Annual Report — [x] Reg. S-K Item 405 — Form 10-K
Filing Table of Contents
Document/Exhibit Description Pages Size
1: 10-K405 Annual Report -- [x] Reg. S-K Item 405 71 408K
2: EX-11.1 Statement re: Computation of Earnings Per Share 1 7K
3: EX-23.1 Consent of Experts or Counsel 1 6K
4: EX-23.2 Consent of Experts or Counsel 1 6K
5: EX-27.1 Financial Data Schedule (Pre-XBRL) 2 7K
6: EX-27.2 Financial Data Schedule (Pre-XBRL) 2 9K
7: EX-27.3 Financial Data Schedule (Pre-XBRL) 2 8K
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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------
FORM 10-K
FOR ANNUAL AND TRANSITION REPORTS PURSUANT TO SECTIONS 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
(MARK ONE)
/X/ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1997
OR
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
Commission file number 1-11735
------------------------
99 CENTS ONLY STORES
(Exact name of registrant as specified in its charter)
CALIFORNIA 95-2411605
(State or other Jurisdiction (I.R.S. Employer Identification
of Incorporation or Organization) No.)
4000 UNION PACIFIC AVENUE, 90023
CITY OF COMMERCE, CALIFORNIA (zip code)
(Address of Principal Executive Offices)
Registrant's telephone number, including area code: (213) 980-8145
Securities registered pursuant to Section 12(b) of the Act:
COMMON STOCK, NO PAR VALUE NEW YORK STOCK EXCHANGE
Securities registered pursuant to Section 12(g) of the Act: None
------------------------
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Security 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 last 90 days. 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/
The aggregate market value of Common Stock held by non-affiliates of the
Registrant on March 26, 1998 was $229,772,484 based on a $37.50 average of the
high and low sales prices for the Common Stock on such date. For purposes of
this computation, all executive officers and directors have been deemed to be
affiliates. Such determination should not be deemed to be an admission that such
executive officers and directors are, in fact, affiliates of the Registrant.
Indicate the number of shares outstanding of each of the issuer's classes of
stock as of the latest practicable date.
Common Stock, No Par Value, 18,578,060 Shares as of March 26, 1998
Portions of Part III of this report have been incorporated by reference from
the Company's Proxy Statement for the 1998 Annual Shareholders meeting.
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99 CENTS ONLY STORES
TABLE OF CONTENTS
[Enlarge/Download Table]
PAGE
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Part I
Item 1. Business....................................................................................... 3
Item 2. Properties..................................................................................... 14
Item 3. Legal Proceedings.............................................................................. 15
Item 4. Submission of Matters to a Vote of Security Holders............................................ 15
Part II
Item 5. Market for Registrant's Common Stock and Related Stockholder Matters........................... 15
Item 6. Selected Financial Data........................................................................ 16
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.......... 18
Item 7A. Quantitative and Qualitative Disclosures About Market Risk..................................... 31
Item 8. Financial Statements and Supplementary Data.................................................... 32
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure...........
64
Part III
Item 10. Directors and Executive Officers of the Registrant............................................. 64
Item 11. Executive Compensation......................................................................... 64
Item 12. Security Ownership of Certain Beneficial Owners and Management................................. 64
Item 13. Certain Relationships and Related Transactions................................................. 64
Part IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K................................ 64
2
PART I
ITEM 1. BUSINESS
99 CENTS Only Stores is a leading deep-discount retailer of primarily
name-brand, consumable general merchandise at an affordable, single price point
of 99 CENTS. The Company's stores offer a wide assortment of regularly available
consumer goods as well as a broad variety of first-quality, close-out
merchandise. In 1997, a majority of the Company's product offerings were
comprised of recognizable name-brand merchandise and were regularly available
for reorder. The Company provides customers significant value on their everyday
household needs and an exciting shopping experience in customer-service-oriented
stores which are attractively merchandised, brightly lit and well-maintained.
The Company believes that its name-brand focus, along with a product mix
emphasizing value-priced food and beverage and other everyday household items,
increases the frequency of consumer visits and impulse purchases and reduces the
Company's exposure to seasonality and economic cycles. The Company believes its
format appeals to value-conscious customers in all socio-economic groups and
results in a high volume of sales. The Company's 54 existing 99 CENTS Only
Stores are located in Southern California and have an average size of
approximately 15,000 square feet. The Company's 99 CENTS Only Stores generated
average net sales per estimated saleable square foot of $354, which the Company
believes is among the highest in the deep-discount convenience store industry,
and average net sales per store of $3.8 million in 1997.
The Company opened its first 99 CENTS Only Store in 1982 and believes that
it operates the nation's oldest existing single price point general merchandise
chain. The Company competes in the deep-discount industry, which is one of the
fastest growing retail sectors in the United States. The Company significantly
increased its rate of store expansion following its initial public offering in
May 1996, expanding its 99 CENTS Only Stores from 36 stores and 332,100
estimated saleable square feet at December 31, 1995 to 53 stores and 631,500
estimated saleable square feet at December 31, 1997, representing a compound
annual growth rate ("CAGR") of 21% and 38%, respectively. The Company believes
that its attractive store-level economics facilitates its expansion.
Historically, the Company's 99 CENTS Only Stores have been profitable within
their first year of operation. In the first quarter of 1998, the Company opened
two stores (including one relocation), and plans to open an additional 11 stores
(including one relocation) during the remainder of the year. The Company intends
to continue its planned store expansion over the next several years at a
targeted growth rate of approximately 20% per year. The Company estimates that
the Southern California market has the potential for over 150 additional
99 CENTS Only Stores.
The Company also sells merchandise through its Bargain Wholesale division at
prices generally below normal wholesale levels to local, regional, and national
discount, drug and grocery store chains and independent retailers, distributors
and exporters. Bargain Wholesale complements the Company's retail operations by
allowing the Company to purchase in larger volumes at more favorable pricing, to
be exposed to a broader selection of opportunistic buys and to generate
additional sales with relatively small incremental increases in operating
expenses, contributing to strong overall operating margins for the Company.
Bargain Wholesale enables the Company to sell merchandise at prices other than
99 CENTS, providing the Company greater flexibility in inventory management.
Bargain Wholesale represented 19.4% of the Company's net sales in 1997.
INDUSTRY
The Company participates primarily in the deep-discount retail industry,
which is distinguished from other retail formats by the purchase of close-out
and other special-situation merchandise at prices substantially below original
wholesale cost, and the subsequent sale of this merchandise at prices
significantly below regular retail. This results in a continually changing
selection of specific brands of products. The deep-discount retail industry is
one of the fastest growing retail sectors in the United States.
The sale of close-out or special-situation merchandise develops in response
to the need of manufacturers, wholesalers and others to distribute merchandise
outside their normal channels. Close-out or
3
special-situation merchandise becomes available for a variety of reasons,
including a manufacturer's over-production, discontinuance due to a change in
style, color, size, formulation or packaging, the inability to move merchandise
effectively through regular channels, reduction of excess seasonal inventory,
discontinuation of test-marketed items and the financial needs of the
manufacturer.
Many deep-discount retailers also sell merchandise that can be purchased
from a manufacturer or wholesaler on a regular basis. Although this merchandise
can usually be purchased at less than original wholesale and sold below normal
retail, the discount, if any, is generally less than with close-out merchandise.
Deep-discount retailers sell regularly available merchandise to ensure a degree
of consistency in their product offerings and to establish themselves as a
reliable source of basic goods.
BUSINESS STRATEGY
The Company's goal is to continue to provide significant value to its
customers on a wide variety of consumable merchandise in an exciting store
environment. The Company's strategies to achieve this goal include the
following:
FOCUS ON "NAME-BRAND" CONSUMABLES. The Company strives to exceed its
customers' expectations of the range and quality of name-brand consumable
merchandise that can be purchased for 99 CENTS. During 1997, the Company
purchased merchandise from more than 999 suppliers, including Colgate-Palmolive
Company, Cheseborough Ponds, The Dial Corp., Eveready Battery Company Inc.,
General Electric Company, Gerber Products Company, The Gillette Company, Hershey
Foods Corp., Johnson & Johnson, Kraft General Foods, Inc., Lever Brothers
Company, Mattel Inc., The Mead Corporation, Nabisco Inc., Nestle, The Pillsbury
Company, The Procter & Gamble Company, Revlon Inc. and SmithKline Beecham
Corporation.
BROAD SELECTION OF REGULARLY AVAILABLE MERCHANDISE. The Company's 99 CENTS
Only Stores offer consumer items in each of the following staple product
categories: food and beverages, health and beauty aids, household products
(cleaning supplies, paper goods, etc.), housewares (glassware, kitchen items,
etc.), hardware, stationary and party goods, seasonal goods, baby products and
toys, giftware, pet products and clothing. The Company added a deli and frozen
food section in its stores in the second and third quarters of 1997. The Company
ensures that its merchandise offering is complete by supplementing its
name-brand merchandise with private-label items. By consistently offering a wide
selection of basic household consumable items, the Company encourages customers
to shop 99 CENTS Only Stores for their everyday household needs, leading to a
high frequency of customer visits.
ATTRACTIVELY MERCHANDISED AND WELL-MAINTAINED STORES. The Company strives
to provide its customers an exciting shopping experience in
customer-service-oriented stores which are attractively merchandised, brightly
lit and well-maintained. The Company's 99 CENTS Only Stores are merchandised and
laid out in a "supermarket" format with items in the same category grouped
together. In addition, the shelves are restocked as needed during the day. By
offering merchandise in an attractive, convenient and familiar environment, the
Company believes its stores appeal to a wide demographic of customers.
STRONG LONG-TERM SUPPLIER RELATIONSHIPS. The Company believes that it has
developed a reputation as a leading purchaser of name-brand, reorderable and
close-out merchandise at discount prices through its ability to make immediate
buying decisions, experienced buying staff, willingness to take on large volume
purchases and take possession of merchandise immediately, ability to pay cash or
accept abbreviated credit terms, reputation for prompt payment, commitment to
honor all issued purchase orders and willingness to purchase goods close to a
target season or out of season. The Company's relationship with its suppliers is
further enhanced by its ability to minimize channel conflict for the
manufacturer by quickly selling name-brand merchandise without, if requested by
the supplier, advertising or wholesaling the item. Additionally, the Company
believes its well-maintained, attractively merchandised stores have contributed
to a reputation among suppliers for protecting their brand image.
4
COMPLEMENTARY BARGAIN WHOLESALE OPERATIONS. Bargain Wholesale complements
the Company's retail operations by allowing the Company to purchase in larger
volumes at more favorable pricing to be exposed to a broader selection of
opportunistic buys and to generate additional sales with relatively small
incremental increases in operating expenses, contributing to strong overall
operating margins for the Company. Net sales in the Company's wholesale division
grew from $30.3 million in 1995 to $44.8 million in 1997, primarily due to an
increased focus on large domestic and international accounts and expansion into
new geographic markets. The Company opened showrooms in New York City in
February 1997 and Chicago in February 1998 to support its Bargain Wholesale
operation.
ADHERENCE TO DISCIPLINED COST CONTROLS AND SAVVY PURCHASING. The Company is
able to provide its customers with significant value while maintaining strong
operating margins through an adherence to a disciplined cost control program.
The Company purchases merchandise at substantially discounted prices as a result
of its buyers' knowledge, experience and negotiating ability and its established
reputation among its suppliers. The Company applies this same approach to its
relationships with other vendors and strives to maintain a lean operating
environment focused on increasing net income. Operating expenses as a percentage
of net sales have declined from 25.3% in 1993 to 21.6% in 1997.
FOCUS ON LARGER STORES IN CONVENIENT LOCATIONS. The Company's stores are
conveniently located in freestanding buildings, neighborhood shopping centers
(anchored by 99 CENTS Only Stores or co-anchored with a supermarket and/or a
drug store) or downtown central business districts where consumers are more
likely to do their regular household shopping. None of the Company's stores is
located in an indoor shopping mall or small strip center. The Company's 54
existing 99 CENTS Only Stores average approximately 15,000 gross square feet.
Since January 1, 1995, the Company has opened 24 new stores that average over
19,000 gross square feet and currently targets new store locations between
15,000 and 25,000 gross square feet. The Company's larger 99 CENTS Only Stores
allow it to more effectively display a wider assortment of merchandise, carry
deeper stock positions and provide customers with a more inviting and convenient
environment that encourages customers to shop longer and buy more. The Company's
decision to target larger stores reflects higher average annual net sales per
store and operating income typically achieved by these stores.
EXPERIENCED MANAGEMENT TEAM AND DEPTH OF EMPLOYEE OPTION GRANTS. 99 CENTS
Only Stores' management team has many years of retail experience and has
demonstrated its skills through a proven track record of financial performance.
The Company's management strongly believes that employee ownership of the
Company's stock helps build employee pride in the stores that significantly
contributes to the success of the Company and its operations. Accordingly, all
members of management of the Company (other than David Gold, the Company's Chief
Executive Officer and Sherry Gold, Bargain Wholesale's cash and carry operations
manager) and all employees (part-time or full-time) with tenure of more than six
months with the Company receive an annual grant of stock options. As of December
31, 1997, the Company's employees (other than executive officers) held options
to purchase an aggregate of 1,057,360 shares, or over 5% of the fully-diluted
shares of Common Stock outstanding.
GROWTH STRATEGY
Management believes that future growth will primarily result from new store
openings facilitated by the following:
SOUTHERN CALIFORNIA HAS SIGNIFICANT POTENTIAL FOR GROWTH. By continuing to
focus 99 CENTS Only Store openings in Southern California for the immediate
future, the Company can leverage its brand awareness in the region and take
advantage of its existing warehouse and distribution facility, regional
advertising and other management and operating efficiencies. The Company's
growth strategy in Southern California will focus on opening locations in
existing markets as well as expanding into markets adjacent to those currently
served. The Company expects to open its first 99 CENTS Only Store in San Diego
County in the second quarter of 1998. The Company has plans for at least 13 new
stores, including two relocations, in 1998 (a net increase of 21%), all in the
Southern California area. As of March 31, 1998, the Company had opened two
5
new stores, including a relocation, and secured sites for five additional store
locations. The Company intends to continue its planned store expansion over the
next several years at a targeted rate of approximately 20% per year. The Company
estimates that the Southern California market has the potential for over 150
additional 99 CENTS Only Stores.
PORTABLE FORMAT FACILITATES GEOGRAPHIC EXPANSION. The Company believes that
its concept of consistently offering a broad selection of name-brand
consumables, at value pricing, in a convenient store format is portable to most
other densely populated areas of the country. The Company expects to explore the
potential for geographic expansion as opportunities present themselves in the
next several years, focusing on developing clusters of stores that can take
advantage of local warehouse and distribution facilities.
ACQUISITIONS. The Company considers acquisition opportunities as they are
presented to the Company and may make acquisitions of a chain, or chains, of
clustered retail sites in densely populated regions. In February 1998, the
Company announced its intention to acquire Universal International, Inc.
("Universal") and Odd's-N-End's, Inc. ("Odd's-N-End's"). See "Recent
Developments."
RECENT DEVELOPMENTS
In November 1997, the Company acquired approximately 48% of the common stock
of Universal for $4 million in cash and merchandise. Universal owns
approximately 41% of the outstanding common stock of its consolidated
subsidiary, Odd's-N-End's. Together, Universal and Odd's-N-End's own and operate
44 Only Deals stores in Minnesota and the surrounding upper Midwest region, 22
Odd's-N-End's stores in upstate New York and eight Only Deals stores in Texas.
These stores are deep discount retail stores offering primarily close-out
merchandise featuring a broad range of general household items at multiple price
points. Universal sells about one-half of the items it offers for $1.00 or less.
In 1997, Universal had consolidated net sales, operating loss and net loss from
continuing operations of $68.7 million, $6.0 million and $7.4 million,
respectively.
In February 1998, the Company announced its intention to acquire the balance
of the Universal and Odd's-N-End's shares. The Company intends to acquire the
Universal shares pursuant to an exchange offer in which it will offer to
exchange one share of the Company's Common Stock for each 16 outstanding shares
of Universal common stock for an aggregate of approximately 305,800 shares of
Company Common Stock. The Company intends to acquire the balance of the
Odd's-N-End's shares in a merger for an aggregate consideration of approximately
$830,000 cash. Universal currently has a note receivable due from Odd's-N-End's
of approximately $8.7 million. The Company intends to file with the Securities
and Exchange Commission definitive tender offer and proxy documents necessary to
consummate the Universal Exchange Offer and Odd's-N-End's Merger in early April
1998. The Universal Exchange Offer and Odd's-N-End's Merger are subject to the
approval by the stockholders of Universal and Odd's-N-End's and other customary
closing conditions. Assuming satisfaction of all conditions, the Universal
Exchange Offer and Odd's-N-End's Merger are expected to be consummated at the
end of the second quarter of 1998.
On March 31, 1998, the Company announced that it had filed a registration
statement with the Securities and Exchange Commission covering a public offering
of an aggregate of 3,500,000 shares of Common Stock (4,025,000 shares if the
underwriters' over-allotment option is exercised in full). Of the shares to be
offered, the Company is offering to sell 750,000 newly issued shares (862,500
shares if the underwriters' over-allotment option is exercised in full). If
consummated as proposed, the net proceeds of the offering to the Company will
vary depending upon market conditions at the time of the offering, but are
currently estimated to be approximately $27.0 million. The Company will not
receive any of the net proceeds from the sale of shares by the selling
shareholders. The Company intends to use approximately $17 million of the net
proceeds to retire certain liabilities of Universal. The remaining net proceeds
will be used for store expansion and working capital. There can be no assurance
that the offering will actually be consummated.
6
The Company's investment in Universal in November 1997 was motivated by an
opportunity to apply the Company's core competencies to two under-performing
retail chains which the Company believes have significant upside potential.
Universal's strengths include its many attractive store locations, strong trade
name identity and inventory of first-quality, close-out merchandise. In
addition, Universal has built a strong management team led by its Chief
Executive Officer, Richard Ennen, who was hired in September 1996 as Vice
President of Merchandising and assumed his current position in February 1998,
and a solid corporate infrastructure and operating systems. The Company believes
Universal's historical performance has been impaired by a lack of capital, which
has limited its access to merchandise and its ability to purchase merchandise at
attractive prices, a failure to focus attention on store merchandising and
layout to create an attractive store environment and a failure to identify and
take advantage of cost saving opportunities. In addition, Universal's historical
performance has been adversely impacted by a wholesale business and inventory
appraisal and consulting service which were discontinued in 1997.
Since the Company acquired its 48% interest in Universal in November 1997,
Universal has appointed Richard Ennen its new Chief Executive Officer, gained
greater access to name-brand, close-out and regularly available goods,
implemented more savvy purchasing procedures, and developed and begun to
implement a new merchandising program that places greater emphasis on
consumables and focuses on attractive, convenient store layouts. Further,
Universal has determined to close two unprofitable stores and has completed the
consolidation of its three warehouse and distribution facilities into a single
facility. In addition, Universal has identified several areas for cost savings,
including freight, supplies and advertising. Universal introduced its new
merchandising program into one store in late January 1998 with positive initial
results and has expanded its reach to include two additional stores in February
and March 1998. The new merchandising program is expected to be implemented in
all stores by the end of the second quarter of 1998. The full effect of the
measures discussed above are not expected to be reflected in Universal's results
of operations until the third and fourth quarters of 1998. The Company believes
that its strong reputation among suppliers and the depth of its operating
experience in the deep-discount industry has contributed to these changes. The
Company and Universal continue to review Universal's operations to identify
other opportunities for cost savings and improvements to operations. In
addition, the Company and Universal are reviewing less profitable stores to
determine whether any should be relocated or closed.
In light of Universal's on-going capital requirements, insights gained by
the Company's management into Universal's operations and the opportunities the
Company's management believes exist for operating synergies, the Company has
determined to acquire the balance of the Universal and Odd's-N-End's shares.
Universal's Only Deals and Odd's-N-End's stores will provide the Company a
retail channel for merchandise at prices other than the Company's single price
point and will enable the Company to increase the volume of merchandise sold by
it. The Company believes that this greater distribution capability will provide
the Company an opportunity to strengthen its relationship with its suppliers,
increase the Company's exposure to opportunistic buying opportunities, allow the
Company to capture a wider range of merchandise and enable the Company to take
greater advantage of volume discounts. Further, the acquisitions allow the
Company to diversify its geographic presence and provide the Company valuable
experience in other merchandising formats. This geographic presence could serve
as a basis for launching the Company's 99 CENTS Only Stores retail format into
these regions in future periods. The Company believes further opportunities
exist for improving store level economics. In addition, it is anticipated that
the acquisition will provide the combined businesses with opportunities to
realize the efficiencies and synergies available by operating on a cooperative
basis which include economies of scale in purchasing, freight, retail expenses,
insurance, marketing, advertising, human resources and administration. It is
estimated that, had the companies been combined in 1997, the cost savings during
the year would have approximated $5.0 million. However there can be no
assurances that all of these savings could or would be realized. See "Item
7--Risk Factors--Pending Acquisitions."
7
99 CENTS ONLY STORES--RETAIL OPERATIONS
The Company's 99 CENTS Only Stores offer customers a wide assortment of
regularly available consumer goods, as well as a broad variety of first-quality,
close-out merchandise, generally at a significant discount from normal retail.
All merchandise is sold in the Company's retail stores for 99 CENTS per item or
two or more items for 99 CENTS. The Company strives to exceed its customers'
expectations of the range and quality of name-brand consumables that can be
purchased for 99 CENTS.
The following table sets forth relevant information with respect to the
growth of the Company's existing 99 CENTS Only Store operations (amounts in
thousands, except sales per square foot):
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YEAR ENDED DECEMBER 31,
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1993 1994 1995 1996 1997
--------- --------- --------- --------- ---------
99 CENTS Only Stores net sales.................... $ 101,828 $ 110,724 $ 121,998 $ 143,163 $ 186,024
Annual net sales growth rate...................... 6.2% 8.7% 10.2% 17.3% 29.9%
Store count at beginning of year.................. 30 31 34 36 43
New stores........................................ 1 4 4 8 10
Stores closed..................................... 0 1(a) 2(b) 1(b) 0
Store count at year end........................... 31 34 36 43 53
Average net sales per store open the full
year(c)......................................... $ 3,349 $ 3,267 $ 3,467 $ 3,667 $ 3,750
Estimated saleable square footage at year end..... 269,000 293,000 332,100 455,200 631,500
Average net sales per estimated saleable square
foot(c)......................................... $ 388 $ 396 $ 397 $ 389 $ 354
Change in comparable stores net sales(d).......... (3.5)% (1.4)% (0.2)% 2.8% 1.5%
-----------------------------------------------
(a) Store closed September 1994 due to fire.
(b) Stores closed due to relocation to larger nearby site.
(c) For stores open for the entire fiscal year.
(d) For the years 1993-1996 change in comparable stores net sales
compares net sales for stores open for the entire two years compared.
Commencing in 1997,
change in comparable stores net sales compares net sales for all stores
open at least 15 months.
MERCHANDISING. The Company's stores offer a broad variety of first-quality,
name-brand and other close-out merchandise as well as a wide assortment of
regularly available consumer goods. The Company also carries a line of private
label consumer products made exclusively for the Company. The Company believes
that the success of its 99 CENTS Only Stores concept arises from the value
inherent in selling primarily name-brand consumables, most of which retail
elsewhere from $1.19 to $9.99, for only 99 CENTS per item or group of items.
Each store typically carries over five thousand different stock keeping units
("SKUs"). The merchandise sold in the Company's stores primarily consists of a
wide variety of basic consumer items including beverages and food, health and
beauty aids and household products (cleaning supplies, paper goods, etc.). The
stores also carry housewares (glassware, kitchen items, etc.), hardware,
stationary and party goods, seasonal, baby products and toys, giftware, pet
products and clothing. In the second and third quarters of 1997, the Company
added a deli and frozen foods section to each store.
While 99 CENTS Only Stores regularly carry a variety of basic household
consumer items, the stores differ from typical discount retail stores in that
they do not continuously stock complete lines of merchandise. Although a
majority of the merchandise purchased by the Company is available for reorder,
the mix of specific brands of merchandise frequently changes, depending upon the
availability of close-out and other special-situation merchandise at suitable
prices. Since commencing its close-out purchasing strategy in 1976, the Company
has not experienced difficulty in obtaining name-brand close-outs as well as
reorderable merchandise at attractive prices. Management believes that
continuously changing specific name-brands found in its stores from one week to
the next encourages impulse and larger volume purchases, results in customers
shopping more frequently and helps to create a sense of urgency, awareness and
excitement. Unlike many discount retailers, the Company rarely imposes
limitations on the quantity of specific items that may be purchased by a single
consumer.
8
The Company targets value-conscious consumers from a wide range of
socio-economic backgrounds with diverse demographic characteristics. Purchases
are by cash, credit or debit card. The Company's stores do not accept checks or
manufacturers' coupons. The Company's stores are open every day with opening
hours designated to meet the needs of family consumers. The Company advertises
that its stores are open "9:00 a.m. to 9:00 p.m., 9 days a week."
STORE SIZE, LAYOUT AND LOCATIONS. The Company's 54 existing 99 CENTS Only
Stores are located in Southern California and average over 15,000 gross square
feet. Since January 1, 1995, the Company has opened 24 new stores (including two
relocations in 1995, one in 1996 and one in 1998) that average over 19,000 gross
square feet and currently targets new store locations between 15,000 and 25,000
gross square feet. The Company's larger 99 CENTS Only Stores allow it to more
effectively display a wider assortment of merchandise, carry deeper stock
positions and provide customers with a more inviting and convenient environment
that encourages customers to shop longer and buy more. The Company's decision to
target larger stores reflects higher average annual store revenues typically
achieved by these stores.
The Company's stores are conveniently located in freestanding buildings,
neighborhood shopping centers (anchored by 99 CENTS Only Stores, a supermarket
and/or a drug store) or downtown central business districts where consumers are
more likely to do their regular household shopping. None of the Company's stores
is located in an indoor shopping mall or small strip center. The stores are
located primarily in densely populated, demographically diverse neighborhoods.
The Company's 54 existing 99 CENTS Only Stores are located in three counties: 46
in Los Angeles County, five in Orange County and three in San Bernardino County.
The Company's stores are attractively merchandised, brightly lit,
well-maintained, "destination" locations. The layout of each of the Company's
99 CENTS Only Stores is customized to the actual size and configuration of the
individual location. The interior of each store is, however, designed to reflect
a uniform format, like a typical supermarket, featuring attractively displayed
products in windows, consistent merchandise display techniques, bright lighting,
lower shelving height that allows unobstructed visibility throughout the store,
distinctive color scheme, interior and exterior signage and customized check-out
counters, floors, price tags, shopping carts and shopping bags. The Company
emphasizes a strong visual presentation in all key traffic areas of the store.
Merchandising displays are maintained throughout the day, change frequently and
often incorporate seasonal themes. The Company believes that due to the
continuously changing brand-names, the lower shelving height and the absence of
aisle description signs, the typical customer tends to shop the whole store.
The Company leases 51 of its 54 retail locations. The Company typically
seeks leases with an initial five- to ten-year term with one or more five-year
options. See "Item 2--Properties." The Company identifies potential sites
through a network of contacts within the brokerage and real estate communities,
information provided by vendors, customers and employees and through the efforts
of the Company's real estate department.
As part of its strategy to expand retail operations, the Company has, at
times, opened new stores in close proximity to existing stores where the Company
determined that the trade area could support a larger facility. In some of these
situations, the Company retained its existing store so long as it continued to
contribute store-level operating income. While this strategy was designed to
increase revenues and store-level operating income, it has had a negative effect
on comparable stores net sales as some customers migrated from the existing
store to the close-by larger new store. Except for four relocations to larger,
nearby sites and one store closure as a result of a fire, the Company has never
closed one of its 99 CENTS Only Stores.
STORE MANAGEMENT. Substantially all merchandise decisions with respect to
pricing and advertising are made at the Company's headquarters. The Company
employs ten district managers responsible for store operations. Each district
manager is responsible for up to seven stores. Reporting to each district
manager is one merchandising supervisor responsible for store merchandising in
that district. The store
9
managers also report to the district manager. These district managers are
supervised by the Company's Vice President of Retail Operations. District
managers visit each store in their district at least twice a week and focus on
the implementation of the Company's policies, operations and merchandising
philosophy. District managers also help train store management and assist store
management with scheduling. The Vice President of Retail Operations also
supervises a cashiers training school located at the Company's corporate
offices. Each merchandising supervisor and his crew (usually six to ten
experienced stock people) visit each of the stores at least once a week and help
the store managers to maintain and improve the appearance of the sales floor,
move merchandise sections, organize the stockroom and train store personnel.
Typically the Company's stores are staffed with a manager and two or three
assistant managers. Store managers are responsible for assessing their
respective store's stocking needs and ordering accordingly.
ADVERTISING. Advertising expenditures were $1.2 million, $1.5 million and
$2.0 million for 1995, 1996 and 1997, respectively, or 0.8%, 0.8% and 0.9% of
net sales, respectively. The Company manages its advertising without the
assistance of an outside agency. The Company allocates the majority of its
advertising budget to newspaper and radio advertising. The Company's advertising
strategy emphasizes the offering of nationally recognized, name-brand
merchandise at significant savings. The Company minimizes its advertising
expenditures by an efficient implementation of its advertising program combined
with word-of-mouth publicity, locations with good visibility and efficient
signage. Because of the Company's distinctive grand opening promotional
campaign, which includes the sale of nine televisions for 99 CENTS each and nine
microwave ovens for 99 CENTS each, grand openings often attract long lines of
customers and receive media coverage. The Company believes that one of its
biggest challenges is attracting affluent customers to shop its stores. In
October 1997, the Company test marketed the use of a direct mail campaign for
new customers who are homeowners in more upscale neighborhoods. The Company
believes the direct mail campaign has been successful in attracting new
customers.
BARGAIN WHOLESALE
In 1997, Bargain Wholesale sold merchandise to over 999 customers, including
other wholesalers, small local retailers, large regional and national retailers
and exporters. During 1997, no single customer accounted for more than 3% of
Bargain Wholesale's net sales. The Company advertises its wholesale operations
primarily through direct mail. The Company plans to continue to expand its
wholesale operations by continuing its focus on the needs of large domestic and
international accounts, expansion into new geographic markets, increasing its
marketing and promotional programs, increasing the number of trade shows at
which it exhibits, focusing on its recently opened showrooms in Chicago and New
York City, enhancing customer service and aggressively contacting its customers
on a more frequent basis through telephone, facsimile and mail.
The Company's wholesale product line is substantially similar to its retail
product line, although the Company has seen strong growth in reorderable and
private label merchandise within its wholesale operations. Bargain Wholesale has
recently begun a program to provide merchandise for the "dollar" promotional
aisles of certain supermarkets and drugstores. The Company offers 15-day payment
terms to its Bargain Wholesale customers who meet the Company's credit
standards. Customers located abroad, certain smaller customers or others who do
not meet the Company's credit standards must pay cash upon pickup or before
shipment of merchandise.
Bargain Wholesale complements the Company's retail operations by allowing
the Company to purchase in larger volumes at more favorable pricing, to be
exposed to a broader selection of opportunistic buys and to generate additional
net sales with relatively small incremental increases in operating expenses
contributing to strong overall margins for the Company. Bargain Wholesale also
allows the Company to purchase goods which it would not otherwise purchase for
distribution through its 99 CENTS Only Stores and provides the Company with a
channel by which it may distribute merchandise at prices other than 99 CENTS.
10
Bargain Wholesale conducts its wholesale operations through its 15,000
square foot product showroom located at the Company's warehouse and distribution
facility. In February 1997 and February 1998, Bargain Wholesale opened new
showrooms in New York City and Chicago, respectively. The Company's showrooms
support Bargain Wholesale's operations.
PURCHASING
The Company's purchasing department staff consists of eight buyers managed
by the Company's Vice President of Purchasing. The Company's Chief Executive
Officer also participates in the Company's purchasing activities. The Company's
buyers purchase for both 99 CENTS Only Stores and Bargain Wholesale. The Company
believes a primary factor contributing to its success is its ability to identify
and take advantage of opportunities to purchase merchandise with high customer
interest at lower than regular wholesale prices. The Company purchases most of
its merchandise directly from the manufacturer. The Company's other sources of
merchandise include wholesalers, manufacturers' representatives, importers,
barter companies, auctions, professional finders and other retailers. The
Company develops new sources of merchandise primarily by attending industry
trade shows, advertising, marketing brochures and referrals.
The Company has no continuing contracts for the purchase of merchandise and
must continuously seek out buying opportunities from both its existing suppliers
and new sources. No single supplier accounted for more than 4% of the Company's
total purchases in 1997. During 1997, the Company purchased merchandise from
more than 999 suppliers, including Colgate-Palmolive Company, Cheseborough
Ponds, The Dial Corp., Eveready Battery Company Inc., General Electric Company,
Gerber Products Company, The Gillette Company, Hershey Foods Corp., Johnson &
Johnson, Kraft General Foods Inc., Lever Brothers Company, Mattel Inc., The Mead
Corporation, Nabisco Inc., Nestle, The Pillsbury Company, The Procter & Gamble
Company, Revlon Inc. and SmithKline Beecham Corporation. Many of these companies
have been supplying products for the Company in excess of three years.
A significant portion of the merchandise purchased by the Company in 1997
was close-out or special-situation merchandise. The Company has developed strong
relationships with many manufacturers and distributors that recognize their
special-situation merchandise can be moved quickly through the Company's retail
and wholesale distribution channels. The sale of close-out or special-situation
merchanidse develops in response to the need of manufacturers, wholesalers and
others to distribute merchandise outside their normal channels. The Company's
buyers search continuously for close-out opportunities. The Company's experience
and expertise in buying merchandise has enabled it to develop relationships with
many manufacturers that often offer some or all of their close-out merchandise
to the Company prior to attempting to sell it through other channels. The key
elements to these supplier relationships include the Company's (i) ability to
make immediate buy decisions, (ii) experienced buying staff, (iii) willingness
to take on large volume purchases and take possession of merchandise
immediately, (iv) ability to pay cash or accept abbreviated credit terms, (v)
reputation for prompt payment, (vi) commitment to honor all issued purchase
orders and (vii) willingness to purchase goods close to a target season or out
of season. The Company's relationship with its suppliers is further enhanced by
its ability to minimize channel conflict for the manufacturer by quickly selling
name-brand merchandise without, if requested by the supplier, advertising or
wholesaling the item. The Company believes this reputation along with its
well-maintained, attractively merchandised stores have contributed to a
reputation among suppliers for protecting their brand image.
In 1997, reorderable merchandise accounted for a majority of the Company's
purchases. The Company's strong relationships with many manufacturers and
distributors, along with its ability to purchase in large volumes, also enable
the Company to purchase reorderable name-brand goods at discounted wholesale
prices. The Company focuses its purchases of reorderable merchandise on a
limited number of SKUs, which allows the Company to make purchases in large
volumes.
The Company has increased its offering of private label consumer products,
which in 1997 represented approximately 8% of the total cost of merchandise sold
in 1997. The Company is continuously developing
11
new private label consumer products to broaden the assortment of merchandise
that is consistently available. The Company also has an in-house import
operation which primarily purchases reorderable merchandise. The Company imports
products mainly from Southeast Asia. Merchandise directly imported by the
Company accounted for approximately 5% of total merchandise purchased in 1997.
The Company primarily imports merchandise in product categories which are not
brand sensitive to consumers such as kitchen items, housewares, toys, seasonal
products, petcare and hardware.
WAREHOUSING AND DISTRIBUTION
The Company maintains an 880,000 square foot, single level warehouse and
distribution facility located on approximately 23 acres in the City of Commerce,
California. The Company's headquarters are also located in this facility. The
site is located near downtown Los Angeles and has close access to the Southern
California freeway and rail systems and the ports of Los Angeles and Long Beach.
The warehouse has 129 dock doors available for receiving or shipping, over 25
dock levers and, new racking with over 10,000 pallet positions. Most of the
Company's merchandise is shipped by truck directly from manufacturers and other
suppliers to the Company's warehouse and distribution facility. As part of its
distribution network, the Company owns a fleet of 17 tractors and 34 trailers
which are primarily used to deliver merchandise to its stores. Full truck
deliveries are made from its distribution center to each store typically four
times a week. Product is delivered to a store the day after the store places a
scheduled order. Most of the merchandise is requested by the store in
conjunction with the Company's buyers (i.e., ordered by the store manager) as
opposed to being determined by the distribution center (i.e., sent by order of
the Company's distribution personnel). Approximately 6% of the total cost of
merchandise shipped to the stores is delivered directly to the store by vendors.
Most of these direct store delivered products are perishable food and beverage
items. The Company attempts to optimally utilize its fleet by a combination of
filling outbound trucks to capacity and instituting a backhaul program whereby
products are picked up from suppliers in conjunction with deliveries to stores
in the same general area. Backhauls accounted for approximately half of all
merchandise picked up by the Company's trucks. The Company also uses its own
vehicles to pick up certain shipments at local ports and rail yards. The size of
the Company's distribution center allows storage of bulk one-time close-out
purchases and seasonal or holiday items without incurring additional costs. The
Company believes that its current warehouse and distribution facility will be
able to support distribution to approximately 150 additional stores in Southern
California. There can be no assurance that the Company's existing warehouse will
provide adequate storage space for the Company's long-term storage needs. See
"Item 7--Risk Factors--Concentration of Operations" and "--Disruptions in
Receiving and Distribution."
INFORMATION SYSTEMS
The Company's business is currently supported by a standard accounting and
financial reporting system utilizing a PC-based local area network (LAN) and a
separate partially customized inventory control system processed by a
Hewlett-Packard RISC-based computer. The Company's inventory management system
is designed to track all inventory received at the Company's distribution center
and shipped to each 99 CENTS Only Stores location or Bargain Wholesale customer.
The Company's systems allow management to monitor inventory and assist store
operations. In light of the Company's continuously changing merchandise, single
price point and other factors, the Company has determined not to install a point
of sale system. The retail order processing system has been designed to expedite
the processing of retail store orders for both store and warehouse personnel.
Buyers use inventory and historical shipment information to assist in reordering
and inventory planning functions. The Company employs an accounts payable and
general ledger software package that shares information with the inventory
management, order processing and accounts receivable system. The Company has
implemented various reporting tools to support the timely generation of
financial and managerial reports from the Company's information systems. The
Company is in the process of installing personal computers in each 99 CENTS Only
Store location for initial use with a popular suite of retail applications
purchased in late 1997. The Company is internally referring to
12
this store-level personal computer implementation as its "C.E.N.T.S." system.
The first phase of C.E.N.T.S. will include electronic mail, electronic forms and
time and attendance modules, scheduled for completion at the end of the second
quarter of 1998. The second phase of the C.E.N.T.S. project will include sales
forecasting and labor scheduling modules and will be implemented beginning in
the third quarter of 1998. Future modules will include daily sales reporting and
sales/payroll analysis, and may include certain store-level human resources
functions.
The Company's accounting and management systems are overseen by a director
of information systems who manages a staff of five employees. The Company
believes that its accounting and management information system and inventory
control system adequately provide for its current needs. The Company intends to
continue to update and enhance its systems in order to improve capabilities and
provide for planned growth. If the Company should experience faster than
anticipated growth, the Company may be required to install a new management
information or inventory control system or undergo a significant modification of
its current systems to accommodate a larger business. The Company has completed
an assessment and has determined that it will be required to modify or replace
portions of its software so that its computer systems will function properly
with respect to dates in the year 2000 and thereafter. The project cost is not
anticipated to have a material effect on the results of operations and is
scheduled to be completed no later than mid-1999.
COMPETITION
The Company faces competition in both the acquisition of inventory and sale
of merchandise from other wholesalers, discount stores, single price point
merchandisers, mass merchandisers, food markets, drug chains, club stores and
other retailers. Industry competitors also include a large number of privately
held companies and individuals. In some instances these competitors are also
customers of the Company's Bargain Wholesale division. There is increasing
competition with other wholesalers and retailers, including other deep-discount
retailers, for the purchase of quality close-out and other special-situation
merchandise. Some of these competitors have substantially greater financial
resources and buying power than the Company. The Company's ability to compete
will depend on many factors including the success of its purchase and resale of
such merchandise at lower prices than the competition. The Company may face
intense competition in the future from new entrants in the deep-discount retail
industry, among others, that could have an adverse effect on the Company's
business and results of operations.
EMPLOYEES
At December 31, 1997, the Company had 2,189 employees (1,883 in its retail
operation, 206 in its warehouse and distribution facility, 85 in its corporate
offices and 15 in its wholesale division), of which approximately 230 are
part-time employees. None of the Company's employees is party to a collective
bargaining agreement. The Company considers relations with its employees to be
good. The Company offers certain benefits, including health insurance and 401(k)
benefits to its full time employees. All members of management of the Company
(other than David Gold, Chief Executive Officer of the Company, and Sherry Gold,
Bargain Wholesale's cash and carry operations manager) and all employees,
part-time or full-time, with tenure of more than six months with the Company
receive an annual grant of stock options.
TRADEMARKS AND SERVICE MARKS
"99 CENTS Only Stores" and "99 CENTS" are registered service marks of the
Company and are listed on the United States Patent and Trademark Office
Principal Register. Bargain Wholesale is a service mark used by the Company.
Management believes that the Company's trademarks, service marks and trade names
are an important but not critical element of the Company's merchandising
strategy.
13
ENVIRONMENTAL MATTERS
Under various federal, state and local environmental laws and regulations, a
current or previous owner or occupant of real property may become liable for the
costs of removal or remediation of hazardous substances at such real property.
Such laws and regulations often impose liability without regard to fault. The
Company currently leases 51 of its 54 existing stores, as well as its warehouse
and distribution facility (where its executive offices are located). The Company
currently intends to exercise an option to purchase the warehouse and
distribution facility in December 2000, the end of the lease term. In connection
with such properties, the Company could be held liable for the costs of remedial
actions with respect to hazardous substances. In addition, the Company operates
one underground diesel storage tank and one above-ground propane tank at its
warehouse and distribution facility. Although the Company has not been notified
of, and is not otherwise aware of, any specific current environmental liability,
claim or non-compliance, there can be no assurance that the Company will not be
required to incur redemption or other costs in the future in connection with its
leased properties or its storage tanks or otherwise. In the ordinary course of
its business, the Company from time to time handles or disposes of ordinary
household products that are classified as hazardous materials under various
federal, state and local environmental laws and regulations. The Company has
adopted policies regarding the handling and disposal of these products, and has
implemented a training program for employees on hazardous material handling and
disposal. There can be no assurance, however, that such policies or training
will be successful in assisting the Company in avoiding violations of
environmental laws and regulations relating to the handling and disposal of such
products in the future.
ITEM 2. PROPERTIES
As of March 31, 1998, the Company leased 51 of its 54 store locations. The
Company currently leases 13 store locations and a parking lot associated with
one of these stores from the Gold Family. See "Item 7--Risk Factors--Affiliate
Transactions."
Management believes that the Company's stable operating history, excellent
credit history and ability to generate substantial customer traffic give the
Company significant leverage when negotiating lease terms. Most of the Company's
leases provide for fixed rents, subject to periodic adjustments. Certain of the
Company's store leases contain provisions that grant the Company a right of
first refusal to acquire the subject site.
The following table sets forth, as of the date of this filing, information
relating to the expiration dates of the Company's current 99 CENTS Only Stores
leases assuming the exercise of all options to extend:
[Download Table]
EXPIRING EXPIRING EXPIRING EXPIRING 2004
1998 1999-2000 2001-2003 AND BEYOND
------------- --------------- --------------- -----------------
7(a) 0 2 42
----------------------------
(a) Includes six stores leased on a month to month basis.
The Company has purchased three locations, one opened in each of November
1996, February 1997 and November 1997. The Company may also purchase other
locations in the future.
The Company leases its warehouse and distribution facility. The Company's
executive offices are also located in this facility. In December 1993, the
Company entered into a seven year triple net lease agreement with a purchase
option, which is accounted for on the Company's financial statements as a
capitalized lease obligation. The lease included the Company's initial payment
of $2.75 million and eighty-four monthly payments of $70,000. As part of the
lease agreement, the Company received $500,000 in 1993 and $1.0 million in 1994
to apply to renovation costs. The facility's fire prevention and lighting
systems were completely upgraded. A state-of-the-art sprinkler system, hundreds
of new smoke-vents (skylights) and energy efficient lighting with motion
detectors were installed. The Company has the option to purchase the property
for $10.5 million at the end of the lease and the Company currently intends to
14
exercise the option. If the Company does not exercise the purchase option, the
Company will be subject to a $7.6 million penalty.
15
ITEM 3. LEGAL PROCEEDINGS
The Company is periodically subject to legal actions which arise in the
ordinary course of its business. The Company does not believe that any pending
action is material to its results of operations or financial condition.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The Common Stock is traded on the New York Stock Exchange under the symbol
"NDN." The following table sets forth, for the calendar periods indicated, the
high and low closing prices per share of the Common Stock as reported by the New
York Stock Exchange. The Common Stock was not publicly traded prior to the
Company's initial public offering on May 23, 1996. All stock prices have been
restated to reflect a five-for-four stock split effected in the form of a stock
dividend which was paid on December 1, 1997.
[Enlarge/Download Table]
PRICE RANGE
--------------------
HIGH LOW
--------- ---------
1996:
Second Quarter (from May 23, 1996)................................................. $ 12.70 $ 10.91
Third Quarter...................................................................... 12.20 10.50
Fourth Quarter..................................................................... 13.91 10.70
1997:
First Quarter...................................................................... $ 16.09 $ 12.80
Second Quarter..................................................................... 24.09 15.50
Third Quarter...................................................................... 27.59 21.60
Fourth Quarter..................................................................... 30.56 25.60
1998:
First Quarter (through March 26, 1998)............................................. $ 39.50 $ 27.00
The closing price as reported on March 26, 1998 on the New York Stock
Exchange is set forth on the cover page of this Prospectus. As of March 26,
1998, the Company had approximately 3,100 holders of record of the Common Stock.
The Company has not paid any cash dividends with respect to the Common
Stock. The Company presently intends to retain future earnings to finance its
development and expansion and therefore does not anticipate the payment of any
cash dividends in the foreseeable future. Payment of future dividends, if any,
will depend upon future earnings and capital requirements of the Company and
other factors which the Board of Directors considers appropriate.
15
ITEM 6. SELECTED FINANCIAL DATA
The following table sets forth selected financial and operating data of the
Company for the periods indicated. The following selected statement of
operations data for each of the three years ended December 31, 1995, 1996, and
1997, and the balance sheet data as of December 31, 1996 and 1997 are derived
from the financial statements and the notes thereto included elsewhere herein
audited by Arthur Andersen LLP, independent public accountants, as set forth in
their report also included elsewhere herein. The selected statements of
operations data for the years ended December 31, 1993 and 1994, and the balance
sheet data as of December 31, 1993, 1994 and 1995 are derived from financial
statements audited by Arthur Andersen LLP not included herein. The following
information should be read in conjunction with "Management's Discussion and
Analysis of Financial Condition and Results of Operations" and the Financial
Statements of the Company and notes thereto included elsewhere in this report.
[Enlarge/Download Table]
YEAR ENDED DECEMBER 31,
-----------------------------------------------------
1993 1994 1995 1996 1997
--------- --------- --------- --------- ---------
(AMOUNTS IN THOUSANDS, EXCEPT PER SHARE AND OPERATING
DATA)
STATEMENT OF OPERATIONS DATA:
Net sales:
99 CENTS Only Stores................................ $ 101,828 $ 110,724 $ 121,998 $ 143,163 $ 186,024
Other retail sales(a)............................... 3,093 2,097 492 -- --
Bargain Wholesale................................... 18,028 18,916 30,337 40,480 44,831
--------- --------- --------- --------- ---------
Total........................................... 122,949 131,737 152,827 183,643 230,855
Cost of sales......................................... 81,480 88,045 102,160 120,922 146,797
--------- --------- --------- --------- ---------
Gross profit.......................................... 41,469 43,692 50,667 62,721 84,058
Selling, general and administrative expenses:
Operating expenses.................................. 31,053 31,319 32,169 37,683 49,850
Depreciation and amortization....................... 1,028 1,342 1,640 2,009 2,989
--------- --------- --------- --------- ---------
Total operating expenses........................ 32,081 32,661 33,809 39,692 52,839
--------- --------- --------- --------- ---------
Operating income...................................... 9,388 11,031 16,858 23,029 31,219
Special litigation provision reversal(b).............. -- (2,900) -- -- --
Interest (income) expense, net........................ 45 764 755 (126) (855)
--------- --------- --------- --------- ---------
Income before provision for income taxes.............. 9,343 13,167 16,103 23,155 32,074
Provision for income taxes(c):
Pro forma........................................... 3,477 5,163 6,509 9,453
--------- --------- --------- ---------
Historical.......................................... 280 62 156 2,418 13,124
--------- --------- --------- --------- ---------
Net income(c):
Pro forma........................................... $ 5,866 $ 8,004 $ 9,594 $ 13,702
--------- --------- --------- ---------
--------- --------- --------- ---------
Historical.......................................... $ 9,063 $ 13,105 $ 15,947 $ 20,737 $ 18,950
--------- --------- --------- --------- ---------
--------- --------- --------- --------- ---------
Earnings per common share(c)(h):
Pro forma--Basic.................................... $ 0.47 $ 0.64 $ 0.77 $ 0.85
Pro forma--Diluted.................................. 0.47 0.64 0.77 0.78
Historical--Basic................................... 0.73 1.06 1.28 1.29 $ 1.02
Historical--Diluted................................. 0.73 1.06 1.28 1.18 1.01
Weighted average number of common shares outstanding:
Pro forma--Basic.................................... 12,411 12,411 12,411 16,103
Pro forma--Diluted.................................. 12,411 12,411 12,411 17,599(d)
Historical--Basic................................... 12,411 12,411 12,411 16,103 18,542
Historical--Diluted................................. 12,411 12,411 12,411 17,599(d) 18,756
(CONTINUED ON FOLLOWING PAGE)
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(CONTINUED FROM PREVIOUS PAGE)
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COMPANY OPERATING DATA:
Sales Growth
99 CENTS Only Stores................................ 6.2% 8.7% 10.2% 17.3% 29.9%
Bargain Wholesale................................... (17.8) 4.9 60.4 33.4 10.8
Total Company sales................................. 1.7 7.1 16.0 20.2 25.7
Gross margin.......................................... 33.7 33.2 33.2 34.2 36.4
Operating margin...................................... 7.6 8.4 11.0 12.6 13.5
Net income margin:
Pro forma........................................... 4.8 6.1 6.3 7.5 --
Historical.......................................... 7.4 9.9 10.4 11.3 8.2
RETAIL OPERATING DATA(E):
Number of stores end of period........................ 31 34 36 43 53
Change in comparable stores net sales(f).............. (3.5)% (1.4)% (0.2)% 2.8% 1.5%
Average net sales per store open the full year........ $3,349,000 $3,267,000 $3,467,000 $3,667,000 $3,750,000
Average net sales per estimated saleable square
foot(g)............................................. $ 388 $ 396 $ 397 $ 389 $ 354
Estimated saleable square footage at year end......... 269,000 293,000 332,100 455,200 631,500
[Enlarge/Download Table]
AS OF DECEMBER 31,
-----------------------------------------------------
1993 1994 1995 1996 1997
--------- --------- --------- --------- ---------
BALANCE SHEET DATA:
Working capital..................................... $ 19,242 $ 24,713 $ 28,690 $ 58,822 $ 67,184
Total assets........................................ 46,960 51,419 57,598 98,997 119,443
Long-term debt...................................... -- -- -- -- --
Capital lease obligation, including current
portion........................................... 11,080 10,548 9,977 9,365 8,709
Total shareholders' equity.......................... 23,307 30,811 35,558 76,505 96,308
------------------------------
(a) The Company operated other stores during the periods presented under
different trade names pending conversion to 99 CENTS Only Stores format or
their eventual closing. Only one such store was operated by the Company in
1995 and that store was closed in May 1995.
(b) In 1993, the Company provided a reserve of $3.1 million for estimated
litigation and interest costs. As a result of a settlement of this
litigation in 1995, $200,000 was charged to the reserve and the remaining
$2.9 million was included in income in 1994.
(c) Prior to May 1, 1996 the Company was treated as an S corporation for federal
and state income tax purposes. The presentation for 1993-1996 reflects a pro
forma provision for income taxes as if the Company had always been a C
corporation, at an assumed effective tax rate of 41.0%, plus the effect of
deferred taxes and tax credits.
(d) Diluted weighted average common equivalent shares in 1996 include 1,362,000
shares to fund certain notes issued and dividends payable declared to then
existing shareholders, in connection with the termination of the Company's
status as an S corporation.
(e) Includes retail operating data solely for the Company's 99 CENTS Only
Stores.
(f) For the years 1993-1996, change in comparable stores net sales compares net
sales for stores open the entire two periods compared. Commencing in 1997,
change in comparable stores net sales compares net sales for all stores open
at least 15 months.
(g) Computed based upon estimated total saleable square footage of stores open
for the entire period.
(h) All earnings per share amounts have been restated to reflect the adoption of
SFAS No. 128, "Earnings per Share," effective December 15, 1997. For further
discussion of the change in accounting, refer to Note 4 of the Notes to the
Financial Statements.
17
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
THE FOLLOWING DISCUSSION AND ANALYSIS SHOULD BE READ IN CONNECTION WITH
"ITEM 6--SELECTED FINANCIAL DATA," AND "ITEM 8--FINANCIAL STATEMENTS."
GENERAL
The Company has been engaged since 1976 in the purchase and sale of
name-brand, close-out and regularly available general merchandise. Since that
time, the Company has sold its merchandise on a wholesale basis through its
Bargain Wholesale division. On August 13, 1982, the Company opened its first
99 CENTS Only Stores location and as of March 31, 1998, operates a chain of 54
deep-discount 99 CENTS Only Stores. The Company's growth during the last three
years has come primarily from new store openings and growth in its Bargain
Wholesale division. The Company opened four, eight and ten stores in 1995, 1996
and 1997, respectively (two, seven and ten respectively, net of relocated
stores). The Company opened two stores (including one relocation) in the first
three months of 1998, one each in San Bernardino, California and North
Hollywood, California and plans to open an additional 11 stores (including one
relocation) during the remainder of the year. Of the additional stores planned
for 1998, the Company has secured sites for five additional store locations.
Bargain Wholesale's growth over the three years ended December 31, 1997 was
primarily attributable to an increased focus on large domestic and international
accounts and expansion into new geographic markets. The Company generally
realizes a lower gross profit margin on Bargain Wholesale's net sales compared
to 99 CENTS Only Stores net sales. However, Bargain Wholesale complements the
Company's retail operations by allowing the Company to purchase in larger
volumes at more favorable pricing and to generate additional net sales with
relatively small incremental increases in operating expenses.
Comparable stores net sales improved in 1996 and 1997, after declining
during the period from 1993 to 1995. The Company believes that this trend has
resulted in part from its expansion strategies. In the past, as part of its
strategy to expand retail operations, the Company has at times opened larger new
stores in close proximity to existing stores where the Company determined that
the trade area could support a larger facility. In some of these situations, the
Company retained its existing store so long as it continued to contribute
store-level operating income. While this strategy was designed to increase
revenues and store-level operating income, it has had a negative impact on
comparable store net sales as some customers migrated from the existing store to
the larger new store. The Company believes that this strategy has impacted its
historical comparable sales growth.
During the three years in the period from January 1, 1995 to December 31,
1997, average net sales per estimated saleable square foot (computed on 99 CENTS
Only Stores open for a full year) declined from $397 per square foot to $354 per
square foot. This trend reflects the Company's determination to target larger
locations for new store development. Existing stores average approximately
15,000 gross square feet. Since January 1, 1995, the Company has opened 24 new
stores (including two relocations in 1995 and one in 1996) that average over
19,000 gross square feet. The Company currently targets new store locations
between 15,000 and 25,000 gross feet. Although it is the Company's experience
that larger stores generally have lower average net sales per square foot than
smaller stores, larger stores generally achieve higher average annual store
revenues and operating income.
99 CENTS Only Stores has increased its net sales, operating income and net
income in each of the last five years. In 1997 it had net sales of $230.9
million, operating income of $31.2 million and net income of $19.0 million,
representing a 25.7%, 35.6% and 38.3% increase over 1996, respectively. From
1993 through 1997, the Company had a CAGR in net sales, operating income and net
income of 17.1%, 35.0% and 34.1%, respectively.
18
RECENT DEVELOPMENTS
In November 1997, the Company acquired approximately 48% of the outstanding
Common Stock of Universal. In February 1998, the Company announced a proposal to
acquire all of the issued and to-be-issued shares of the Common Stock of
Universal and Odd's-N-End's. Together, these two companies operate 44 retail
stores in Minnesota and the surrounding upper Midwest region, eight retail
stores in Texas and 22 retail stores in upper New York State. If the
acquisitions are consummated as proposed, the Company will issue to the
shareholders of Universal approximately 305,800 shares of the Company's Common
Stock and will pay to the holders of Odd's-N-End's common stock approximately
$830,000 in cash. Universal has a note receivable due from Odd's-N-End's of
approximately $8.7 million.
Currently the Company's ownership interest in Universal is accounted for
using the equity method. The impact of the inclusion of Universal in the
Company's financial statements for the year ended December 31, 1997 was
immaterial. Upon consummation of the acquisition of Universal, the Company will
consolidate the results of operations of Universal with those of the Company,
and will preliminarily record approximately $7.4 million in goodwill on its
balance sheet, which will be amortized over 30 years and will result in
increased amortization expense in future periods. Universal's business is
seasonal. Historically, all of its earnings have been generated in the fourth
quarter, and it has incurred losses during the first three quarters of the
calendar year. As a result, shareholders equity is likely to be lower and the
amount of goodwill related to the acquisition of Universal is likely to be of a
greater magnitude at the closing date compared to the current estimate of $7.4
million. The Company expects to continue to provide financial support to
Universal through the date of closing through trade credit and other advances.
Such amounts will be provided from the Company's ongoing cash flow from
operations and its existing working capital.
On March 31, 1998, the Company announced that it had filed a registration
statement with the Securities and Exchange Commission covering a public offering
of an aggregate of 3,500,000 shares of Common Stock (4,025,000 shares if the
underwriters' over-allotment option is exercised in full). Of the shares to be
offered, the Company is offering to sell 750,000 newly issued shares (862,500
shares if the underwriters' over-allotment option is exercised in full). If
consummated as proposed, the net proceeds of the offering to the Company will
vary depending upon market conditions at the time of the offering, but are
currently estimated to be approximately $27.0 million. The Company will not
receive any of the net proceeds from the sale of shares by the selling
shareholders. The Company intends to use approximately $17 million of the net
proceeds to retire certain liabilities of Universal. The remaining net proceeds
will be used for store expansion and working capital. There can be no assurance
that the offering will actually be consummated. For a more complete discussion
of these developments, see "Item 1--Business--Recent Developments."
The Company has made in this Form 10-K forward-looking statements within the
meaning of Section 27A of the Securities Act concerning the Company's
operations, expansion plans, economic performance, financial condition, the
pending acquisitions of Universal and Odd's-N-End's and their effect on the
Company's results of operations and the results of operations of Universal,
store openings, purchasing abilities, sales per square foot and comparable store
net sales trends and capital requirements. Such forward-looking statements may
be identified by the use of words such as "believe", "anticipate," "intend" and
"expect". Such forward-looking statements are subject to various risks and
uncertainties, certain of which are beyond the Company's control. Actual results
could differ materially from those currently anticipated due to a number of
factors, including those discussed under "Item 7--Risk Factors." Some of those
factors include (i) the Company's ability to open new stores on a timely basis
and operate them profitably, (ii) the Company's ability to integrate Universal
and Odd's-N-End's and to operate their stores at multiple price points and in
different geographic locations, (iii) the orderly operation of the Company's
receiving and distribution process, (iv) inflation, consumer confidence and
other general economic factors, (v) the availability of adequate inventory and
capital resources, (vi) the risk of a disruption in sales volume in the fourth
quarter and other seasonal factors as discussed in "--Seasonality and Quarterly
Fluctuations," (vii) dependence on key personnel and control for the Company by
existing
19
shareholders and (viii) increased competition from new entrants into the
deep-discount retail industry. The Company does not ordinarily make projections
of its future operating results and undertakes no obligation to publicly update
or revise any forward-looking statements, whether as a result of new
information, future events or otherwise.
RESULTS OF OPERATIONS
The following table sets forth, for the periods indicated, certain selected
income statement data, including such data as a percentage of net sales:
[Enlarge/Download Table]
YEARS ENDED DECEMBER 31,
-------------------------------------------------------------------
1995 1996 1997
--------------------- --------------------- ---------------------
(AMOUNTS IN THOUSANDS)
Net sales:
99 CENTS Only Stores............................. $ 121,998 79.8% $ 143,163 78.0% $ 186,024 80.6%
Other retail..................................... 492 0.3 -- -- -- --
Bargain Wholesale................................ 30,337 19.9 40,480 22.0 44,831 19.4
---------- --------- ---------- --------- ---------- ---------
Total.......................................... 152,827 100.0 183,643 100.0 230,855 100.0
Cost of sales...................................... 102,160 66.8 120,922 65.8 146,797 63.6
---------- --------- ---------- --------- ---------- ---------
Gross profit..................................... 50,667 33.2 62,721 34.2 84,058 36.4
Selling, general and administrative expenses:
Operating expenses............................... 32,169 21.1 37,683 20.5 49,850 21.6
Depreciation and amortization.................... 1,640 1.1 2,009 1.1 2,989 1.3
---------- --------- ---------- --------- ---------- ---------
Total.......................................... 33,809 22.2 39,692 21.6 52,839 22.9
---------- --------- ---------- --------- ---------- ---------
Operating income................................... 16,858 11.0 23,029 12.6 31,219 13.5
Interest (income) expense, net..................... 755 0.5 (126) -- (855) (0.4)
---------- --------- ---------- --------- ---------- ---------
Income before provision for income taxes........... 16,103 10.5 23,155 12.6 32,074 13.9
Provision for income taxes(a):
Pro forma........................................ 6,509 4.2 9,453 5.1
---------- --------- ---------- ---------
Historical....................................... 156 0.1 2,418 1.3 13,124 5.7
---------- --------- ---------- --------- ---------- ---------
Net income(a):
Pro forma........................................ $ 9,594 6.3% $ 13,702 7.5%
---------- --------- ---------- ---------
---------- --------- ---------- ---------
Historical....................................... $ 15,947 10.4% $ 20,737 11.3% $ 18,950 8.2%
---------- --------- ---------- --------- ---------- ---------
---------- --------- ---------- --------- ---------- ---------
------------------------
(a) Reflects a pro forma provision for federal income taxes in 1995 and 1996.
Effective May 1, 1996 the Company changed in form from an S corporation to
a C corporation, a change that affected its operations and financial
condition by an increase in the level of federal and state income taxes. As
an S corporation, the Company's income, whether or not distributed, was
taxed at the shareholder level for federal income tax purposes. For
California franchise tax purposes, S corporations were taxed at 1.5% of
taxable income in 1995 and 1996. Currently, the top federal tax rate for C
corporations is 35% and the corporate tax rate in California is 8.84%. The
pro forma provision for income taxes in the accompanying selected income
statement data for the Company shows results as if the Company had always
been a C corporation and had adopted Statement of Financial Accountings
Standards No. 109 "Accounting for Income Taxes" prior to January 1, 1991.
The change in form has affected the earnings and cash flow of the Company.
YEAR ENDED DECEMBER 31, 1997 COMPARED TO YEAR ENDED DECEMBER 31, 1996
NET SALES. Total net sales increased $47.2 million, or 25.7%, from $183.6
million in 1996 to $230.9 million in 1997. 99 CENTS Only Stores net sales
increased approximately $42.9 million, or 29.9%, from $143.2 million in 1996 to
$186.0 million in 1997, and Bargain Wholesale net sales increased approximately
$4.4 million, or 10.7%, from $40.5 million in 1996 to $44.8 million in 1997.
There were no other retail
20
operations in 1997. The increase in 99 CENTS Only Stores net sales was
attributed to the effect of ten stores opened in 1997 and the full effect of
seven stores opened in 1996. Comparable stores net sales increased 1.5%, or $2.8
million, from 1996 to 1997. The increase in Bargain Wholesale net sales was
primarily attributed to an increased focus on large international and domestic
accounts and expansion into new geographic markets. Offsetting these positive
developments was the adverse effect of the slow-down in the Asian markets in
which the Company markets its goods.
GROSS PROFIT. Gross profit, which consists of total net sales less cost of
sales, increased approximately $21.3 million, or 34.0%, from $62.7 million in
1996 to $84.1 million in 1997. The increase in gross profit was primarily due to
higher net sales. As a percentage of net sales, gross profit improved from 34.2%
in 1996 to 36.4% in 1997 reflecting favorable merchandise cost and mix factors
at its 99 CENTS Only Stores and the effect of a large percentage of net sales
derived from 99 CENTS Only Stores, which typically operate at higher gross
margins than Bargain Wholesale.
SELLING, GENERAL AND ADMINISTRATIVE. Selling, general and administrative
expenses ("SG&A"), which include operating expenses and depreciation and
amortization, increased $13.1 million, or 33.1%, from $39.7 million in 1996 to
$52.8 million in 1997, primarily due to increased costs associated with new
store growth and increased executive compensation expense of approximately $0.8
million. SG&A increased as a percentage of net sales from 21.6% in 1996 to 22.9%
in 1997. The increase as a percentage of net sales was primarily due to
increased payroll costs primarily resulting from state and federally mandated
increases in the minimum wage. In addition, the minimum wage in California
increased to $5.75 per hour in March 1998. Legislation has been introduced in
California to further increase the minimum wage from $5.75 to $6.75 per hour
effective January 1999.
OPERATING INCOME. Operating income increased $8.2 million, or 35.6%, from
$23.0 million in the 1996 period to $31.2 million in 1997. Operating income
increased as a percentage of net sales from 12.6% in 1996 to 13.5% in 1997 for
the reasons discussed above.
INTEREST (INCOME) EXPENSE. Interest (income) expense relates to the
interest income on the Company's marketable securities net of interest expense
on the Company's capitalized warehouse lease. The Company had no bank debt
during 1997. Interest income earned on the Company's marketable securities was
$1.6 million in 1997. At December 31, 1997, the Company held $32.6 million in
short-term investments. The Company's short-term investments are comprised
primarily of investment grade federal and municipal bonds and commercial paper,
all with short-term maturities. The Company generally holds investments until
maturity.
PROVISION FOR INCOME TAXES. The provision for income taxes in 1997 was
$13.1 million, or 5.7% of net sales, compared to the pro forma provision of $9.5
million, or 5.1% of net sales, in 1996. The effective rates of the provision for
income taxes were 40.9% and 40.8% in 1997 and 1996, respectively. The effective
rates are less than the statutory rates in each period due to the benefit of
certain tax credits. See Note 5 of "Notes to Financial Statements."
NET INCOME. As a result of the items discussed above, net income increased
$5.2 million, or 38.3%, from pro forma $13.7 million in 1996 to $19.0 million in
1997. Net income increased as a percentage of net sales from 7.5% in 1996 to
8.2% in 1997.
21
YEAR ENDED DECEMBER 31, 1996 COMPARED TO YEAR ENDED DECEMBER 31, 1995
NET SALES. Total net sales increased $30.8 million, or 20.2%, from $152.8
million in 1995 to $183.6 million in 1996. 99 CENTS Only Stores net sales
increased approximately $21.2 million, or 17.3%, from $122.0 million in 1995 to
$143.2 million in 1996, and Bargain Wholesale net sales increased approximately
$10.1 million, or 33.4%, from $30.3 million in 1995 to $40.5 million in 1996.
There were no other retail operations in 1996. The increase in 99 CENTS Only
Stores net sales was primarily attributable to the positive effect of a net
increase of seven stores opened in 1996 and four stores opened in 1995 that were
not open for the full year in 1995, and a 2.8%, or $2.6 million, increase in
comparable stores net sales from 1995 to 1996. The increase in Bargain Wholesale
net sales was primarily attributable to increased marketing activity during
1996, as well as a shift in focus to large domestic and international accounts
and the expansion of its geographic markets.
GROSS PROFIT. Gross profit increased approximately $12.1 million, or 23.8%,
from $50.7 million in 1995 to $62.7 million in 1996. The increase in gross
profit was primarily due to higher net sales. As a percentage of net sales,
gross profit improved from 33.2% in 1995 to 34.2% in 1996 reflecting favorable
merchandise cost and mix factors, as well as the retail stores representing a
greater proportion of sales.
SELLING, GENERAL AND ADMINISTRATIVE. SG&A increased $5.9 million, or 17.4%,
from $33.8 million in 1995 to $39.7 million in 1996, primarily due to increased
costs associated with new store growth and increased executive compensation
expense of approximately $0.8 million. SG&A decreased as a percentage of net
sales from 22.2% in 1995 to 21.6% in 1996. The decrease as a percentage of net
sales in 1996 resulted primarily from spreading SG&A over a larger revenue base.
OPERATING INCOME. As a result of the items discussed above, operating
income increased $6.2 million, or 36.6%, from $16.9 million in 1995 to $23.0
million in 1996. Operating income increased as a percentage of net sales from
11.0% in 1995 to 12.6% in 1996.
INTEREST (INCOME) EXPENSE. Interest (income) expense relates to the
interest income on the Company's marketable securities net of interest expense
on the Company's capitalized warehouse lease. The change in interest expense
between 1995 and 1996 was not material. During the 1995 and the 1996 periods,
the Company had no bank debt. Interest income earned on marketable securities
was $0.9 million in 1996. At December 31, 1996, the Company held $27.6 million
in short-term investments. The Company's short-term investments are comprised
primarily of investment grade federal and municipal bonds and commercial paper,
all with short-term maturities. The Company generally holds investments until
maturity.
PRO FORMA PROVISION FOR INCOME TAXES. The pro forma provision for income
taxes in 1996 was $9.5 million, or 5.1% of net sales, compared to $6.5 million,
or 4.2% of net sales, in 1995. The effective rate of the pro forma provision for
income taxes was 40.4% and 40.8% in the 1995 period and the 1996 period,
respectively. The effective rates are less than the statutory rates in each
period due to the benefit of certain tax credits. See Note 5 of "Notes to
Financial Statements."
PRO FORMA NET INCOME. As a result of the items discussed above, pro forma
net income increased $4.1 million, or 42.8%, from $9.6 million in the 1995
period to $13.7 million in the 1996 period. Pro forma net income increased as a
percentage of net sales from 6.3% in 1995 to 7.5% in 1996.
LIQUIDITY AND CAPITAL RESOURCES
Since inception, the Company has funded its operations principally from cash
provided by operations, and has not generally relied upon external sources of
financing. The Company's capital requirements result primarily from purchases of
inventory, expenditures related to new store openings and working capital
requirements for new and existing stores. The Company takes advantage of
close-out and other special-situation opportunities which frequently result in
large volume purchases, and as a consequence, its cash requirements are not
constant or predictable during the year and can be affected by the timing and
size of its purchases.
22
During 1995, 1996 and 1997, net cash provided by operations was $17.3
million, $15.6 million and $13.7 million, respectively. Net cash provided by
operations reflects increases in inventories in the amount of $1.8 million, $2.6
million and $6.2 million during 1995, 1996 and 1997, respectively. During 1995,
1996 and 1997, net cash used in investing activities for purchases of property
and equipment was $2.7 million, $7.3 million and $9.4 million, respectively.
Cash used in investing activities for the purchase of short-term investments was
$27.6 million and $5.0 million in 1996 and 1997, respectively. Net cash used in
financing activities in 1995 was $11.8 million; these funds represented payments
of capital lease obligations and distributions to shareholders to cover, in
part, federal and state income taxes payable with respect to the net income of
the Company. In 1996, proceeds from financing activities were $19.6 million,
which included $65.2 million from the Company's initial public offering. In
addition, the Company paid $35.5 million of notes payable to shareholders and
issued dividends to shareholders for $4.4 million. Another $5.0 million
represented payments of capital lease obligations and distributions to
shareholders to cover, in part, federal and state income taxes payable by the
shareholders with respect to the net income of the Company prior to the change
of the corporate tax status from an S corporation to a C corporation. In 1997,
net cash used in financing activities was $0.2 million; these funds represented
payments of capital lease obligations and proceeds from the exercise of employee
stock options.
The Company has a $7.0 million bank credit facility bearing interest at the
bank's prime rate (8.50% at December 31, 1997). Under the terms of its credit
facility, the Company must comply with certain restrictive covenants.
Non-compliance with respect to these covenants would constitute an event of
default that gives the bank the right to call the credit facility and to pursue
certain remedies. At December 31, 1997, the Company was in compliance with this
covenant. The credit agreement expires in June 1998, at which time the Company
expects that it will be renewed. As of December 31, 1997, there were no
borrowings outstanding under the line of credit and outstanding letters of
credit were approximately $1.2 million ($1.1 million of which related to a
standby letter of credit required by the State of California to be self-insured
for worker's compensation).
The Company leases its 880,000 square foot single level warehouse and
distribution facility under a lease accounted for as a capital lease. The lease
requires monthly payments of $70,000 and accrues interest at an annual rate of
7.0%. At the lease expiration in December 2000, the Company has the option to
purchase the facility for $10.5 million. The Company currently intends to
exercise the option at the end of the lease. If the Company does not exercise
the purchase option, the Company will be subject to a $7.6 million penalty.
The Company plans to open new stores at a targeted annual rate of 20%. The
average investment per new store opened in 1996, including leasehold
improvements, furniture, fixtures and equipment, inventory and pre-opening
expenses, was approximately $650,000. Inventory and pre-opening expenses are not
capitalized by the Company. The Company's cash needs for new store openings are
expected to total approximately $8.5 million in each of 1998 and 1999. The
Company's total planned expenditures in each of 1998 and 1999 for additions to
fixtures and leasehold improvements of existing stores are approximately
$600,000. The Company believes that its total capital expenditure requirements
(including new store openings) will increase to approximately $11.4 million and
$11.6 million in 1998 and 1999, respectively. Capital expenditures in 1998 and
1999 are currently expected to be incurred primarily for new store openings,
improvements to existing stores and system and general corporate infrastructure.
The Company believes that cash flow from operations, availability under its
credit agreement and the net proceeds from its planned offering (see "Recent
Developments" above) will be sufficient to meet operating needs, capital
spending requirements and the retirement of Universal debt and payment of
overdue accounts payable of Universal for at least the next twelve months.
The Company has completed an assessment and has determined that it will be
required to modify or replace portions of its software so that its computer
systems will function properly with respect to dates in the year 2000 and
thereafter. The Year 2000 project cost is not anticipated to have a material
effect on the results of operations. The project is scheduled to be completed no
later than mid-1999.
23
The Company expects to continue to provide financial support to Universal
through the date of closing through trade credit and other advances. Such
amounts will be provided from the Company's ongoing cash flow from operations
and its existing working capital.
SEASONALITY AND QUARTERLY FLUCTUATIONS
The Company has historically experienced and expects to continue to
experience some seasonal fluctuation in its net sales, operating income and net
income. The highest sales periods for the Company are the Christmas and
Halloween seasons. A greater amount of the Company's net sales and operating and
net income is generally realized during the fourth quarter. The Company's
quarterly results of operations may also fluctuate significantly as a result of
a variety of other factors, including the timing of certain holidays (e.g.,
Easter) and the timing of new store openings and the merchandise mix.
Further, the operations of Universal and Odd's-N-End's are even more
dependent upon results in the fourth quarter and, even without the acquisition
of Universal, the Company's investment in Universal is expected to further
increase the impact of fourth quarter sales on the Company's results of
operations.
The following table sets forth certain unaudited results of operations for
each quarter during 1996 and 1997 and such information as a percentage of net
sales. The unaudited information has been prepared on the same basis as the
audited financial statements appearing elsewhere in this report and includes all
adjustments, which management considers necessary for a fair presentation of the
financial data shown. The operating results for any quarter are not necessarily
indicative of the results to be attained for any future period.
[Enlarge/Download Table]
YEAR ENDED DECEMBER 31, 1996 YEAR ENDED DECEMBER 31, 1997
-------------------------------------------------- -------------------------------------
1ST QUARTER 2ND QUARTER 3RD QUARTER 4TH QUARTER 1ST QUARTER 2ND QUARTER 3RD QUARTER
----------- ----------- ----------- ----------- ----------- ----------- -----------
(AMOUNTS IN THOUSANDS)
Net sales:
99 CENTS Only Stores.......... $ 32,256 $ 34,136 $ 35,211 $ 41,560 $ 39,168 $ 42,567 $ 46,991
Bargain Wholesale............. 10,020 9,037 10,173 11,250 11,576 11,247 11,995
----------- ----------- ----------- ----------- ----------- ----------- -----------
Total....................... 42,276 43,173 45,384 52,810 50,744 53,814 58,986
Gross profit.................... 13,466 14,934 16,118 18,203 17,416 19,313 21,192
Operating income................ 4,400 5,327 5,784 7,518 6,085 7,157 7,879
Net income:
Pro forma..................... 2,492 3,102 3,552 4,556
Historical.................... 4,158 8,248 3,552 4,779 3,676 4,369 4,750
Earnings per common share:
Pro forma--Basic.............. $ 0.20 $ 0.21 $ 0.19 $ 0.25
Pro forma--Diluted............ $ 0.16 $ 0.18 $ 0.19 $ 0.24
Historical--Basic............. $ 0.34 $ 0.57 $ 0.19 $ 0.26 $ 0.20 $ 0.24 $ 0.26
Historical--Diluted........... $ 0.26 $ 0.49 $ 0.19 $ 0.26 $ 0.20 $ 0.23 $ 0.25
(% OF NET SALES)
Net sales:
99 CENTS Only Stores.......... 76.3% 79.1% 77.6% 78.7% 77.2% 79.1% 79.7%
Bargain Wholesale............. 23.7 20.9 22.4 21.3 22.8 20.9 20.3
----------- ----------- ----------- ----------- ----------- ----------- -----------
Total....................... 100.0 100.0 100.0 100.0 100.0 100.0 100.0
Gross profit.................... 31.9 34.6 35.5 34.5 34.3 35.9 35.9
Operating income................ 10.4 12.3 12.7 14.2 12.0 13.3 13.4
Net income:
Pro forma..................... 5.9% 7.2% 7.8% 8.6%
Historical.................... 9.8% 19.1% 7.8% 9.0% 7.2% 8.1% 8.1%
4TH QUARTER
-----------
Net sales:
99 CENTS Only Stores.......... $ 57,298
Bargain Wholesale............. 10,013
-----------
Total....................... 67,311
Gross profit.................... 26,137
Operating income................ 10,098
Net income:
Pro forma.....................
Historical.................... 6,155
Earnings per common share:
Pro forma--Basic..............
Pro forma--Diluted............
Historical--Basic............. $ 0.33
Historical--Diluted........... $ 0.33
(% OF NET SALES)
Net sales:
99 CENTS Only Stores.......... 85.1%
Bargain Wholesale............. 14.9
-----------
Total....................... 100.0
Gross profit.................... 38.8
Operating income................ 15.0
Net income:
Pro forma.....................
Historical.................... 9.1%
24
INFLATION
The Company's ability to provide quality merchandise at the 99 CENTS price
point is subject to certain economic factors which are beyond the Company's
control, including inflation. Inflation could have a material adverse effect on
the Company's business and results of operations, especially given the
constraints on the Company to pass on any incremental costs due to price
increases or other factors. The Company believes that it will be able to respond
to ordinary price increases resulting from inflationary pressures by adjusting
the number of items sold at the single price point (e.g., two items for 99 CENTS
instead of three items for 99 CENTS) and by changing its selection of
merchandise. Nevertheless, a sustained trend of significantly increased
inflationary pressure could require the Company to abandon its single price
point of 99 CENTS per item, which could have a material adverse effect on the
Company's business and results of operations. See also "Risk Factors--Adverse
Economic Trends; Change in Minimum Wage" for a discussion of additional risks
attendant to inflationary conditions.
NEW AUTHORITATIVE PRONOUNCEMENTS
In June 1997, the Financial Accounting Standard Board issued SFAS No. 130,
"Reporting Comprehensive Income" (SFAS 130) and SFAS No. 131, "Disclosure about
Segments of an Enterprise and Related Information" (SFAS 131). SFAS 130 and SFAS
131 are effective in 1998; however, management does not expect adoption of these
standards to have a material impact on the Company's financial reporting.
RISK FACTORS
DEPENDENCE ON EXPANSION FOR FUTURE GROWTH
The Company's future operating results will depend largely upon its ability
to open and operate new stores successfully and to manage a larger business
profitably. In 1995, 1996 and 1997, the Company opened four, eight and ten
stores, respectively (two, seven and ten stores, respectively, net of relocated
stores). From January 1, 1998 through March 31, 1998, the Company opened two
stores (including one relocation) and expects to open at least eleven additional
stores (including one relocation) in Southern California during the remainder of
the year, including its first store in San Diego County. The Company plans to
open new stores over the next several years at a rate of approximately 20% per
annum. The success of the Company's expansion strategy is dependent upon many
factors, including identifying suitable markets and sites for new stores,
negotiating leases with acceptable terms, refurbishing stores, appropriately
upgrading its financial and management information systems and controls and
managing its operating expenses. In addition, the Company must be able to
continue to hire, train, motivate and retain competent managers and store
personnel. Many of these factors are beyond the Company's control. As a result,
there can be no assurance that the Company will be able to achieve its expansion
goals. Any failure of the Company to achieve its expansion goals on a timely
basis, obtain acceptance in markets in which it currently has limited or no
presence, attract and retain qualified management and other personnel,
appropriately upgrade its financial and management information systems and
controls or manage operating expenses could adversely affect the Company's
future operating results and its ability to execute its business strategy.
There can be no assurance that the opening of new stores will improve the
Company's results of operations. A variety of factors, including store location,
store size, rental terms, the level of store sales and the level of initial
advertising expenditures influence if and when a store becomes profitable.
Assuming the Company's planned expansion occurs as anticipated, the Company's
store base will include a relatively high proportion of stores with relatively
short operating histories. There can be no assurance that the new stores will
achieve the sales per saleable square foot and store-level operating margins
currently achieved at the Company's existing stores. If the new stores on
average fail to achieve these results, the Company's planned expansion could
produce a decrease in the Company's overall sales per saleable square foot and
25
store-level operating margins. Increases in the level of advertising and
pre-opening expenses associated with the opening of new stores could also
contribute to a decrease in the Company's operating margins. Finally, the
opening of new stores in existing markets has in the past and may in the future
reduce retail sales of existing stores in those markets, negatively affecting
comparable store sales.
PENDING ACQUISITIONS
The Company acquired 48% of the capital stock of Universal in November 1997.
In February 1998, the Company announced a proposal to acquire, by an exchange
offer, all of the remaining issued and outstanding shares of Universal not
already held by the Company (the "Universal Exchange Offer") and to acquire all
of the issued and outstanding shares of Odd's-N-End's (the "Odd's-N-End's
Merger"). In March 1998, the Company and Odd's-N-End's (which is held
approximately 41% by Universal) entered into a definitive merger agreement. The
Company is seeking to acquire Universal and Odd's-N-End's with the expectation
that the transactions will enable the Company to provide a retail outlet for
merchandise it acquires at prices other than the Company's single price point,
increase the Company's distribution capabilities, diversify its geographic
presence and to further capitalize on greater volume discounts in merchandise
purchases.
Achieving these anticipated benefits depends in part on the efficient,
effective and timely integration of the operations of Universal and
Odd's-N-End's with those of the Company. The combination of these businesses
requires, among other things, integration of the companies' management staffs,
coordination of the companies' sales and marketing efforts, integration and
coordination of the companies' purchasing departments and the identification and
elimination of redundant overhead and under-performing retail stores. Further,
the Company believes that the continued employment of Richard Ennen, President
and Chief Executive Officer of Universal and Odd's-N-End's, is integral to the
successful integration and operation of Universal and Odd's-N-End's following
consummation of the acquisitions. Both the Universal and Odd's-N-End's
acquisitions will require the Company to offer discount general merchandise at
multiple price points, a new strategy for the Company's retail business.
Further, the acquisitions of Universal and Odd's-N-End's expand the Company's
operations into geographic locations outside of Southern California. There can
be no assurance that the Company will be successful in these markets.
Full integration of these businesses will require considerable effort on the
part of the Company's management. During the integration period, it is
anticipated that the Company's accounting staff, operations personnel and other
staff will be required to dedicate considerable time toward integrating the
financial and information systems, management staffs and organizational cultures
of the three geographically separated organizations. There can be no assurance
that the Company will not experience problems associated with the integration or
that the integration will proceed efficiently or successfully. Furthermore, even
if the operations of the three companies are ultimately successfully integrated,
it is anticipated that the integration will be accomplished over time and, in
the interim, the combination may have an adverse effect on the Company's
business and results of operations.
The Company's acquisition of 48% of the Universal common stock in November
1997, while unanimously approved by Universal's full board of directors
(including all disinterested directors), was not approved by a separate
committee of Universal's board of directors consisting solely of disinterested
directors. Accordingly, under Minnesota law, upon completion of the Universal
Exchange Offer, the Company may not be able to acquire, for a period of four
years, by way of merger or other form of business combination, any shares of
Universal common stock that are not tendered to the Company in the Universal
Exchange Offer.
CONCENTRATION OF OPERATIONS
All of the Company's 99 CENTS Only Stores are currently located in Southern
California. In addition, the Company's current retail expansion plans anticipate
that new stores will be primarily located in this
26
geographic region. Consequently, the Company's results of operations and
financial condition are dependent upon general trends in this regional economy.
Although the recession in the Southern California economy in the early 1990s had
no material effect on the Company's results of operations, between 1989 and 1993
a significant decline in retail spending was recorded in most counties of
California, particularly the greater Los Angeles region. Although retail markets
in this region began to recover and this recovery has continued from 1995
through 1997, there can be no assurance that this trend will continue or that
retail spending will not decline in the future. In addition, Southern California
historically has been vulnerable to certain natural disasters and other risks,
such as earthquakes, fires, floods and civil disturbance, which at times have
disrupted the local economy. These events pose physical risks to the Company's
properties and could adversely affect the Company's operations. Although the
Company maintains standard property and business interruption insurance, the
Company does not maintain earthquake insurance on its facilities and business.
Following the acquisitions of Universal and Odd's-N-End's, the Company will
have stores clustered in geographic regions in the upper Midwest, upstate New
York and Texas. The upper Midwest, upstate New York and Texas regions have
economic characteristics unique to their particular locale. In addition, unlike
Southern California, extreme winter weather conditions in the Midwest and New
York may cause decreases in retail spending during certain times of the year.
DISRUPTIONS IN RECEIVING AND DISTRIBUTION
Substantially all of the Company's inventory is shipped or picked up
directly from suppliers and delivered to the Company's single warehouse and
distribution facility in Los Angeles County, California, where inventory is
processed and distributed. The Company's success depends in large part on the
orderly operation of this receiving and distribution process, which depends, in
turn, on adherence to shipping schedules and effective management of the
warehouse operations. Although management believes that the Company's receiving
and distribution process is efficient and well positioned to support the
Company's current expansion plans in Southern California, there can be no
assurance that the Company has anticipated, or will anticipate, all of the
changing demands its expanding operations will impose on its receiving and
distribution system or that events beyond the control of the Company will not
result in delays in the delivery of merchandise to the warehouse or from the
warehouse to the Company's stores. In addition, because the Company's receiving
and distribution operations are concentrated at a single location, a fire,
earthquake or other disaster at its warehouse and distribution facility could
materially and adversely affect its business and results of operations. Such a
disaster could be particularly damaging because a significant portion of the
Company's inventory is purchased as close-outs and special-situations and could
not be readily replaced for its carrying value, if at all. Although the Company
maintains standard property and business interruption insurance, the Company
does not maintain earthquake insurance on its facilities and business.
SUPPLIER RELATIONSHIPS; AVAILABILITY OF CLOSE-OUT AND SPECIAL-SITUATION
MERCHANDISE
The Company's success depends in large part upon its ability to locate and
purchase quality close-out and special-situation merchandise at attractive
prices in order to maintain a mix of name-brand and other merchandise at the
99 CENTS price point. There can be no assurance that such merchandise will
continue to be available in the future. Further, there can be no assurance that
such merchandise will be available in quantities necessary to accommodate the
Company's expansion strategy.
The Company has no continuing contracts for the purchase of merchandise and
must continuously seek out buying opportunities from both its existing suppliers
and new sources, for which it competes with other wholesalers, discount and
deep-discount chains, mass merchandisers, food markets, drug chains, club
stores, other retailers and various small privately-held companies and
individuals. Although the Company is not dependent on any single supplier or
group of suppliers, the Company's results of operations could be adversely
affected by a disruption in the availability of merchandise. Further, although
the Company
27
believes it has longstanding relationships with its suppliers and is
competitively positioned to continue to seek new sources, there can be no
assurance that the Company will be successful in maintaining an adequate supply
of quality merchandise at attractive prices.
The Company's suppliers sometimes restrict the advertising, promotion and
method of distribution of the merchandise sold to the Company. These
restrictions may make it more difficult for the Company to quickly sell items in
its inventory that are subject to such restrictions.
LARGE VOLUME PURCHASES; INVENTORY CONCENTRATION
The Company takes advantage of large volume purchases, close-outs and other
special-situations in order to obtain inventory at favorable prices. As a
result, the Company typically maintains inventory at levels that are generally
higher than other discount retailers. At December 31, 1995, 1996 and 1997, the
Company had net inventory recorded of $34.3 million, $36.9 million and $43.1
million, respectively.
The Company periodically reviews the net realizable value of its inventory
and makes adjustments to its carrying value when appropriate. While the current
carrying value of the Company's inventory reflects management's belief that the
Company will realize the net values recorded on the Company's balance sheet,
there can be no assurance that the Company will be able to do so. A sale by the
Company of any material portion of its inventory at an amount less than its
carrying value or a determination to write down any material portion of the
Company's inventory will have a material adverse impact on the Company's cost of
sales, gross profits, operating income and net income during the period in which
such event or events occur.
COMPETITION
The Company faces competition in both the acquisition of inventory and sale
of merchandise from other wholesalers, discount and deep-discount stores, single
price point merchandisers, mass merchandisers, food markets, drug chains, club
stores and other retailers. Industry competitors also include a large number of
privately held companies and individuals. In some instances these competitors
are also customers of the Company's Bargain Wholesale division. There is
increasing competition with other wholesalers and retailers, including other
deep-discount retailers, for the purchase of quality close-out and other
special-situation merchandise. Some of these competitors have substantially
greater financial resources and buying power than the Company. The Company's
ability to compete will depend on many factors including the success of its
purchase and resale of such merchandise at lower prices than the competition.
The Company may face intense competition in the future from new entrants in the
deep-discount retail industry, among others, that could have an adverse effect
on the Company's business and results of operations.
ADVERSE ECONOMIC FACTORS; CHANGE IN MINIMUM WAGE
The Company's ability to provide quality merchandise at its 99 CENTS price
point is subject to certain economic factors beyond the Company's control,
including inflation, other operating costs (such as employee health care costs
or prevailing wage levels), consumer confidence and general economic conditions.
There can be no assurance that such factors will remain favorable or, in
particular, that health care costs or the Company's wages will remain at current
levels. Currently, none of the Company's employees is party to a collective
bargaining agreement. Further, the minimum wage in California was increased in
March 1997 from $4.75 to $5.00 per hour, in September 1997 to $5.15 per hour and
again in March 1998 to $5.75 per hour. Further, legislation has been introduced
in California to increase the minimum wage to $6.75 per hour as of January 1,
1999. The federal minimum wage increased in September 1997 to $5.15 per hour.
Further, a bill has been proposed in Congress to increase the minimum wage to
$6.15 per hour beginning September 1, 1999, and $6.65 per hour beginning
September 1, 2000, with adjustments on such date and each September 1 thereafter
to reflect increases in the Consumer Price
28
Index for All Urban Consumers during the most recent 12-month period for which
data are available. Inflation, an increase in healthcare costs, wages or other
operating costs or a declining consumer confidence or general economic
conditions could have a material adverse effect on the Company's business and
results of operations, especially given constraints on the Company's ability to
pass on any incremental costs through price increases.
INTERNATIONAL SALES AND PURCHASES
Although international sales historically have not been material to the
Company's consolidated net sales, they have contributed to growth in Bargain
Wholesale's net sales. In addition, some of the inventory purchased by the
Company is manufactured outside the United States. International transactions
may be subject to political and economic risks, including political instability,
currency controls, exchange rate fluctuations, and changes in import/export
regulations, tariff and freight rates. In addition, various forms of
protectionist trade legislation have been proposed in the United States and
certain other countries. Any resulting changes in current tariff structures or
other trade and monetary policies could adversely affect the Company's
international operations. Political and economic factors have been identified by
the Company with respect to certain of the markets in which it competes. There
can be no assurance that these factors will not result in the reduction of
purchases of the Company's products.
AFFILIATE TRANSACTIONS
As of March 31, 1998, the Company leased 13 of its 54 stores and a parking
lot associated with one of these stores from certain members of the Gold family
and their affiliates (the "Gold Family"). Annual rental expense for the
facilities owned by the Gold Family was approximately $1.6 million, $1.8 million
and $2.0 million in 1995, 1996 and 1997, respectively. The Company believes that
such leases are no less favorable to the Company than those an unrelated party
would have provided after arm's-length negotiations. It is the Company's current
policy not to enter into real estate transactions with affiliated parties,
except with respect to the renewal or modification of existing leases and
occasions where such transactions are determined to be in the best interests of
the Company. Moreover, all real estate transactions between the Company and
affiliated parties requires the unanimous approval of the independent directors
on the Company's Board of Directors and a determination by such independent
directors that such transactions are the equivalent of a negotiated arm's-length
transaction with a third party. There can be no guarantee that the Company and
the Gold Family will be able to agree on renewal terms for the properties
currently leased by the Company from the Gold Family, or, if such terms are
agreed to, that the independent directors on the Board of Directors will approve
such terms. The failure of the Company to renew a lease will result in the
Company having to relocate or close the store associated with such lease; one or
more such relocations or closures will be costly and may have a material adverse
effect on the Company's business and results of operations.
DEPENDENCE ON KEY MANAGEMENT
The Company's success will continue to depend to a significant extent on
David Gold, the Company's Chief Executive Officer. The Company is also dependent
on the continued service of its executive officers and other key management,
particularly Helen Pipkin, its Senior Vice President of Wholesale Operations.
The Company does not have an employment contract with any of its executive
officers and does not maintain "key man" life insurance on any of its executive
officers. As the Company continues to grow, it will continue to hire, appoint or
otherwise change senior managers and other key executives. There can be no
assurance that the Company will be able to retain its executive officers and key
personnel or attract additional qualified members to management in the future.
29
SEASONALITY AND QUARTERLY FLUCTUATIONS
Historically, the Company's highest net sales and operating income have
occurred during the fourth quarter, which includes the Christmas and Halloween
selling seasons. During 1995, 1996 and 1997, approximately 29.3%, 28.8% and
29.2%, respectively, of the Company's net sales and approximately 33.0%, 32.6%
and 32.3%, respectively, of its operating income were generated during the
fourth quarter. Further, the operations of Universal and Odd's-N-End's are more
dependent upon results in the fourth quarter and even without the acquisition of
Universal, the Company's investment in Universal is expected to further increase
the impact of fourth quarter sales on the Company's results of operations.
Accordingly, any adverse trend in net sales for the fourth quarter could have a
material adverse effect upon the Company's profitability, and adversely affect
the Company's results of operations for the entire year.
In addition to seasonality, the Company's results of operations may
fluctuate from quarter to quarter as a result of the number and timing of sales
contributed to new stores, the level of advertising and pre-opening expenses
associated with the opening of new stores and the integration of new stores into
the operations of the Company, as well as other factors.
MANAGEMENT INFORMATION SYSTEMS; YEAR 2000 COMPLIANCE
The Company's business is currently supported by a standard accounting and
financial reporting system utilizing a PC-based local area network (LAN) and a
separate partially customized inventory control system processed on a
Hewlett-Packard RISC-based computer. The Company believes that its accounting
and management information system and inventory control system adequately
provide for its current needs. The Company intends to continue to update and
enhance its systems in order to improve capabilities and provide for planned
growth. If the Company should experience faster than anticipated growth, the
Company may be required to install a new management information or inventory
control system or undergo a significant modification of its current systems to
accommodate a larger business.
The Company has completed an assessment and determined that it will be
required to modify or replace portions of its software so that its computer
systems will function properly with respect to dates in the year 2000 and
thereafter. Although the year 2000 project is estimated to be completed in
mid-1999 and is not anticipated to have a material effect on results of
operations, there can be no assurance that the Company will not encounter
unanticipated problems in modifying its systems or that there will not be delays
in completing the project. Any difficulties in modifying its systems could
impact the Company's ability to communicate with and effectively make purchases
from its suppliers.
ENVIRONMENTAL MATTERS
Under various federal, state and local environmental laws and regulations, a
current or previous owner or occupant of real property may become liable for the
costs of removal or remediation of hazardous substances at such real property.
Such laws and regulations often impose liability without regard to fault. The
Company currently leases all but three of its stores, as well as its warehouse
and distribution facility (where its executive offices are located). The Company
currently intends to exercise an option to purchase the warehouse and
distribution facility in December 2000, the end of the lease term. The Company
could be held liable for the costs of remedial actions with respect to hazardous
substances on such properties under the terms of the governing lease and/or
governing law. In addition, the Company operates one underground diesel storage
tank and one above-ground propane storage tank at its warehouse and distribution
facility. Although the Company has not been notified of, and is not otherwise
aware of, any current environmental liability, claim or non-compliance, there
can be no assurance that the Company will not be required to incur remediation
or other costs in the future in connection with its leased properties or its
storage tanks.
In the ordinary course of its business, the Company from time to time
handles or disposes of ordinary household products that are classified as
hazardous materials under various federal, state and local
30
environmental laws and regulations. The Company has adopted policies regarding
the handling and disposal of these products, and has implemented a training
program for employees on hazardous material handling and disposal. There can be
no assurance, however, that such policies or training will be successful in
assisting the Company in avoiding violations of environmental laws and
regulations relating to the handling and disposal of such products in the
future.
ANTI-TAKEOVER EFFECT; CONTROL BY EXISTING SHAREHOLDERS
A number of provisions of the Company's Articles of Incorporation and Bylaws
and certain California laws and regulations pertaining to matters of corporate
governance (including the ability to issue preferred stock without shareholder
approval) may be deemed to have and may have the effect of making more
difficult, and thereby discouraging, a merger, tender offer, proxy contest or
assumption of control and change of incumbent management, even when
shareholders, other than the Company's principal shareholders, consider such a
transaction to be in their best interest. Accordingly, shareholders may be
deprived of an opportunity to sell their shares at a substantial premium over
the market price of the shares. In addition, upon consummation of the Company's
public offering, David Gold, the Company's Chairman and Chief Executive Officer,
members of his immediate family and certain of their respective affiliates will
beneficially own 9,131,246 (8,718,746 if the underwriters' over-allotment
options are exercised in full) of the voting stock of the Company. This
ownership position will enable these owners to control the Company's policies
and to prevent a change in control of the Company.
VOLATILITY OF STOCK PRICE
The market price of the Common Stock has risen substantially since Company's
initial public offering on May 23, 1996. Trading prices for the Common Stock
could be subject to significant fluctuations due to many factors, including the
depth of the market for the Common Stock, investor perception of the Company,
fluctuations in the Company's operating results and changes in conditions or
trends in the Company's industry or in the industries of any of the Company's
significant clients, changes in any securities analysts' estimates of the
Company's future performance or general market conditions. In addition, future
sales of substantial amounts of Common Stock by existing shareholders could also
adversely affect the prevailing market price of the Common Stock.
INFLATION
The Company's ability to provide quality merchandise at the 99 CENTS price
point is subject to certain economic factors which are beyond the Company's
control, including inflation. Inflation could have a material adverse effect on
the Company's business and results of operations, especially given the
constraints on the Company to pass on any incremental costs due to price
increases or other factors. The Company believes that it will be able to respond
to ordinary price increases resulting from inflationary pressures by adjusting
the number of items sold at the single price point (e.g., two items for 99 CENTS
instead of three items for 99 CENTS) and by changing its selection of
merchandise. Nevertheless, a sustained trend of significantly increased
inflationary pressure could require the Company to abandon its single price
point of 99 CENTS per item, which could have a material adverse effect on the
Company's business and results of operations.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not Applicable.
31
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEX TO FINANCIAL STATEMENTS
[Enlarge/Download Table]
PAGE
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99 CENTS ONLY STORES
Report of Independent Public Accountants................................................................... 33
Balance Sheets as of December 31, 1996 and 1997............................................................ 34
Statements of Income for the years ended December 31, 1995, 1996 and 1997.................................. 36
Statements of Shareholders' Equity for the years ended December 31, 1995, 1996 and 1997.................... 37
Statements of Cash Flows for the years ended December 31, 1995, 1996 and 1997.............................. 38
Notes to the Financial Statements.......................................................................... 39
UNIVERSAL INTERNATIONAL, INC.
Report of Independent Public Accountants................................................................... 51
Consolidated Balance Sheet as of December 31, 1997......................................................... 52
Consolidated Statement of Operations for the year ended December 31, 1997.................................. 53
Consolidated Statement of Stockholders' Equity for the year ended December 31, 1997........................ 54
Consolidated Statement of Cash Flows for the year ended December 31, 1997.................................. 55
Notes to Consolidated Financial Statements................................................................. 56
32
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To 99 CENTS Only Stores:
We have audited the accompanying balance sheets of 99 CENTS Only Stores (a
California Corporation) as of December 31, 1996 and 1997, and the related
statements of income, shareholders' equity and cash flows for each of the three
years in the period ended December 31, 1997. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of 99 CENTS Only Stores as of
December 31, 1996 and 1997, and the results of its operations and its cash flows
for each of the three years in the period ended December 31, 1997 in conformity
with generally accepted accounting principles.
ARTHUR ANDERSEN LLP
Los Angeles, California
March 2, 1998
33
99 CENTS ONLY STORES
BALANCE SHEETS
DECEMBER 31, 1996 AND 1997
(AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA)
ASSETS
[Enlarge/Download Table]
1996 1997
--------- ----------
CURRENT ASSETS:
Cash..................................................................................... $ 3,375 $ 882
Short-term investments................................................................... 27,619 32,584
Accounts receivable, net of allowance for doubtful accounts of $211 and $178 as of
December 31, 1996 and 1997, respectively............................................... 1,561 1,510
Inventories.............................................................................. 36,933 43,114
Other.................................................................................... 323 673
--------- ----------
Total current assets................................................................... 69,811 78,763
--------- ----------
PROPERTY AND EQUIPMENT, at cost:
Land..................................................................................... 7,159 8,072
Building and improvement................................................................. 10,195 10,804
Leasehold improvements................................................................... 6,546 10,986
Fixtures and equipment................................................................... 5,840 8,473
Transportation equipment................................................................. 438 558
Construction in progress................................................................. 134 776
--------- ----------
30,312 39,669
Less--Accumulated depreciation and amortization.......................................... (7,239) (10,228)
--------- ----------
23,073 29,441
--------- ----------
OTHER ASSETS:
Deferred income taxes.................................................................... 5,702 5,947
Deposits................................................................................. 246 234
Receivable from affiliated entity........................................................ 165 230
Investment in Universal International, Inc............................................... -- 3,708
Other.................................................................................... -- 1,120
--------- ----------
6,113 11,239
--------- ----------
$ 98,997 $ 119,443
--------- ----------
--------- ----------
The accompanying notes are an integral part of these balance sheets.
34
99 CENTS ONLY STORES
BALANCE SHEETS
DECEMBER 31, 1996 AND 1997
(AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA)
LIABILITIES AND SHAREHOLDERS' EQUITY
[Enlarge/Download Table]
1996 1997
--------- ----------
CURRENT LIABILITIES:
Current portion of capital lease obligation.............................................. $ 656 $ 704
Accounts payable......................................................................... 6,577 5,534
Accrued expenses:
Payroll and payroll-related............................................................ 1,086 1,352
Sales tax.............................................................................. 1,056 1,467
Liability for claims................................................................... 706 396
Other.................................................................................. 34 824
Workers compensation..................................................................... 771 1,091
Income taxes payable..................................................................... 103 211
--------- ----------
10,989 11,579
--------- ----------
LONG-TERM LIABILITIES:
Deferred rent............................................................................ 1,294 1,476
Accrued interest......................................................................... 1,500 2,075
Capital lease obligation, net of current portion......................................... 8,709 8,005
--------- ----------
11,503 11,556
--------- ----------
COMMITMENTS AND CONTINGENCIES: -- --
SHAREHOLDERS' EQUITY:
Preferred stock, no par value
Authorized--1,000,000 shares
Issued and outstanding--none........................................................... -- --
Common stock, no par value
Authorized--40,000,000 shares
Issued and outstanding--18,520,794 at December 31, 1996 and 18,578,759 at December 31,
1997................................................................................. 65,354 66,207
Retained earnings........................................................................ 11,151 30,101
--------- ----------
76,505 96,308
--------- ----------
$ 98,997 $ 119,443
--------- ----------
--------- ----------
The accompanying notes are an integral part of these balance sheets.
35
99 CENTS ONLY STORES
STATEMENTS OF INCOME
YEARS ENDED DECEMBER 31, 1995, 1996 AND 1997
(AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA)
[Enlarge/Download Table]
1995 1996 1997
---------- ---------- ----------
NET SALES:
99 CENTS Only Stores $ 121,998 $ 143,163 $ 186,024
Other retail............................................................... 492 -- --
Bargain Wholesale.......................................................... 30,337 40,480 44,831
---------- ---------- ----------
152,827 183,643 230,855
COST OF SALES................................................................ 102,160 120,922 146,797
---------- ---------- ----------
Gross profit............................................................... 50,667 62,721 84,058
---------- ---------- ----------
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES:
Operating expenses......................................................... 32,169 37,683 49,850
Depreciation and amortization.............................................. 1,640 2,009 2,989
---------- ---------- ----------
33,809 39,692 52,839
---------- ---------- ----------
Operating income......................................................... 16,858 23,029 31,219
---------- ---------- ----------
OTHER (INCOME) EXPENSE:
Interest income............................................................ (14) (890) (1,613)
Interest expense........................................................... 769 764 758
---------- ---------- ----------
755 (126) (855)
---------- ---------- ----------
Income before pro forma and historical provision for income taxes.......... 16,103 23,155 32,074
PROVISION FOR INCOME TAXES:
Pro forma (unaudited)...................................................... 6,509 9,453
---------- ----------
Historical................................................................. 156 2,418 13,124
---------- ---------- ----------
NET INCOME:
Pro forma (unaudited)...................................................... $ 9,594 $ 13,702
---------- ----------
---------- ----------
Historical................................................................. $ 15,947 $ 20,737 $ 18,950
---------- ---------- ----------
---------- ---------- ----------
EARNINGS PER COMMON SHARE:
Pro forma--Basic (unaudited)............................................... $ 0.77 $ 0.85 $ --
Pro forma--Diluted (unaudited)............................................. $ 0.77 $ 0.78 $ --
Historical--Basic.......................................................... $ 1.28 $ 1.29 $ 1.02
Historical--Diluted........................................................ $ 1.28 $ 1.18 $ 1.01
WEIGHTED AVERAGE NUMBER OF COMMON SHARES OUTSTANDING:
Pro forma--Basic (unaudited)............................................... 12,411 16,103 --
Pro forma--Diluted (unaudited)............................................. 12,411 17,599 --
Historical--Basic.......................................................... 12,411 16,103 18,542
Historical--Diluted........................................................ 12,411 17,599 18,756
The accompanying notes are an integral part of these financial statements.
36
99 CENTS ONLY STORES
STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
YEARS ENDED DECEMBER 31, 1995, 1996 AND 1997
(AMOUNTS IN THOUSANDS)
[Enlarge/Download Table]
COMMON STOCK
-------------------- RETAINED
SHARES AMOUNT EARNINGS
--------- --------- ---------
BALANCE, December 31, 1994........................................................ 12,411 $ 195 $ 30,616
Net income...................................................................... -- -- 15,947
Cash distributions to shareholders.............................................. -- -- (11,200)
--------- --------- ---------
BALANCE, December 31, 1995........................................................ 12,411 195 35,363
Net income...................................................................... -- -- 20,737
Cash distributions to shareholders.............................................. -- -- (5,000)
Distributions to shareholders in the form of notes payable...................... -- -- (35,549)
Distributions to shareholders in the form of dividends payable.................. -- -- (4,400)
Net proceeds from initial public offering....................................... 6,110 65,159 --
--------- --------- ---------
BALANCE, December 31, 1996........................................................ 18,521 65,354 11,151
Net income...................................................................... -- -- 18,950
Tax benefit from exercise of stock options...................................... -- 350 --
Proceeds from exercise of stock options......................................... 58 503 --
--------- --------- ---------
BALANCE, December 31, 1997........................................................ 18,579 $ 66,207 $ 30,101
--------- --------- ---------
--------- --------- ---------
The accompanying notes are an integral part of these financial statements.
37
99 CENTS ONLY STORES
STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 1995, 1996 AND 1997
(AMOUNTS IN THOUSANDS)
[Enlarge/Download Table]
1995 1996 1997
------------ ------------ ------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income.............................................. $ 15,947 $ 20,737 $ 18,950
Adjustment to reconcile net income to net cash provided
by operating activities:
Provision for doubtful accounts....................... -- 177 20
Depreciation and amortization......................... 1,640 2,009 2,989
Loss on disposition of property and equipment......... 32 13 --
Benefit for deferred income taxes..................... (145) (5,324) (245)
Changes in asset and liabilities associated with
operating activities:
Accounts receivable................................... (466) (378) 31
Inventories........................................... (1,795) (2,620) (6,181)
Other assets.......................................... 77 42 (1,470)
Deposits.............................................. 90 (15) 12
Receivable from affiliated entity..................... (107) (58) (65)
Accounts payable...................................... 1,018 827 (1,043)
Accrued expenses...................................... (291) 185 (843)
Worker's compensation................................. 147 (438) 320
Income taxes payable.................................. 96 7 458
Deferred rent......................................... 534 (52) 182
Accrued interest...................................... 499 535 575
------------ ------------ ------------
Net cash provided by operating activities........... 17,276 15,647 13,690
------------ ------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment..................... (2,660) (7,308) (9,357)
Purchases of short-term investments..................... -- (27,619) (4,965)
Investment in Universal International, Inc.............. -- -- (1,708)
------------ ------------ ------------
Net cash used in investing activities............... (2,660) (34,927) (16,030)
------------ ------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Payments of capital lease obligation.................... (571) (612) (656)
Net proceeds from initial public offering............... -- 65,159 --
Proceeds from exercise of stock options................. -- -- 503
Payment of notes payable to shareholders................ -- (35,549) --
Payment of dividend payable............................. -- (4,400) --
Distributions to shareholders........................... (11,200) (5,000) --
------------ ------------ ------------
Net cash provided (used in) financing activities.... (11,771) 19,598 (153)
------------ ------------ ------------
NET INCREASE (DECREASE) IN CASH........................... 2,845 318 (2,493)
CASH, beginning of period................................. 212 3,057 3,375
------------ ------------ ------------
CASH, end of period....................................... $ 3,057 $ 3,375 $ 882
------------ ------------ ------------
------------ ------------ ------------
The accompanying notes are an integral part of these financial statements.
38
99 CENTS ONLY STORES
NOTES TO THE FINANCIAL STATEMENTS
DECEMBER 31, 1997
1. LINE OF BUSINESS
The Company, 99 CENTS Only Stores, is primarily a retailer of various
consumable products and operated 43 and 53 stores at December 31, 1996 and 1997,
respectively. The Company is also a wholesale distributor of various consumable
products.
2. CONCENTRATION OF OPERATIONS IN SOUTHERN CALIFORNIA
All of the Company's retail stores are located in Southern California. In
addition, the Company's current retail expansion plans anticipate that all
planned new stores will be located in this geographic region. Consequently, the
Company's results of operations and financial condition are dependent upon
general economic trends and various environmental factors in Southern
California.
3. PUBLIC OFFERING OF STOCK
In May 1996, the Company completed its initial public offering of 6,109,375
shares (including 796,875 shares from the exercise of the over allotment option
granted to the underwriters) of common stock at an offering price of $11.60 per
share. In connection with the Offerings, the Company received net proceeds of
$65,159,000.
4. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
INVENTORIES
Inventories are priced at the lower of cost (first in, first out) or market.
DEPRECIATION AND AMORTIZATION
Property and equipment are depreciated and amortized on the straight-line
basis over the following useful lives of the assets:
[Download Table]
Building and improvements........... 27.5 years
Leasehold improvements.............. Lesser of 5 years or
remaining lease term
Fixtures and equipment.............. 5 years
Transportation equipment............ 3 years
The Company follows the policy of capitalizing expenditures that materially
increase asset lives and charging ordinary repairs and maintenance to operations
as incurred.
39
99 CENTS ONLY STORES
NOTES TO THE FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
4. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
STOCK SPLIT
All common shares and per share amounts have been adjusted to give
retroactive effect for a five and four stock split effected in the form of a
stock dividend distributed on November 28, 1997 to holders of record on November
17, 1997.
EARNINGS PER SHARE
Earnings per share calculations are in accordance with SFAS No. 128,
"Earnings per Share" (SFAS 128). Accordingly, "basic" earnings per share is
computed by dividing net income by the weighted average number of shares
outstanding for the year. "Diluted" earnings per share is computed by dividing
net income by the total of the weighted average number of shares outstanding
plus the dilutive effect of outstanding stock options (applying the treasury
stock method). All earnings per share amounts for 1995 and 1996 have been
restated to reflect the adoption of SFAS No. 128.
A reconciliation of the basic weighted average number of shares outstanding
and the diluted weighted average number of shares outstanding for each of the
three years in the period ended December 31, 1997 follows:
[Enlarge/Download Table]
(AMOUNTS IN THOUSANDS)
-------------------------------
1995 1996 1997
--------- --------- ---------
Weighted average number of common shares outstanding-Basic....... 12,411 16,103 18,542
Dilutive effect of outstanding stock options..................... -- 134 214
Weighted average shares offered as a part of the public offering;
the proceeds from such shares being used to fund a $39.9
million distribution to shareholders........................... -- 1,362 --
--------- --------- ---------
Weighted average number of common shares outstanding-Diluted..... 12,411 17,599 18,756
--------- --------- ---------
--------- --------- ---------
Pro forma earnings per common share have been computed by dividing pro forma
net income by the pro forma weighted average number of common shares outstanding
plus the dilutive effect of common stock equivalents.
CONCENTRATION OF RISK
The Company maintains cash and short-term investments with highly qualified
financial institutions. At various times such amounts may be in excess of
insured limits.
PRO FORMA STATEMENTS OF INCOME
Through April 30, 1996, the Company had elected treatment as an S
corporation under provisions of the Internal Revenue Code. Effective May 1,
1996, the Company terminated its S corporation election and became a C
corporation.
See Note 5 for explanation of pro forma provision for income taxes and
related pro forma net income.
40
99 CENTS ONLY STORES
NOTES TO THE FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
4. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
DEFERRED RENT
Certain of the Company's operating leases for its retail locations include
scheduled increasing monthly payments. In accordance with generally accepted
accounting principles, the Company has accounted for the leases to provide
straight line charges to operations over the lives of the leases.
REVENUE RECOGNITION
Revenue is recognized at the point of sale for retail sales and at the time
of shipment for wholesale sales.
PRE-OPENING COSTS
The Company expenses, as incurred, all pre-opening costs related to the
opening of new retail stores.
STOCK BASED COMPENSATION
During 1996, the Company adopted Statement of Financial Accounting Standards
No. 123, "Accounting for Stock Based Compensation" (SFAS 123). The Company has
elected to comply with the pro forma disclosure requirements of this standard
(see note 10) and to continue to account for stock options issued to employees
under the provisions of APB 25.
STATEMENTS OF CASH FLOWS
The Company prepares its statements of cash flows using the indirect method
as prescribed by the Statement of Financial Accounting Standards No. 95. The
Company considers all investments with original maturities of three months or
less to be cash equivalents.
Cash payments for income taxes were $200,000, $7,735,000 and $12,911,000 in
1995, 1996 and 1997, respectively. Interest payments totaled approximately
$269,000, $228,000 and $184,000 for the years December 31, 1995, 1996 and 1997,
respectively.
NEW AUTHORITATIVE PRONOUNCEMENTS
In June 1997, the Financial Accounting Standard Board issued SFAS No. 130,
"Reporting Comprehensive Income" (SFAS 130) and SFAS No. 131, "Disclosure about
Segments of an Enterprise and Related Information" (SFAS 131). SFAS 130 and SFAS
131 are effective in 1998; however, management does not expect adoption of these
standards to have material impact on the Company's financial reporting.
RECLASSIFICATIONS
Certain amounts in the prior years have been reclassified to conform to the
current year's presentation.
5. PRO FORMA AND HISTORICAL INCOME TAX PROVISION
Effective May 1, 1996, the Company terminated its S corporation election and
became a C corporation. As such, the actual taxes due by the Company through
December 31, 1996 are based on S corporation
41
99 CENTS ONLY STORES
NOTES TO THE FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
5. PRO FORMA AND HISTORICAL INCOME TAX PROVISION (CONTINUED)
tax rates for income from January 1, 1996 through April 30, 1996 and C
corporation tax rates from May 1, 1996 through December 31, 1996. In connection
with the Company's change in tax status, the Company recorded an increase in the
deferred tax asset of $4,570,000. As a C corporation, the computation of
deferred taxes is based on federal C corporation tax rates, which are not
applicable to S corporations, and C corporation state tax rates, which are
significantly larger than S corporation state tax rates. In accordance with SFAS
109, the gain resulting from the increase in the deferred tax asset is included
as a credit to tax expense during the period ended December 31, 1996.
The historical provision (benefit) for income taxes and resulting historical
net income, based on S corporation and C corporation tax rates as discussed
above and including the effect of the increase in deferred tax asset as
discussed above, for the year ended December 31, 1996 is as follows:
[Enlarge/Download Table]
(AMOUNTS IN
THOUSANDS)
-----------
Income before provision (benefit) for income taxes............................... $ 23,155
Historical provision (benefit) for income taxes:
During period as an S corporation.............................................. 75
During period as a C corporation............................................... 6,913
Change in tax status........................................................... (4,570)
-----------
2,418
-----------
Historical net income............................................................ $ 20,737
-----------
-----------
As an S corporation, the Company's income, whether distributed or not, was
taxed at the shareholder level for federal income tax purposes. For California
franchise tax purposes, as an S corporation, the Company was taxed at 1.5
percent of taxable income.
Because of the Company's change in tax status, historical results of
operations, including income taxes, and related earnings per share information
may not in all cases, be comparable to, or indicative of current and future
results. Therefore, pro forma information, which shows results as if the Company
had always been a C Corporation is presented on the face of the accompanying
statements.
The pro forma provision for income taxes included in the accompanying
statements of income shows results as if the Company had always been subject to
taxes as a C Corporation and had adopted Statement of Financial Accounting
Standards No. 109 (SFAS 109), "Accounting for Income Taxes," prior to fiscal
1991.
Under SFAS 109, deferred income tax assets or liabilities are computed based
on temporary differences between the financial statement and income tax bases of
assets and liabilities using the enacted marginal income tax rate in effect for
the year in which the differences are expected to reverse. Deferred income tax
expenses or credits are based on the changes in the deferred income tax assets
or liabilities from period to period.
Under SFAS 109, deferred tax assets may be recognized for temporary
differences that will result in deductible amounts in future periods and for
loss carry forwards. A valuation allowance is recognized if,
42
99 CENTS ONLY STORES
NOTES TO THE FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
5. PRO FORMA AND HISTORICAL INCOME TAX PROVISION (CONTINUED)
based on the weight of available evidence, it is more likely than not that some
portion or all of the deferred tax asset will not be realized.
The pro forma provisions for income taxes for the years ended December 31,
1995 and 1996 are as follows:
[Enlarge/Download Table]
YEARS ENDED DECEMBER
31,
(AMOUNTS IN
THOUSANDS)
--------------------
1995 1996
--------- ---------
Current:
Federal............................................................... $ 5,952 $ 8,695
State................................................................. 1,020 1,490
--------- ---------
6,972 10,185
Deferred................................................................ (463) (732)
--------- ---------
Pro forma provisions for income taxes................................... $ 6,509 $ 9,453
--------- ---------
--------- ---------
The historical provisions for income taxes for the years ended December 31,
1995, 1996 and 1997 are as follows:
[Enlarge/Download Table]
YEARS ENDED DECEMBER 31,
(AMOUNTS IN THOUSANDS)
---------------------------------
1995 1996 1997
---------- ---------- ---------
Current:
Federal.................................................. $ -- $ 6,111 $ 10,678
State.................................................... 301 1,631 2,691
---------- ---------- ---------
301 7,742 13,369
Deferred................................................... (145) (5,324) (245)
---------- ---------- ---------
Provisions for income taxes................................ $ 156 $ 2,418 $ 13,124
---------- ---------- ---------
---------- ---------- ---------
43
99 CENTS ONLY STORES
NOTES TO THE FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
5. PRO FORMA AND HISTORICAL INCOME TAX PROVISION (CONTINUED)
Differences between the pro forma provisions for income taxes and income
taxes at the statutory federal income tax rate for the years ended December 31,
1995 and 1996 are as follows:
[Enlarge/Download Table]
YEARS ENDED DECEMBER 31,
(AMOUNTS IN THOUSANDS)
------------------------------------------
1995 1996
-------------------- --------------------
AMOUNT PERCENT AMOUNT PERCENT
--------- --------- --------- ---------
Income tax at statutory Federal rate................... $ 5,636 35% $ 8,104 35%
State income taxes, net of federal income tax effect... 966 6.0 1,389 6.0
Effect of permanent differences........................ 14 -- 60 0.2
LARZ and targeted jobs credits......................... (107) (0.6) (100) (0.4)
--------- --------- --------- ---------
$ 6,509 40.4% $ 9,453 40.8%
--------- --------- --------- ---------
--------- --------- --------- ---------
Differences between the historical provisions for income taxes and income
taxes at the statutory federal income tax rate for the years ended December 31,
1995, 1996 and 1997 are as follows:
[Enlarge/Download Table]
YEAR ENDED DECEMBER 31,
(AMOUNTS IN THOUSANDS)
----------------------------------------------------------------
1995 1996 1997
-------------------- -------------------- --------------------
AMOUNT PERCENT AMOUNT PERCENT AMOUNT PERCENT
--------- --------- --------- --------- --------- ---------
Income tax at statutory federal rate....................... $ -- --% $ 6,122 26.4% $ 11,226 35.0%
State income taxes, net of federal income tax effect....... -- -- 1,049 4.5 1,924 6.0
State income taxes as an S corporation..................... 242 1.5 85 0.4 -- --
Effect of permanent differences............................ (1) -- 31 0.1 (204) (0.6)
LARZ and targeted job credits.............................. (40) (0.2) (100) (0.4) (280) (0.9)
Change in tax status....................................... -- -- (4,570) (19.7) -- --
Other...................................................... (45) (0.3) (199) (0.9) 458 1.4
--------- --------- --------- --------- --------- ---------
$ 156 1.0% $ 2,418 10.4% $ 13,124 40.9%
--------- --------- --------- --------- --------- ---------
--------- --------- --------- --------- --------- ---------
44
99 CENTS ONLY STORES
NOTES TO THE FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
5. PRO FORMA AND HISTORICAL INCOME TAX PROVISION (CONTINUED)
A detail of the Company's deferred tax asset as of December 31, 1996 and
1997 is as follows:
[Enlarge/Download Table]
YEARS ENDED DECEMBER
31,
(AMOUNTS IN
THOUSANDS)
--------------------
1996 1997
--------- ---------
Inventory reserve.......................................................... $ 1,661 $ 1,542
Uniform inventory capitalization........................................... 912 886
Depreciation............................................................... 1,180 1,656
Liability for claims....................................................... 289 162
Workers' compensation...................................................... 316 447
Deferred rent.............................................................. 531 605
LARZ credit................................................................ 300 195
State taxes................................................................ 491 511
Other, net................................................................. 22 (57)
--------- ---------
$ 5,702 $ 5,947
--------- ---------
--------- ---------
6. SHORT-TERM INVESTMENTS
Investment in debt and equity securities are recorded as required by SFAS
No. 115, "Accounting for Certain Investments in Debt and Equity Securities." The
Company's investments are comprised primarily of investment grade federal and
municipal bonds and commercial paper, all with short-term maturities. The
Company generally holds investments until maturity. Any premium or discount
recognized in connection with the purchase of an investment is amortized over
the term of the investment. As of December 31, 1996 and 1997, the fair value of
investments approximated the carrying values and were invested as follows:
[Enlarge/Download Table]
(AMOUNTS IN
THOUSANDS)
--------------------
1996 1997
--------- ---------
Federal bonds........................................................... $ -- $ 1,500
Municipal bonds......................................................... 18,456 18,583
Commercial paper........................................................ 9,163 12,501
--------- ---------
$ 27,619 $ 32,584
--------- ---------
--------- ---------
45
99 CENTS ONLY STORES
NOTES TO THE FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
7. CAPITAL LEASE OBLIGATIONS
The Company leases its warehouse, distribution and corporate facility
(approximately 880,000 square feet) under a lease accounted for as a capital
lease. Included in property and equipment is approximately $13.7 million of land
and building, at cost, related to this lease.
The lease requires fixed payments of $70,000 per month and bears interest at
7 percent per annum. At the lease expiration in December 2000, the Company has
the option to purchase the facility for $10.5 million. The Company plans to
exercise the option at the end of the lease. In the event the option is not
exercised, there is a $7.6 million penalty.
Total minimum payments under the lease are as follows:
[Enlarge/Download Table]
(AMOUNTS IN
THOUSANDS)
-----------
Year ending December 31:
1998....................................................................... $ 840
1999....................................................................... 840
2000....................................................................... 11,340
-----------
13,020
Less--Amount representing interest............................................... (4,311)
-----------
Present value of minimum lease payment........................................... 8,709
Less--Current portion............................................................ (704)
-----------
$ 8,005
-----------
-----------
8. RELATED-PARTY TRANSACTIONS
The Company leases certain retail facilities from its principal
shareholders. Rental expense for these facilities was approximately $1.6
million, $1.8 million and $2.0 million in 1995, 1996 and 1997, respectively.
The Company pays the premium on a split dollar life insurance agreement with
two of its principal shareholders. Under a collateral assignment agreement, the
premiums paid by the Company will be reimbursed to the Company out of death
benefit proceeds at the death of both shareholders. The Company has recorded a
receivable of $165,000 and $230,000 as of December 31, 1996 and 1997,
respectively, from an affiliated entity in the accompanying balance sheets for
the present value, not exceeding the cash surrender value of the policy, based
on mortality tables, of the premiums paid through December 31, 1996 and 1997.
During 1995, 1996 and 1997 the Company incurred legal fees of $109,000,
$82,000 and $61,000, respectively, to the law firm in which a director of the
Company is a partner.
9. COMMITMENTS AND CONTINGENCIES
CREDIT FACILITY
In December, 1997, the Company renewed the line of credit facility with a
bank. The facility provides for a line of credit of $7 million that can be used
for working capital purposes and issuance of letters of credit. The line of
credit bears interest at the bank's prime interest rate (8.50% at December 31,
1997). The line of credit expires on June 30, 1998 at which time the Company
expects that it will be renewed.
46
99 CENTS ONLY STORES
NOTES TO THE FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
9. COMMITMENTS AND CONTINGENCIES (CONTINUED)
The Company must comply with one covenant, the ratio of total liabilities to
tangible net worth. At December 31, 1997 the Company was in compliance with this
covenant.
As of December 31, 1997, there were no borrowings outstanding under the line
of credit and outstanding letters of credit were approximately $1.2 million
($1.1 million of which related to a standby letter of credit for self-insured
workers' compensation).
LEASE COMMITMENTS
The Company leases various facilities under operating leases which expire at
various dates through 2005. Some of the lease agreements contain renewal options
and/or provide for scheduled increases or increases based on the Consumer Price
Index. Total minimum lease payments under each of these lease agreements,
including scheduled increases, are charged to operations on a straight line
basis over the life of each respective lease. Certain leases require the payment
of property taxes, maintenance and insurance. Rental expense charged to
operations in 1995, 1996 and 1997 was approximately $5.1 million, $5.6 million
and $7.3 million, respectively.
As of December 31, 1997, the minimum annual rentals payable under all
non-cancelable operating leases were as follows:
[Enlarge/Download Table]
(AMOUNTS IN
THOUSANDS)
-----------
Year ending December 31:
1998....................................................................... $ 7,731
1999....................................................................... 7,514
2000....................................................................... 7,361
2001....................................................................... 6,057
2002....................................................................... 5,424
Thereafter................................................................. 13,935
-----------
$ 48,022
-----------
-----------
In addition, the Company also leases certain retail facilities on a
month-to-month basis. The aggregate monthly rental payments for month-to-month
leases at December 31, 1997 were approximately $52,000.
WORKERS' COMPENSATION
Effective August 11, 1993, the Company became self insured as to workers'
compensation claims. The Company carries excess workers' compensation insurance
which covers any individual claim in excess of $250,000 with a $2.0 million
ceiling. Through March 2, 1998, the Company has not made a claim against the
policy. The Company provides for losses of estimated known and incurred but not
reported insurance claims. Known claims are estimated and accrued when reported.
Incurred but not reported claims are estimated and accrued based on the
Company's experience and the experience of a third-party administrator. At
December 31, 1997, the Company had accrued approximately $1.1 million for
estimated workers' compensation claims.
47
99 CENTS ONLY STORES
NOTES TO THE FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
9. COMMITMENTS AND CONTINGENCIES (CONTINUED)
In connection with the self-insurance of workers' compensation, the Company
is required, by the State of California, to maintain a standby letter of credit.
As of December 31, 1997, there was $1.1 million under the standby letter of
credit.
The Company is named as a defendant in various legal matters arising in the
normal course of business. In management's opinion, none of these matters will
have a material effect on the Company's financial position or its results of
operations.
10. STOCK OPTION PLAN
The Company's 1996 Stock Option Plan is a fixed plan, which provides for the
granting of non-qualified and incentive options to purchase up to 1,250,000
shares of common stock. Options may be granted to officers, employees, directors
and consultants. Grants may be at fair market value at the date of grant or at a
price determined by the compensation committee consisting of three outside
members of the board of directors (the "Committee"). Options vest over a three
year period, 33 1/3% one year from the date of grant and 33 1/3% per year
thereafter. Options expire ten years from the date of grant.
The following table summarizes stock options available for grant.
[Enlarge/Download Table]
YEAR ENDED YEAR ENDED
DECEMBER 31, DECEMBER 31,
1996 1997
------------ ------------
Beginning Balance................................................ -- 688,938
Authorized....................................................... 1,250,000 --
Granted.......................................................... (638,500) (708,564)
Canceled......................................................... 77,438 32,826
------------ ------------
Available for future grant....................................... 688,938 13,200
------------ ------------
------------ ------------
A summary of the status of the Plan for the years ended December 31, 1996
and 1997 follows:
[Enlarge/Download Table]
DECEMBER 31, 1996 DECEMBER 31, 1997
--------------------- ----------------------
WEIGHTED WEIGHTED
AVERAGE AVERAGE
EXERCISE EXERCISE
SHARES PRICE SHARES PRICE
--------- ---------- ---------- ----------
Outstanding at the beginning of the year.................................. -- $ -- 561,062 $ 8.85
Granted................................................................... 638,500 8.84 708,564 17.65
Exercised................................................................. -- -- (57,565) 8.75
Canceled.................................................................. (77,438) 8.79 (32,826) 13.59
--------- ----------
Outstanding at the end of the year........................................ 561,062 8.85 1,179,235 13.97
--------- ----------
--------- ----------
Exercisable at the end of the year........................................ -- -- 132,715 $ 8.89
--------- ---------- ---------- ----------
--------- ---------- ---------- ----------
Weighted average fair value of options granted during the year............ $ 4.53 $ 14.44
---------- ----------
---------- ----------
48
99 CENTS ONLY STORES
NOTES TO THE FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
10. STOCK OPTION PLAN (CONTINUED)
The following table summarizes information about stock options outstanding
at December 31, 1997.
[Enlarge/Download Table]
WEIGHTED WEIGHTED WEIGHTED
AVERAGE AVERAGE AVERAGE
RANGE OF OPTIONS REMAINING EXERCISE OPTIONS EXERCISE
EXERCISE PRICES OUTSTANDING CONTRACTUAL LIFE PRICE EXERCISABLE PRICE
----------------------------- ----------- ------------------- ----------- ----------- -----------
$8.79 479,986 8.3 $ 8.79 127,933 $ 8.79
$10.70--$11.15 13,500 8.8 11.00 4,500 11.00
$14.55 3,750 9.2 14.55 -- --
$17.60--$18.50 675,249 9.4 17.60 282 17.60
$21.30--$21.75 3,000 9.5 21.53 -- --
$26.50 3,750 9.8 26.50 -- --
----------- -----------
1,179,235 8.9 13.97 132,715 8.89
----------- -----------
----------- -----------
The Company has elected to continue to measure compensation costs associated
with its stock option plan under APB 25, "Accounting for Stock Issued to
Employees" and accordingly, under SFAS No. 123, the expected impact on the
Company's financial statements is included in this expanded footnote disclosure.
Had the Company applied the fair value based method of accounting, which is
not required, to all grants of stock options, under SFAS 123, the Company would
have recorded additional compensation expense and computed pro forma net income
and earnings per share amounts as follows for the years ended December 31, 1996
and 1997 (amounts in thousands, except for per share data):
[Enlarge/Download Table]
DECEMBER 31,
--------------------
1996 1997
--------- ---------
Additional compensation expense......................................... $ 850 $ 3,112
Pro forma net income.................................................... 20,227 17,083
Pro forma earnings per share:
Basic............................................................. $ 1.26 $ 0.92
Diluted........................................................... $ 1.15 $ 0.91
These pro forma amounts were determined by estimating the fair value of each
option on its grant date using the Black-Scholes option-pricing model with the
following assumptions:
[Enlarge/Download Table]
DECEMBER 31,
----------------------
1996 1997
---------- ----------
Risk free interest rate............................................... 5.0% 5.4%
Expected life......................................................... 5.6 years 10 years
Expected stock price volatility....................................... 28% 77%
Expected dividend yield............................................... none none
49
99 CENTS ONLY STORES
NOTES TO THE FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
11. INVESTMENT IN UNIVERSAL INTERNATIONAL, INC.
In November 1997, the Company acquired approximately 48% of the outstanding
common stock of Universal International, Inc. ("Universal") for $4 million in
cash and inventory. The investment in Universal is accounted for using the
equity method of accounting. The investment is increased (reduced) by a credit
(charge) to income for 48% of the Universal income (loss). Summary information
relating to the results of operations and the financial condition of Universal
for fiscal 1997 is as follows (amounts in thousands):
[Download Table]
Sales............................................................ $ 68,705
Net loss......................................................... (11,887)
Total assets..................................................... 31,388
Shareholders' equity............................................. 8,601
During the period from the purchase of 48% of the Universal common stock to
December 31, 1997, the Company did not have any sales to Universal. During the
same period, the Company shipped approximately $1.2 million of inventory to
Universal towards fulfillment of the initial acquisition price.
In February 1998, the Company announced a proposal to acquire all of the
issued and to-be-issued shares of the common stock of Universal and
Odd's-N-End's Inc. ("Odd's-N-End's")(approximately 41% of Odd's-N-End's is owned
by Universal). If the acquisitions are consummated as proposed, the Company will
issue to the shareholders of Universal approximately 305,800 shares of the
Company's common stock and will pay to the holders of Odd's-N-End's common stock
approximately $830,000 in cash. As of December 31, 1997, Universal had a note
receivable due from Odd's-N-End's of approximately $8.7 million.
50
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Universal International, Inc.:
We have audited the accompanying consolidated balance sheet of Universal
International, Inc. (a Minnesota corporation) and subsidiaries as of December
31, 1997, and the related consolidated statements of operations, stockholders'
equity and cash flows for the year then ended. These financial statements are
the responsibility of the Company's management. Our responsibility is to express
an opinion on these financial statements based on our audit.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Universal International,
Inc. and subsidiaries as of December 31, 1997, and the results of their
operations and their cash flows for the year then ended, in conformity with
generally accepted accounting principles.
The accompanying consolidated financial statements have been prepared
assuming that the Company will continue as a going concern. As discussed in Note
2, the Company has experienced negative operating results and liquidity
constraints that raise substantial doubt about the Company's ability to continue
as a going concern. Management's plans in regard to these matters are also
described in Note 2. The consolidated financial statements do not include any
adjustments relating to the recoverability and classification of asset carrying
amounts or the amount and classification of liabilities that might result should
the Company be unable to continue as a going concern.
Our audit was made for the purpose of forming an opinion on the basic
financial statements taken as a whole. The schedule listed in the index of
financial statements and supplementary data is presented for purposes of
complying with the Securities and Exchange Commissions rules and is not part of
the basic financial statements. This schedule for the year ended December 31,
1997 has been subjected to the auditing procedures applied in the audit of the
basic financial statements and, in our opinion, fairly states in all material
respects the financial data required to be set forth therein in relation to the
basic financial statements taken as a whole.
ARTHUR ANDERSEN LLP
Minneapolis, Minnesota
March 6, 1998
51
UNIVERSAL INTERNATIONAL, INC.
CONSOLIDATED BALANCE SHEET
DECEMBER 31, 1997
(AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA)
ASSETS
[Enlarge/Download Table]
CURRENT ASSETS:
Cash............................................................................ $ 1,053
Accounts receivable, net of allowance of $480................................... 312
Inventories..................................................................... 18,901
Other current assets............................................................ 2,105
---------
Total current assets.......................................................... 22,371
---------
EQUIPMENT AND IMPROVEMENTS, net................................................... 8,880
OTHER ASSETS...................................................................... 137
---------
$ 31,388
---------
---------
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Borrowings under revolving credit agreement..................................... $ 9,270
Current portion of long-term debt............................................... 634
Accounts payable................................................................ 7,014
Accrued expenses................................................................ 4,348
---------
Total current liabilities..................................................... 21,266
---------
DEFERRED INCOME TAXES............................................................. 27
LONG-TERM DEBT, less current portion.............................................. 1,494
---------
Total liabilities............................................................. 22,787
---------
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY:
Common stock, $.05 par value, 75,000 shares authorized; 9,393 shares issued and
outstanding................................................................... 470
Additional paid-in capital...................................................... 26,692
Accumulated deficit............................................................. (18,561)
---------
8,601
---------
$ 31,388
---------
---------
The accompanying notes are an integral part of this consolidated balance sheet.
52
UNIVERSAL INTERNATIONAL, INC.
CONSOLIDATED STATEMENT OF OPERATIONS
YEAR ENDED DECEMBER 31, 1997
(AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA)
[Enlarge/Download Table]
NET SALES......................................................................... $ 68,705
COST OF GOODS SOLD................................................................ 39,229
---------
Gross profit.................................................................... 29,476
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES...................................... 35,483
---------
Operating loss.................................................................. (6,007)
INTEREST EXPENSE AND OTHER........................................................ (1,372)
---------
Loss before non-controlling interest, income taxes, and discontinued
operations.................................................................... (7,379)
NON-CONTROLLING INTEREST IN SUBSIDIARY'S NET LOSS................................. --
---------
Loss before income taxes and discontinued operations............................ (7,379)
INCOME TAX EXPENSE................................................................ --
---------
LOSS FROM CONTINUING OPERATIONS................................................... (7,379)
LOSS FROM DISCONTINUED OPERATIONS................................................. (4,508)
---------
NET LOSS.......................................................................... $ (11,887)
---------
---------
BASIC LOSS PER COMMON SHARE:
From Continuing Operations:..................................................... $ (1.35)
From Discontinued Operations:................................................... (.83)
---------
$ (2.18)
---------
---------
WEIGHTED AVERAGE COMMON SHARES OUTSTANDING:
Basic........................................................................... 5,456
---------
---------
The accompanying notes are an integral part of this consolidated financial
statement.
53
UNIVERSAL INTERNATIONAL, INC.
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
YEAR ENDED DECEMBER 31, 1997
(AMOUNTS IN THOUSANDS)
[Enlarge/Download Table]
COMMON STOCK
------------------------ ADDITIONAL TOTAL
PAR PAID-IN ACCUMULATED STOCKHOLDERS'
SHARES AMOUNT CAPITAL DEFICIT EQUITY
----------- ----------- ----------- ------------ ------------
BALANCE, December 31, 1996............................. 4,893 $ 245 $ 22,917 $ (6,674) $ 16,488
Issuance of Common Stock........................... 4,500 225 3,775 -- 4,000
Net loss........................................... -- -- -- (11,887) (11,887)
----- ----- ----------- ------------ ------------
BALANCE, December 31, 1997............................. 9,393 $ 470 $ 26,692 $ (18,561) $ 8,601
----- ----- ----------- ------------ ------------
----- ----- ----------- ------------ ------------
The accompanying notes are an integral part of this consolidated financial
statement.
54
UNIVERSAL INTERNATIONAL, INC.
CONSOLIDATED STATEMENT OF CASH FLOWS
YEAR ENDED DECEMBER 31, 1997
(AMOUNTS IN THOUSANDS)
[Enlarge/Download Table]
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss........................................................................ $ (11,887)
Adjustments to reconcile net loss to net cash used in continuing operations:
Loss from discontinued operations............................................. 4,508
Depreciation and amortization................................................. 1,249
Provision for inventory obsolescence and shrinkage............................ 1,151
Provision for losses on store closings........................................ 296
Non-controlling interest in subsidiary's net loss............................. --
Changes in operating assets and liabilities:
Inventories................................................................. (6,499)
Other current assets........................................................ 56
Accounts payable............................................................ 557
Accrued expenses............................................................ 1,184
---------
Net cash used in operating activities................................... (9,385)
---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Additions to equipment and improvements......................................... (506)
---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from borrowings under revolving credit agreements...................... 83,329
Payments on borrowings under revolving credit agreements........................ (81,850)
Issuance of common stock........................................................ 2,000
Proceeds from long-term debt.................................................... 1,873
Payments of long-term debt...................................................... (2,032)
---------
Net cash provided by financing activities............................... 3,320
---------
NET CASH PROVIDED BY DISCONTINUED OPERATIONS...................................... 7,103
---------
NET INCREASE IN CASH.............................................................. 532
CASH, beginning of year........................................................... 521
---------
CASH, end of year................................................................. $ 1,053
---------
---------
The accompanying notes are an integral part of this consolidated financial
statement.
55
UNIVERSAL INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1997
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
1. BUSINESS DESCRIPTION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
BUSINESS DESCRIPTION:
Universal International, Inc. (the Company) acquires close-out merchandise
from company overstocks, business liquidations and other sources and sells this
merchandise through its retail operations.
The Company's wholly owned subsidiary, Only Deals, Inc. ("Only Deals"),
operates 56 variety close-out retail stores in eight states in the upper Midwest
and in Texas as of December 31, 1997. These stores are located in strip shopping
centers and enclosed shopping malls. The stores offer close-out consumer
products.
The Company has an approximate 41% equity investment in Odd's-N-End's, Inc.
("Odd's-N-End's"), which operates 22 variety close-out retail stores in New York
state. The Company also has control over the day-to-day operations of
Odd's-N-End's and as a result, Odd's-N-End's financial information is fully
consolidated with that of the Company.
SIGNIFICANT ACCOUNTING POLICIES:
REVENUE RECOGNITION:
The Company recognized revenue for its wholesale operations upon shipment of
merchandise to customers and recognizes revenue for its retail operations upon
sale of merchandise.
PRINCIPLES OF CONSOLIDATION:
The consolidated financial statements include the accounts of the Company
and its subsidiaries, as well as, the full consolidation of the accounts of
Odd's-N-End's. All significant intercompany accounts and transactions have been
eliminated in consolidation.
STORE PRE-OPENING COSTS:
Purchases of equipment and the costs of leasehold improvements are
capitalized. All other costs associated with the opening of new stores are
charged to expense as incurred.
INVENTORIES:
Inventories, consisting of finished goods merchandise held for sale, are
stated at the lower of cost or market, with cost determined on a first-in,
first-out basis. The retail inventory method is utilized by the retail
operations.
EQUIPMENT AND IMPROVEMENTS:
Equipment and improvements are recorded at cost. Maintenance and repairs are
charged to expense as incurred. The cost and related accumulated depreciation or
amortization of assets sold or disposed of are removed from the accounts and the
resulting gain or loss is included in the results of operations.
Depreciation and amortization is calculated using the straight-line method
over the shorter of the estimated useful lives or related lease terms of the
assets.
56
UNIVERSAL INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
1. BUSINESS DESCRIPTION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
(CONTINUED)
ADVERTISING COSTS:
Advertising costs are expensed as incurred. Advertising expense, including
costs incurred by Odd's-N-End's, totaled $3,944 for the year ended December 31,
1997.
INCOME TAXES:
The Company accounts for income taxes using the liability method. Deferred
income taxes are recorded to reflect the tax consequences in future years of
differences between the tax bases of assets and liabilities and their financial
reporting amounts at each year end. Valuation allowances are established, when
necessary, to reduce deferred tax assets to the amount expected to be realized.
NET LOSS PER COMMON SHARE:
Net loss per share calculations are in accordance with SFAS No. 128,
"Earnings per Share." Basic loss per common share is computed by dividing net
loss for the period by the weighted average number of common shares outstanding
during the period. Diluted per share computations for the year ended December
31, 1997 have not been presented as the effect would be anti-dilutive.
USE OF ESTIMATES:
The preparation of consolidated financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates. The most
significant areas which require the use of management's estimates relate to the
determination of the allowances for obsolete inventories, uncollectible accounts
receivable and inventory shrink reserves, as well as the assessment of
impairment related to long-lived assets.
OTHER COMPREHENSIVE INCOME:
The Company has no significant items of other comprehensive income.
2. GOING CONCERN:
The Company's viability as a going concern is dependent upon obtaining
additional financing, maintaining its current credit facility and ultimately, a
return to profitability.
During 1997, the Company was unable to pay its vendors within normal trade
terms as it experienced continued net losses and a substantial decline in
consolidated net worth. As a result, management focused its efforts on obtaining
additional financing, and in November 1997, the Company issued 4.5 million
shares of Common Stock to 99 CENTS Only Stores for $4 million, of which $2
million was paid in cash and $2 million in merchandise credits. Subsequent to
December 31, 1997, 99 CENTS Only Stores made a proposal to the Company's Board
of Directors to acquire the remaining shares of Common Stock of the Company in
exchange for shares of Common Stock of 99 CENTS Only Stores.
57
UNIVERSAL INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
2. GOING CONCERN: (CONTINUED)
Subsequent to December 31, 1997, the Company's lender waived compliance by
the Company of its consolidated tangible net worth covenant through March 30,
1998. However, management does not believe that the Company will be in
compliance with this covenant as of March 31, 1998. This condition, as well as
the Company's operating results and negative operating cash flow, raise
substantial doubt about the Company's ability to continue as a going concern.
The Company is currently in the process of negotiating with the lender to
obtain another waiver of the consolidated tangible net worth covenant. In
addition, management believes that 99 CENTS Only Stores will provide sufficient
financing to satisfy the Company's planned operating requirements through
December 31, 1998. Management's plans to return operations to profitability
include planned increases in sales from remerchandising the retail stores and
from providing an uninterrupted supply of merchandise; reduction of store
operating costs, such as advertising, freight and supplies; and further
reductions of corporate overhead costs.
There can be no assurance that the Company will obtain a waiver from the
lender or that 99 CENTS Only Stores will provide sufficient financing to operate
the Company through December 31, 1998. In addition, there can be no assurance
that management's plans to return operations to profitability will be
successful.
3. DISCONTINUED OPERATIONS:
During 1997, the Company liquidated its wholesale inventory and eliminated
its wholesale business. Also during 1997, the Company adopted a plan to sell
Asset-Based Services, which sale was completed in January 1998 with no material
financial impact to the Company. These business segments have been accounted for
as discontinued operations, and prior years financial statements have been
restated to reflect the discontinuation of these segments. Wholesale revenues
for 1997 were $14,203 and Asset-Based Services revenues for 1997 were $943. No
interest expense was allocated to discontinued operations as all amounts
incurred were in support of continuing operations.
4. INVESTMENT IN ODD'S-N-END'S:
The Company has entered into an agreement, as amended, to advance up to
$10,000 to Odd's-N-End's, collateralized by a secondary interest in
substantially all assets of Odd's-N-End's, with interest payable at prime plus
2.5%.
During 1996, the non-controlling interest in Odd's-N-End's was reduced to $0
due to losses incurred by Odd's-N-End's. As a result, during 1996, the Company
began recording the entire amount of Odd's-N-End's net loss, and such losses
totaled $2,630 through December 31, 1997.
58
UNIVERSAL INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
5. OTHER FINANCIAL STATEMENT DATA:
The following provides additional disclosures for selected consolidated
balance sheet accounts:
[Enlarge/Download Table]
Equipment and improvements:
Fixtures and equipment...................................................... $ 8,369
Leasehold improvements...................................................... 5,234
---------
13,603
Less accumulated depreciation and amortization.............................. (4,723)
---------
$ 8,880
---------
---------
[Enlarge/Download Table]
Accrued expenses:
Accrued payroll............................................................. $ 1,072
Unremitted sales tax........................................................ 619
Other....................................................................... 2,657
---------
$ 4,348
---------
---------
The following provides supplemental disclosures of consolidated cash flow
information:
[Enlarge/Download Table]
Cash paid during the year for:
Interest.................................................................... $ 1,293
Income taxes................................................................ --
Noncash disclosures:
Disposal of inventories, equipment and improvements related to store
closings.................................................................. 140
Common stock issued for inventories......................................... 2,000
6. DEBT:
REVOLVING CREDIT AGREEMENT:
At December 31, 1996, the Company had a $16,000 revolving credit agreement
with a financial institution. During the first quarter of 1997, the Company
defaulted on several provisions of the amended loan agreement. As a result of
these defaults, the lender reduced the credit line to $12,500 and increased the
interest rate on outstanding borrowings to prime plus 3.5%. The lender further
reduced the credit line to $10,000 as of May 31, 1997.
In June 1997 the Company entered into a borrowing arrangement with a new
lender which replaced the previous credit line and the then existing
Odd's-N-End's bank notes payable of $1,300. Under the new revolving credit
agreement, as amended, the Company may borrow up to $14,000 (seasonally adjusted
to the $16,750 for the fourth quarter of 1997) against a borrowing base derived
from the level of qualifying accounts receivable and inventory. The agreement
expires in June 1999, but may be automatically renewed each year thereafter at
the option of both the lender and the Company. Borrowings under the agreement
are collateralized by substantially all assets of the Company, and outstanding
borrowings bear interest at prime plus 2% (the prime rate at December 31, 1997
was 8.5%). The Company also obtained $1,873 of term loan financing from the new
lender, which is included in the total line limit. The amount available at
December 31, 1997, based on the borrowing base, was $13,244, of which there were
outstanding borrowings of $9,270, outstanding borrowings on the fixture loan of
$1,678, and outstanding letters of credit of $499.
59
UNIVERSAL INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
6. DEBT:
LONG-TERM DEBT:
Long-term debt consists of the following:
[Enlarge/Download Table]
Note payable--bank, due in monthly installments of $39 plus interest of prime plus 2% (10.5% at December
31, 1997) remaining balance due June 30, 1999.......................................................... $ 1,678
Capital lease obligations payable in various monthly installments through August 2000, including interest
at 5.0% to 11.1%....................................................................................... 450
---------
2,128
Less current portion................................................................................... (634)
---------
$ 1,494
---------
---------
Scheduled future maturities of long-term debt are as follows:
[Enlarge/Download Table]
Year Ending December 31:
1998............................................................................. $ 634
1999............................................................................. 1,342
2000............................................................................. 152
---------
$ 2,128
---------
---------
Future minimum lease payments under capital lease obligations are as
follows:
[Enlarge/Download Table]
Year Ending December 31:
1998............................................................................... $ 208
1999............................................................................... 155
2000............................................................................... 161
---------
524
Less interest...................................................................... (74)
---------
Present value of minimum lease payments............................................ $ 450
---------
---------
7. INCOME TAXES:
At December 31, 1997, the Company has federal net operating loss
carryforwards of approximately $13,900 and apportioned state net operating loss
carryforwards of approximately $11,500 available to offset against future
taxable income.
The federal net operating loss carryforwards expire as follows:
[Download Table]
2008..................................................................
2009.................................................................. $ 1,100
2010.................................................................. --
2011.................................................................. 3,000
2012.................................................................. 9,800
-----------
Total................................................................. $ 13,900
-----------
-----------
60
UNIVERSAL INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
7. INCOME TAXES: (CONTINUED)
Temporary differences reflected in the Company's balance sheet consisted of
the following:
[Download Table]
Inventories............................................................ $ 597
AMT credit carryover................................................... 152
NOL carryover.......................................................... 5,569
Other.................................................................. 268
Depreciation........................................................... (693)
Deferred tax valuation allowance....................................... (5,920)
---------
Net deferred taxes................................................... $ (27)
---------
---------
8. COMMITMENTS:
OPERATING LEASES:
The Company is committed under long-term operating leases for the rental of
its office and warehouse facilities and retail store locations. The main
facility lease expires on July 31, 2000 and contains a right of first refusal to
purchase the facility.
The terms for the retail store leases range from one to ten years with the
leases structured so that the Company generally can extend, at its option, the
terms of the leases to a total of ten years. The Company is also required to pay
additional rent for some of the retail store locations based on a percentage of
sales and, in most cases, real estate taxes and other expenses. Additional rent
incurred was not significant in 1997.
Total rent expense under all leases, for the year ended December 31, 1997
was $8,158, including percentage rent, real estate taxes and other rental pass
through expenses.
As of December 31, 1997, future minimum lease payments (excluding real
estate taxes, other rental pass through expenses and percentage rents) due under
existing noncancellable operating leases, with remaining terms of greater than
one year are as follows:
[Enlarge/Download Table]
1998........................................................................... $ 4,966
1999........................................................................... 4,624
2000........................................................................... 3,483
2001........................................................................... 2,049
2002........................................................................... 1,155
Thereafter..................................................................... 581
---------
$ 16,858
---------
---------
61
UNIVERSAL INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
9. EMPLOYEE BENEFIT PLANS:
STOCK OPTIONS:
The Company has reserved 450 shares of common stock for issuance under the
1990 Stock Option Plan (the Plan), as amended in 1996. Options granted under the
Plan can be either incentive stock options or nonqualified stock options. The
Board of Directors has the authority to grant options and set the terms. The
options are granted at fair market value on the date of grant.
The Plan also provides for the issuance of stock appreciation rights (SARs)
and restricted stock awards. No SARs or restricted stock awards have been issued
as of December 31, 1997.
All stock options under the Plan have a maximum term of five years from the
date of grant, unless a lesser period is provided for in the option agreement.
Generally, stock options vest in equal annual portions over five years.
In addition to the options under the Plan, the Company has granted
nonqualified stock options to certain officers and directors. All nonqualified
stock options have a maximum term of five years from the date of grant, unless a
lesser period is provided for in the option agreement. Generally, nonqualified
stock options vest in equal annual portions over a maximum four-year period.
A summary of changes in outstanding stock options is as follows:
[Enlarge/Download Table]
1990 PLAN NONQUALIFIED
------------------------ ------------------------
WEIGHTED WEIGHTED
AVERAGE AVERAGE
OPTION EXERCISE OPTION EXERCISE
SHARES PRICE SHARES PRICE
----------- ----------- ----------- -----------
Balance, December 31, 1996.............................................. 313 3.23 786 3.40
Options canceled........................................................ (164) 2.68 (228) 4.63
Options granted......................................................... 263 1.54 125 1.13
--- ----- --- -----
Balance, December 31, 1997.............................................. 412 $ 2.37 683 $ 2.57
--- ----- --- -----
--- ----- --- -----
Options exercisable:
December 31, 1997....................................................... 59 2.94 583 2.20
Proforma disclosures of net loss and net loss per common share as if the
fair value based method of accounting for stock options had been applied are as
follows:
[Download Table]
1997
----------
Net loss: As reported.......................... $ (11,887)
Pro forma............................ (12,391)
Net loss per common share: As reported
Basic................................ $ (2.18)
Pro forma
Basic................................ (2.27)
The fair value of each employee and director stock option has been estimated
on the date of grant using the Black-Scholes option pricing model with the
following assumptions used for grants in 1997: risk-free interest rates of 6.27%
expected volatility of 204%; expected life of one to five years; and no dividend
yields. The pro forma disclosures may not be representative of the effects on
net earnings in future years
62
UNIVERSAL INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
9. EMPLOYEE BENEFIT PLANS: (CONTINUED)
because the disclosures do not consider pro forma compensation expense related
to grants made prior to 1995.
PROFIT SHARING AND 401(K) PLAN:
The Company maintains a defined contribution profit sharing plan covering
employees who meet certain age and service requirements and which contains
provisions for a savings portion to be qualified under Internal Revenue Code
Section 401(k). Participants in the savings portion of the plan may contribute
up to 15 percent of annual compensation. The Company contributes discretionary
amounts to both the profit sharing and savings portions of the plan. The total
Company contributions to the defined contribution plan were $32 in 1997.
10. STOCKHOLDERS' RIGHTS PLAN:
In June 1996, the Company adopted a stockholder rights plan, pursuant to
which the Company declared a dividend distribution of one Common Stock Purchase
Right for each outstanding share of the Company's Common Stock. Each Right
entitles the stockholder to purchase one share of Common Stock at a price of $25
per share, subject to adjustment. The description and terms of the Rights are
set forth in a Rights Agreement dated April 19, 1996, between the Company and
Norwest Bank Minnesota, N.A., as Rights Agent.
11. CONTINGENCIES:
The Company is a defendant in various claims and disputes arising in the
ordinary course of business. While the outcome of these matters cannot be
predicted with certainty, management presently believes the disposition of these
matters will not have a material effect on the results of operations, financial
position or cash flows of the Company.
12. SUBSEQUENT EVENT:
Subsequent to December 31, 1997, 99 CENTS Only Stores made a proposal to the
Company's Board of Directors to acquire the remaining shares of Common Stock of
the Company in exchange for shares of Common Stock of 99 CENTS Only Stores. As
proposed, 99 CENTS Only Stores would issue to the stockholders of the Company
one share of common stock of 99 CENTS Only Stores for each 16 shares of the
Company's Common Stock. In addition, subsequent to December 31, 1997, 99 CENTS
Only Stores made a proposal to the Board of Directors of Odd's-N-End's to
acquire all outstanding shares of Common Stock of Odd's-N-End's not owned by the
Company for cash of approximately $830,000.
63
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information regarding directors of the registrant required by Item 401 of
Regulation S-K and information regarding Directors and Executive Officers of the
registrant required by Item 405 of Regulation S-K is presented under the
captions "Election of Directors," "Management" and "Section 16(a) Beneficial
Ownership Reporting Compliance" in the definitive Proxy Statement for the
Company's 1998 Annual Meeting of Shareholders, and is incorporated herein by
reference.
ITEM 11. EXECUTIVE COMPENSATION
The information required by Item 402 of Regulation S-K is presented under
the caption "Executive Compensation" in the definitive Proxy Statement for the
Company's 1998 Annual Meeting of Shareholders, and is incorporated herein by
reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by Item 403 of Regulation S-K is presented under
the caption "Principal Shareholders" in the definitive Proxy Statement for the
Company's 1998 Annual Meeting of Shareholders, and is incorporated herein by
reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by Item 404 of Regulation S-K is presented under
the caption "Certain Relationships" in the definitive Proxy Statement for the
Company's 1998 Annual Meeting of Shareholders, and is incorporated herein by
reference.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
1. Financial Statements. Reference is made to the Index to the Consolidated
Financial Statements set forth on page 32 of this Form 10-K.
2. Financial Statement Schedules. All Schedules for which provision is made in
the applicable accounting regulations of the Securities and Exchange
Commission are included herein.
3. Exhibits. The Exhibits listed on the accompanying Index to Exhibits are
filed as part of, or incorporated by reference into, this report.
4. Reports on Form 8-K. A Report on Form 8-K was filed on February 19, 1998.
64
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report Form 10-K to be
signed on its behalf by the undersigned, thereunto duly authorized.
[Download Table]
99 CENTS ONLY STORES
By: /s/ ERIC SHIFFER
-----------------------------------------
Eric Schiffer
SENIOR VICE PRESIDENT OF FINANCE AND
OPERATIONS
AND TREASURER
Pursuant to the requirements of the Securities Exchange Act of 1934 this
Registration Statement has been signed below by the following persons on behalf
of the Registrant and in the capacities and on the dates indicated.
SIGNATURE TITLE DATE
------------------------------ -------------------------- -------------------
/s/ DAVID GOLD Chairman of the Board,
------------------------------ Chief Executive Officer March 30, 1998
David Gold and President
/s/ HOWARD GOLD Senior Vice President of
------------------------------ Distribution and March 30, 1998
Howard Gold Director
Senior Vice President of
/s/ JEFF GOLD Real Estate and
------------------------------ Information Systems and March 30, 1998
Jeff Gold Director
/s/ ERIC SCHIFFER Senior Vice President of
------------------------------ Finance and Operations March 30, 1998
Eric Schiffer and Director
/s/ ANDY FARINA
------------------------------ Chief Financial Officer March 30, 1998
Andy Farina
/s/ LAWRENCE GLASCOTT
------------------------------ Director March 30, 1998
Lawrence Glascott
/s/ MARVIN L. HOLEN
------------------------------ Director March 30, 1998
Marvin L. Holen
/s/ BEN SCHWARTZ
------------------------------ Director March 30, 1998
Ben Schwartz
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To 99 CENTS Only Stores:
We have audited in accordance with generally accepted auditing standards,
the financial statements of 99 CENTS Only Stores included in this Form 10-K and
have issued our report thereon dated March 2, 1998. Our audits were made for the
purpose of forming an opinion on the basic financial statements taken as a
whole. The schedule listed in the accompanying index is the responsibility of
the Company's management and is presented for purposes of complying with the
Securities and Exchange Commission's rules and is not part of the basic
financial statements. This schedule has been subjected to the auditing
procedures applied in the audits of the basic financial statements and, in our
opinion, fairly states in all material respects the financial data required to
be set forth therein in relation to the basic financial statements taken as a
whole.
ARTHUR ANDERSEN LLP
Los Angeles, California
March 2, 1998
99 CENTS ONLY STORES
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
FOR EACH OF THE THREE YEARS IN THE PERIOD ENDED DECEMBER 31, 1997
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AMOUNTS IN THOUSANDS
BEGINNING END OF
OF YEAR PROVISION REDUCTION YEAR
----------- ----------- ----------- ---------
For the year ended December 31, 1997:
Allowance for doubtful account...................................... $ 211 -- $ 33 $ 178
Inventory reserve................................................... 4,052 -- 290 3,762
For the year ended December 31, 1996:
Allowance for doubtful account...................................... $ 34 $ 237 $ 60 $ 211
Inventory reserve................................................... 4,085 -- 33 4,052
For the year ended December 31, 1995:
Allowance for doubtful account...................................... 42 -- 8 34
Inventory reserve................................................... 4,085 -- -- 4,085
For the year ended December 31, 1994:
Allowance for doubtful account...................................... $ 111 -- $ 69 $ 42
Inventory reserve................................................... 2,435 1,650 -- 4,085
UNIVERSAL INTERNATIONAL, INC.
SCHEDULE II--VALUATION AND QUALIFYING ACCOUNTS
FOR THE YEAR ENDED DECEMBER 31, 1997
(IN THOUSANDS)
[Enlarge/Download Table]
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E
------------------------------------------------------------------ ----------- ----------- ----------- -----------
BALANCE AT ADDITIONS DEDUCTIONS BALANCE
BEGINNING CHARGED TO FROM AT END
DESCRIPTION OF PERIOD EXPENSE ALLOWANCE OF PERIOD
------------------------------------------------------------------ ----------- ----------- ----------- -----------
Allowance for doubtful accounts (deducted from accounts
receivable)................................................... $ 200 $ 575 $ 295 $ 480
Inventory obsolescence and shrink reserve (deducted from
inventory).................................................... $ 1,017 $ 1,347 $ 1,611 $ 753
Store closing allowance......................................... $ 74 $ 296 $ 140 $ 230
EXHIBIT INDEX
[Enlarge/Download Table]
EXHIBIT
NUMBER EXHIBIT DESCRIPTION
----------- --------------------------------------------------------------------------------------------------------
3.1 Amended and Restated Articles of Incorporation of the Registrant.(1)
3.2 Amended and Restated Bylaws of the Registrant.(1)
4.1 Specimen certificate evidencing Common Stock of the Registrant.(1)
10.1 Form of Indemnification Agreement and Schedule of Indemnified Parties.(1)
10.2 [Reserved]
10.3 Form of Tax Indemnification Agreement, between and among the Registrant and the Existing
Shareholders.(1)
10.4 1996 Stock Option Plan.(1)
10.5 Lease for 730 West Foothill Boulevard, Azusa, California, dated as of December 1, 1995, by and between
the Registrant as Tenant and HKJ Gold, Inc. as Landlord, as amended(1).
10.6 Lease for 13023 Hawthorne Boulevard, Hawthorne, California, dated April 1 1994, by and between the
Registrant as Tenant and HKJ Gold, Inc. as Landlord, as amended.(1)
10.7 Lease for 6161 Atlantic Boulevard, Maywood, California, dated November 11, 1985, by and between the
Registrant as Lessee and David and Sherry Gold, among others, as Lessors.(1)
10.8 Lease for 14139 Paramount Boulevard, Paramount, California, dated as of March 1 1996, by and between the
Registrant as Tenant and 14139 Paramount Properties as Landlord, as amended.(1)
10.9 Release Agreement, dated March 25, 1996, regarding 11382 Beach Boulevard, Stanton, California, by and
between the Registrant and 11382 Beach Partnership.(1)
10.10 Lease for 6124 Pacific Boulevard, Huntington Park, California, dated January 31, 1991, by and between
the Registrant as Tenant and David and Sherry Gold as the Landlord, as amended.(1)
10.11 Lease for 14901 Hawthorne Boulevard, Lawndale, California, dated November 1, 1991, by and between Howard
Gold, Karen Schiffer and Jeff Gold, dba 14901 Hawthorne Boulevard Partnership as Landlord and the
Registrant as Tenant, as amended.(1)
10.12 Lease for 5599 Atlantic Avenue, North Long Beach, California, dated August 13, 1992, by and between the
Registrant as Tenant and HKJ Gold, Inc. as Landlord, as amended.(1)
10.13 Lease for 1514 North Main Street, Santa Ana, California, dated as of November 12, 1993, by and between
the Registrant as Tenant and Howard Gold, Jeff Gold, Eric J. Schiffer and Karen R. Schiffer as
Landlord, as amended.(1)
10.14 Lease for 6121 Wilshire Boulevard, Los Angeles, California, dated as of July 1, 1993, by and between the
Registrant as Tenant and HKJ Gold, Inc. as Landlord, as amended; and lease for 6101 Wilshire
Boulevard, Los Angeles, California, dated as of December 1, 1995, by and between the Registrant as
Tenant and David and Sherry Gold as Landlord, as amended.(1)
10.15 Lease for 8625 Woodman Avenue, Arlets, California, dated as of July 8, 1993, by and between the
Registrant as Tenant and David and Sherry Gold as Landlord, as amended.(1)
10.16 Lease for 2566 East Florence Avenue, Walnut Park, California, dated as of April 18, 1994, by and between
HKJ Gold, Inc. as Landlord and the Registrant as Tenant, as amended.(1)
10.17 Lease for 3420 West Lincoln Avenue, Anaheim, California, dated as of March 1, 1996, by and between the
Registrant as Tenant and HKJ Gold, Inc. as Landlord, as amended.(1)
10.18. Master Lease for 4000 East Union Pacific Avenue, City of Commerce, California ("Warehouse and
Distribution Facility Lease"), dated as of December 20, 1993, by and between the Registrant as Lessee
and TBC Realty II Corporation ("TBC") as Lessor, together with Lease Guaranty ("Lease Guaranty"),
dated December 20, 1993, by and between Sherry and David Gold and TBC with respect thereto and Letter
Agreement, dated December 15, 1993, among Registrant, The Mead Corporation, TBC and Citicorp Leasing,
Inc. with respect to the Lease Guaranty.(1)
10.10 Hawaiian Gardens Indemnity Agreement, dated as of March 25, 1996, by and between the Registrant and HKJ
Gold, Inc.(1)
[Enlarge/Download Table]
EXHIBIT
NUMBER EXHIBIT DESCRIPTION
----------- --------------------------------------------------------------------------------------------------------
10.20 North Broadway Indemnity Agreement, dated as of May 1, 1996, by and between HKJ Gold, Inc. and the
Registrant.(1)
10.21 Lease for 2606 North Broadway, Los Angeles, California, dated as of May 1, 1996, by and between HKJ
Gold, Inc. as Landlord and the Registrant as Tenant.(1)
10.22 Grant Deed concerning 8625 Woodman Avenue, Arleta, California, dated May 2, 1996, made by David Gold and
Sherry Gold in favor of Au Zone Investments #2, L.P., a California limited partnership.(1)
10.23 Grant Deed concerning 6101 Wilshire Boulevard, Los Angeles, California, dated May 2, 1996, made by David
Gold and Sherry Gold in favor of Au Zone Investments #2, L.P., a California limited partnership.(1)
10.24 Grant Deed concerning 6124 Pacific Boulevard, Huntington Park, California, dated May 2, 1996, made by
David Gold and Sherry Gold in favor of Au Zone Investments #2, L.P., a California limited
partnership.(1)
10.25 Grant Deed concerning 14901 Hawthorne Boulevard, Lawndale, California, dated May 2, 1996, made by Howard
Gold, Karen Schiffer and Jeff Gold in favor of Au Zone Investments #2, L.P., a California limited
partnership.(1)
11.1 Statements Regarding Computation of Per Share Earnings*
21.1 Subsidiaries of the Registrant.(1)
23.1 Consent of Arthur Andersen LLP.*
23.2 Consent of Arthur Andersen LLP.*
27.1 Financial Data Schedule*
27.2 Financial Data Schedule*
27.3 Financial Data Schedule*
------------------------
* Filed herewith
(1) Incorporated by reference from the Company's Registration Statement on Form
S-1 as filed with the Securities and Exchange Commission on May 21, 1996.
Dates Referenced Herein and Documents Incorporated by Reference
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