “R” Us Express stores (“Express stores”), smaller format stores primarily open on a short-term basis during the holiday season. During the fiscal 2012 holiday season, we operated 303 Express stores, of which 125 were still open as of February 2, 2013. Of the 125 Express stores that remained open, 59 have been included in our overall store count as they each have a cumulative lease term of at least two years. We also own and operate websites including Toysrus.com, Babiesrus.com, eToys.com, FAO.com and toys.com, as well as other Internet sites we operate in our international markets. For fiscal 2012, we generated Net sales of $13.5 billion, Net earnings of $38 million and Adjusted EBITDA of $1.0 billion. For the definition of Adjusted EBITDA, an explanation of why we present it and a description of the limitations of this non-GAAP measure, as well as a reconciliation to Net earnings, see Item 6 entitled “SELECTED FINANCIAL DATA” of this Annual Report on Form 10-K.
History
Our Company was founded in Washington D.C. in 1948 when Charles Lazarus opened a baby furniture store, Children’s Bargain Town. The Toys “R” Us name made its debut in 1957. In 1978, we completed an initial public offering of our common stock. When Charles Lazarus retired as our Chief Executive Officer (“CEO”) in 1994, we operated or licensed over 1,000 stores in 17 countries and jurisdictions. In 1996, we established the Babies “R” Us brand, further solidifying our reputation as a leading consumer destination for children and their families.
On July 21, 2005, we were acquired by an investment group led by entities advised by or affiliated with Bain Capital Partners, LLC, Kohlberg Kravis Roberts & Co. L.P., and Vornado Realty Trust. We refer to this collective ownership group as our “Sponsors.” Upon the completion of this acquisition, we became a private company.
Subsequent Event
On February 13, 2013, the Company announced that Gerald L. Storch will transition from his role as CEO, while remaining in his capacity as Chairman of the Board.  Mr. Storch will continue in his position as CEO during the transition period.
Strategy
We have developed a juvenile integration strategy which features an integrated shopping format for our guests by combining the Toys “R” Us and Babies “R” Us merchandise offerings under one roof. We call this format a side-by-side (“SBS”) store. SBS stores are a combination of Toys “R” Us stores and Babies “R” Us stores, and may be the result of a conversion or relocation and, in certain cases, may be accompanied by the closure of one or more existing stores. In addition, SBS stores may also be constructed in a new location and market.
The integration of juvenile merchandise (including baby products) with toy and entertainment offerings has allowed us to create a “one-stop shopping” experience for our guests, and enabled us to obtain the operating benefits associated with combining product lines under one roof. Our product assortment allows us to capture new customers during pregnancy, helping them prepare for the arrival of their newborn. We then become a resource for infant products such as baby formula,

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diapers and solid foods, as well as baby clothing and learning aids. We believe this opportunity to establish first contact with new parents enables us to develop long-lasting customer relationships with them as their children grow and they transition to becoming consumers of our products. We continue to build on these relationships as these children mature and eventually become parents themselves. Additionally, juvenile merchandise staples such as baby formula, diapers and infant clothing provide us with a mitigant to the inherent seasonality in the toy business.
In connection with our juvenile integration strategy, we continue to increase the number of SBS stores both domestically and internationally. Through the end of fiscal 2012, we have converted existing stores into 281 SBS store formats. In addition, we have opened 93 SBS stores (51 of which were relocations of existing stores). We expect that our integrated store format will continue to be a driver of our revenue and profit growth going forward.
In addition to our SBS store format, we continue to enhance our juvenile integration strategy with our Babies “R” Us Express (“BRU Express”) and Juvenile Expansion formats which devote additional square footage to our juvenile products within our traditional Toys “R” Us stores. Since implementing these integrated store formats, we have augmented 100 existing Toys “R” Us stores with these layouts.
We leverage our e-commerce business by integrating our Internet capabilities with our stores. The “Buy Online, Pick Up In Store” program, available within all stores in the United States and the United Kingdom, offers customers the ability to browse and shop from the comfort of their own homes, while giving them the flexibility to pick up their purchases in-store usually within the same day. During fiscal 2012, the Company introduced the “Ship to Store” program domestically, which allows customers to purchase on-line items that may not be currently available in their local store, and have their order delivered to the local store of their choice, free of shipping charges. We also introduced “Pay In-Store,” which enables customers to shop on-line and pay for their items in any one of our stores across the United States.
In addition, the “Ship from Store” program leverages inventory from the majority of our stores to improve the speed with which customers receive their items, as well as provide an additional option to fulfill on-line orders. This feature is also available in several of our international countries, and we expect to implement the other programs to our foreign markets in the future. In addition, our loyalty programs, including baby registry, birthday club and Rewards “R” Us programs, all offer on-line functionality which deepens our relationship with our guests and complements the in-store experience.
Internationally, we have an existing on-line presence in Australia, Austria, Canada, France, Germany, Japan, the Netherlands, Portugal, Spain, Switzerland and the United Kingdom, and during fiscal 2012, we expanded our global reach through the introduction of our China website. We also introduced international shipping for on-line orders to more than 60 countries across Asia, the Caribbean, Central America, Europe, North America and South America. This new service allows customers to place orders domestically and have them delivered across the world, and more importantly, it allows us to expand the global reach of our brands to countries where we do not currently have any physical stores. For fiscals 2012, 2011 and 2010, our consolidated e-commerce business generated net sales of approximately $1.1 billion, $1.0 billion and $782 million, respectively.
We believe that we may have the potential to grow the number of stores in our international store portfolio, particularly those in the emerging economies which are seeing overall GDP growth and rising incomes. In the United States, we do not see the same opportunity.
In line with our strategy to expand our global reach to new international markets, during fiscal 2011, we acquired a 70% ownership interest in Toys (Labuan) Holding Limited (“Labuan”) from Li & Fung Retailing Limited (“Li & Fung”). As of February 2, 2013, Labuan operated 100 Toys “R” Us retail stores (90 of which were acquired in fiscal 2011) in Brunei, China, Hong Kong, Malaysia, Singapore, Taiwan and Thailand. In our store count, these stores are considered part of our operated locations upon acquisition. Additionally, Labuan has sublicensed to a third party the right to operate stores in the Philippines and Macau. Refer to Note 17 to our Consolidated Financial Statements entitled “ACQUISITIONS” for further details. Additionally, in fiscal 2011, we established wholly-owned business operations in Poland where we opened our first store in the capital city of Warsaw.
We will continue to focus on expanding our gross margins primarily through optimizing pricing, increasing our private label penetration and increasing our use of direct sourcing. We will also continue to optimize our cost structure and enhance efficiencies throughout the organization to manage our selling, general and administrative expenditures.
Domestically in fiscal 2012, the Company introduced several programs that benefited customers during our holiday selling season. We offered a free, no minimum purchase layaway program early in the season, which allowed customers to take full advantage of the flexible payment terms provided by layaway. In addition, our “Price Match Guarantee” program matched competitors’ in-store pricing on identical items, as well as identical items sold on our websites. Also, for the first time, we offered the Hot Toy Reservation program, a complimentary service that enabled guests to reserve the hottest toys of the holiday

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season. This service was available for the 50 items on the Company’s annual Holiday Hot Toy List. These programs are also available at select locations within our international markets.
As of the end of fiscal 2012, we operated all of the “R” Us branded retail stores in the United States and Puerto Rico and approximately 80% of the 828 “R” Us branded retail stores internationally (excluding temporary Express store locations). The balance of the “R” Us branded retail stores outside the United States are operated by licensees. Licensing fees did not have a material impact on our Net sales.
As of February 2, 2013, we operated 1,540 retail stores and licensed an additional 163 retail stores worldwide in the following formats:
Operated Stores
852 traditional toy stores, which typically range in size from 20,000 to 50,000 square feet and devote approximately 6,000 square feet to boutique areas for juvenile (including baby) products (BRU Express and Juvenile Expansion formats devote approximately an additional 4,000 square feet and 1,000 square feet, respectively, for juvenile - including baby - products);
374 SBS stores, which typically range in size from 30,000 to 70,000 square feet and devote approximately 20,000 to 40,000 square feet to traditional toy products and approximately 10,000 to 30,000 square feet to juvenile (including baby) products;
252 juvenile stores, which typically range in size from 30,000 to 45,000 square feet and devote approximately 2,000 to 3,000 square feet to traditional toy products;
59 Express stores, which typically range in size from 2,000 to 7,000 square feet, each with a cumulative lease term of at least two years; and
3 flagship store locations (the Toys “R” Us store in Times Square, the FAO Schwarz store on 5th Avenue and the Babies “R” Us store in Union Square – all in New York City), which range in size from approximately 55,000 to 105,000 square feet.
Licensed Stores
163 “R” Us branded retail stores ranging in various sizes.
In addition to these stores, during the fiscal 2012 holiday selling season, we operated an additional 244 temporary Express stores globally in shopping malls, outlet malls and other shopping centers located in high traffic areas, 66 of which remained open as of February 2, 2013. These locations typically range in size from approximately 2,000 to 7,000 square feet, each has a cumulative lease term of less than two years and are not included in our overall store count.
Our extensive experience in retail site selection has resulted in a portfolio of stores that includes attractive locations in many of our chosen markets. Markets for new stores and formats are selected on the basis of proximity to other “R” Us branded stores, demographic factors, population growth potential, competitive environment, availability of real estate and cost. Once a potential market is identified, we select a suitable location based upon several criteria, including size of the property, access to major commercial thoroughfares, proximity of other strong anchor stores, visibility and parking capacity.
Our Business Segments
Our business has two reportable segments: Toys “R” Us – Domestic (“Domestic”) and Toys “R” Us – International (“International”). See Note 11 to our Consolidated Financial Statements entitled “SEGMENTS” for our segments’ financial results for fiscals 2012, 2011 and 2010. The following is a brief description of our segments:
Domestic — Our Domestic segment sells a variety of products in the core toy, entertainment, juvenile (including baby), learning and seasonal categories through 875 stores that operate in 49 states in the United States and Puerto Rico and through the Internet. Domestic Net sales in fiscal 2012 were derived from 393 traditional toy stores (including 83 BRU Express and Juvenile Expansion formats), 239 juvenile stores, 204 SBS stores, 36 permanent Express stores and our three flagship stores in New York City. Additionally, we generated Net sales through our temporary Express store locations. Domestic Net sales were $8.1 billion for fiscal 2012, which accounts for 60% of our consolidated Net sales.
International — Our International segment sells a variety of products in the core toy, entertainment, juvenile (including baby), learning and seasonal categories through 665 operated and 163 licensed stores in 35 countries and jurisdictions and through the Internet. In addition to fees received from licensed stores, International Net sales in fiscal 2012 were derived from 459 traditional toy stores (including 17 BRU Express formats), 170 SBS stores, 23 permanent Express stores and 13 juvenile stores. Additionally, we generated Net sales through our temporary Express store locations. Our operated stores are located in Australia, Austria, Brunei, Canada, China, France, Germany, Hong

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Kong, Japan, Malaysia, Poland, Portugal, Singapore, Spain, Switzerland, Taiwan, Thailand and the United Kingdom. International Net sales were $5.4 billion for fiscal 2012, which accounts for 40% of our consolidated Net sales.
Strengths
We believe we offer our guests the most comprehensive year-round selection of merchandise in the retail toy and juvenile (including baby) categories among omnichannel retailers through our “R” Us branded stores and through the Internet. On average, our domestic and international stores (other than Express stores) offer approximately 12,000 and 8,000 items year-round, respectively. Express stores, due to their size, typically carry approximately 2,000 items. We believe that our differentiated product assortment, private label and exclusively licensed product offerings and quality service levels enable us to command a reputation as the shopping destination for toys and juvenile (including baby) products. We seek to differentiate ourselves from our competitors in several key areas, including product selection, product presentation, service, in-store experience and marketing. We are able to provide vendors with a year-round distribution outlet for the broadest assortment of their products. We continue to grow and strengthen our Domestic and International segments by:
focusing on the expansion of our juvenile product offerings through our SBS, BRU Express and Juvenile Expansion store formats;
enhancing our product offerings and adding private label and exclusive products to our mix, including unique and exceptional items sold through the FAO Schwarz brand;
offering value to customers through a convenient omnichannel (store and Internet) shopping experience;
renovating and updating or relocating our existing stores to enhance the shopping experience and continually reviewing the market for new store opportunities;
reaching customers, through differentiated value propositions, with our portfolio of e-commerce brands;
achieving a high degree of customer interaction by leveraging our comprehensive, state-of-the-art baby registry and birthday club in the United States and our world-wide Rewards “R” Us program; and
continuing to refine our in-store guest experience and improving customer service.
Product Selection and Merchandise
Our product offerings are focused on serving the needs of parents, grandparents and other gift-givers interested in purchasing merchandise in our primary product categories:
Core Toy — boys and girls toys, such as action figures, dolls and doll accessories, role play toys and vehicles;
Entertainment — video game software, systems and accessories, tablet computers, such as our proprietary tabeo brand, electronics and other related products;
Juvenile — focused on serving newborns and children up to four years of age by offering a broad array of products, such as baby gear, infant care products, apparel, commodities, furniture, bedding and room décor;
Learning — educational electronics and developmental toys, such as our Imaginarium products in the United States and World of Imagination products at our International locations, construction toys, games, creative activities and pre-school merchandise which includes learning products, activities and toys; and
Seasonal — toys and other products geared toward holidays (including Christmas, Hanukkah, Three Kings, Carnival, Easter, Golden Week and Halloween) and summer activities, as well as bikes, sporting goods, play sets and other outdoor products.
We offer a wide selection of popular national toy and juvenile brands including many products that are exclusively offered at, or launched at, our stores. Over the past few years, we have worked with key resources to obtain exclusive products and expand our private label brands enabling us to earn higher margins and offer products that our guests will not find elsewhere. We offer a broad selection of private label merchandise under names such as BABIES “R” US, JOURNEY GIRLS, IMAGINARIUM, FAST LANE, YOU & ME, JUST LIKE HOME, TRUE HEROES, TOTALLY ME!, DREAM DAZZLERS and FAO SCHWARZ in our stores. We believe these private label brands provide a platform on which we can expand our product offerings in the future and will further differentiate our products and allow us to enhance profitability. In fiscal 2010, we opened a sourcing office in China to work with our vendors and expand our private label product offerings.
Marketing
We believe that we have achieved our leading market position largely as a result of building highly recognized brand names, strong loyalty programs and delivering superior service to our customers. We use a variety of broad-based and targeted marketing and advertising strategies to reach consumers. These strategies include mass marketing programs such as direct mail, e-mail marketing, targeted magazine advertisements, catalogs/rotos and other inserts in national or local newspapers, national television and radio, targeted door-to-door distribution, direct mailings to loyalty program members and in-store marketing. Our most significant single piece of advertising is “The Great Big Toys “R” Us Book” promotional catalog release, which is distributed through direct mail, newspapers and in-stores during the fourth quarter holiday selling season. We also

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utilize social and digital media to communicate with our guests and keep them informed of new promotions, programs and products.
In addition, we offer unique benefits such as loyalty programs to our customers, including the Rewards “R” Us program, which rewards members for the purchases they make at our stores and on-line at Toysrus.com and Babiesrus.com. Through the Rewards “R” Us program, members are able to take advantage of a variety of exclusive one-time and ongoing benefits, deals and promotions.
Our comprehensive baby registry offered in our stores and on the Internet allows an expectant parent to list desired products and enables gift-givers to tailor purchases to the expectant parent’s specific needs and wishes. Our baby registry also facilitates our direct marketing and customer relationship initiatives, which includes mailings to expecting mothers and new parents.
Other programs include our Wish List, which allows parents and kids to create a tailored list of desired toys that gift-givers can utilize to make their purchases; Geoffrey’s Birthday Club, in which parents receive exciting offers and incentives to help prepare for their child’s birthday and kids receive special gifts and greetings from Geoffrey the Giraffe; and our Credit Card Program, which offers co-branded and private label credit cards in order for customers to finance purchases at our stores, on-line and at other businesses, and receive loyalty benefits, deals and promotions in exchange.
The merchandising and marketing teams work closely to present the products in an engaging and innovative manner and we are focused on enhancing our in-store signage, which is carefully coordinated so that it is consistent with the current television, radio and print advertisements. We regularly change our banners and in-store promotions, which are advertised throughout the year, to attract consumers to visit the stores, to generate strong customer frequency and to increase average sales per customer. Our websites are used to support and supplement the promotion of products in “R” Us branded stores.
Customer Service
Compared with multi-line mass merchandisers, we believe we are able to provide superior service to our customers through our highly trained sales force. We train our store associates extensively to deepen their product knowledge and enhance their targeted selling skills in order to improve customer service in our stores. We are continually working to improve the allocation of products within our stores and reduce waiting times at checkout counters. For the added convenience of our customers, we offer a layaway program and provide a home delivery program.
In addition to our baby registry, we offer a variety of helpful publications and innovative programs, classes and services for the expectant parent, including frequent in-store product demonstrations.
Safety Focus
We have taken a leadership position on product safety. We believe that we have put in place industry-leading product safety standards that meet or exceed United States federally mandated and/or global regulatory requirements in the countries in which we operate. In addition, through our dedicated safety website, safety boards in stores, e-mail blasts and partnerships with noted safety experts and organizations, we provide resources that are used by parents, grandparents and childcare providers to ensure they have the most up-to-date information on product safety and recalls.
Corporate Philanthropy and Community Service
We are proud to have a long tradition at Toys “R” Us of supporting numerous children’s charities. The Toys “R” Us Children’s Fund Inc., a non-profit organization, and Toys “R” Us, Inc. have contributed millions of dollars to charities that keep children safe and help them in times of need. We actively support charities such as the Marine Toys For Tots Foundation, Autism Speaks, Alex’s Lemonade Stand Foundation and Save the Children, among others. Each year the Company also produces a special toy selection guide for differently-abled children. The Company encourages its employees to become active in charitable endeavors by matching contributions they make to qualified charities of their choice, and through Volunteer Match, a program that helps them identify charities to assist in their communities. The Company also manages the Geoffrey Fund, Inc., a non-profit organization. The Geoffrey Fund’s sole purpose is to provide assistance to employees affected by natural and personal disasters and relies on donations from employees and funds from the Company to carry out its mission.
Market and Competition
We are the leading global specialty retailer of toys and juvenile products as measured by Net sales. As a specialty retailer, we are able to focus solely on the toys and juvenile products market.
In the domestic markets, we compete with mass merchandisers, such as Wal-Mart, Target and Kmart; consumer electronics retailers, such as Best Buy and GameStop; Internet and catalog businesses, such as Amazon.com (“Amazon”); national and

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regional specialty, department and discount store chains; as well as local retailers in the geographic areas we serve. Our baby registry competes with baby registries of mass merchandisers, other specialty retail formats and regional retailers. In the International toy and electronics markets, we compete with mass merchandisers, discounters and specialty retailers such as Argos, Auchan, Bic Camera, Carrefour, El Corte Ingles, King Jouet, Mothercare, Wal-Mart, and Yamada Dinky. The domestic and international mass merchandisers and discounters aggressively price items in the traditional toy and electronic product categories with larger dedicated selling space during the holiday season in order to build traffic for other store departments.
We believe the principal competitive factors in the toy, juvenile (including baby) and video game products markets are product variety, price, quality, availability, advertising and promotion, convenience or store location, safety and customer support and service. We believe we are able to effectively compete by providing a broader range of merchandise, maintaining in-stock positions, as well as convenient locations, superior customer service and competitive pricing.
Seasonality
Our global business is highly seasonal with sales and earnings highest in the fourth quarter due to the fourth quarter holiday selling season. During fiscals 2012, 2011 and 2010 approximately 43%, respectively, of our total Net sales were generated in the fourth quarter. We typically incur net losses in each of the first three quarters of the year, with a substantial portion of our earnings generated in the fourth quarter. We seek to continuously improve our ability to manage the numerous demands of a highly seasonal business, from the areas of product sourcing and distribution, to the challenges of delivering high sales volumes and excellent customer service during peak business periods. Over the past 60 years, we have developed substantial experience and expertise in managing the increased demand during the holiday season which we believe favorably differentiates us from our competition.
License Agreements
We have license agreements with unaffiliated third party operators located outside the United States. The agreements are largely structured with royalty income paid as a percentage of sales for the use of our trademarks, trade name and branding. While this business format remains a small piece of our overall International business operations, we continue to look for opportunities for market expansion. Our preferred approach is to open stores in our successful Company operated format, but we may choose partnerships or licensed arrangements where we believe it is appropriate due to business climate and risks.

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Geographic Distribution of Domestic Stores
The following table sets forth the location of our Domestic stores as of February 2, 2013:
 
Location
 
Number of Stores
Alabama
 
10

Alaska
 
1

Arizona
 
17

Arkansas
 
5

California
 
111

Colorado
 
12

Connecticut
 
14

Delaware
 
3

Florida
 
57

Georgia
 
27

Hawaii
 
3

Idaho
 
3

Illinois
 
40

Indiana
 
17

Iowa
 
7

Kansas
 
6

Kentucky
 
10

Louisiana
 
9

Maine
 
3

Maryland
 
18

Massachusetts
 
23

Michigan
 
34

Minnesota
 
11

Mississippi
 
5

Missouri
 
16

Montana
 
1

Nebraska
 
4

Nevada
 
10

New Hampshire
 
7

New Jersey
 
43

New Mexico
 
3

New York
 
63

North Carolina
 
21

North Dakota
 
1

Ohio
 
37

Oklahoma
 
7

Oregon
 
8

Pennsylvania
 
47

Rhode Island
 
2

South Carolina
 
10

South Dakota
 
2

Tennessee
 
17

Texas
 
61

Utah
 
8

Vermont
 
1

Virginia
 
26

Washington
 
14

West Virginia
 
4

Wisconsin
 
11

Puerto Rico
 
5

Total (1)
 
875

 
(1)
This includes 36 Express stores that each have a cumulative lease term of at least two years and excludes the remaining 48 temporary Express store locations which remained open as of February 2, 2013. During the fiscal 2012 holiday selling season, we operated 240 Express stores domestically.

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Geographic Distribution of International Stores
The following table sets forth the location of our International operated stores as of February 2, 2013:
Location
 
Number of Stores
Operated
Australia
 
34

Austria
 
15

Brunei
 
1

Canada
 
97

China
 
29

France
 
47

Germany
 
62

Hong Kong
 
13

Japan
 
163

Malaysia
 
21

Poland
 
3

Portugal
 
8

Singapore
 
7

Spain
 
48

Switzerland
 
8

Taiwan
 
19

Thailand
 
10

United Kingdom
 
80

Total (1)
 
665

 
(1)
This includes 23 Express stores that each have a cumulative lease term of at least two years and excludes the remaining 18 temporary Express store locations which remained open as of February 2, 2013. During the fiscal 2012 holiday selling season, we operated 63 Express stores internationally.
The following table sets forth the location of our International licensed stores as of February 2, 2013:
Location
 
Number of Stores
Licensed
Bahrain
 
1

Denmark
 
15

Egypt
 
3

Finland
 
5

Iceland
 
3

Israel
 
21

Kuwait
 
2

Macau
 
1

Norway
 
11

Oman
 
1

Philippines
 
15

Qatar
 
1

Saudi Arabia
 
12

South Africa
 
25

South Korea
 
23

Sweden
 
16

United Arab Emirates
 
8

Total
 
163


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Employees
As of February 2, 2013, we employed approximately 68,000 full-time and part-time individuals worldwide, with approximately 43,000 domestically and 25,000 internationally. These numbers do not include the individuals employed by licensees of our stores. Due to the seasonality of our business, we employed approximately 113,000 full-time and part-time employees worldwide during the fiscal 2012 holiday season. We consider the relationships with our employees to be positive. We believe that the benefits offered to our employees are competitive in relation to those offered by other companies in the retail sector.
Distribution
We operate 20 distribution centers including 10 that support our Domestic operations and 10 that support our International operations (excluding licensed operations). These distribution centers employ warehouse management systems and material handling equipment that help to minimize overall inventory levels and distribution costs. During fiscal 2012, we entered into agreements with third party logistics providers JB Hunt Transport, Inc. and Performance Team Freight Systems, Inc. to manage all services related to the delivery of inventory from our distribution centers to our stores. We believe the flexibility afforded by our warehouse/distribution system and the utilization of third party providers to distribute merchandise provide us with operating efficiencies and the ability to maintain a superior in-stock inventory position at our stores. We continuously seek to improve our supply chain management, optimize our inventory assortment and upgrade our automated replenishment system to improve inventory turnover.
We also have an agreement with Exel, Inc., a leading North American contract logistics provider, who provides additional warehousing and fulfillment services for our Internet operations in the United States. We utilize various third party providers who furnish similar services in our international markets.
Our Vendors
We procure the merchandise that we offer to our customers from a wide variety of domestic and international vendors. In fiscal 2012, we had approximately 4,000 active vendor relationships. For fiscal 2012, our top 20 vendors worldwide, based on our purchase volume in USD, represented approximately 42% of the total products we purchased.
Given our market leadership position, we have been able to develop partnerships with many of our vendors. We provide vendors with a year-round platform for their brand and let them use our stores to test their products. We use our New York City flagship stores (our Toys “R” Us Times Square store, our FAO Schwarz 5th Avenue store and our Babies “R” Us Union Square store) as venues to introduce new products. In return, we obtain greater access to products in demand, support for advertising and marketing efforts, and exclusive access to merchandise. In fiscal 2010, we opened a sourcing office in China to work with our vendors and expand our private label product offering.
Financial Information About Our Segments
Financial information about our segments and our operations in different geographical areas for the last three fiscal years is set forth in Note 11 to the Consolidated Financial Statements entitled “SEGMENTS.”
Trademarks and Licensing
“TOYS “R” US®,” “BABIES “R” US®,” “IMAGINARIUM®,” “GEOFFREY®,” “JOURNEY GIRLS®,” “ANIMAL ALLEY®,” “FAST LANE®,” “DREAM DAZZLERS®,” “YOU & ME®,” the reverse “R” monogram logo and the Geoffrey character logo, as well as variations of our family of “R” Us marks, either have been registered, or have trademark applications pending, with the United States Patent and Trademark Office and with the trademark registries of many other countries. These trademarks are material to our business operations. We believe that our rights to these properties are adequately protected. In addition, we own the United States trademarks (along with certain trademark rights in other countries) associated with eToys.com and KB Toys. We also own the exclusive right and license to use the FAO SCHWARZ trademarks.
Available Information
Our investor relations website is Toysrusinc.com. On this website under “INVESTOR RELATIONS, SEC FILINGS,” we make available, free of charge, our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, and Current Reports on Form 8-K, as well as amendments to those reports as soon as reasonably practicable after we electronically file with the Securities and Exchange Commission (“SEC”).
We are not incorporating by reference in this Annual Report on Form 10-K any information from our websites.
The public may read and copy any materials the Company files with the SEC at the SEC’s Public Reference Room at 100 F Street, NE, Washington, DC 20549. The public may obtain information on the operation of the Public Reference Room by

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calling the SEC at 1-800-SEC-0330. The SEC maintains an Internet site, www.sec.gov, that contains reports, proxy and information statements, and other information regarding issuers that file electronically with the SEC.

ITEM 1A.
RISK FACTORS
Investors should carefully consider the risks described below together with all of the other information in this Annual Report on Form 10-K. The risks and uncertainties described below are not the only ones that we face. Additional risks and uncertainties not presently known to us, or that we currently believe to be less significant than the following risk factors, may also adversely affect our business and operations. If any of the following risks actually occur, our business, financial condition, cash flows or results of operations could be materially adversely affected.
Risks Relating to Our Business
Our business is highly seasonal, and our financial performance depends on the results of the fourth quarter of each fiscal year and, as a result, our operating results could be materially adversely affected if we achieve less than satisfactory sales prior to or during the holiday season.
Our business is highly seasonal. During fiscals 2012, 2011 and 2010, approximately 43%, respectively, of our total Net sales were generated in the fourth quarter. We typically incur net losses in each of the first three quarters of the year, with a substantial portion of our earnings generated in the fourth quarter. As a result, we depend significantly upon the fourth quarter holiday selling season. If we achieve less than satisfactory sales, operating earnings or cash flows from operating activities during the fourth quarter, we may not be able to compensate sufficiently for the lower sales, operating earnings or cash flows from operating activities during the first three quarters of the fiscal year. Our results in any given period may be affected by dates on which important holidays fall and the shopping patterns relating to those holidays. Additionally, the concentrated nature of our seasonal sales means that our operating results could be materially adversely affected by natural disasters and labor strikes, work stoppages, terrorist acts or disruptive global political events, prior to or during the holiday season, as described below.
Our industry is highly competitive and competitive conditions may adversely affect our revenues and overall profitability.
The retail industry is highly and increasingly competitive and our results of operations are sensitive to, and may be adversely affected by, competitive pricing, promotional pressures, competitor credit programs, additional competitor store openings and other factors. As a specialty retailer that primarily focuses on toys and juvenile products, we compete with discount and mass merchandisers, such as Wal-Mart and Target, national and regional chains and department stores, as well as local retailers in the markets we serve. We also compete with national and local discount stores, consumer electronics retailers, supermarkets and warehouse clubs, as well as Internet and catalog businesses. We may be vulnerable to the special competitive pressures from the growing e-commerce activity in the market, both as they may impact our own e-commerce business, and as they may impact the operating results and investment values of our existing physical stores. Competition is principally based on product variety, price, quality, availability, advertising and promotion, convenience or store location, safety and customer support and service. We believe that some of our competitors in the toy market and juvenile products market, as well as in the other markets in which we compete, have a larger market share than our market share. In addition, some of our competitors have greater financial resources, lower merchandise acquisition costs and lower operating expenses than we do.
Much of the merchandise we sell is also available from various retailers at competitive prices. Discount and mass merchandisers use aggressive pricing policies and enlarged toy-selling areas during the holiday season to increase sales and build traffic for other store departments. Our business is vulnerable to shifts in demand and pricing, as well as consumer preferences. Competition in the video game market has increased in recent years as mass merchandisers have expanded their offerings in this market, and as alternative sales and distribution channels (such as Internet retailers and electronic distribution of software) have grown in importance.
The baby registry market is highly competitive, based on convenience, quality and selection of merchandise offerings and functionality. Our baby registry primarily competes with the baby registries of mass merchandisers and other specialty format and regional retailers. Some of our competitors have been aggressively advertising and marketing their baby registries through national television and magazine campaigns. These trends present consumers with more choices for their baby registry needs, and as a result, increase competition for our baby registry.
If we fail to compete successfully, we could face lower sales and may decide or be compelled to offer greater discounts to our customers, which could result in decreased profitability.

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Our sales may be adversely affected by changes in economic factors and changes in consumer spending patterns.
Many economic and other factors outside our control, including consumer confidence, consumer spending levels, employment levels, consumer debt levels, inflation and deflation, as well as the availability of consumer credit, affect consumer spending habits. A significant deterioration in the global financial markets and economic environment, recessions or an uncertain economic outlook adversely affects consumer spending habits and results in lower levels of economic activity. The domestic and international political situation, including the economic health of various political jurisdictions, also affects economic conditions and consumer confidence. In addition, changing economic and regulatory conditions and increasing consumer credit delinquencies may cause banks to re-evaluate their lending practices and terms which could have an adverse effect on our credit card program and consequently, an adverse effect on our sales. Any of these events and factors could cause consumers to curtail spending and could have a negative impact on our financial performance and position in future fiscal periods.
Our operations have significant liquidity and capital requirements and depend on the availability of adequate financing on reasonable terms. If our lenders are unable to fund borrowings under their credit commitments or we are unable to borrow, it could have a significant negative effect on our business.
We have significant liquidity and capital requirements. Among other things, the seasonality of our businesses requires us to purchase merchandise well in advance of the fourth quarter holiday selling season. We depend on our ability to generate cash flows from operating activities, as well as on borrowings under our revolving credit facilities and our credit lines, to finance the carrying costs of this inventory and to pay for capital expenditures and operating expenses. As of February 2, 2013, we had outstanding borrowings of $27 million under the Toys “R” Us – Japan, Ltd. (“Toys – Japan”) unsecured credit lines, outstanding borrowings on our Labuan uncommitted line of credit of $14 million due on demand and no outstanding borrowings under the $1.85 billion secured revolving credit facility (“ABL Facility”), the European and Australian asset-based revolving credit facility (the “European ABL Facility”) or the Toys – Japan uncommitted line of credit due on demand. For fiscal 2012 and fiscal 2011, peak borrowings under our various credit lines were $485 million and $1.1 billion, respectively, as we purchased merchandise for the fourth quarter holiday selling season. If our lenders are unable to fund borrowings under their credit commitments or we are unable to borrow, it could have a significant negative effect on our business. In addition, any adverse change to our credit ratings or our business could negatively impact our ability to refinance our debt on satisfactory terms and could have the effect of increasing our financing costs. While we believe we currently have adequate sources of funds to provide for our ongoing operations and capital requirements for at least the next 12 months, any inability on our part to have future access to financing, when needed, would have a negative effect on our business.
A loss of, or reduction in, trade credit from our vendors could reduce our liquidity, increase our working capital needs and/or limit our ability to purchase products.
Trade credit from our vendors is an important source of financing for the purchase of the inventory we sell in our stores. Accordingly, the loss of, or reduction in, trade credit could have a significant adverse impact on our inventory levels and operating cash flow and negatively impact our liquidity. Our vendors may seek credit insurance to protect against non-payment of amounts due to them. If credit insurance is not available to vendors at reasonable terms or at all, vendors may demand accelerated payment of amounts due to them or require advance payments or letters of credit before goods are shipped to us. Any adverse changes in our trade credit for these or other reasons could increase our costs of financing our inventory or negatively impact our ability to deliver products to our customers, which could in turn negatively affect our financial performance.
We may not retain or attract customers if we fail to successfully implement our strategic initiatives, which could result in lower sales and a failure to realize the benefit of the expenditures incurred for these initiatives.
We continue to implement a series of customer-oriented strategic programs designed to differentiate and strengthen our core merchandise content and service levels and to expand and enhance our merchandise offerings. We seek to improve the effectiveness of our marketing and advertising programs for our “R” Us stores and e-commerce business. The success of these and other initiatives will depend on various factors, including the implementation of our growth strategy, the appeal of our store formats, our ability to offer new products to customers, our financial condition, our ability to respond to changing consumer preferences and competitive and economic conditions. We continuously endeavor to minimize our operating expenses, without adversely affecting the profitability of the business. If we fail to implement successfully some or all of our strategic initiatives, we may be unable to retain or attract customers, which could result in lower sales and a failure to realize the benefit of the expenditures incurred for these initiatives.
If we cannot implement our juvenile integration strategy or open new stores, our future growth will be adversely affected.
Our growth is dependent on both increases in sales in existing stores and the ability to successfully implement our juvenile integration strategy and open profitable new stores. Increases in sales in existing stores are dependent on factors such as

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competition, merchandise selection, store operations and other factors discussed in these Risk Factors. Our ability to successfully implement our juvenile integration strategy in a timely and cost effective manner or open new stores and expand into additional market areas depends in part on the following factors, which are in part beyond our control:
the availability of sufficient funds for the expansion;
the availability of attractive store locations and the ability to accurately assess the demographic or retail environment and customer demand at a given location;
the ability to negotiate favorable lease terms and obtain the necessary permits and zoning approvals;
the absence of occupancy delays;
the ability to construct, furnish and supply a store in a timely and cost effective manner;
the ability to hire and train new personnel, especially store managers, in a cost effective manner;
costs of integration, which may be higher than anticipated; and
general economic conditions.
Delays or failures in successfully implementing our juvenile integration strategy and opening new stores, or achieving lower than expected sales in integrated or new stores, or drawing a greater than expected proportion of sales in integrated or new stores from existing stores, could materially adversely affect our growth and/or profitability. In addition, we may not be able to anticipate all of the challenges imposed by the expansion of our operations and, as a result, may not meet our targets for integrating, opening new stores or relocating stores or expanding profitably.
Some of our new stores may be located in areas where we have little or no meaningful experience. Those markets may have different market conditions, consumer preferences and discretionary spending patterns than our existing markets, which may cause our new stores to be less successful than stores in our existing markets. Other new stores may be located in areas where we have existing stores. Although we have experience in these markets, increasing the number of locations may result in unanticipated over-saturation of markets and temporarily or permanently divert customers and sales from our existing stores, thereby adversely affecting our overall financial performance.
Our sales may be adversely affected if we fail to respond to changes in consumer preferences in a timely manner.
Our financial performance depends on our ability to identify, originate and define product trends, as well as to anticipate, gauge and react to changing consumer preferences in a timely manner. Our products must appeal to a broad range of consumers whose preferences cannot be predicted with certainty and are subject to change. Our business fluctuates according to changes in consumer preferences dictated in part by fashion trends, perceived value and season. These fluctuations affect the merchandise in stock since purchase orders are written well in advance of the holiday season and, at times, before fashion trends and high-demand brands are evidenced by consumer purchases. If we overestimate the market for our products, we may be faced with significant excess inventories, which could result in increased expenses and reduced margins associated with having to liquidate obsolete inventory at lower prices. Conversely, if we underestimate the market for our products, we will miss opportunities for increased sales and profits, which would place us at a competitive disadvantage.
Sales of video games and video game systems tend to be cyclical, which may result in fluctuations in our results of operations, and may be adversely affected if products are sold through alternative channels.
Sales of video games and video game systems, which have accounted for 7%, 8% and 9% of our annual Net sales for fiscals 2012, 2011 and 2010, respectively, have been impacted by a shift to sales in channels other than traditional retail stores, including direct on-line distribution to customers. Furthermore, sales are cyclical in nature in response to the introduction and maturation of new technology. Following the introduction of new video game systems, sales of these systems and related software and accessories generally increase due to initial demand, while sales of older systems and related products generally decrease. Moreover, competition within the video game market has increased in recent years and, due to the large size of this product category, fluctuations in this market could have a material adverse impact on our sales and profits trends. Additionally, if video game system manufacturers fail to develop new hardware systems, or if new video game products continue to be sold in channels other than traditional retail stores our sales of video game products could continue to decline, which would negatively impact our financial performance.
The success and expansion of our e-commerce business depends on our ability to provide quality service to our Internet customers and if we are not able to provide such services, our future growth will be adversely affected.
Our Internet operations are subject to a number of risks and uncertainties which are in part beyond our control, including the following:
changes in consumer willingness to purchase goods via the Internet;
increases in software filters that may inhibit our ability to market our products through e-mail messages to our customers and increases in consumer privacy concerns relating to the Internet;
changes in technology;

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changes in applicable federal and state regulation, such as the Federal Trade Commission Act, the Children’s Online Privacy Act, the Fair Credit Reporting Act and the Gramm-Leach-Bliley Act and similar types of international laws;
breaches of Internet security;
failure of our Internet service providers to perform their services properly and in a timely and efficient manner;
failures in our Internet infrastructure or the failure of systems or third parties, such as telephone or electric power service, resulting in website downtime or other problems;
failure by us to process on-line customer orders properly and on time, which may negatively impact future on-line and in-store purchases by such customers; and
failure by our service provider to provide warehousing and fulfillment services, which may negatively impact future on-line and in store purchases by customers.
If we are not able to provide satisfactory service to our Internet customers, our future growth will be adversely affected. Further, we may be vulnerable to the special competitive pressures from the growing e-commerce activity in our market, both as they may impact our own e-commerce business, and as they may impact the operating results and investment values of our existing physical stores.
We depend on key vendors to supply the merchandise that we sell to our customers and our vendors’ failure to supply quality merchandise in a timely manner may damage our reputation and brands and harm our business.
Our performance depends, in part, on our ability to purchase our merchandise in sufficient quantities at competitive prices. We purchase our merchandise from numerous international and domestic manufacturers and importers. We have no contractual assurances of continued supply, pricing or access to new products, and any vendor could change the terms upon which they sell to us or discontinue selling to us at any time. We may not be able to purchase desired merchandise in sufficient quantities on terms acceptable to us in the future. Better than expected sales demand may also lead to customer backorders and lower in-stock positions of our merchandise.
In fiscal 2012, we had approximately 4,000 active vendor relationships through which we procure the merchandise that we offer to our customers. For fiscal 2012, our top 20 vendors worldwide, based on our purchase volume in USD, represented approximately 42% of the total products we purchased. An inability to purchase suitable merchandise on acceptable terms or the loss of one or more key vendors could have a negative effect on our business and operating results and could cause us to miss products that we feel are important to our assortment. We may not be able to develop relationships with new vendors, and products from alternative sources, if any, may be of a lesser quality and/or more expensive than those from existing vendors.
In addition, our vendors are subject to various risks, including raw material costs, inflation, labor disputes, union organizing activities, financial liquidity, product merchantability, inclement weather, natural disasters and general economic and political conditions that could limit our vendors’ ability to provide us with quality merchandise on a timely basis and at prices and payment terms that are commercially acceptable. For these or other reasons, one or more of our vendors might not adhere to our quality control standards, and we might not identify the deficiency before merchandise ships to our stores or customers. In addition, our vendors may have difficulty adjusting to our changing demands and growing business. Our vendors’ failure to manufacture or import quality merchandise in a timely and effective manner could damage our reputation and brands, and could lead to an increase in customer litigation against us and an increase in our routine and non-routine litigation costs. Further, any merchandise that does not meet our quality standards could become subject to a recall, which could damage our reputation and brands and harm our business.
If our vendors fail to provide promotional support consistent with past levels, our sales, earnings and cash flow could be adversely affected.
Our vendors typically provide us with promotional support for the sale of their products in our store and on our website. We also receive allowances for volume-related purchases. As part of this support, we receive allowances, payments and credits from the vendors which reduce our cost of goods sold, support the promotion and merchandising of the products we sell and drive sales at our stores and on our website. We cannot provide assurance that vendors will continue to provide this support consistent with past levels. If our vendors fail to do so, our sales, earnings and cash flow could be adversely affected.
The decrease of birth rates in countries where we operate could negatively affect our business.
Most of our end-customers are newborns and children and, as a result, our revenues are dependent on the birth rates in countries where we operate. In recent years, many countries have experienced a sharp drop in birth rates as their population ages and education and income levels increase. A continued and significant decline in the number of newborns and children in these countries could have a material adverse effect on our operating results.

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If current store locations become unattractive, and attractive new locations are not available for a reasonable price, our ability to implement our growth strategy will be adversely affected.
The success of any store depends in substantial part on its location. There can be no assurance that current locations will continue to be attractive as demographic patterns change. Neighborhood or economic conditions where stores are located could decline in the future, resulting in potentially reduced sales in these locations. If we cannot obtain desirable locations at reasonable prices, our ability to implement our growth strategy will be adversely affected.
We have substantial obligations under long-term leases that could adversely affect our financial condition and prevent us from fulfilling our obligations.
As of February 2, 2013, we leased 1,234 of our properties from third-parties pursuant to long-term space and ground leases. Total rent expense, net of sublease income, was $628 million, $588 million and $570 million for fiscals 2012, 2011 and 2010, respectively, and is expected to be approximately $629 million for fiscal 2013. Many of our leases provide for scheduled increases in rent. The substantial obligations under our leases could further exacerbate the risks described below under “Our substantial indebtedness could adversely affect our ability to raise additional capital to fund our operations, limit our ability to react to changes in the economy or our industries, expose us to interest rate risk to the extent of our variable rate debt and prevent us from meeting our obligations under our various debt instruments.”
If we are unable to renew or replace our current store leases or if we are unable to enter into leases for additional stores on favorable terms, or if one or more of our current leases are terminated prior to expiration of their stated term and we cannot find suitable alternate locations, our growth and profitability could be negatively impacted.
We currently have ground leasehold interest in approximately 16% and store leasehold interests in approximately 60% of our domestic and international store locations. Most of our current leases provide for our unilateral option to renew for several additional rental periods at specific rental rates. Our ability to re-negotiate favorable terms on an expiring lease or to negotiate favorable terms for a suitable alternate location, and our ability to negotiate favorable lease terms for additional store locations could depend on conditions in the real estate market, competition for desirable properties and our relationships with current and prospective landlords or may depend on other factors that are not within our control. Any or all of these factors and conditions could negatively impact our growth and profitability.
Our business, financial condition and results of operations are subject to risks arising from the international scope of our operations which could negatively impact our financial condition and results of operations.
We conduct a significant portion of our business outside the United States. For fiscals 2012, 2011 and 2010, approximately 40%, 40% and 38% of our Net sales, respectively, were generated outside the United States. In addition, as of February 2, 2013 and January 28, 2012, approximately 35% and 37% of our long-lived assets, respectively, were located outside of the United States. Weakened global economic conditions, particularly the weakened and unstable environment in Europe and Japan, and the decline of the Euro, pound and yen, could continue to affect us through lower sales due to reduced demand and the effects of foreign currency translation. All of our foreign operations are subject to risks inherent in conducting business abroad, including the challenges of different economic conditions in each of the countries, possible nationalization or expropriation, price and currency exchange controls, fluctuations in the relative values of currencies as described below, limited protection of intellectual property in certain jurisdictions, political instability and restrictive governmental actions.
The products we sell are sourced from a variety of international suppliers with China as a significant source. Additionally, a growing portion of our stores are located in China and as a consequence, our financial results are expected to become increasingly affected by our results in China, and our business is increasingly exposed to risks there. Political or financial instability, trade restrictions, labor unrest, transport capacity and costs, port security or other events that could slow port activities and affect foreign trade are beyond our control and could disrupt our supply of merchandise and/or adversely affect our results of operations. In addition, changes in the costs of procuring commodities used in our merchandise or the costs related to our supply chain, including labor, fuel, tariffs, and currency exchange rates could have an adverse effect on gross margin, expenses and results of operations.
In addition, any significant or prolonged deterioration in US - China relations could adversely affect our China business. Certain risks and uncertainties of doing business in China are solely within the control of the Chinese government, and Chinese law regulates the scope of our foreign investments and business conducted within China. There are also uncertainties regarding the interpretation and application of laws and regulations and the enforceability of intellectual property and contract rights in China.

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Our business is subject to fluctuations in foreign currency exchange rates and such fluctuations may have a material adverse effect on our business, financial condition and results of operations.
Exchange rate fluctuations may affect the translated value of our earnings and cash flow associated with our international operations, as well as the translation of net asset or liability positions that are denominated in foreign currencies. In countries outside of the United States where we operate stores, we generate revenues and incur operating expenses and selling, general and administrative expenses denominated in local currencies. In many countries where we do not operate stores, our licensees pay royalties in USD. However, as the royalties are calculated based on local currency sales, our revenues are still impacted by fluctuations in exchange rates. In fiscal years 2012, 2011 and 2010, 40%, 40% and 38% of our Net sales, respectively, were completed in a currency other than the USD, the majority of which were denominated in yen, Euros, Canadian dollars and pounds. In fiscal 2012, our reported operating earnings would have decreased or increased $31 million if all foreign currencies uniformly weakened or strengthened by 10% relative to the USD.
We enter into foreign exchange agreements from time to time with financial institutions to reduce our exposure to fluctuations in currency exchange rates referred to as hedging activities. However, these hedging activities may not eliminate foreign currency risk entirely and involve costs and risks of their own. Although we hedge some exposures to changes in foreign currency exchange rates arising in the ordinary course of business, foreign currency fluctuations may have a material adverse effect on our business, financial condition and results of operations.
Because of our extensive international operations, we could be adversely affected by violations of the United States Foreign Corrupt Practices Act and similar worldwide anti-bribery laws.
The United States Foreign Corrupt Practices Act and similar worldwide anti-bribery laws generally prohibit companies and their intermediaries from making improper payments to non-U.S. officials for the purpose of obtaining or retaining business. Our policies mandate compliance with these anti-bribery laws. We cannot provide assurance that our internal control policies and procedures always will protect us from reckless or criminal acts committed by our employees or agents. Violations of these laws, or allegations of such violations, could disrupt our business, damage our reputation and result in a material adverse effect on our financial condition, results of operations and cash flows.
International events could delay or prevent the delivery of products to our stores, which could negatively affect our sales and profitability.
A significant portion of products we sell are manufactured outside of the United States, primarily in Asia. As a result, any event causing a disruption of imports, including labor strikes, work stoppages, boycotts, safety issues on materials, the imposition of trade restrictions in the form of tariffs, embargoes or export controls, “anti-dumping” duties, port security or other events that could slow port activities, could increase the cost and reduce the supply of products available to us. In addition, port-labor issues, rail congestion and trucking shortages can have an impact on all direct importers. Although we attempt to anticipate and manage such situations, both our sales and profitability could be adversely impacted by any such developments in the future.
Our results may be adversely affected by fluctuations in raw material and energy costs.
Our results may be affected by the prices of the components and raw materials used in the manufacture of our toys and juvenile products. These prices may fluctuate based on a number of factors beyond our control, including: oil prices, changes in supply and demand, general economic conditions, labor costs, competition, import duties, tariffs, currency exchange rates and government regulation. In addition, energy costs have fluctuated dramatically in the past. These fluctuations may result in an increase in our transportation costs for distribution, utility costs for our retail stores and overall costs to purchase products from our vendors.
We may not be able to adjust the prices of our products, especially in the short-term, to recover these cost increases in raw materials and energy. A continual rise in raw material and energy costs could adversely affect consumer spending and demand for our products and increase our operating costs, both of which could have a material adverse effect on our financial condition and results of operations.
A significant disruption to our distribution network or to the timely receipt of inventory could adversely impact sales or increase our transportation costs, which would decrease our profits.
We rely on our ability to replenish depleted inventory in our stores through deliveries to our distribution centers from vendors and then from the distribution centers or direct ship vendors to our stores by various means of transportation, including shipments by sea, rail, air and truck. We rely on various third-party vendors to manage services related to the delivery of inventory from distribution centers to our stores. Unexpected delays in deliveries or increases in transportation costs (including from increased fuel costs) could significantly decrease our ability to make sales and earn profits. In addition, labor shortages or

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labor disagreements in the transportation industry or long-term disruptions to the national and international transportation infrastructure that lead to delays or interruptions of deliveries could negatively affect our business.
Product safety issues, including product recalls, could harm our reputation, divert resources, reduce sales and increase costs.
The products we sell in our stores are subject to regulation by the Federal Consumer Product Safety Commission and similar state and international regulatory authorities. As a result, such products have been and could be in the future subject to recalls and other remedial actions. Product safety concerns may require us to voluntarily remove selected products from our stores. Such recalls and voluntary removal of products can result in, among other things, lost sales, diverted resources, potential harm to our reputation and increased customer service costs, which could have a material adverse effect on our business, financial condition and results of operations.
Our business exposes us to personal injury and product liability claims which could result in adverse publicity and harm to our brands and our results of operations.
We are from time to time subject to claims due to the injury of an individual in our stores or on our property. In addition, we have in the past been subject to product liability claims for the products that we sell. Subject to certain exceptions, our purchase orders generally require the manufacturer to indemnify us against any product liability claims; however, if the manufacturer does not have insurance or becomes insolvent, there is a risk we would not be indemnified. Any personal injury or product liability claim made against us, whether or not it has merit, could be time consuming and costly to defend, resulting in adverse publicity, or damage to our reputation, and have an adverse effect on our results of operations.
Adverse litigation judgments or settlements resulting from legal proceedings in which we may be involved could expose us to monetary damages or limit our ability to operate our business.
We are involved in private actions, investigations and various other legal proceedings by employees, suppliers, competitors, government agencies or others. The results of such litigation, investigations and other legal proceedings are inherently unpredictable. Any claims against us, whether meritorious or not, could be time consuming, result in costly litigation, require significant amounts of management time and divert significant resources. If any of these legal proceedings were to be determined adversely to us, we could be exposed to monetary damages or limits on our ability to operate our business, which could have a material adverse effect on our business, financial condition and results of operations.
We are subject to certain regulatory and legal requirements. If we fail to comply with regulatory or legal requirements, our business and results of operations may be adversely affected.
We are subject to numerous regulatory and legal requirements. Our policies, procedures and internal controls are designed to comply with all applicable laws and regulations, including those imposed by the Federal Trade Commission, the Sarbanes-Oxley Act of 2002 and the SEC. In addition, our business activities require us to comply with complex regulatory and legal issues on a local, national and worldwide basis (including, in some cases, more stringent local labor laws or regulations). Future legislative and regulatory actions relating to credit cards could also have an adverse impact on our credit card program and our sales. Additionally, we may be subject to new disclosure and reporting requirements, established under existing or new state or federal laws. Failure to comply with such laws and regulations could adversely affect our operations, involve significant expense and divert management’s attention and resources from other matters, which in turn could harm our business and results of operations.
Our business operations could be disrupted if our information technology systems fail to perform adequately or we are unable to protect the integrity and security of our customers’ information.
We depend largely upon our information technology systems in the conduct of all aspects of our operations. If our information technology systems fail to perform as anticipated, we could experience difficulties in virtually any area of our operations, including but not limited to replenishing inventories or in delivering our products to store locations in response to consumer demands. Any of these or other systems-related problems could, in turn, adversely affect our sales and profitability.
Additionally, a compromise of our security systems (or a design flaw in our system environment) could result in unauthorized access to certain personal information about our customers (including credit card information) which could adversely affect our reputation with our customers and others, as well as our operations, and could result in litigation against us or the imposition of penalties. In addition, a security breach could require that we expend significant additional resources related to our information security systems.

16



Natural disasters, inclement weather, pandemic outbreaks, terrorist acts or disruptive global political events could cause permanent or temporary distribution center or store closures, impair our ability to purchase, receive or replenish inventory, or decrease customer traffic, all of which could result in lost sales and otherwise adversely affect our financial performance.
The occurrence of one or more natural disasters, such as hurricanes, fires, floods, earthquakes, tornadoes and volcano eruptions, or inclement weather such as frequent or unusually heavy snow, ice or rain storms, or extended periods of unseasonable temperatures, or the occurrence of pandemic outbreaks, labor strikes, work stoppages, terrorist acts or disruptive global political events, such as civil unrest in countries in which our suppliers are located, or similar disruptions could adversely affect our operations and financial performance. To the extent these events impact one or more of our key vendors or result in the closure of one or more of our distribution centers or a significant number of stores, our operations and financial performance could be materially adversely affected through an inability to make deliveries to our stores and through lost sales. In addition, these events could result in increases in fuel (or other energy) prices or a fuel shortage, delays in opening new stores, the temporary lack of an adequate work force in a market, the temporary or long-term disruption in the supply of products from some local and overseas vendor, the temporary disruption in the transport of goods from overseas, delay in the delivery of goods to our distribution centers or stores, the temporary reduction in the availability of products in our stores and disruption to our information systems. These events also can have indirect consequences such as increases in the costs of insurance if they result in significant loss of property or other insurable damage.
Our results of operations could suffer if we lose key management or are unable to attract and retain experienced senior management for our business.
Our future success depends to a significant degree on the skills, experience and efforts of our senior management team. The loss of services of any of these individuals, or the inability by us to attract and retain qualified individuals for key management positions, could harm our business and financial performance.
We may experience fluctuations in our tax obligations and effective tax rate, which could materially and adversely affect our results of operations.
We are subject to taxes in the United States and numerous international jurisdictions. We record tax expense based on current tax payments and our estimates of future tax payments, which include reserves for estimates of probable settlements of international and domestic tax audits. At any one time, many tax years are subject to audit by various taxing jurisdictions. The results of these audits and negotiations with taxing authorities may affect the ultimate settlement of these issues. As a result, we expect that throughout the year there could be ongoing variability in our quarterly tax rates as taxable events occur and exposures are re-evaluated. Further, our effective tax rate in a given financial statement period may be materially impacted by changes in tax laws, changes in the mix and level of earnings by taxing jurisdiction, changes to existing accounting rules or regulations, or by changes to our ownership or capital structures. Fluctuations in our tax obligations and effective tax rate could materially and adversely affect our results of operations.
Changes to accounting rules or regulations may adversely affect our results of operations.
Changes to existing accounting rules or regulations may impact our future results of operations or cause the perception that we are more highly leveraged. New accounting rules or regulations and varying interpretations of existing accounting rules or regulations have occurred and may occur in the future. Future changes to accounting rules or regulations may materially adversely affect our reported results of operations and financial position.
Our total assets include goodwill and substantial amounts of property and equipment. Changes to estimates or projections related to such assets, or operating results that are lower than our current estimates at certain store locations, may cause us to incur impairment charges that could adversely affect our results of operations.
Our total assets include substantial amounts of property, equipment and goodwill. We make certain estimates and projections in connection with impairment analyses for these assets, in accordance with Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) Topic 360, “Property, Plant and Equipment” (“ASC 360”), and ASC Topic 350, “Intangibles—Goodwill and Other” (“ASC 350”). We also review the carrying value of these assets for impairment whenever events or changes in circumstances indicate that the carrying value of the asset may not be recoverable in accordance with ASC 360 or ASC 350. We will record an impairment loss when the carrying value of the underlying asset, asset group or reporting unit exceeds its fair value. These calculations require us to make a number of estimates and projections of future results. If these estimates or projections change, we may be required to record additional impairment charges on certain of these assets. If these impairment charges are significant, our results of operations would be adversely affected.

17



We may from time to time pursue acquisitions, which could have an adverse impact on our business, as could the integration of the businesses following acquisition.
We may from time to time acquire complementary companies or businesses. Acquisitions may result in unanticipated costs, delays or other operational or financial problems related to integrating the acquired company and business with our Company, which may result in the diversion of our capital and our management’s attention from other business issues and opportunities. We may not be able to successfully integrate operations that we acquire, including their personnel, technology, financial systems, distribution and general business operations and procedures. We cannot provide assurance that any acquisition we make will be successful and our operating results may be adversely impacted by the integration of a new business and its financial results.
The Sponsors control us and may have conflicts of interest with us.
Investment funds or groups advised by or affiliated with the Sponsors currently control us through their ownership of approximately 98% of our voting common stock. As a result, the Sponsors have control over our decisions to enter into any corporate transaction and have the ability to prevent any transaction that requires the approval of stockholders. In addition, the Sponsors may have an interest in pursuing dispositions, acquisitions, financings or other transactions that, in their judgment, could enhance their equity investments, even though such transactions might involve risks to us as a company.
The Sponsors may direct us to make significant changes to our business operations and strategy, including with respect to, among other things, store openings and closings, new product and service offerings, sales of real estate and other assets, employee headcount levels and initiatives to reduce costs and expenses. We cannot provide assurance that our future business operations will remain broadly in line with our existing operations or that significant real estate and other assets will not be sold.
The Sponsors are also in the business of making investments for their own accounts in companies, and may from time to time acquire and hold interests in businesses that compete directly or indirectly with us. One or more of the Sponsors may also pursue acquisition opportunities that may be complementary to our business and, as a result, those acquisition opportunities may not be available to us. So long as investment funds associated with or designated by the Sponsors continue to indirectly own a significant amount of the outstanding shares of our common stock, the Sponsors will continue to be able to strongly influence or effectively control our decisions.
Risks Related to Our Substantial Indebtedness
Our substantial indebtedness could adversely affect our ability to raise additional capital to fund our operations or refinance our maturing debt, limit our ability to react to changes in the economy or our industries, expose us to interest rate risk to the extent of our variable rate debt and prevent us from meeting our obligations under our various debt instruments.
We are, and we expect to continue to be, highly leveraged. As of February 2, 2013, our total indebtedness was $5.3 billion, of which $3.2 billion was secured indebtedness. Our substantial indebtedness could have significant consequences, including, among others, the following:
increasing our vulnerability to general economic and industry conditions;
requiring a substantial portion of cash flows from operating activities to be dedicated to the payment of principal and interest on our indebtedness, and as a result, reducing our ability to use our cash flows to fund our operations and capital expenditures, capitalize on future business opportunities, expand our business and execute our strategy;
increasing the difficulty for us to make scheduled payments on our outstanding debt and other obligations, as our business may not be able to generate sufficient cash flows from operating activities to meet our debt service obligations;
exposing us to the risk of increased interest expense due to changes in borrowing spreads and short-term interest rates;
causing us to make non-strategic divestitures;
limiting our ability to obtain additional financing for working capital, capital expenditures, debt service requirements and general, corporate or other purposes; and
limiting our ability to adjust to changing market conditions and reacting to competitive pressure, and placing us at a competitive disadvantage compared to our competitors who are less leveraged.
Despite our current level of indebtedness, we may still be able to incur substantially more debt. This could further exacerbate the risks to our financial condition described above.
We may be able to incur additional indebtedness in the future, including under our current outstanding credit facilities. Although our indentures, credit agreements and the other documents governing our other indebtedness contain restrictions on the incurrence of additional indebtedness, these restrictions are subject to a number of qualifications and exceptions, and the additional indebtedness incurred in compliance with these restrictions could be substantial. These restrictions also will not

18



prevent us from incurring obligations that do not constitute indebtedness. If new indebtedness is added to our current debt levels, the related risks that we now face could intensify.
We may not be able to generate sufficient cash to service all of our indebtedness and/or other obligations and may not be able to refinance our indebtedness on favorable terms. If we are unable to do so, we may be forced to take other actions to satisfy our obligations under our indebtedness, which may not be successful.
Our ability to make scheduled payments on or to refinance our debt obligations depends on our financial condition and operating performance, our lenders’ financial stability, which are subject to prevailing global economic and market conditions and to certain financial, business and other factors beyond our control. Even if we were able to refinance or obtain additional financing, the costs of new indebtedness could be substantially higher than the costs of our existing indebtedness.
If our cash flows and capital resources are insufficient to fund our debt service obligations or we are unable to refinance our indebtedness, we may be forced to reduce or delay investments and capital expenditures, or to sell assets, seek additional capital or restructure our indebtedness. These alternative measures may not be successful and may not permit us to meet our scheduled debt service obligations. If our operating results and available cash are insufficient to meet our debt service obligations, we could face substantial liquidity problems and might be required to dispose of material assets or operations to meet our debt service and other obligations. We may not be able to consummate those dispositions, or the proceeds from the dispositions may not be adequate to meet any debt service obligations then due. If we were unable to repay amounts when due, the lenders could proceed against the collateral granted to them to secure that indebtedness.
Our debt agreements contain covenants that limit our flexibility in operating our business.
Toys “R” Us, Inc. is a holding company and conducts its operations through its subsidiaries, certain of which have incurred their own indebtedness. As specified in certain of our subsidiaries’ debt agreements, there are restrictions on our ability to obtain funds from our subsidiaries through dividends, loans or advances. The agreements governing our indebtedness contain various covenants that limit our ability to engage in specified types of transactions, and may adversely affect our ability to operate our business. Among other things, these covenants limit our ability to:
incur certain additional indebtedness;
transfer money between Toys “R” Us, Inc. (the “Parent Company”) and our various subsidiaries;
pay dividends on, repurchase or make distributions with respect to our or our subsidiaries’ capital stock or make other restricted payments;
issue stock of subsidiaries;
make certain investments, loans or advances;
transfer and sell certain assets;
create or permit liens on assets;
consolidate, merge, sell or otherwise dispose of all or substantially all of our assets;
enter into certain transactions with our affiliates; and
amend certain documents.
A breach of any of these covenants could result in default under one or more of our debt agreements, which could prompt the lenders to declare all amounts outstanding under one or more of our debt agreements to be immediately due and payable and terminate all commitments to extend further credit. If we were unable to repay those amounts, the lenders could proceed against the collateral granted to them to secure that indebtedness. If the lenders under the debt agreements accelerate the repayment of borrowings, we cannot ensure that we will have sufficient assets and funds to repay the borrowings under our debt agreements.

ITEM 1B.
UNRESOLVED STAFF COMMENTS
None.


19



ITEM 2.
PROPERTIES
The following summarizes our worldwide operating stores and distribution centers as of February 2, 2013 (excluding licensed operations in our International segment):
 
 
 
Owned
 
Ground
Leased
  (1)
 
Leased (2)
 
Total
 
Total Gross
Square Feet 
(3)
(In millions)
Stores:
 
 
 
 
 
 
 
 
 
 
Domestic
 
289

 
225

 
361

 
875

 
35

International
 
78

 
26

 
561

 
665

 
20

 
 
367

 
251

 
922

 
1,540

 
55

Distribution Centers:
 
 
 
 
 
 
 
 
 
 
Domestic
 
7

 

 
3

 
10

 
8

International
 
5

 

 
5

 
10

 
4

 
 
12

 

 
8

 
20

 
12

Total Operating Stores and Distribution Centers
 
379

 
251

 
930

 
1,560

 
67

 
(1)
Owned buildings on leased land.
(2)
This includes 36 and 23 Express stores within our Domestic and International segments, respectively, that each have a cumulative lease term of at least two years and excludes the remaining 48 and 18 temporary Express store locations within our Domestic and International segments, respectively, which remained open as of February 2, 2013. During the fiscal 2012 holiday selling season, we operated 240 Domestic and 63 International Express stores.
(3)
Represents total square footage occupied, excluding any space dedicated to mezzanines (with the exception of our flagship stores), catwalks, parking lots and decks.
See also the sections of Item 1 entitled “Geographic Distribution of Domestic Stores” and “Geographic Distribution of International Stores” of this Annual Report on Form 10-K.
As described above, a significant part of our properties are ground leased (i.e. properties where we own the building but we do not retain fee ownership in the underlying land) or space leased (i.e. we lease a store from a property owner). We lease substantially all of our properties from unrelated third parties, pursuant to leases that vary as to their terms, rental provisions and expiration dates. Substantially all of our leases are considered triple-net leases, which require us to pay all costs and expenses arising in connection with the ownership, operation, leasing, use, maintenance and repair of these properties. These costs include real estate taxes and assessments, utility charges, license and permit fees and insurance premiums, among other things. Virtually all of our leases include options that allow us to renew or extend the lease term beyond the initial lease period, subject to terms and conditions. In addition, many of our leases include early termination options, which we may exercise under specified conditions, including, upon damage, destruction or condemnation of a specified percentage of the value or land area of the property. A portion of our leased stores have contingent rentals, where the lease payments depend on factors that are not measurable at the inception of the lease, such as future sales volume. Contingent rent expense was $12 million for fiscals 2012, 2011 and 2010, respectively.
We own our headquarters, comprising approximately 585,000 square feet of space, in Wayne, New Jersey.
As of February 2, 2013, we maintained 108 former stores that are no longer part of our operations. Approximately half of these surplus facilities are owned and the remaining locations are leased. We have tenants in more than half of these facilities, and we continue to market those facilities without tenants for disposition or leasing opportunities. The net costs associated with these facilities are reflected in our Consolidated Financial Statements, but the number of surplus facilities is not included above.
Portions of our debt are secured by direct and indirect interests in certain of our properties. See Note 2 to the Consolidated Financial Statements entitled “SHORT-TERM BORROWINGS AND LONG-TERM DEBT” for further details.
We believe that our current operating stores and distribution centers are adequate to support our business operations.

ITEM 3.
LEGAL PROCEEDINGS
In October 2012, the Massachusetts Supreme Judicial Court granted the Company’s request for direct appellate review of a judgment in the amount of approximately $20 million, including $18 million in punitive damages, that was entered against the Company in a wrongful death products liability case entitled Aleo v. SLB Toys USA, Inc., et al. (Superior Court of

20



Massachusetts, Essex County, No. 2008-02149-A) (the “Judgment”). In November 2012, we posted an appellate bond in the amount of $24 million, which represents the amount of the Judgment plus anticipated post-judgment interest. We believe that we have certain claims against the manufacturer of the product and that the punitive damage award is not appropriate. We have accrued an amount related to this matter and believe that the ultimate resolution will not have a material impact on the consolidated financial statements.
In addition to the litigation discussed above, we are, and in the future, may be involved in various other lawsuits, claims and proceedings incident to the ordinary course of business. The results of litigation are inherently unpredictable. Any claims against us, whether meritorious or not, could be time consuming, result in costly litigation, require significant amounts of management time and result in diversion of significant resources. We are not able to estimate an aggregate amount or range of reasonably possible losses for those legal matters for which losses are not probable and estimable, primarily for the following reasons: (i) many of the relevant legal proceedings are in preliminary stages, and until such proceedings develop further, there is often uncertainty regarding the relevant facts and circumstances at issue and potential liability; and (ii) many of these proceedings involve matters of which the outcomes are inherently difficult to predict. However, based upon our historical experience with similar matters, we do not expect that any such additional losses would be material to our consolidated financial position, results of operations or cash flows.

ITEM 4.
MINE SAFETY DISCLOSURES
None.

21



PART II

ITEM 5.
MARKET FOR THE REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
Our shares of common stock, $0.001 par value (“Common Stock”) are privately held by our Sponsors, our officers, certain employees and a private investor and there is no established public trading market for our Common Stock. As of March 13, 2013, there were approximately 385 holders of our Common Stock. During fiscals 2012, 2011 and 2010, no dividends were paid out to shareholders. See Note 2 to our Consolidated Financial Statements entitled “SHORT-TERM BORROWINGS AND LONG-TERM DEBT” for a discussion of our debt agreements which restrict our ability to pay dividends and obtain funds from certain of our subsidiaries through dividends, loans or advances.
On November 9, 2012, an employee exercised 7,477 options, which resulted in the issuance of 7,477 shares of Common Stock to this employee.  In addition, on November 9, 2012, active and former employees exercised 121,102 options on a net settlement basis, which resulted in the issuance of 51,424 shares of Common Stock to these individuals.  Each of these issuances were made pursuant to Section 4(2) of the Securities Act of 1933, as amended.

ITEM 6.
SELECTED FINANCIAL DATA
 
 
Fiscal Years Ended (1)
(In millions, except share data and number of stores)
 
February 2,
2013
 
January 28,
2012
 
January 29,
2011
 
January 30,
2010
 
January 31,
2009
Statement of Operations Data:
 
 
 
 
 
 
 
 
 
 
Net sales
 
$
13,543

 
$
13,909

 
$
13,864

 
$
13,568

 
$
13,724

Net earnings (2)
 
39

 
151

 
167

 
304

 
211

Net earnings attributable to Toys “R” Us, Inc. (2)
 
38

 
149

 
168

 
312

 
218

 
 
 
 
 
 
 
 
 
 
 
Share Data:
 
 
 
 
 
 
 
 
 
 
Earnings per common share attributable to common shareholders (3):
 
 
 
 
 
 
 
 
 
 
Basic
 
$
0.39

 
$
2.98

 
$
3.43

 
$
6.37

 
$
4.45

Diluted
 
0.38

 
2.91

 
3.36

 
6.33

 
4.43

Weighted average shares used in computing per share amounts:
 
 
 
 
 
 
 
 
 
 
Basic
 
49,074,858

 
48,979,571

 
48,941,118

 
48,962,152

 
48,936,391

Diluted
 
49,941,397

 
50,149,212

 
49,981,504

 
49,304,963

 
49,226,421

 
 
 
 
 
 
 
 
 
 
 
Balance Sheet Data (end of period):
 
 
 
 
 
 
 
 
 
 
Working capital
 
$
1,171

 
$
708

 
$
534

 
$
619

 
$
617

Property and equipment, net
 
3,891

 
4,052

 
4,061

 
4,084

 
4,187

Total assets
 
8,921

 
8,842

 
8,832

 
8,577

 
8,411

Total debt (4)
 
5,343

 
5,170

 
5,288

 
5,196

 
5,545

Total equity (deficit)
 
485

 
503

 
343

 
117

 
(152
)
 
 
 
 
 
 
 
 
 
 
 
Other Financial and Operating Data:
 
 
 
 
 
 
 
 
 
 
Number of stores - Domestic (at period end)
 
875

 
876

 
868

 
849

 
846

Number of stores - International - Operated (at period end) (5)
 
665

 
626

 
524

 
514

 
504

Total operated stores (at period end) (5)
 
1,540

 
1,502

 
1,392

 
1,363

 
1,350

Number of stores - International - Licensed (at period end) (5)
 
163

 
151

 
220

 
203

 
209

Adjusted EBITDA (6)
 
$
1,015

 
$
1,054

 
$
1,118

 
$
1,141

 
$
998

(1)
Our fiscal year ends on the Saturday nearest to January 31 of each calendar year. With the exception of fiscal 2012, which includes 53 weeks, all other fiscal years presented include 52 weeks.

22



(2)
Refer to the Adjusted EBITDA table within this section for certain income and expense items that management believes make it more difficult to assess the Company’s actual operating performance.
(3)
For fiscals 2012 and 2011, earnings per share was computed using Net earnings attributable to common shareholders of $19 million and $146 million, respectively, which has been adjusted for the changes in the carrying amount of the redeemable Noncontrolling interest using the two-class method. This application of the guidance did not have an impact on prior period earnings per share. Refer to Note 1 to the Consolidated Financial Statements entitled “SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES” for further details.
(4)
Includes current portion of long-term debt and short-term borrowings. See Note 2 to our Consolidated Financial Statements entitled “SHORT-TERM BORROWINGS AND LONG-TERM DEBT” for further details.
(5)
As a result of the Labuan acquisition, on October 31, 2011, 90 of our licensed stores became part of our operated locations upon acquisition. As of February 2, 2013, and January 28, 2012, International operated stores includes 100 and 92 Labuan stores, respectively. See Note 17 to our Consolidated Financial Statements entitled “ACQUISITIONS” for further details.
(6)
Adjusted EBITDA is defined as EBITDA (earnings before net interest income (expense), income tax expense (benefit), depreciation and amortization), as further adjusted to exclude the effects of certain income and expense items that management believes make it more difficult to assess the Company’s actual operating performance including certain items which are generally non-recurring. We have historically excluded the impact of such items from internal performance assessments. We believe that excluding items such as Sponsors’ management and advisory fees, asset impairment charges, restructuring charges, impact of litigation, noncontrolling interest, net gains on sales of properties, gift card breakage accounting change and the other charges specified below, helps investors compare our operating performance with our results in prior periods. We believe it is appropriate to exclude these items as they are not related to ongoing operating performance and, therefore, limit comparability between periods and between us and similar companies.
We believe Adjusted EBITDA is useful to investors because it is frequently used by securities analysts, investors and other interested parties in the evaluation of companies in our industry. Investors of the Company regularly request Adjusted EBITDA as a supplemental analytical measure to, and in conjunction with, the Company’s financial data prepared in accordance with accounting principles generally accepted in the United States (“GAAP”). We understand that these investors use Adjusted EBITDA, among other things, to assess our period-to-period operating performance and to gain insight into the manner in which management analyzes operating performance.
In addition, we believe that Adjusted EBITDA is useful in evaluating our operating performance compared to that of other companies in our industry because the calculation of EBITDA and Adjusted EBITDA generally eliminates the effects of financing and income taxes and the accounting effects of capital spending and acquisitions, which items may vary for different companies for reasons unrelated to overall operating performance. We use these non-GAAP financial measures for planning and forecasting and measuring results against the forecast and in certain cases we use similar measures for bonus targets for certain of our employees. Using several measures to evaluate the business allows us and investors to assess our relative performance against our competitors.
Although we believe that Adjusted EBITDA can make an evaluation of our operating performance more consistent because it removes items that do not reflect our core operations, other companies, even in the same industry, may define Adjusted EBITDA differently than we do. As a result, it may be difficult to use Adjusted EBITDA or similarly named non-GAAP measures that other companies may use to compare the performance of those companies to our performance. The Company does not, and investors should not, place undue reliance on EBITDA or Adjusted EBITDA as measures of operating performance.

23



Reconciliation of Net earnings attributable to Toys “R” Us, Inc. to EBITDA and Adjusted EBITDA is as follows: 
 
 
Fiscal Years Ended
(In millions)
 
February 2,
2013
 
January 28,
2012
 
January 29,
2011
 
January 30,
2010
 
January 31,
2009
Net earnings attributable to Toys “R” Us, Inc.
 
$
38

 
$
149

 
$
168

 
$
312

 
$
218

Add:
 
 
 
 
 
 
 
 
 
 
Income tax expense (benefit)
 
53

 
(1
)
 
(35
)
 
40

 
7

Interest expense, net
 
464

 
432

 
514

 
440

 
403

Depreciation and amortization
 
407

 
403

 
388

 
376

 
399

EBITDA
 
962

 
983

 
1,035

 
1,168

 
1,027

Adjustments:
 
 
 
 
 
 
 
 
 
 
Litigation expense (a)
 
1

 
8

 
23

 

 

Sponsors’ management and advisory fees (b)
 
21

 
20

 
20

 
15

 
18

Prior period lease accounting (c)
 

 

 
16

 

 

Impairment of long-lived assets (d)
 
11

 
6

 
11

 
7

 
33

Compensation expense (e)
 
2

 
1

 
6

 

 

Transfer tax (benefit) expense (f)
 
(1
)
 

 
6

 

 

Restructuring (g)
 
2

 
3

 
3

 
5

 
8

Net gains on sales of properties (h)
 
(4
)
 
(3
)
 
(10
)
 
(6
)
 
(5
)
Net earnings (loss) attributable to noncontrolling interest (i)
 
1

 
2

 
(1
)
 
(8
)
 
(7
)
Gain on settlement of litigation (j)
 

 

 

 
(51
)
 

McDonald’s Japan contract termination (k)
 

 

 

 

 
14

Gift card breakage accounting change (l)
 

 

 

 

 
(59
)
Loss (gain) on liquidation of TRU (HK) Limited (m)
 

 
1

 

 

 
(39
)
Certain legal and accounting transaction costs
 
6

 
6

 

 

 

Acquisition costs (n)
 

 
4

 

 

 

Property damage write-offs and repairs (o)
 
8

 
11

 

 

 

Severance (p)
 

 
7

 
4

 
5

 
3

Store closure costs (p)
 
6

 
5

 
5

 
6

 
5

Adjusted EBITDA
 
$
1,015

 
$
1,054

 
$
1,118

 
$
1,141

 
$
998


(a)
Represents litigation expenses recorded for certain legal matters. See Note 14 to our Consolidated Financial Statements entitled “LITIGATION AND LEGAL PROCEEDINGS” for further details.
(b)
Represents fees expensed to the Sponsors in accordance with the advisory agreement. The advisory fee paid to the Sponsors increases 5% per year during the ten-year term of the agreement with the exception of fiscal 2009. See Note 16 to our Consolidated Financial Statements entitled “RELATED PARTY TRANSACTIONS” for further details.
(c)
Represents a non-cash cumulative correction of prior period straight-line lease accounting.
(d)
Asset impairments primarily due to the identification of underperforming stores and the relocation of certain stores. See Note 1 to our Consolidated Financial Statements entitled “SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES” and Note 4 to our Consolidated Financial Statements entitled “FAIR VALUE MEASUREMENTS” for further details.
(e)
Represents the incremental compensation expense related to existing liability awards and the repurchase of awards by the Company upon termination.
(f)
Represents state and city property transfer taxes recognized in fiscal 2010 related to the merger transaction in fiscal 2005, a portion of which were settled in fiscal 2012.
(g)
Restructuring and other charges consist primarily of costs incurred from the Company’s 2003 and 2005 restructuring initiatives. The additional charges are primarily due to changes in management’s estimates for events such as lease terminations, assignments and sublease income adjustments.
(h)
Represents the sale of properties results. See Note 5 to our Consolidated Financial Statements entitled “PROPERTY AND EQUIPMENT” for further details.

24



(i)
Represents noncontrolling interests in Labuan for fiscals 2012 and 2011, and Toys – Japan for fiscal 2008 through fiscal 2010.
(j)
Represents a $51 million gain recorded in Other income, net related to the litigation settlement with Amazon in fiscal 2009.
(k)
In fiscal 2008, a settlement was reached in which Toys – Japan and McDonald’s Japan agreed to the termination of the service agreement and the payment by Toys – Japan of $19 million to McDonald’s Japan. The Company had previously established a reserve of $5 million in fiscal 2007.
(l)
During fiscal 2008, the Company changed its method for recording gift card breakage income to recognize breakage income and derecognize the gift card liability for unredeemed gift cards in proportion to actual redemptions of gift cards. As a result, the adjustment recorded in fiscal 2008 resulted in an additional $59 million of gift card breakage income.
(m)
In fiscal 2011, in conjunction with the completion of the liquidation of TRU (HK) Limited, our wholly-owned subsidiary, we recognized a $1 million loss. In fiscal 2008, when the subsidiary had been substantially liquidated, we recognized a $39 million gain.
(n)
Represents costs incurred in conjunction with the acquisition of 70% ownership interest in Labuan from Li & Fung. See Note 17 to our Consolidated Financial Statements entitled “ACQUISITIONS” for further details.
(o)
Represents the write-off of damaged assets and repairs from a hurricane that hit the east coast of the United States, store fires in Australia, an earthquake and resulting tsunami that hit the Northeast coast of Japan and other property losses, net of insurance claims.
(p)
Represents certain officers’ severance and store closure costs.

ITEM 7.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) is intended to help facilitate an understanding of our historical results of operations during the periods presented and our financial condition. This MD&A should be read in conjunction with our Consolidated Financial Statements and the accompanying notes, and contains forward-looking statements that involve risks and uncertainties. See “Forward-Looking Statements” and Item 1A entitled “RISK FACTORS” of this Annual Report on Form 10-K. Our MD&A includes the following sections:
EXECUTIVE OVERVIEW provides an overview of our business.
RESULTS OF OPERATIONS provides an analysis of our financial performance and of our consolidated and segment results of operations for fiscal 2012 compared to fiscal 2011 and fiscal 2011 compared to fiscal 2010. With the exception of fiscal 2012, which includes 53 weeks, all other fiscal years presented include 52 weeks.
LIQUIDITY AND CAPITAL RESOURCES provides an overview of our financing, capital expenditures, cash flows and contractual obligations.
CRITICAL ACCOUNTING POLICIES provides a discussion of our accounting policies that require critical judgment, assumptions and estimates.
RECENTLY ADOPTED ACCOUNTING PRONOUNCEMENTS provides a brief description of significant accounting standards which were adopted during fiscal 2012. This section also refers to Note 19 to our Consolidated Financial Statements entitled “RECENT ACCOUNTING PRONOUNCEMENTS” for accounting standards which we have not yet been required to implement and may be applicable to our future operations.
EXECUTIVE OVERVIEW

Our Business
We are the leading global specialty retailer of toys and juvenile products as measured by Net sales. Toys “R” Us is recognized as the toy and juvenile (including baby) authority. We sell a variety of products in the core toy, entertainment, juvenile, learning and seasonal categories through our retail locations and the Internet. Our brand names are highly recognized in North America, Europe and Asia, and our expertise in the toy and juvenile retail space, our broad range of product offerings, our substantial scale and geographic footprint and our strong vendor relationships account for our market-leading position and distinguish us from the competition. We believe we offer the most comprehensive year-round selection of toys and juvenile products among omnichannel retailers, including a broad assortment of private label and exclusive merchandise unique to our stores.

25



As of February 2, 2013, we operated 1,540 stores and licensed an additional 163 stores. These stores are located in 36 countries and jurisdictions around the world under the Toys “R” Us, Babies “R” Us and FAO Schwarz banners. In addition, we operate Express stores, smaller format stores primarily open on a short-term basis during the holiday season. During the fiscal 2012 holiday season, we operated 303 Express stores, of which 125 were still open as of February 2, 2013. Of the 125 Express stores that remained open, 59 have been included in our overall store count as they each have a cumulative lease term of at least two years. We also own and operate websites including Toysrus.com, Babiesrus.com, eToys.com, FAO.com and toys.com, as well as other Internet sites we operate in our international markets. For fiscal 2012, we generated Net sales of $13.5 billion, Net earnings of $38 million and Adjusted EBITDA of $1.0 billion. For the definition of Adjusted EBITDA, an explanation of why we present it and a description of the limitations of this non-GAAP measure, as well as a reconciliation to Net earnings, see Item 6 entitled “SELECTED FINANCIAL DATA” of this Annual Report on Form 10-K.
We have developed a juvenile integration strategy which features an integrated shopping format for our guests by combining the Toys “R” Us and Babies “R” Us merchandise offerings under one roof. We call this format a SBS store. SBS stores are a combination of Toys “R” Us stores and Babies “R” Us stores, and may be the result of a conversion or relocation and, in certain cases, may be accompanied by the closure of one or more existing stores. In addition, SBS stores may also be constructed in a new location and market.
The integration of juvenile merchandise (including baby products) with toy and entertainment offerings has allowed us to create a “one-stop shopping” experience for our guests, and enabled us to obtain the operating benefits associated with combining product lines under one roof. Our product assortment allows us to capture new customers during pregnancy, helping them prepare for the arrival of their newborn. We then become a resource for infant products such as baby formula, diapers and solid foods, as well as baby clothing and learning aids. We believe this opportunity to establish first contact with new parents enables us to develop long-lasting customer relationships with them as their children grow and they transition to becoming consumers of our products. We continue to build on these relationships as these children mature and eventually become parents themselves. Additionally, juvenile merchandise staples such as baby formula, diapers and infant clothing provide us with a mitigant to the inherent seasonality in the toy business.
In connection with our juvenile integration strategy, we continue to increase the number of SBS stores both domestically and internationally. Through the end of fiscal 2012, we have converted existing stores into 281 SBS store formats. In addition, we have opened 93 SBS stores (51 of which were relocations of existing stores). We expect that our integrated store format will continue to be a driver of our revenue and profit growth going forward.
In addition to our SBS store format, we continue to enhance our juvenile integration strategy with our BRU Express and Juvenile Expansion formats which devote additional square footage to our juvenile products within our traditional Toys “R” Us stores. Since implementing these integrated store formats, we have augmented 100 existing Toys “R” Us stores with these layouts.
We leverage our e-commerce business by integrating our Internet capabilities with our stores. The “Buy Online, Pick Up In Store” program, available within all stores in the United States and the United Kingdom, offers customers the ability to browse and shop from the comfort of their own homes, while giving them the flexibility to pick up their purchases in-store usually within the same day. During fiscal 2012, the Company introduced the “Ship to Store” program domestically, which allows customers to purchase on-line items that may not be currently available in their local store, and have their order delivered to the local store of their choice, free of shipping charges. We also introduced “Pay In-Store,” which enables customers to shop on-line and pay for their items in any one of our stores across the United States.
In addition, the “Ship from Store” program leverages inventory from the majority of our stores to improve the speed with which customers receive their items, as well as provide an additional option to fulfill on-line orders. This feature is also available in several of our international countries, and we expect to implement the other programs to our foreign markets in the future. In addition, our loyalty programs, including baby registry, birthday club and Rewards “R” Us programs, all offer on-line functionality which deepens our relationship with our guests and complements the in-store experience.
Internationally, we have an existing on-line presence in Australia, Austria, Canada, France, Germany, Japan, the Netherlands, Portugal, Spain, Switzerland and the United Kingdom, and during fiscal 2012, we expanded our global reach through the introduction of our China website. We also introduced international shipping for on-line orders to more than 60 countries across Asia, the Caribbean, Central America, Europe, North America and South America. This new service allows customers to place orders domestically and have them delivered across the world, and more importantly, it allows us to expand the global reach of our brands to countries where we do not currently have any physical stores. For fiscals 2012, 2011 and 2010, our consolidated e-commerce business generated net sales of approximately $1.1 billion, $1.0 billion and $782 million, respectively.

26



We believe that we may have the potential to grow the number of stores in our international store portfolio, particularly those in the emerging economies which are seeing overall GDP growth and rising incomes. In the United States, we do not see the same opportunity.
In line with our strategy to expand our global reach to new international markets, during fiscal 2011, we acquired a 70% ownership interest in Labuan from Li & Fung. As of February 2, 2013, Labuan operated 100 Toys “R” Us retail stores (90 of which were acquired in fiscal 2011) in Brunei, China, Hong Kong, Malaysia, Singapore, Taiwan and Thailand. In our store count, these stores are considered part of our operated locations upon acquisition. Additionally, Labuan has sublicensed to a third party the right to operate stores in the Philippines and Macau. Refer to Note 17 to our Consolidated Financial Statements entitled “ACQUISITIONS” for further details. Additionally, in fiscal 2011, we established wholly-owned business operations in Poland where we opened our first store in the capital city of Warsaw.
We will continue to focus on expanding our gross margins primarily through optimizing pricing, increasing our private label penetration and increasing our use of direct sourcing. We will also continue to optimize our cost structure and enhance efficiencies throughout the organization to manage our selling, general and administrative expenditures.
Domestically in fiscal 2012, the Company introduced several programs that benefited customers during our holiday selling season. We offered a free, no minimum purchase layaway program early in the season, which allowed customers to take full advantage of the flexible payment terms provided by layaway. In addition, our “Price Match Guarantee” program matched competitors’ in-store pricing on identical items, as well as identical items sold on our websites. Also, for the first time, we offered the Hot Toy Reservation program, a complimentary service that enabled guests to reserve the hottest toys of the holiday season. This service was available for the 50 items on the Company’s annual Holiday Hot Toy List. These programs are also available at select locations within our international markets.
As of the end of fiscal 2012, we operated all of the “R” Us branded retail stores in the United States and Puerto Rico and approximately 80% of the 828 “R” Us branded retail stores internationally (excluding temporary Express store locations). The balance of the “R” Us branded retail stores outside the United States are operated by licensees. Licensing fees did not have a material impact on our Net sales.
As of February 2, 2013, we operated 1,540 retail stores and licensed an additional 163 retail stores worldwide in the following formats:
Operated Stores
852 traditional toy stores, which typically range in size from 20,000 to 50,000 square feet and devote approximately 6,000 square feet to boutique areas for juvenile (including baby) products (BRU Express and Juvenile Expansion formats devote approximately an additional 4,000 square feet and 1,000 square feet, respectively, for juvenile - including baby - products);
374 SBS stores, which typically range in size from 30,000 to 70,000 square feet and devote approximately 20,000 to 40,000 square feet to traditional toy products and approximately 10,000 to 30,000 square feet to juvenile (including baby) products;
252 juvenile stores, which typically range in size from 30,000 to 45,000 square feet and devote approximately 2,000 to 3,000 square feet to traditional toy products;
59 Express stores, which typically range in size from 2,000 to 7,000 square feet, each with a cumulative lease term of at least two years; and
3 flagship store locations (the Toys “R” Us store in Times Square, the FAO Schwarz store on 5th Avenue and the Babies “R” Us store in Union Square – all in New York City), which range in size from approximately 55,000 to 105,000 square feet.
Licensed Stores
163 “R” Us branded retail stores ranging in various sizes.
In addition to these stores, during the fiscal 2012 holiday selling season, we operated an additional 244 temporary Express stores globally in shopping malls, outlet malls and other shopping centers located in high traffic areas, 66 of which remained open as of February 2, 2013. These locations typically range in size from approximately 2,000 to 7,000 square feet, each has a cumulative lease term of less than two years and are not included in our overall store count.
Our extensive experience in retail site selection has resulted in a portfolio of stores that includes attractive locations in many of our chosen markets. Markets for new stores and formats are selected on the basis of proximity to other “R” Us branded stores, demographic factors, population growth potential, competitive environment, availability of real estate and cost. Once a potential market is identified, we select a suitable location based upon several criteria, including size of the property, access to major commercial thoroughfares, proximity of other strong anchor stores, visibility and parking capacity.

27



Our Business Segments
Our business has two reportable segments: Domestic and International. See Note 11 to our Consolidated Financial Statements entitled “SEGMENTS” for our segments’ financial results for fiscals 2012, 2011 and 2010. The following is a brief description of our segments:
Domestic — Our Domestic segment sells a variety of products in the core toy, entertainment, juvenile (including baby), learning and seasonal categories through 875 stores that operate in 49 states in the United States and Puerto Rico and through the Internet. Domestic Net sales in fiscal 2012 were derived from 393 traditional toy stores (including 83 BRU Express and Juvenile Expansion formats), 239 juvenile stores, 204 SBS stores, 36 permanent Express stores and our three flagship stores in New York City. Additionally, we generated Net sales through our temporary Express store locations. Domestic Net sales were $8.1 billion for fiscal 2012, which accounts for 60% of our consolidated Net sales.
International Our International segment sells a variety of products in the core toy, entertainment, juvenile (including baby), learning and seasonal categories through 665 operated and 163 licensed stores in 35 countries and jurisdictions and through the Internet. In addition to fees received from licensed stores, International Net sales in fiscal 2012 were derived from 459 traditional toy stores (including 17 BRU Express formats), 170 SBS stores, 23 permanent Express stores and 13 juvenile stores. Additionally, we generated Net sales through our temporary Express store locations. Our operated stores are located in Australia, Austria, Brunei, Canada, China, France, Germany, Hong Kong, Japan, Malaysia, Poland, Portugal, Singapore, Spain, Switzerland, Taiwan, Thailand and the United Kingdom. International Net sales were $5.4 billion for fiscal 2012, which accounts for 40% of our consolidated Net sales.
In order to properly judge our business performance, it is necessary to be aware of the following challenges and risks:
Liquidity and capital requirements — Our operations have significant liquidity and capital requirements and depend on the availability of adequate financing on reasonable terms. If our lenders are unable to fund borrowings under their credit commitments or we are unable to borrow, it could have a significant negative effect on our business.
Growth opportunities — If we cannot implement our juvenile integration strategy or open new stores, our future growth will be adversely affected. Additionally, the success and expansion of our e-commerce business depends on our ability to provide quality service to our Internet customers and if we are not able to provide such services, our future growth will be adversely affected.
Seasonality — Our business is highly seasonal with a substantial portion of our sales and earnings generated in the fourth quarter. During fiscals 2012, 2011 and 2010, approximately 43%, respectively, of the Net sales from our worldwide business were generated in the fourth quarter. Our results of operations depend significantly upon the fourth quarter holiday selling season.
Spending patterns — Many economic and other factors outside our control, including consumer confidence, consumer spending levels, employment levels, consumer debt levels, inflation and deflation, as well as the availability of consumer credit, affect consumer spending habits.
Increased competition — Our businesses operate in a highly competitive retail market. We compete on the basis of product variety, price, quality, availability, advertising and promotion, convenience or store location, safety, customer support and service. We face strong competition from discount and mass merchandisers, national and regional chains and department stores, consumer electronics retailers, local retailers in the markets we serve and Internet and catalog businesses. Price competition in our retailing business continued to be intense during the fiscal 2012 fourth quarter holiday season.
Video games and video game systems — Video games and video game systems represent a significant portion of our entertainment category. Video games and video game systems have accounted for 7%, 8% and 9% of our annual Net sales for fiscals 2012, 2011 and 2010, respectively. Due to the intensified competition as well as the maturation of new technology, sales of video games and video game systems will periodically experience volatility that may impact our financial performance. Additionally, if video game system manufacturers fail to develop new hardware systems, or if new video game products continue to be sold in channels other than traditional retail stores our sales of video game products could continue to decline, which would negatively impact our financial performance. Our entertainment category, which includes video games and video game systems, had a gross margin rate between approximately 14% and 18% for the past three fiscal years.
International — We conduct a significant portion of our business outside the United States. For fiscals 2012, 2011 and 2010, approximately 40%, 40% and 38% of our Net sales, respectively, were generated outside the United States. Weakened global economic conditions, particularly the weakened and unstable environment in Europe and Japan, and the decline of the Euro, pound and yen, could continue to affect us through lower sales due to reduced demand and the effects of foreign currency translation.

28



On October 29, 2012, Hurricane Sandy hit the eastern coast of the United States, causing significant damage to the surrounding region, including several of our stores. The Company’s organization and assets were not materially damaged by the hurricane, net of insurance claims.

RESULTS OF OPERATIONS
Financial Performance
As discussed in more detail in this MD&A, the following financial data represents an overview of our financial performance for fiscals 2012, 2011 and 2010:
 
 
Fiscal Years Ended
($ In millions)
 
February 2,
2013
 
January 28,
2012
 
January 29,
2011
Net sales
 
$
13,543

 
$
13,909

 
$
13,864

Gross margin
 
4,951

 
4,970

 
4,925

Gross margin as a percentage of Net sales
 
36.6
%
 
35.7
%
 
35.5
%
Selling, general and administrative expenses
 
$
4,041

 
$
4,029

 
$
3,942

Selling, general and administrative expenses as a percentage of Net sales
 
29.8
%
 
29.0
%
 
28.4
%
Net earnings attributable to Toys “R” Us, Inc.
 
$
38

 
$
149

 
$
168

Net sales decreased by $366 million in fiscal 2012 compared to fiscal 2011. Foreign currency translation decreased Net sales by approximately $133 million. Excluding the impact of foreign currency translation, the decrease in Net sales was primarily due to a decrease in comparable store net sales, partially offset by an increase in net sales from new locations within our International segment, including stores acquired in the Labuan acquisition.
Gross margin, as a percentage of Net sales, increased by 0.9 percentage points in fiscal 2012 compared to fiscal 2011 primarily as a result of margin rate improvements across all categories and improvements in sales mix away from lower margin products.
Selling, general and administrative expenses (“SG&A”) increased by $12 million in fiscal 2012 compared to fiscal 2011. Foreign currency translation decreased SG&A by approximately $43 million. Excluding the impact of foreign currency translation, the increase in SG&A was primarily due to an increase in expenses associated with Labuan and rent expense. These increases were partially offset by a decrease in advertising and promotional expenses and credit card processing fees.
Net earnings attributable to Toys “R” Us, Inc. decreased by $111 million in fiscal 2012 compared to fiscal 2011. The decrease in Net earnings attributable to Toys “R” Us, Inc. was primarily due to an increase in Income tax expense and Interest expense, and a decrease in Gross margin dollars.

Comparable Store Net Sales
In computing comparable store net sales, we include stores that have been open for at least 56 weeks (1 year and 4 weeks) from their “soft” opening date. A soft opening is typically two weeks prior to the grand opening. Express stores with a cumulative lease term of at least two years and that have been open for at least 56 weeks from their “soft” opening date are also included in our comparable store net sales computation.
Comparable stores include the following:
stores that have been remodeled (including conversions) while remaining open;
stores that have been relocated and/or expanded to new buildings within the same trade area, in which the new store opens at about the same time as the old store closes;
stores that have expanded within their current locations; and
sales from our Internet businesses.
By measuring the year-over-year sales of merchandise in the stores that have been open for a full comparable 56 weeks or more and on-line, we can better gauge how the core store base and e-commerce businesses are performing since comparable store net sales excludes the impact of store openings and closings.
Various factors affect comparable store net sales, including the number of and timing of stores we open, close, convert, relocate or expand, the number of transactions, the average transaction amount, the general retail sales environment, current local and global economic conditions, consumer preferences and buying trends, changes in sales mix among distribution channels, our ability to efficiently source and distribute products, changes in our merchandise mix, competition, the timing of the release of new merchandise and our promotional events, the success of marketing programs and the cannibalization of existing store net sales by new stores. Among other things, weather conditions can affect comparable store net sales because inclement weather

29



may discourage travel or require temporary store closures, thereby reducing customer traffic. These factors have caused our comparable store net sales to fluctuate significantly in the past on a monthly, quarterly, and annual basis and, as a result, we expect that comparable store net sales will continue to fluctuate in the future.
The following table discloses the change in our comparable store net sales for the fiscal years ended February 2, 2013, January 28, 2012 and January 29, 2011:
 
 
Fiscal Years Ended
 
 
February 2,
2013
 
January 28,
2012
 
January 29,
2011
Domestic
 
(3.5
)%
 
(1.7
)%
 
1.7
 %
International (1)
 
(5.0
)%
 
(2.7
)%
 
(3.1
)%
(1)
For fiscal 2012, international comparable store net sales includes sales from stores acquired in the Labuan acquisition 56 weeks from their acquisition in fiscal 2011.

Percentage of Net Sales by Product Category

 
 
Fiscal Years Ended
Domestic:
 
February 2,
2013
 
January 28,
2012
 
January 29,
2011
Core Toy
 
15.9
%
 
15.8
%
 
15.5
%
Entertainment
 
11.6
%
 
12.9
%
 
13.7
%
Juvenile
 
37.5
%
 
37.3
%
 
37.2
%
Learning
 
22.3
%
 
21.4
%
 
20.9
%
Seasonal
 
11.4
%
 
11.2
%
 
11.4
%
Other (1)
 
1.3
%
 
1.4
%
 
1.3
%
Total
 
100
%
 
100
%
 
100
%

(1)
Consists primarily of shipping and other non-product related revenues.
 
 
Fiscal Years Ended
International:
 
February 2,
2013
 
January 28,
2012
 
January 29,
2011
Core Toy
 
21.9
%
 
22.0
%
 
21.3
%
Entertainment
 
11.4
%
 
11.9
%
 
13.4
%
Juvenile
 
21.6
%
 
21.6
%
 
21.7
%
Learning
 
29.2
%
 
27.8
%
 
26.9
%
Seasonal
 
15.2
%
 
15.9
%
 
15.9
%
Other (1)
 
0.7
%
 
0.8
%
 
0.8
%
Total
 
100
%
 
100
%
 
100
%
 
(1)
Consists primarily of licensing fees from unaffiliated third parties and other non-product related revenues.



30



Store Count by Segment
 
 
 
 
Fiscal 2012
 
 
 
 
January 28, 2012
 
Opened
 
Closed (5)
 
Conversions
 
Relocations
 
February 2, 2013
Domestic:
 
 
 
 
 
 
 
 
 
 
 
 
Standalone stores (1)(3)
 
693

 
10

 
(9
)
 
(14
)
 
(9
)
 
671

Side-by-side stores
 
183

 
2

 

 
13

 
6

  
204

Total Domestic
 
876

 
12

 
(9
)
 
(1
)
(6)
(3
)
(7)
875

International:
 
 
 
 
 
 
 
 
 
 
 
 
Standalone stores (2)(3)
 
482

 
45

 
(14
)
 
(18
)
 

  
495

Side-by-side stores
 
144

 
8

 

 
18

 

  
170

Total International
 
626

 
53

 
(14
)
 

 

  
665

Total Operated (3)(4)
 
1,502

 
65

 
(23
)
 
(1
)
 
(3
)
 
1,540

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Fiscal 2011
 
 
 
 
January 29, 2011
 
Opened
 
Closed (5)
 
Conversions
 
Relocations
 
January 28, 2012
Domestic:
 
 
 
 
 
 
 
 
 
 
 
 
Standalone stores (1)(3)
 
729

 
18

 
(8
)
 
(24
)
 
(22
)
 
693

Side-by-side stores
 
139

 
4

 

 
24

 
16

  
183

Total Domestic
 
868

 
22

 
(8
)
 

 
(6
)
(7)
876

International:
 
 
 
 
 
 
 
 
 
 
 
 
Standalone stores (2)(3)
 
407

 
100

(8)
(4
)
 
(21
)
 

  
482

Side-by-side stores
 
117

 
6

 

 
21

 

  
144

Total International
 
524

 
106

 
(4
)
 

 

  
626

Total Operated (3)(4)
 
1,392

 
128

 
(12
)
 

 
(6
)
  
1,502

 
(1)
Store count as of February 2, 2013 includes 21 BRU Express stores and 62 Juvenile Expansions. Store count as of January 28, 2012 included 20 BRU Express stores and 62 Juvenile Expansions. Store count as of January 29, 2011 included 14 BRU Express and 65 Juvenile Expansions.
(2)
Store count as of February 2, 2013 includes 17 BRU Express stores. Store count as of January 28, 2012 included 14 BRU Express Stores. Store count as of January 29, 2011 included seven BRU Express stores.
(3)
Express stores with a cumulative lease term of at least two years are included in our overall store count, while remaining locations are excluded. As of February 2, 2013, there were 84 Domestic and 41 International Express stores open, 36 and 23 of which have been included in our overall store count within our Domestic and International segments, respectively. As of January 28, 2012, there were 47 Domestic and 43 International Express stores open, 31 of which were included in our overall store count within our Domestic segment, and none of which were included within our International segment. As of January 29, 2011, there were 79 Domestic and 16 International Express stores open, 19 of which were included in our overall store count within our Domestic segment, and none of which were included within our International segment.
(4)
Excluded from our overall store count are 163, 151 and 220 International licensed stores as of February 2, 2013, January 28, 2012 and January 29, 2011, respectively.
(5)
Excludes stores closed as a result of conversions and relocations.
(6)
Of the 13 conversions in fiscal 2012, one was accompanied by multiple store closings.
(7)
Of the six relocations in fiscal 2012, three were accompanied by multiple store closings. Of the 16 relocations in fiscal 2011, six were accompanied by multiple store closings.
(8)
Includes 92 stores related to the Labuan acquisition. Refer to Note 17 to our Consolidated Financial Statements entitled “ACQUISTIONS” for further details.


31




Fiscal 2012 Compared to Fiscal 2011

Net Earnings Attributable to Toys “R” Us, Inc.
(In millions)
 
Fiscal
2012
 
Fiscal
2011
 
Change
Toys “R” Us - Consolidated
 
$
38

 
$
149

 
$
(111
)
Net earnings attributable to Toys “R” Us, Inc. decreased by $111 million to $38 million in fiscal 2012, compared to $149 million in fiscal 2011. The decrease in Net earnings attributable to Toys “R” Us, Inc. was primarily related to an increase in Income tax expense of $54 million and an increase in Interest expense of $38 million, which was predominantly due to the issuance of the $450 million aggregate principal amount of 10.375% senior notes due fiscal 2017 (the “2017 Notes”) and the repayment of the $400 million outstanding principal amount of our 7.875% senior notes due fiscal 2013 (the “2013 Notes”). Additionally contributing to the decrease in Net earnings attributable to Toys “R” Us, Inc. was a decrease in Gross margin dollars of $19 million related to foreign currency translation.

Net Sales
 
 
 
 
 
 
 
 
 
 
Percentage of Net sales
($ In millions)
 
Fiscal
2012
 
Fiscal
2011
 
$ Change
 
% Change
 
Fiscal
2012
 
Fiscal
2011
Domestic
 
$
8,149

 
$
8,393

 
$
(244
)
 
(2.9
)%
 
60.2
%
 
60.3
%
International
 
5,394

 
5,516

 
(122
)
 
(2.2
)%
 
39.8
%
 
39.7
%
Toys “R” Us - Consolidated
 
$
13,543

 
$
13,909

 
$
(366
)
 
(2.6
)%
 
100.0
%
 
100.0
%
Net sales decreased by $366 million or 2.6%, to $13,543 million in fiscal 2012, compared to $13,909 million in fiscal 2011. The impact of foreign currency translation decreased Net sales in fiscal 2012 by approximately $133 million. Our reporting period for fiscal 2012 included 53 weeks compared to 52 weeks for fiscal 2011, which included an additional week of net sales of approximately $152 million.
Excluding the impact of foreign currency translation, the decrease in Net sales for fiscal 2012 was primarily due to a decrease in comparable store net sales. The decrease in comparable store net sales was primarily driven by a decrease in the number of transactions, partially offset by higher average transaction amounts within our Domestic segment. Additionally offsetting the decrease in Net sales was an increase in net sales from new locations within our International segment, including stores acquired in the Labuan acquisition.
Domestic
Net sales for the Domestic segment decreased by $244 million or 2.9%, to $8,149 million in fiscal 2012, compared to $8,393 million in fiscal 2011. The decrease in Net sales was primarily a result of a decrease in comparable store net sales of 3.5%. Our reporting period for fiscal 2012 included 53 weeks compared to 52 weeks for fiscal 2011, which included an additional week of net sales of approximately $95 million.
The decrease in comparable store net sales resulted primarily from decreases in our entertainment, juvenile (including baby) and core toy categories. The decrease in our entertainment category was primarily due to decreased sales of video game software and systems. The decrease in our juvenile (including baby) category was predominantly due to decreased sales of apparel and furniture. The decrease in our core toy category was primarily due to decreased sales of action vehicles.
International
Net sales for the International segment decreased by $122 million or 2.2%, to $5,394 million in fiscal 2012, compared to $5,516 million in fiscal 2011. Excluding a $133 million decrease in Net sales due to foreign currency translation, International Net sales increased primarily as a result of an increase in net sales from new locations, including stores acquired in the Labuan acquisition. Partially offsetting this increase was a decrease in comparable store net sales of 5.0%. Our reporting period for fiscal 2012 included 53 weeks compared to 52 weeks for fiscal 2011, which included an additional week of net sales of approximately $57 million.
The decrease in comparable store net sales resulted primarily from decreases in our core toy, seasonal and entertainment categories. The decrease in our core toy category was primarily due to decreased sales of action figures. The decrease in our seasonal category was predominantly due to decreased sales of outdoor products. The decrease in our entertainment category was primarily due to decreased sales of video game systems and software.

32




Cost of Sales and Gross Margin
We record the costs associated with operating our distribution networks as a part of SG&A, including those costs that primarily relate to transporting merchandise from distribution centers to stores. Therefore, our consolidated Gross margin may not be comparable to the gross margins of other retailers that include similar costs in their cost of sales.
The following are reflected in “Cost of sales”:
the cost of merchandise acquired from vendors;
freight in;
provision for excess and obsolete inventory;
shipping costs to consumers;
provision for inventory shortages; and
credits and allowances from our merchandise vendors.
Gross Margin
 
 
Percentage of Net sales
($ In millions)
 
Fiscal
2012
 
Fiscal
2011
 
$ Change
 
Fiscal
2012
 
Fiscal
2011
 
Change
Domestic
 
$
2,885

 
$
2,876

 
$
9

 
35.4
%
 
34.3
%
 
1.1
%
International
 
2,066

 
2,094

 
(28
)
 
38.3
%
 
38.0
%
 
0.3
%
Toys “R” Us - Consolidated
 
$
4,951

 
$
4,970

 
$
(19
)
 
36.6
%
 
35.7
%
 
0.9
%
Gross margin decreased by $19 million to $4,951 million in fiscal 2012, compared to $4,970 million in fiscal 2011. Foreign currency translation decreased Gross margin by approximately $53 million.
Gross margin, as a percentage of Net sales, increased by 0.9 percentage points in fiscal 2012 compared to fiscal 2011. Gross margin, as a percentage of Net sales, was primarily impacted by margin rate improvements across all categories and improvements in sales mix away from lower margin products.
Domestic
Gross margin increased by $9 million to $2,885 million in fiscal 2012, compared to $2,876 million in fiscal 2011. Gross margin, as a percentage of Net sales, increased by 1.1 percentage points in fiscal 2012 compared to fiscal 2011.
The increase in Gross margin, as a percentage of Net sales, resulted primarily from improvements in margin rates, predominantly in our learning and seasonal categories. Additionally contributing to the increase were improvements in sales mix away from lower margin products, primarily in our entertainment category.
International
Gross margin decreased by $28 million to $2,066 million in fiscal 2012, compared to $2,094 million in fiscal 2011. Foreign currency translation decreased Gross margin by approximately $53 million. Gross margin, as a percentage of Net sales, increased by 0.3 percentage points in fiscal 2012 compared to fiscal 2011.
The increase in Gross margin, as a percentage of Net sales, resulted primarily from improvements in margin rates, predominantly in our entertainment and core toy categories.

Selling, General and Administrative Expenses
The following are the types of costs included in SG&A:
store payroll and related payroll benefits;
rent and other store operating expenses;
advertising and promotional expenses;
costs associated with operating our distribution network, including costs related to transporting merchandise from distribution centers to stores;
restructuring charges; and
other corporate-related expenses.

33



 
 
Percentage of Net sales
($ In millions)
 
Fiscal
2012
 
Fiscal
2011
 
$ Change
 
Fiscal
2012
 
Fiscal
2011
 
Change
Toys “R” Us - Consolidated
 
$
4,041

 
$
4,029

 
$
12

 
29.8
%
 
29.0
%
 
0.8
%
SG&A increased by $12 million to $4,041 million in fiscal 2012, compared to $4,029 million in fiscal 2011. Foreign currency translation decreased SG&A by approximately $43 million. As a percentage of Net sales, SG&A increased by 0.8 percentage points.
Excluding the impact of foreign currency translation, the increase in SG&A was primarily due to a $70 million increase in expenses associated with Labuan, which was acquired on October 31, 2011. In addition, rent expense attributable to new and existing locations increased by $29 million. These increases were partially offset by a decrease of $33 million in advertising and promotional expenses and a decrease of $13 million in expenses associated with credit card processing fees.

Depreciation and Amortization
(In millions)
 
Fiscal
2012
 
Fiscal
2011
 
Change
Toys “R” Us - Consolidated
 
$
407

 
$
403

 
$
4

Depreciation and amortization increased by $4 million to $407 million for fiscal 2012, compared to $403 million in fiscal 2011. Foreign currency translation decreased depreciation and amortization by approximately $3 million. Excluding the impact of foreign currency translation, the increase in Depreciation and amortization was primarily due to the amortization of intangible assets in conjunction with the Labuan acquisition in fiscal 2011.

Other Income, Net
Other income, net includes the following:
credit card program income;
gift card breakage income;
impairment of long-lived assets;
net gains on sales of properties;
foreign exchange gains and losses; and
other operating income and expenses.
(In millions)
 
Fiscal
2012
 
Fiscal
2011
 
Change
Toys “R” Us - Consolidated
 
$
53

 
$
44

 
$
9

Other income, net increased by $9 million to $53 million in fiscal 2012, compared to $44 million in fiscal 2011. The increase was primarily due to a $9 million increase in credit card program income and an increase of $3 million in advertising income from our websites, partially offset by a $5 million increase in impairment of long-lived assets.
Refer to Note 1 to our Consolidated Financial Statements entitled “SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES” for further details.

Interest Expense
(In millions)
 
Fiscal
2012
 
Fiscal
2011
 
Change
Toys “R” Us - Consolidated
 
$
480

 
$
442

 
$
38

Interest expense increased by $38 million to $480 million in fiscal 2012, compared to $442 million in fiscal 2011. The increase was primarily due to the issuance of the 2017 Notes and the repayment of the 2013 Notes, which included a make-whole premium of approximately $18 million. Additionally contributing to the increase in Interest expense was approximately $11 million related to the issuance of the $225 million new tranche of term loans due fiscal 2018 in April 2012 (the “Second Incremental Secured Term Loan”).


34



Interest Income
(In millions)
 
Fiscal
2012
 
Fiscal
2011
 
Change
Toys “R” Us - Consolidated
 
$
16

 
$
10

 
$
6

Interest income increased by $6 million to $16 million for fiscal 2012, compared to $10 million in fiscal 2011. The increase was primarily due to the accretion of the Vanwall Finance PLC (“Vanwall”) securities we held to face value, the majority of which were purchased in the third quarter of fiscal 2011.

Income Tax Expense (Benefit)
($ In millions)
 
Fiscal
2012
 
Fiscal
2011
 
Change
Toys “R” Us - Consolidated
 
53

 
(1
)
 
54

Consolidated effective tax rate
 
57.6
%
 
(0.7
)%
 
58.3
%
The net increase in income tax expense of $54 million in fiscal 2012 compared to fiscal 2011 was principally due to an increase in expense for non-routine, discrete items, partially offset by a benefit associated with the decrease in pre-tax earnings (multiplied by the statutory tax rate).
Our income tax expense in fiscal 2012 was unfavorably impacted by certain non-routine, discrete items, including an increase to our valuation allowance for certain state tax jurisdictions. The determination by the Company to increase our valuation allowance was predominantly due to the fact that, as of the end of fiscal 2012, in certain state tax jurisdictions we have incurred a pre-tax cumulative loss (after adjustments required for tax purposes) over the past three fiscal years. A valuation allowance is a non-cash charge, which does not prevent us from using tax loss carryforwards and other deferred tax assets in future periods. It reflects a reduction in the benefit we expect is more likely than not to be realized from these items. Also contributing to an increase in the fiscal 2012 tax expense are adjustments to deferred taxes resulting from changes to statutory tax rates in various jurisdictions. These expense items were partially offset by tax benefits related to the resolution of ongoing tax examinations in various jurisdictions.
Our income tax benefit in fiscal 2011 was favorably impacted by certain non-routine, discrete items, including benefits associated with a decrease in our valuation allowance due to the improved operating performance of one of our foreign subsidiaries, which will allow for the use of certain tax loss carryforwards and other tax attributes. Also contributing to the fiscal 2011 benefit to a lesser extent was a reduction in the liability for unrecognized tax benefits due to the resolution of ongoing tax examinations in various jurisdictions. Refer to Note 10 to the Consolidated Financial Statements entitled “INCOME TAXES” for further details.
For fiscal 2013 and future periods, we estimate that our Consolidated effective tax rate will be approximately 40%. There are many factors beyond our control that affect our tax rate, which include (but are not limited to) changes in tax laws, our mix and level of earnings by taxing jurisdiction and changes to our ownership or capital structures. Therefore the actual tax rates may vary from these estimates and such variations may be material (see also Item 1A entitled “Risk Factors”-“We may experience fluctuations in our tax obligations and effective tax rate, which could materially and adversely affect our results of operations”).

Fiscal 2011 Compared to Fiscal 2010

Net Earnings Attributable to Toys “R” Us, Inc.
(In millions)
 
Fiscal
2011
 
Fiscal
2010
 
Change
Toys “R” Us - Consolidated
 
$
149

 
$
168

 
$
(19
)
Net earnings attributable to Toys “R” Us, Inc. decreased by $19 million to $149 million in fiscal 2011, compared to $168 million in fiscal 2010. The decrease in Net earnings attributable to Toys “R” Us, Inc. was primarily due to an increase in SG&A of $87 million related to foreign currency translation, a decrease in Income tax benefit of $34 million due principally to a net reduction in non-routine discrete benefits, an increase in Depreciation and amortization of $15 million and a decrease in Other income, net of $7 million. Partially offsetting these amounts was a decrease in Interest expense of $79 million primarily related to the accelerated write-off of deferred financing fees and the expiration of certain interest rate swaps in fiscal 2010. Additionally offsetting the decrease was an increase in Gross margin of $45 million primarily due to foreign currency translation and improvements in sales mix away from lower margin products.


35



Net Sales
 
 
 
 
 
 
 
 
 
 
Percentage of Net sales
($ In millions)
 
Fiscal
2011
 
Fiscal
2010
 
$ Change
 
% Change
 
Fiscal
2011
 
Fiscal
2010
Domestic
 
$
8,393

 
$
8,621

 
$
(228
)
 
(2.6
)%
 
60.3
%
 
62.2
%
International
 
5,516

 
5,243

 
273

 
5.2
 %
 
39.7
%
 
37.8
%
Toys “R” Us - Consolidated
 
$
13,909

 
$
13,864

 
$
45

 
0.3
 %
 
100.0
%
 
100.0
%
Net sales increased by $45 million or 0.3%, to $13,909 million in fiscal 2011, compared to $13,864 million in fiscal 2010. Net sales for fiscal 2011 included the impact of foreign currency translation which increased Net sales by approximately $293 million.
Excluding the impact of foreign currency translation, the decrease in Net sales for fiscal 2011 was primarily due to a decrease in comparable store net sales. The decrease in comparable store net sales was primarily driven by a decrease in the number of transactions, partially offset by an increase in net sales from our Internet operations. Additionally offsetting the decrease in Net sales was an increase in net sales from new locations within our International segment, including stores acquired in the Labuan acquisition.
Domestic
Net sales for the Domestic segment decreased by $228 million or 2.6%, to $8,393 million in fiscal 2011, compared to $8,621 million in fiscal 2010. The decrease in Net sales was primarily a result of a decrease in comparable store net sales of 1.7% and a decrease in net sales attributable to significantly fewer Express stores operated in fiscal 2011 compared to the prior year.
The decrease in comparable store net sales resulted primarily from decreases in our entertainment, juvenile and seasonal categories. The decrease in our entertainment category was primarily due to decreased sales of video game software and systems. The decrease in our juvenile category was primarily due to decreased sales of baby gear and commodities. The decrease in our seasonal category was primarily due to decreased sales of outdoor products. Partially offsetting these decreases was an increase in our learning category primarily as a result of increased sales of construction toys.
International
Net sales for the International segment increased by $273 million or 5.2%, to $5,516 million in fiscal 2011, compared to $5,243 million in fiscal 2010. Excluding a $293 million increase in Net sales due to foreign currency translation, International Net sales decreased primarily as a result of a decrease in comparable store net sales of 2.7%. Partially offsetting the decrease was an increase in net sales from new locations, including stores acquired in the Labuan acquisition.
The decrease in comparable store net sales resulted primarily from decreases in our entertainment and seasonal categories. The decrease in our entertainment category was primarily due to decreased sales of video game software and systems. The decrease in our seasonal category was primarily due to decreased sales of outdoor products.

Gross Margin
 
 
Percentage of Net sales
($ In millions)
 
Fiscal
2011
 
Fiscal
2010
 
$ Change
 
Fiscal
2011
 
Fiscal
2010
 
Change
Domestic
 
$
2,876

 
$
3,004

 
$
(128
)
 
34.3
%
 
34.8
%
 
(0.5
)%
International
 
2,094

 
1,921

 
173

 
38.0
%
 
36.6
%
 
1.4
 %
Toys “R” Us - Consolidated
 
$
4,970

 
$
4,925

 
$
45

 
35.7
%
 
35.5
%
 
0.2
 %
Gross margin increased by $45 million to $4,970 million in fiscal 2011, compared to $4,925 million in fiscal 2010. Foreign currency translation accounted for approximately $113 million of the increase in Gross margin. Gross margin, as a percentage of Net sales, increased by 0.2 percentage points in fiscal 2011 compared to fiscal 2010. Gross margin, as a percentage of Net sales, was primarily impacted by improvements in sales mix away from lower margin products, partially offset by margin rate declines within our Domestic segment.

36



Domestic
Gross margin decreased by $128 million to $2,876 million in fiscal 2011, compared to $3,004 million in fiscal 2010. Gross margin, as a percentage of Net sales, decreased by 0.5 percentage points in fiscal 2011 compared to fiscal 2010.
The decrease in Gross margin, as a percentage of Net sales, resulted primarily from margin rate declines predominantly within our juvenile and learning categories. Partially offsetting the decrease were improvements in sales mix away from lower margin products, predominantly in our entertainment category.
International
Gross margin increased by $173 million to $2,094 million in fiscal 2011, compared to $1,921 million in fiscal 2010. Foreign currency translation accounted for approximately $113 million of the increase in Gross margin. Gross margin, as a percentage of Net sales, increased by 1.4 percentage points in fiscal 2011 compared to fiscal 2010.
The increase in Gross margin, as a percentage of Net sales, resulted primarily from improvements in margin rate within our core toy, juvenile and learning categories, as well as improvements in sales mix away from lower margin products, predominantly in our entertainment category.

Selling, General and Administrative Expenses
 
 
Percentage of Net sales
($ In millions)
 
Fiscal
2011
 
Fiscal
2010
 
$ Change
 
Fiscal
2011
 
Fiscal
2010
 
Change
Toys “R” Us - Consolidated
 
$
4,029

 
$
3,942

 
$
87

 
29.0
%
 
28.4
%
 
0.6
%
SG&A increased by $87 million to $4,029 million in fiscal 2011, compared to $3,942 million in fiscal 2010. Foreign currency translation increased SG&A by approximately $95 million. As a percentage of Net sales, SG&A increased by 0.6 percentage points.
Excluding the impact of foreign currency translation, the decrease in SG&A was primarily due to a decrease in professional fees of approximately $16 million predominantly related to prior year litigation settlement expenses for certain legal matters of $23 million, and a decrease in pre-opening and payroll expenses of approximately $10 million and $9 million due largely to fewer new locations, including Express stores. In addition, rent expense decreased approximately $8 million mainly attributable to a $16 million non-cash cumulative straight-line lease accounting correction which the Company recorded in fiscal 2010. These decreases were partially offset by an increase in advertising and promotional expenses of approximately $30 million primarily due to an increase in promotional and broadcast advertising activity, as well as an increase of $10 million associated with the fulfillment of increased online sales.

Depreciation and Amortization
(In millions)
 
Fiscal
2011
 
Fiscal
2010
 
Change
Toys “R” Us - Consolidated
 
$
403

 
$
388

 
$
15

Depreciation and amortization increased by $15 million to $403 million in fiscal 2011, compared to $388 million in fiscal 2010. The increase primarily resulted from foreign currency translation of $8 million, and increased accelerated depreciation from relocated locations to our SBS format.

Other Income, Net
(In millions)
 
Fiscal
2011
 
Fiscal
2010
 
Change
Toys “R” Us - Consolidated
 
$
44

 
$
51

 
$
(7
)
Other income, net decreased by $7 million to $44 million in fiscal 2011, compared to $51 million in fiscal 2010. The decrease was primarily due to a $7 million decrease in net gains on sales of properties and a decrease of $6 million in credit card program income, partially offset by a $5 million decrease in impairment of long-lived assets.
Refer to Note 1 to our Consolidated Financial Statements entitled “SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES” for further details.


37



Interest Expense
(In millions)
 
Fiscal
2011
 
Fiscal
2010
 
Change
Toys “R” Us - Consolidated
 
$
442

 
$
521

 
$
(79
)
Interest expense decreased by $79 million to $442 million in fiscal 2011, compared to $521 million in fiscal 2010. The decrease was primarily due to a decline in deferred financing fees of $34 million predominantly related to the accelerated write-off of fees as a result of refinancings in the third quarter of fiscal 2010. Additionally contributing to the decline was a decrease of $32 million due to the expiration of certain interest rate swaps in fiscal 2010.

Interest Income
(In millions)
 
Fiscal
2011
 
Fiscal
2010
 
Change
Toys “R” Us - Consolidated
 
$
10

 
$
7

 
$
3

Interest income increased by $3 million to $10 million for fiscal 2011, compared to $7 million in fiscal 2010.

Income Tax Expense (Benefit)
($ In millions)
 
Fiscal
2011
 
Fiscal
2010
 
Change
Toys “R” Us - Consolidated
 
$
(1
)
 
$
(35
)
 
$
34

Consolidated effective tax rate
 
(0.7
)%
 
(26.5
)%
 
25.8
%
The net decrease in income tax benefit of $34 million in fiscal 2011 compared to fiscal 2010 was principally due to lower non-routine discrete benefits, the increase in pre-tax earnings (multiplied by the statutory tax rate), an increase in taxable permanent items, and a change in the mix of pre-tax earnings.
Our income tax benefit in fiscal 2011 was favorably impacted by certain non-routine, discrete items, including benefits associated with a decrease in our valuation allowance due to the improved operating performance of one of our foreign subsidiaries, which will allow for the use of certain tax loss carryforwards and other tax attributes. Also contributing to the fiscal 2011 benefit to a lesser extent was a reduction in the liability for unrecognized tax benefits due to the resolution of ongoing tax examinations in various jurisdictions. Although these benefits favorably impacted our Income tax expense (benefit) for fiscal 2011, they were less than other non-routine, discrete items that provided a benefit in fiscal 2010, including the benefit associated with a decrease in our valuation allowance due to tax planning strategies identified and developed in the fourth quarter of fiscal 2010, as well as the improved operating performance of one of our foreign subsidiaries, each of which will allow for the use of certain tax loss carryforwards and other tax attributes. Also contributing to the fiscal 2010 benefit to a lesser extent was a reduction in the liability for unrecognized tax benefits due to the resolution of ongoing tax examinations in various jurisdictions, receiving a favorable ruling from a taxing authority and making protective elections. Refer to Note 10 to the Consolidated Financial Statements entitled “INCOME TAXES” for further details.

LIQUIDITY AND CAPITAL RESOURCES
Overview
As of February 2, 2013, we were in compliance with all of our covenants related to our outstanding debt. At February 2, 2013, under our $1.85 billion secured revolving credit facility (“ABL Facility”), we had no outstanding borrowings, a total of $113 million of outstanding letters of credit and excess availability of $979 million. We are also subject to a minimum excess availability covenant, which was $125 million at February 2, 2013, with remaining availability of $854 million in excess of the covenant.
Toys-Japan currently has an agreement with a syndicate of financial institutions, which includes two unsecured loan commitment lines of credit (“Tranche 1” and “Tranche 2”). On June 25, 2012, Toys-Japan amended the terms of Tranche 1. Tranche 1 is available in amounts of up to ¥12.9 billion ($139 million at February 2, 2013), expiring on June 28, 2013. At February 2, 2013, we had outstanding borrowings of $11 million under Tranche 1, with $128 million of remaining availability.
Additionally on June 25, 2012, Toys-Japan entered into an agreement with a syndicate of financial institutions to refinance Tranche 2. Tranche 2 is available in amounts of up to ¥12.0 billion ($129 million at February 2, 2013), expiring on June 27, 2014. At February 2, 2013, we had outstanding borrowings of $16 million under Tranche 2, with $113 million of remaining availability.

38



Toys-Japan also has an uncommitted line of credit with total availability of ¥2.8 billion ($31 million at February 2, 2013), which will renew April 1 of each year unless otherwise canceled. As of February 2, 2013, we had no outstanding borrowings under the uncommitted line of credit.
Our European and Australian asset-based revolving credit facility as amended (“the European ABL Facility”) provides for a five-year £138 million ($217 million at February 2, 2013) asset-based senior secured revolving credit facility which will expire on March 8, 2016. At February 2, 2013, we had no outstanding borrowings under the European ABL Facility.
Labuan has several uncommitted unsecured lines of credit with various financial institutions with total availability of HK$331 million ($43 million at February 2, 2013). As of February 2, 2013, we had $14 million of borrowings and $3 million of bank guarantees issued under these facilities. The remaining availability under these facilities was $26 million.
We are dependent on the borrowings provided by our lenders to support our working capital needs, capital expenditures and service debt. As of February 2, 2013, we have funds available to finance our operations under our European ABL Facility through March 2016, our ABL Facility through August 2015, and our Toys-Japan unsecured credit lines with a tranche maturing June 2013 and a tranche maturing June 2014. In addition, Labuan and Toys-Japan have uncommitted lines of credit, which are due on demand. If our cash flow and capital resources do not provide the necessary liquidity, it could have a significant negative effect on our results of operations.
In general, our primary uses of cash are providing for working capital purposes (which principally represents the purchase of inventory), servicing debt, remodeling existing stores (including conversions), financing construction of new stores and paying expenses, such as payroll costs, to operate our stores. Our working capital needs follow a seasonal pattern, peaking in the third quarter of the year when inventory is purchased for the fourth quarter holiday selling season. For fiscal 2012, peak borrowings under our revolving credit facilities and credit lines amounted to $485 million. In connection with the refinancings of our UK, Spanish and French real estate credit facilities described below, we will have used approximately $322 million of liquidity to repay the principal of such facilities.
Our largest source of operating cash flows is cash collections from our customers. We have been able to meet our cash needs principally by using cash on hand, cash flows from operations and borrowings under our revolving credit facilities and credit lines. Although we believe that cash generated from operations, along with our existing cash, revolving credit facilities and credit lines will be sufficient to fund our expected cash flow requirements and planned capital expenditures for at least the next 12 months, any world-wide financial market disruption could have a negative impact on our ability to refinance our maturing debt and available resources in the future.
As of February 2, 2013, the amount of Cash and cash equivalents held outside of the United States by our foreign subsidiaries for which we have asserted that we are permanently reinvested in their earnings is $86 million. If these funds are needed in the future for our operations in the United States, we would accrue and pay the required U.S. taxes to repatriate these funds. We have estimated that the tax cost to repatriate these funds, net of associated foreign tax credits, is not more than $2 million. However, our intent is to permanently reinvest these funds outside of the United States.
Capital Expenditures
A component of our long-term str