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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended August 30, 1997
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _______ to _______
Commission file number 1-14130
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MSC INDUSTRIAL DIRECT CO., INC.
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(Exact name of the registrant as specified in its charter)
New York 11-3289165
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) identification No.)
151 Sunnyside Boulevard, Plainview, New York 11803-1592
(Address of principal executive offices)
(516) 349-7100
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(Registrant's telephone number)
Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class Name of Exchange on Which Registered
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Class A Common Stock, par value $.001 The 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 Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes 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. _____
As of November 24, 1997, 16,672,130 shares of Class A Common Stock of
the registrant were outstanding and the aggregate market value of Class A Common
Stock held by non-affiliates was approximately $616,869,000.
The registrant's Proxy Statement for its 1998 annual meeting of
stockholders is hereby incorporated by reference into Part III of this Form
10-K.
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MSC INDUSTRIAL DIRECT CO., INC.
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INDEX TO ANNUAL REPORT ON FORM 10-K FILED WITH
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THE SECURITIES AND EXCHANGE COMMISSION
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YEAR ENDED AUGUST 30, 1997
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ITEMS IN FORM 10-K
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Page
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PART I
Item 1. BUSINESS................................................ 1
Item 2. PROPERTIES.............................................. 11
Item 3. LEGAL PROCEEDINGS....................................... 12
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS..... 12
PART II
Item 5. MARKET FOR REGISTRANTS COMMON EQUITY AND
RELATED STOCKHOLDER MATTERS........................... 13
Item 6. SELECTED FINANCIAL DATA................................. 14
Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS......... 16
Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA............. 21
Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
IN ACCOUNTING AND FINANCIAL DISCLOSURE................ 40
PART III
Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT...... 41
Item 11. EXECUTIVE COMPENSATION.................................. 41
Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
AND MANAGEMENT........................................ 41
Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.......... 41
PART IV
Item 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND
REPORTS ON FORM 8-K................................... 42
Signatures............................................................... 43
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PART I
Item 1. BUSINESS.
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Certain information set forth herein contains forward-looking
statements, as such term is defined in Section 27A of the Securities Act of 1933
and Section 21E of the Securities Exchange Act of 1934. Such statements are
subject to certain risks and uncertainties discussed herein, which could cause
actual results to differ materially from those in the forward-looking
statements.
General
MSC Industrial Direct Co., Inc. ("MSC" or the "Company") is one of the
largest direct marketers of a broad range of industrial products to small and
mid-sized industrial customers throughout the United States. The Company
distributes a full line of industrial products, such as cutting tools,
abrasives, measuring instruments, machine tool accessories, safety equipment,
fasteners, welding supplies and electrical supplies, intended to satisfy its
customers' maintenance, repair and operations ("MRO") supplies requirements. The
Company offers over 332,000 stock-keeping units ("SKUs") through its 4,075 page
master catalog and weekly, monthly and quarterly specialty and promotional
catalogs, newspapers and brochures, which are supported by 52 customer service
locations. Most of the Company's products are carried in stock, and orders for
these products are typically fulfilled the day on which the order is received.
MSC has grown rapidly due to expanded product offerings, increased
catalog distribution and supplemental mailings and geographic expansion. The
Company's net sales have increased at a compound annual rate of 28.4% from
$125.5 million in fiscal 1992 to $438.0 million in fiscal 1997. During this same
period, income from operations increased at a compound annual rate of 36.1% from
$12.6 million to $58.8 million.
MSC's business strategy is to provide an integrated, low cost solution
to the purchasing, management and administration of its customers' MRO needs.
MSC has positioned itself to add value to its customers' purchases by reducing
their total MRO supplies costs, taking into account both the direct cost of
products and the administrative, personnel and financial cost of obtaining and
maintaining MRO supplies. MSC's extensive product offerings allow customers to
reduce the administrative burden of dealing with many suppliers for their MRO
needs. The Company guarantees same-day shipping of products, approximately 95%
of which are generally kept in stock, thereby enabling customers to reduce their
inventory investment and carrying costs. The Company reduces its customers'
administrative paperwork, costs of shipping and personnel costs related to
internal distribution and purchase order management by consolidating multiple
purchases into a single shipment, providing a single invoice relating to
multiple purchases over varying periods of time and offering the ability to
direct shipments to specific departments and personnel within a single facility
or multiple facilities.
The Company's customers include a wide range of purchasers of
industrial supply products, from one-man machine shops to Fortune 500 companies.
The Company's core business focuses on selling relatively higher margin, lower
volume products and has an average order size of approximately $153. MSC has in
excess of 146,000 active customers (companies that have purchased at least one
item during the past 12 months), which are typically small and mid-sized
companies. MSC's customers select desired products from the Company's various
publications and place their orders by telephone, facsimile or direct computer
link.
The Company operates primarily in the United States, with customers in
all 50 states, through a network of three regional distribution centers and 52
branch offices. The Company's existing distribution centers are located in
Harrisburg, Pennsylvania, Atlanta, Georgia and Elkhart, Indiana. The strategic
locations of the Company's current distribution centers allow for next day
delivery via low cost ground carriers in 30 states located primarily in the
eastern United States. The Company's experience has been that areas accessible
by next day delivery generate significantly greater sales than areas where next
day delivery is not available. Accordingly, the Company's long-term strategy is
to establish additional distribution centers in the West and Southwest,
supported by local branch offices, to expand the Company's geographic coverage
of next day delivery throughout the continental United States.
MSC was formed in October 1995 as a holding company to hold all of the
outstanding capital stock of Sid Tool Co., Inc., MSC's principal operating
subsidiary (the "Operating Subsidiary"), which has been in business
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since 1941. MSC completed its initial public offering of its Class A common
stock in December 1995. The Company's business is principally conducted through
the Operating Subsidiary and the Operating Subsidiary's subsidiaries and, to a
lesser extent, through other wholly owned subsidiaries of MSC. The Company's
principal executive offices are located at 151 Sunnyside Boulevard, Plainview,
New York 11803-1592. In November 1997, the Company purchased a building located
at 75 Maxess Road, Melville, New York 11747 which will serve as the Company's
principal executive office upon relocation there, which is expected to occur in
August 1998.
Industry Overview
The Company operates in a large, fragmented industry characterized by
multiple channels of distribution. The total United States market for MRO
supplies of the categories of industrial products sold by MSC is estimated to be
in excess of $140 billion annually, with the top 50 industrial distributors
accounting for approximately 12% of the market. The Company believes that
approximately 130,000 small retailers, dealerships and distributors,
substantially all of which have annual sales of less than $10 million, supply
over 65% of the market. The distribution channels in the industrial products
market include retail outlets, small distributorships, national, regional and
local distributors, direct mail suppliers, large warehouse stores and
manufacturers' own sales forces.
Almost every industrial, manufacturing and service business has an
ongoing need for MRO supplies. The Company believes that because most businesses
focus primarily on their manufacturing processes or services provided,
relatively little attention is given to MRO purchasing. Except in the largest
industrial plants, MRO supplies inventories may not be effectively managed or
monitored, resulting in higher purchasing costs and increased administrative
burdens. MRO items are generally purchased by personnel whose primary functions
involve areas other than the acquisition of MRO supplies. Within larger
facilities, such items are frequently stored in multiple locations, resulting in
excess inventories and duplicative purchase orders. MRO items are frequently
purchased by multiple personnel in uneconomic quantities and a substantial
portion of most facilities' MRO supplies are "one-time purchases," resulting in
higher purchasing costs and time-consuming administrative efforts by multiple
plant personnel.
The Company believes that the administrative costs associated with
placing a MRO purchase order can be in excess of $100. Awareness of these high
costs and the purchasing inefficiencies discussed above has been driving large
companies to streamline the purchasing process by utilizing a limited number of
suppliers which can provide adequate selection, prompt delivery and superior
customer service. Customized billing practices and report generation
capabilities tailored to customer objectives are also becoming an increasingly
important feature of the total cost reduction model to customers and have
significantly reduced the need for purchasing agents and administrative
personnel. The Company believes that the mid-size customer has begun to respond
to industry and economic pressures and is moving more rapidly toward the more
efficient, cost saving, single supply source offered by the Company. The Company
also believes that the small shop customer is just beginning to realize the
value of suppliers such as MSC in reducing overall costs through reductions in
paperwork, multiple sources of supply, inventory stocks and delivery times.
Despite the apparent inefficiencies of the traditional MRO purchasing
process, long-standing relationships with local retailers and distributors have
generally perpetuated the status quo. Due to limited capital availability, high
operating cost structures and relatively small sales volumes, suppliers to the
industrial market are experiencing increasing pressure to consolidate and
curtail services and certain product lines in order to remain competitive. Even
large suppliers with extensive field sales forces are finding it increasingly
difficult to visit all buyers cost-effectively and provide the support necessary
to satisfy customer demands for control of costs and improved efficiency. The
Company believes that the relative inability of traditional distribution
channels to respond to these changing industry dynamics has created a continuing
opportunity for the growth of direct marketing organizations such as MSC. As a
result of these dynamics, large warehouse stores and direct mail marketers have
captured an increasing share of sales by providing lower total purchasing costs,
better product selection and a higher level of service.
MSC believes it provides a low cost solution to the purchasing
inefficiencies and high costs described above. Customers that purchase products
from MSC will generally find that their total purchasing costs are reduced
through consolidation of multiple sources of supply into a single supplier,
consolidation of multiple
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purchase orders into a single purchase order, consolidation of multiple invoices
into a single invoice, significant reduction in tracking of invoices,
significant reduction in stocking decisions and elimination of purchases for
inventory and, through the Company's electronic ordering system, the elimination
of paper orders and invoices. The Company's customers generally will notice a
reduction in purchasing costs, inventory carrying costs and administrative
inefficiency.
Business Strategy
The Company's business strategy is to provide its customers with a low
cost means for obtaining and maintaining MRO supplies. The strategy includes the
following key elements: (i) a broad selection of in-stock products; (ii) prompt
response and same-day shipping; (iii) superior, value-added customer services;
(iv) targeted direct mail marketing; and (v) a commitment to technological
innovation. As a result of this strategy, the company believes it is able to
lower its customers' overall MRO supplies costs by reducing administrative
paperwork, shipping costs, internal distribution costs and inventory investment
and carrying costs.
|_| Breadth of Products. The Company believes that its ability to
offer its customers a broad spectrum of brand name and generic
MRO products and a "good-better-best" product selection
alternative (similar product offerings with varying degrees of
name recognition, quality and price, thus permitting the customer
to choose the appropriate product for a specific task at the
lowest cost) has been critical to its success. The Company's
customers are increasingly consolidating their purchasing into
fewer suppliers to reduce the administrative burden of ordering
from multiple suppliers. By offering for sale over 332,000
products, approximately 95% of which are in stock and available
for immediate shipment, the Company aims to provide a broad range
of merchandise in order to become its customers' preferred
supplier of MRO products.
|_| Same-Day Shipping. The Company's guaranteed same-day shipping of
products results in delivery the next day or second day for
customers in most of the continental United States. This prompt
delivery allows customers to reduce the administrative burden of
dealing with many suppliers and reduces inventory investment and
carrying costs. The Company fulfills its same-day shipment of
orders guarantee more than 99.9% of the time. The Company's
experience has been that areas accessible by next day delivery
will generate significantly greater sales than areas where next
day delivery is not available. The strategic locations of the
Company's distribution centers allow next day delivery via low
cost ground carriers in 30 states located primarily in the
eastern United States.
|_| Superior Customer Service. Customer service is a key element in
becoming a customer's preferred provider of MRO supplies. The
Company emphasizes customer service and supports this service
with sophisticated information systems and extensive training.
Utilizing its proprietary customer support software, the
Company's in-bound telemarketing representatives implement the
Company's "one call does it all" philosophy. Telemarketing
representatives are able to inform customers on a real time basis
of the Company's in-stock inventory availability, recommend
substitute products, verify credit information, receive special,
custom or manufacturer direct orders, cross-check inventory items
using customer product codes previously entered into the
Company's information systems and provide technical product
information. The Company believes that its simple, one-call
method of fulfilling all purchasing needs of a customer through a
single highly trained telemarketing representative supported by
the Company's proprietary information systems results in greater
efficiency for customers and increased customer satisfaction. To
complement its customer service, the Company seeks to ease the
administrative burdens on its customers by offering electronic
data interchange ("EDI") ordering, customized billing services,
customer savings reports, bulk discounts, stocking of specialty
items specifically requested by customers and other customized
report features.
|_| Targeted Direct Mail Marketing Strategy. MSC's primary tool for
marketing and product reference is a master catalog containing
4,075 pages and over 332,000 items. The Company's catalog was
supplemented by approximately 80 specialty and promotional
catalog, brochure and
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newspaper titles in fiscal 1997, covering such specialty areas as
welding, cutting tools, measuring instruments, abrasives,
industrial supply, and hose and tubing. The Company uses its
database of approximately 600,000 companies and 1,500,000
individuals, and also purchases mailing lists of prospective
customers, to target the distribution of these various
publications to specific individuals within an organization whose
purchasing history or other criteria suggest receptiveness to
mailings of specific publication titles. The use of specialty and
promotional publications, which are produced in-house, increases
productivity through lower costs, increased response rates and
more efficient use of advertising space. MSC's publications
mailings increased from 2.4 million in fiscal 1992 to
approximately 11.3 million in fiscal 1997 as the Company targeted
its marketing program to enhance its investments in acquired
entities and new distribution centers. In fiscal 1998, the
Company intends to continue to increase direct marketing efforts
to take advantage of the additional products offered and its
expanded distribution capabilities. The Company's expenditures on
direct mail increased from $3.8 million in fiscal 1992 to
approximately $11 million in fiscal 1997, and are budgeted to
grow to $15.6 million in fiscal 1998.
|_| Commitment to Technological Innovation. The Company utilizes
technological innovation to improve customer service and to
reduce its operating costs through more effective buying
practices, automated inventory replenishment and efficient order
fulfillment operations. MSC's proprietary software tracks all
332,000 SKUs and enables the customer and the telemarketing
representative to determine the availability of products in stock
on a real time basis and to evaluate alternative products and
pricing. The Company's EDI system allows a customer to order
products directly, set purchase limits for particular buyers, run
customized reports of purchasing history and select from a
variety of billing options. The information systems developed by
the Company have been designed to enhance inventory management
and turnover, customer service and cost reduction for both MSC
and its customers. In addition to internal and customer
information systems, the Company continually upgrades its
distribution methods and systems to improve productivity and
efficiency. The Company has also developed a World Wide Web
information site in anticipation of increased commerce on the
Internet.
The Company believes that direct mail is one of the most effective, low cost
methods of reaching customers. The Company continually seeks to reduce its own
costs in order to continue to be the integrated low cost solution for its
customers. For example, MSC's call centers are a lower cost and more effective
alternative to maintaining a large direct sales force. In addition, the Company
produces its various product and promotional publications in-house, thereby
significantly reducing marketing costs. MSC's increasing volume purchasing power
has also resulted in lower prices from vendors on many of the products it sells
and dispersion of central costs over a wider revenue base.
Growth Strategy
The Company's objective is to become the preferred supplier of industrial
products for small and mid-sized companies throughout the United States. The
Company intends to increase sales to existing and new customers in existing
geographic markets served by next day delivery by (i) increasing the number of
product lines and SKUs offered; (ii) increasing the circulation of the master
catalog and expanding its targeted direct mail campaign; and (iii) acquiring
smaller local distributors to gain access to customers while consolidating the
acquired operations into existing Company distribution facilities. The Company
also intends to increase sales to customers in regions not currently served by
next day delivery by increasing the geographic availability of next day
delivery.
|_| Increased Penetration of Existing Markets. The Company believes
that its most significant current opportunity to increase profits
lies in the incremental revenue which can be realized from
existing customers and new customers in existing geographic
areas. MSC believes that continuing to increase the breadth of
its product line and providing high levels of customer service
are the two primary methods for increasing sales to existing
customers and attracting new customers. Accordingly, MSC has
added in excess of 162,000 SKUs over the past three years while
simultaneously increasing the Company's inventory turns. By
expanding the
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product lines offered, the Company seeks to satisfy an increasing
percentage of the MRO supplies purchases of its customers.
Additionally, the Company's ability to deliver such expanding
product lines on a next day basis is an important service
advantage that results in lower costs to customers. The Company's
commitment to superior customer service and a broad product base
adds to the convenience and effectiveness of doing business with
MSC.
In fiscal 1997, the Company shifted its growth emphasis from
increasing its offering of SKUs to increasing the size and
diversity of its customer base. This shift took advantage of the
Company's ability to service the industrial Midwestern United
States through its Elkhart, Indiana facility. The Company has
accumulated a buyer database of approximately 1,500,000
individuals, and utilizes empirical information from this
database to prospect for new customers and supplement its master
catalog with directed mailings of specialty and promotional
publications intended to increase customer response and product
purchases. MSC has increased the number of publication titles
distributed over the past several years from 12 in fiscal 1992 to
approximately 80 in fiscal 1997.
|_| Expansion into New Markets. The Company operates primarily in the
continental United States through a network of three regional
distribution centers and 52 branch offices. The strategic
locations of the Company's distribution centers allow next day
delivery via low cost ground carriers in 30 states located
primarily in the eastern United States and second day delivery
throughout the rest of the continental United States. The
Company's experience has been that sales in areas accessible by
next day delivery are significantly greater than in areas with
second day delivery. The Company's long-term goal is to open
distribution centers in the West and Southwest, supported locally
by branch offices, which will expand the Company's geographic
coverage of next day delivery throughout the United States.
|_| Selected Acquisitions. The Company believes that local market
acquisitions of small suppliers of industrial products provide a
very attractive opportunity for expanding its customer base in
existing markets. Four of the Company's acquisitions completed
during fiscal 1997 operate in markets where the Company already
was present. In pursuing acquisitions, the Company seeks to gain
immediate access to the acquired company's customer base while
consolidating its operations into existing distribution
facilities, thus achieving increased revenue while incurring
limited incremental operating costs.
The Company will consider expansion into new markets through the
acquisition of industrial supply companies with existing distribution
facilities. Certain of the Company's acquisitions completed during fiscal 1996
and fiscal 1997 operate in markets where the Company previously was not present.
The completion of such acquisitions allows the Company to accelerate its growth
plans and immediately penetrate new markets in a more efficient manner without
the need for lengthy construction periods or significant capital expenditures
that will not yield a return on investment for several months or years.
Additionally, corporate and administrative infrastructures necessary to support
such acquisitions are already in place. No assurance can be given that any such
acquisitions, if made, will be successfully integrated into the Company's
existing operations, nor can there be any assurance that the Company will be
able to implement this phase of its growth strategy.
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Products
The Company currently offers in excess of 332,000 SKUs, which number
represents a greater than 150% increase since 1991. The Company attributes a
portion of its sales growth to the total number of SKUs offered. In this regard,
the Company intends to continue to add new product categories and increase the
number of products offered in existing product categories in its efforts to gain
new customers and increase sales from existing customers. The Company's core
products include cutting tools, abrasives, measuring instruments, machine tool
accessories, machinery and safety products. As part of its strategy of supplying
an increasing portion of its customers' MRO needs, the Company has recently
expanded its product mix to include plumbing supplies, process instrumentation,
hardware, marking products, pumps and pneumatics and has significantly increased
its offering of flat stock raw materials and cutting tools. MSC seeks to
distinguish itself from its competition through offering both name brand and
generic products and significant depth in its core product lines while
maintaining competitive pricing.
The Company's offering of specific products from multiple manufacturers
at different prices and quality levels permits MSC to offer a good-better-best
product selection alternative. This alternative provides the customer a choice
among similar product offerings with varying degrees of name recognition,
quality and price, thus permitting the customer to choose the appropriate
product for a specific task at the lowest cost. For example, if a customer
requires a drill bit to drill 100 holes, it would not be cost-effective to
purchase the top-of-the-line name brand which is capable of drilling 10,000
holes. MSC's telemarketing representatives and technical support personnel are
trained specifically to assist customers in making intelligent cost-saving
purchases. The Company believes that its product alternative offerings and
knowledgeable customer service and technical support personnel result in
significant amounts of repeat business and are an integral part of MSC's overall
customer cost reduction strategy.
The following table itemizes the product categories currently offered
by MSC and the number of SKUs available in each product category:
Category Number of SKUs
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Cutting Tools 109,556
Fasteners 26,726
Tooling Components 23,914
Measuring Instruments 19,637
Flat Stock & Raw Materials 16,087
Material Handling 14,506
Machinery 14,304
Hand and Power Tools 12,663
Abrasives 12,479
Electrical Supplies 12,447
Power Transmission 12,242
Plumbing Supplies 9,339
Hose Tube and Fittings 8,014
Safety Products 7,401
Process Instrumentation 6,792
Marking & Labeling 4,902
Welding 4,296
Pneumatics &Hydraulics 4,021
Hardware 3,330
Janitorial/Maintenance 2,756
Lubricants 2,151
HVAC 992
Pumps 853
Packing & Shipping 712
Office Equipment 506
Miscellaneous 1,719
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Total 332,345
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The Company purchases substantially all of its products directly from
approximately 2,400 manufacturers located in the United States. Approximately 7%
of products are purchased from manufacturers located overseas. The Company is
not materially dependent on any one supplier or small group of suppliers. No
single supplier accounted for more than 5% of the Company's total purchases in
fiscal 1997. Generic products, primarily machine tools, are manufactured by
third parties to the Company's specifications.
Distribution Centers
A significant number of the Company's products are carried in stock,
and approximately 95% of orders are fulfilled from the distribution centers or
branch offices. Certain products, such as specialty or custom items and some
very large orders, are shipped directly from the manufacturer. The operations of
the Company's distribution centers are managed via computer-based SKU tracking
systems and radio frequency devices that facilitate the location of specific
stock items to make the picking process more efficient. The Company has invested
significant resources in technology and automation to increase efficiency and
reduce costs, and continuously monitors its order fulfillment process and
endeavors to maintain its commitment to technological efficiencies and cost
reduction. The Company currently utilizes three distribution centers for product
shipment located in Harrisburg, Pennsylvania, Atlanta, Georgia and Elkhart,
Indiana. During fiscal 1996, the Company relocated its Long Island distribution
center to Harrisburg, Pennsylvania. The Company commenced shipping from the
Harrisburg, Pennsylvania distribution center in September 1996, and the center
became fully operational during the first half of fiscal 1997. Over the next
several years, the Company intends to open additional distribution centers in
the West and Southwest in order to achieve the Company's goal of next day
delivery throughout the continental United States.
Sales and Marketing
The Company's customers include a broad range of purchasers of
industrial supply products, from one-man machine shops to Fortune 500 companies.
The Company's core business focuses on selling relatively higher margin, lower
volume products and has an average order size of approximately $153. The Company
focuses its marketing efforts on the small shop segment, consisting of job shops
and other small industrial entities with fewer than 100 employees and usually
less than $500,000 of annual industrial supplies purchases, and the mid-size
corporate segment, consisting of industrial entities with 100-999 employees and
annual MRO purchases of between $500,000 and $1,000,000. The Company's strategy
with respect to the large corporate segment is to develop relationships with,
and supply MRO products directly to, integrated supply providers that are hired
by large corporations to manage their MRO purchasing and administrative
operations.
As a result of certain acquisitions in fiscal 1996, the Company also
offers wholesalers and other distributors the ability to create their own
customized mail order catalog by offering to these MSC customers turn-key
marketing programs, including promotional mailers. Any resulting orders are
serviced directly by MSC, which stocks and ships the products under the
customer's program. Further, as a result of an acquisition made in fiscal 1997,
another division of MSC offers a line of lower margin, higher volume products
for the budget-oriented customer.
The Company believes that its expanded product offerings, rapid
delivery capabilities and total cost reduction strategy are critical to
expanding its market share. MSC has in excess of 146,000 active customers
(companies which have purchased at least one item during the past 12 months).
Typically, a customer's MRO purchases are managed by several buyers responsible
for different categories of products. The Company targets these individual
buyers within an organization and distributes publication titles corresponding
to the product categories for which such buyers are responsible. The Company is
able to accomplish this directed marketing strategy as a consequence of the
depth of customer information contained in its information systems databases.
The Company's customers select desired products from the Company's various
publications and place their orders by telephone, facsimile or direct computer
link.
The Company has invested significant resources in developing an
extensive customer and prospect database. This database is a key component of
the Company's growth strategy. The customer and prospect database includes
detailed information, including company size, number of employees, industry of
operation, various demographic and geographic characteristics and personal
purchase histories (catalog preference, product
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preference, order value). In fiscal 1997, 5,400,000 mailings were sent to
potential buyers who had not previously purchased from MSC. The Company believes
that this variety and depth of information on its customers offers the Company a
significant competitive advantage in increasing sales to existing customers and
attracting new customers.
The Company relies on its approximately 300 in-bound telemarketing
representatives, who are responsible for a substantial majority of customer
contacts and order entries. These telemarketing representatives are highly
trained individuals who build relationships with customers, assist customers in
reducing costs, provide technical support, coordinate special orders and
shipments with vendors and update customer account profiles in the Company's
information systems databases. The Company's "one call does it all" philosophy
is predicated on the ability of the telemarketing representative, with the
assistance of the Company's information systems databases, to respond
effectively to the customer's needs. When a customer places a call to the
Company, the telemarketing representative taking the call has immediate access,
through the Company's proprietary information systems databases, to that
customer's company and specific buyer profile, as well as inventory levels by
distribution center on all of the over 332,000 SKUs offered by MSC. The
telemarketing representative is able to access historical and current billing
information, purchasing profiles, plant and industry information and is prompted
to update the information contained in the databases, including employee and
buyer personnel information. The Company believes that its information systems
databases are an important factor in achieving customer satisfaction and the
success of the Company's business strategy.
MSC's telemarketing representatives undergo an intensive two week
training course, are required to attend regular on-site training seminars and
workshops and are monitored and evaluated at regular intervals. Additionally,
the telemarketing representatives are divided into teams that are evaluated
monthly and monitored on a daily basis by team supervisors. Telemarketing
representatives receive technical training regarding various products from
vendors and in-house training specialists. The Company also maintains a separate
technical support group dedicated to answering specific customer inquiries and
assisting customers with the operation of products and finding low cost
solutions to manufacturing problems.
Additionally, the Company employs a direct sales force of approximately
175 sales representatives. These commission-based sales representatives are
responsible for presenting the Company's total cost reduction program to
existing customers and increasing sales per customer.
Branch Offices
The Company currently operates 52 branch offices located in 28 states.
These branch offices receive approximately 56% of all orders and are staffed
with highly trained telemarketing representatives that utilize the same
information systems as in the distribution centers. The Company has experienced
higher sales growth and market penetration in areas where it has established a
branch office and believes its branch offices are critical to the success of the
Company's business strategy. In addition to opening new branch offices in
support of its distribution centers, the Company has acquired local distributors
and converted them to branch offices in new geographic locations to obtain an
immediate established local market presence through use of the acquired customer
base and integration of its operations with MSC. The Company believes that
branch office acquisitions will result in more rapid expansion at a lower cost.
Publications
The Company's primary reference tool is its 4,075 page master catalog,
which is supported by specialty and promotional catalog, brochure and newspaper
titles, approximately 80 of which were published in fiscal 1997. Specialty and
promotional publications permit multiple targeted mailings to customers within
various specialty process areas, such as welding, electrical supply and hose and
tubing. The Company intends to distribute specialty and promotional catalogs,
brochures and newspapers through utilization of the Company's databases and
purchased mailing lists to customers whose purchasing history or profile
suggests that they are most likely to purchase according to specific product
categories or product promotions. Consequently, specialty catalogs offer a more
focused selection of products at a lower catalog production cost due to
increased response rates and more efficient use of advertising space.
8
<PAGE>
MSC's in-house staff designs and produces all of MSC's catalogs,
brochures and newspapers. Each publication is printed with photographs, contains
detailed product descriptions and includes a toll-free telephone number to be
used by customers to place a product order. In-house production helps reduce
overall expense and shortens production time, allowing the Company the
flexibility to alter its product offerings and pricing and refine its catalog,
brochure and newspaper formats more quickly.
The success of the Company's targeted marketing program in enhancing
revenue has justified an increase in the Company's direct mail budget from
approximately $5.3 million in fiscal 1993 to approximately $11 million in fiscal
1997. The budget for fiscal 1998 is approximately $15.6 million. As reflected in
the following table, the number of publication titles has increased from 13 in
fiscal 1993 to approximately 80 in fiscal 1997. The number of pieces mailed has
increased from approximately 2.7 million in fiscal 1993 to approximately 11.3
million in fiscal 1997 and is expected to reach approximately 12.0 million in
fiscal 1998.
<TABLE>
<CAPTION>
Fiscal Year Ended
---------------------------------------------------------------
August 28 August 27, September 2, August 31, August 30,
1993 1994 1995 1996 1997
(52 weeks) (52 weeks) (53 weeks) (52 weeks) (52 weeks)
---------- ---------- ---------- ---------- ---------
<S> <C> <C> <C> <C> <C>
Number of publication titles 13 20 38 70 80
Number of publications mailed 2,688,000 4,794,000 6,604,000 6,300,000 11,318,000
</TABLE>
Customer Service
One of the Company's goals is to make purchasing its products as
convenient as possible. Since a majority of customer orders are placed by
telephone, the efficient handling of calls is an extremely important aspect of
the Company's business. Order entry and fulfillment occurs at each of the
Company's 52 branches and main call centers located at the Company's three
operating distribution centers. Calls are received by highly trained in-bound
telemarketing representatives who utilize on-line terminals to enter customer
orders into computerized order processing systems. The Company's branch offices
field approximately 56% of all telephone orders. The Company's telephone
ordering system is flexible and, in the event of local or regional breakdown,
can be rerouted to alternative locations. When an order is entered into the
system, a credit check is performed, and, if the credit is approved, the order
is electronically transmitted to the warehouse closest to the customer and a
packing slip is printed for order fulfillment. Most of the orders placed with
the Company are shipped by United Parcel Service ("UPS"), and, to a limited
extent, by various other freight lines and local carriers. Air freight is also
used when appropriate. The Company has no written agreement with UPS but has
been able to negotiate favorable shipping rates due to the volume of shipments
from the Company. The Company is not dependent on any one carrier and believes
that alternative shipping arrangements can be made with minimal disruption to
operations in the event of the loss of UPS as the Company's primary carrier. The
Company believes that its relationships with all its carriers are satisfactory.
The Company guarantees same-day shipping if the order is received prior to 4:30
p.m. eastern time and most customers receive their orders (other than custom
items and large industrial items shipped directly by the manufacturer) within
one or two business days of the order date. Customers are invoiced for
merchandise, shipping and handling promptly after shipment. Back order levels
are, and historically have been, immaterial.
Information Systems
The Company's proprietary information systems allow centralized
management of key functions, including communication links between distribution
centers, inventory and accounts receivable management, purchasing, pricing,
sales and distribution, and the preparation of daily operating control reports
that provide concise and timely information regarding key aspects of its
business. These proprietary information systems enable the Company to ship to
customers on a same-day basis, respond quickly to order changes and provide a
high level of customer service. The proprietary information systems enable the
Company to achieve cost savings, deliver superior customer service and manage
its operations centrally. Certain of the Company's information systems operate
over a wide area network and are real-time information systems that allow each
distribution center and branch office to share information and monitor daily
progress relating to sales activity, credit approval, inventory levels, stock
9
<PAGE>
balancing, vendor returns, order fulfillment and other measures of performance.
The Company also maintains a sophisticated buying and inventory management
system that monitors substantially all of its SKUs and automatically purchases
inventory from vendors for replenishment based on projected customer ordering
models. In fiscal 1997, the Company implemented an EDI purchasing program with
its vendors for the purpose of reducing inventory levels and increasing
inventory turnover. In fiscal 1998 the Company intends to develop an EDI
purchasing program with its customers with the objective of allowing them to
place orders more efficiently, reduce order cycle processing time, and increase
the accuracy of orders placed.
In addition to developing the proprietary computer software programs
for use in the telemarketing and distribution operations, the Company has also
developed a proprietary MRO management system, the Customer Direct Access Plus
System ("CDA"), which is designed to automate, simplify and control the
administration and management of MRO purchasing by giving the customer direct
access to the Company's computers for automatic product selection, customization
of purchasing parameters, a variety of report generation and product tracking
capabilities and cross-referencing capability to a customer's own product stock
numbers. In addition, the Company is developing a Windows(R)-based CDA and a
CD-ROM package and has recently commenced providing product information on the
Internet.
The Company runs its systems on an AS400 platform and utilizes disaster
recovery techniques and procedures which the Company believes are adequate to
fulfill its needs and are consistent with this type of equipment. The Company
believes that planned enhancements and upgrades to the next generation of its
existing operating platforms will be sufficient to sustain its present
operations and its anticipated growth for the foreseeable future.
The Company has several information system improvement initiatives
under way that will require increased expenditures during the next several
years. These initiatives, which began in prior years, include the conversion of
certain Company computer systems which overcome so-called "Year 2000" problems.
The Year 2000 issue exists because many computer systems and applications
currently use two-digit date fields to designate a year. As the century date
change occurs, date-sensitive systems will recognize the year 2000 as 1900, or
not at all. This inability to recognize or properly treat the Year 2000 may
cause systems to process critical financial and operational information
incorrectly. MSC, like many other companies, is expected to incur expenditures
over the next few years to address this issue.
MSC has assessed and continues to assess the impact of the Year 2000
issue on its operations, including the development of cost estimates for, and
the extent of programming changes required to address, this issue. Although
final cost estimates have yet to be determined, it is anticipated that these
Year 2000 costs will result in an increase to Company expenses during 1997 and
1998. The Company expects to complete its Year 2000 cost estimates by mid-1998.
Acquisitions
The Company has completed a limited number of acquisitions to date. The
Company, however, may actively consider acquisitions as part of its future
growth strategy if opportunities arise. The Company believes that the ongoing
consolidation within the industrial supply industry is spurring smaller
competitors to seek partners to increase their productivity and reduce costs.
The Company believes that it is well positioned to play a significant role in
this industry consolidation.
The Company believes that the most beneficial acquisitions are those
which can be integrated into its existing operations. Accordingly, the Company
expects to focus on branch office acquisition prospects that can be integrated
into its distribution facilities. The Company will also consider new market
acquisitions if they are of sufficient size that the Company can establish a
meaningful presence in such markets in accordance with its geographic growth
plans.
Upon completing an acquisition within an existing market, the Company
intends to move rapidly to integrate the acquired entity into its existing
operations. The Company believes that such integration offers a number of
opportunities to improve productivity and customer service. These benefits
include: (i) elimination of
10
<PAGE>
redundant facilities and services, (ii) reduction of administrative overhead,
(iii) consolidation of purchasing power, (iv) expanded customer services, and
(v) increased merchandise selection. From time to time, the Company has engaged
in, and continues to engage in, preliminary discussions with respect to
potential acquisitions. The Company is not currently a party to any oral or
written acquisition agreement or engaged in any negotiations with respect to any
material acquisition candidate. No assurance can be given that any such
acquisitions, when and if made, will be successfully integrated into the
Company's existing operations, nor can there be any assurance that the Company
will be able to implement this phase of its growth strategy.
Competition
The MRO supply industry is a large, fragmented industry that is highly
competitive. The Company faces competition from (i) traditional channels of
distribution such as retail outlets, small dealerships, regional or national
distributors utilizing direct sales forces, and manufacturers of MRO supplies
and (ii) large warehouse stores and larger direct mail distributors. The Company
believes that sales of MRO supplies will become more concentrated over the next
few years, which may make the industry more competitive. Certain of the
Company's competitors offer a greater variety of products and have substantially
greater financial and other resources than the Company. In the industrial
products market, customer purchasing decisions are primarily based on one or
more of the following criteria: price, product selection, product availability,
level of service and convenience. The Company believes it competes effectively
on all such criteria.
Employees
As of November 24, 1997, the Company employed approximately 1,950
employees, including approximately 1,885 full-time and approximately 65
part-time employees. None of the Company's employees is represented by a labor
union. The Company considers its relationships with employees to be good and has
experienced no work stoppages.
Item 2. PROPERTIES.
The Company's distribution centers are as follows:
Approx. Operational
Location Sq. Ft. Date
- ----------- ------- -----------
Atlanta, Georgia(1) 340,000 October 1990
Elkhart, Indiana(2) 270,000 March 1996
Harrisburg, Pennsylvania(2) 270,000 January 1997
(1) The related party lease for this facility expires on July 31, 2010.
(2) This facility is owned by the Company.
The Company maintains its headquarters at an 83,000 square foot
facility in Plainview, Long Island, and sublets to a third party approximately
60,000 square feet of another facility located in Plainview, Long Island.
In November 1997, the Company purchased a building in Melville, New
York which will serve as the Company's principal executive office upon
relocation there, which is expected to occur in August 1998.
The Company maintains 52 branch offices located in 28 states, as well
as certain other locations related to acquired entities, ranging in size from
3,000 to 16,000 square feet. The leases for these branch offices will expire at
various periods between October 1997 and July 2010. The aggregate annual lease
payments on these properties in fiscal 1997 was approximately $3,567,000.
The Company believes that its facilities are adequate for its current
needs and that suitable additional space will be available as needed.
11
<PAGE>
Item 3. LEGAL PROCEEDINGS.
There are no material legal proceedings pending against the Company.
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None.
12
<PAGE>
PART II
Item 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
The Company's Class A common stock is traded on the New York Stock
Exchange (the "NYSE") under the symbol "MSM." The Company's Class B Common Stock
is not traded over any public market.
The following table sets forth the range of the high and low closing
sales prices as reported by the NYSE for the period from December 1995 (when the
Company listed the Class A common stock on the NYSE) to August 30, 1997:
Price of Class A
Fiscal Year Ended August 31, 1996 Common Stock
--------------------------------- ----------------
High Low
------------
Second Quarter (beginning December 15, 1995)......... $28-3/8 $22-1/4
Third Quarter........................................ 37 27-5/8
Fourth Quarter....................................... 37-1/8 27-7/8
Fiscal Year Ended August 30, 1997
---------------------------------
First Quarter ....................................... $39-1/8 $30-1/8
Second Quarter ...................................... 39-1/8 33
Third Quarter........................................ 35-7/8 28
Fourth Quarter....................................... 43-1/4 35-1/4
On November 24, 1997, the last reported sales price for the Class A
common stock on the NYSE was $37 per share.
The approximate number of holders of record of the Class A common stock
as of November 24, 1997 was 483. The number of holders of record of the
Company's Class B common stock as of November 24, 1997 was 9.
The Company has not declared cash dividends on the Class A common stock
or the Class B common stock and does not have any plans to pay any cash
dividends on either such class of stock in the foreseeable future. The Board of
Directors of the Company anticipates that any earnings that might be available
to pay dividends on the Class A common stock and the Class B common stock will
be retained to finance the business of MSC and its subsidiaries.
13
<PAGE>
Item 6. SELECTED FINANCIAL DATA.
The following selected financial information is qualified by reference
to, and should be read in conjunction with, the Company's financial statements
and the notes thereto, and "Management's Discussion and Analysis of Financial
Condition and Results of Operations" contained elsewhere herein. The selected
income statement data for the fiscal years ended September 2, 1995, August 31,
1996 and August 30, 1997 and the selected balance sheet data as of August 31,
1996 and August 30, 1997 are derived from the Company's audited financial
statements which are included elsewhere herein. The selected balance sheet data
as of August 28, 1993, August 27, 1994 and September 2, 1995 and the selected
income statement data for the fiscal years ended August 28, 1993 and August 27,
1994 are derived from audited financial statements of the Company not included
herein.
<TABLE>
<CAPTION>
Year Ended
------------------------------------------------------------
August 28, August 27, September 2, August 31, August 30,
1993 1994 1995 1996 1997
(52 weeks) (52 weeks) (53 weeks) (52 weeks) (52 weeks)
------------------------------------------------------------
(in thousands, except per share data)
Income Statement Data:
<S> <C> <C> <C> <C> <C>
Net sales $142,287 $174,682 $248,483 $305,294 $438,003
Gross profit 61,796 74,852 103,288 126,775 179,255
Operating expenses 44,951 50,811 69,532 83,666 120,498
Restructuring charge -- -- -- 8,600 --
Income from operations 16,845 24,041 33,756 34,509 58,757
Income taxes 418 813 765 5,531 23,518
Net income 15,682 22,573 31,698 28,503 36,017
Net Income per common share -- -- -- -- 1.06
Pro forma net income(1) 9,740 14,149 19,640 20,591 --
Pro forma net income per
share(2) -- -- -- $0.70 --
Pro forma weighted number of
shares outstanding(2) -- -- -- 29,623 --
Selected Operating Data(3):
Active customers 78 98 120 127 146
Number of SKUs 150 170 231 302 332
Orders entered 1,103 1,348 1,833 2,155 2,425
Number of publication titles
(not in thousands) 13 20 38 70 80
Number of publications mailed 2,688 4,794 6,604 6,300 11,318
Revenue per employee $ 201 $ 214 $ 249 $ 266 $ 280
</TABLE>
14
<PAGE>
<TABLE>
<CAPTION>
August 28, August 27, September 2, August 31, August 30,
1993 1994 1995 1996 1997
--------- ---------- ----------- --------- ----------
Balance Sheet Data (at period end):
<S> <C> <C> <C> <C> <C>
Working capital $57,335 $48,726 $81,228 $163,785 $190,344
Total assets 80,853 91,307 139,032 265,484 334,834
Short-term debt 665 12,728 9,208 2,486 213
Long-term debt, net of
current portion 18,374 3,220 30,969 42,191 2,744
Shareholders' equity $49,708 $55,750 $72,088 $172,571 $274,995
</TABLE>
(1) Gives pro forma effect to "C" corporation taxation at an assumed annual rate
of 39.5%.
(2) Pro forma net income per common share for the year ended August 31, 1996
includes the pro forma effect of a "C" corporation income tax provision for the
entire fiscal year. Pro forma weighted average common shares outstanding include
the weighted average shares of Class A and Class B common stock and common stock
equivalents outstanding during the year, after giving pro forma effect to the
recapitalization in the initial public offering.
(3) See "Management's Discussion and Analysis of Financial Condition and Results
of Operations--General."
15
<PAGE>
Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
General
In recent years, the Company made the strategic decision to leverage
its strength as a low-cost value-added MRO provider by adding new categories of
MRO supplies, such as welding and electrical supplies, which has increased sales
to existing customers and allowed the Company access to new customers. The
Company believes that revenue has increased, in part, as a result of the
increase in the number of SKUs; however, the Company is unable to quantify
precisely the impact of such increase. The Company intends to continue to add
new product categories and increase the number of products offered in existing
product categories in its efforts to gain new customers and increase sales from
existing customers. During fiscal 1997, the Company added over 30,000 SKUs and
expects to add approximately 40,000 SKUs during each of the next two fiscal
years. The Company generally adds SKUs in response to the feedback it receives
from its existing customers. In this way, the Company seeks to increase
purchases from existing customers through increased product offerings that it
knows are desired by its customers. While adding new product categories is
important to increasing volume and profits, this expansion will result in
increases in the Company's inventory purchases. The Company also seeks to expand
its customer base by offering its increased product lines and product offerings
to customers who have not previously purchased merchandise from the Company.
There can be no assurance that the Company will be able to increase the number
of SKUs offered or that the correlation between the number of SKUs offered and
revenue will continue.
The Company significantly expanded its direct mail marketing program
from approximately 4.8 million pieces in fiscal 1994 to 6.3 million pieces in
fiscal 1996. In fiscal 1997, the Company targeted its marketing program to
enhance its investments in acquired entities and new distribution centers.
Accordingly, in fiscal 1997, mailings increased to 11.3 million pieces. Targeted
mailings to customers or potential customers are designed to maximize the
Company's return in relation to its marketing expenditures. The Company utilizes
its customer databases to match specific customer profiles with an expanding
selection of catalog titles which emphasize specific product categories. The
Company believes that increasing mailings to more targeted customer segments has
resulted in increased marketing productivity.
In fiscal 1998, the Company intends to take advantage of the additional
products offered and its expanded distribution capabilities by further
increasing its direct marketing efforts. These direct marketing expenditures are
expected to enhance the expanded product offerings and improved distribution
capabilities; however, the costs associated with this program will be incurred
substantially in advance of increased sales and may negatively impact operating
margins in the short term. Such costs are expected to be offset, in part, by
increases in vendor funded co-op payments which will offset a portion of the
catalog and mailing expenses. There can be no assurance that continued expansion
of the Company's direct mail marketing program will result in new customers or
an increase in sales from existing customers.
Revenue per employee increased from approximately $214,000 in fiscal
1994 to approximately $280,000 during fiscal 1997. The Company believes that
this increase in revenue per employee is indicative of its efforts to achieve
higher levels of efficiency and cost savings at the employee level. However,
commencement of shipping operations at the Elkhart, Indiana distribution center
and at the Harrisburg, Pennsylvania distribution center had a negative impact on
revenue per employee.
The number of annual orders entered and processed has increased from
approximately 1.3 million in fiscal 1994 to approximately 2.4 million during
fiscal 1997. The average order size of the Company's core business has increased
from $130 in fiscal 1994 to $153 during fiscal 1997. The Company believes that
its targeted marketing campaign strategy to continue to add new product
categories and new products within existing categories and increased
efficiencies in order processing have been significant contributing factors to
the Company's increase in orders and, accordingly, sales, both from existing
customers and from new customers; however, there can be no assurance that the
Company will be able to continue to grow at rates recently experienced or at
all.
In fiscal 1996, the Company recorded, and through the first half of
fiscal 2001 the Company will continue to record, a non-cash deferred
compensation charge at a rate of approximately $600,000 per year as a result of
the issuance of approximately 156,000 shares of Class A Common Stock to certain
of the Company's employees
16
<PAGE>
pursuant to the Company's 1995 Restricted Stock Plan. Certain of these shares
have been forfeited by grantees, and the related non-cash deferred compensation
charge will be reduced accordingly.
MSC commenced shipping operations at its new distribution center in
Harrisburg, Pennsylvania during fiscal 1997 in order to improve the Company's
efficiency, geographic distribution and market penetration. The opening of this
new distribution center required a substantial capital investment, including
expenditures for real estate and construction, and a substantial investment for
inventory. The opening has also adversely impacted distribution expenses as a
percentage of sales, inventory turnover and return on investment in the periods
prior to and since the commencement of operations. Additionally, until sales
volumes mature at this new distribution center, expenses as a percentage of
sales may be adversely impacted. During fiscal 1996, the Company commenced
shipping operations at a new distribution center in Elkhart, Indiana. The
opening also initially had adverse effects similar to those arising from the
opening of the Harrisburg, Pennsylvania distribution center on distribution
expenses as a percentage of sales, inventory turnover and return on investment.
Results Of Operations
The following table summarizes the Company's historical results of
operations as a percentage of sales for fiscal 1995, 1996 and 1997:
<TABLE>
<CAPTION>
September 2, 1995 August 31, 1996 August 30, 1997
----------------- --------------- ---------------
<S> <C> <C> <C>
Net sales (dollars in thousands)... $248,483 $305,294 $438,003
-------- -------- --------
Net sales.......................... 100.0% 100.0% 100.0%
Gross profit....................... 41.6 41.5 40.9
Operating expenses................. 28.0 27.4 27.5
Restructuring charge............... -- 2.8 -
Income from operations............. 13.6 11.3 13.4
Net income......................... 12.8 9.3 8.2
Pro forma net income............... 7.9 6.7 N/A
</TABLE>
Year Ended August 30, 1997 Compared to Year Ended August 31, 1996
Net sales increased by $132.7 million, or 43.5%, to $438.0 million in
fiscal 1997 from $305.3 million in fiscal 1996. This increase was attributable
to an increase in sales to the Company's existing customers, an increase in the
number of active customers and the effect of acquisitions made during fiscal
1997. The increase in sales to existing customers was derived primarily from an
increase of 9.9% in the number of SKUs offered as well as from more focused
marketing efforts. Average annual sales per customer increased 8.4%, and the
number of active customers increased 15.0% in fiscal 1997, as compared to fiscal
1996. Sales from the companies acquired in 1997 accounted for approximately 9%
of consolidated net sales.
Gross profit increased by $52.5 million, or 41.4%, to $179.3 million in
fiscal 1997 from $126.8 million in fiscal 1996. The increase in gross profit was
attributable to increased sales. As a percentage of sales, gross profit
decreased from 41.5% to 40.9%, resulting primarily from slightly lower margins
realized from customers and product lines gained through the Company's
acquisitions. The Company's gross profit as a percentage of sales from its core
business remained constant.
Operating expenses, exclusive of the restructuring charge in fiscal
1996, increased by $36.8 million, or 44.0%, to $120.5 million in fiscal 1997
from $83.7 million in fiscal 1996. This increase was attributable to increased
sales volume which required additional staffing and support. As a percentage of
sales, operating expenses slightly increased from 27.4% to 27.5%.
Restructuring charge of $8.6 million, recorded during the third quarter
of fiscal 1996, is the estimated cost
17
<PAGE>
of the relocation of the Company's Long Island distribution center and
warehouses. The Harrisburg, Pennsylvania distribution center commenced shipping
in September 1996, and became fully operational during the first half of fiscal
1997.
Income from operations, exclusive of the restructuring charge,
increased by $15.7 million, or 36.4%, to $58.8 million in fiscal 1997 from $43.1
million in fiscal 1996. This increase was attributable to increased sales and
gross profit offset in part by an increase in operating expenses.
Net income increased by $7.5 million, or 26.3% to $36.0 million in
fiscal 1997, from $28.5 million in fiscal 1996, but increased by $15.4 million,
or 74.8% as compared with pro forma 1996 net income of $20.6 million, which
gives effect to "C" corporation taxation for the entire period. The increase in
net income is attributable to the restructuring charge taken in fiscal 1996, and
increased sales and gross profit offset by the increase in operating expenses
necessary in order to service increased volume and invest in future growth.
Fiscal Year Ended August 31, 1996 Compared to Fiscal Year Ended September 2,
1995
Net sales increased by $56.8 million, or 22.9%, to $305.3 million in
fiscal 1996 from $248.5 million in fiscal 1995, which included one extra week
(the Company's fiscal years contain either 52 or 53 weeks). This increase was
primarily attributable to an increase in sales to the Company's existing
customers and, to a lesser extent, to an increase in the number of new
customers. The increase in sales to existing customers was derived primarily
from an increase of 31% in the number of SKUs offered as well as from more
focused marketing efforts. Average annual sales per customer increased 16%, and
the number of active customers increased 6% in fiscal 1996, as compared to
fiscal 1995.
Gross profit increased by $23.5 million, or 22.7%, to $126.8 million in
fiscal 1996 from $103.3 million in fiscal 1995. The increase in gross profit was
attributable to increased sales. As a percentage of sales, gross profit remained
constant at approximately 41.5% and 41.6% for the respective periods.
Operating expenses, exclusive of the restructuring charge in fiscal
1996, increased by $14.1 million, or 20.3%, to $83.7 million in fiscal 1996 from
$69.5 million in fiscal 1995. This increase was attributed to increased sales
volume which required added staffing and support. As a percentage of sales,
operating expenses declined from 28.0% to 27.4%.
Restructuring charge of $8.6 million, recorded during the third quarter
of fiscal 1996, is the estimated cost of the relocation of the Company's Long
Island distribution center and warehouses. This is the equivalent of $5.2
million after taxes, or $0.17 per share. The restructuring charge includes the
cost of relocating or replacing the Company's Long Island workforce, the cost of
physically moving the inventory from Long Island to Harrisburg, Pennsylvania,
and the cost of leases and assets associated with abandoned facilities. The
Harrisburg, Pennsylvania distribution center commenced shipping in September
1996, and became fully operational in the first half of fiscal 1997.
Income from operations increased by $0.7 million, or 2.2%, to $34.5
million in fiscal 1996 from $33.8 million in fiscal 1995. This increase was
attributable to increased sales and gross profit, offset in part by the
aforementioned restructuring charge and increases in operating expenses. Before
taking into account the restructuring charge, income from operations would have
increased by $9.4 million, or 27.7%, to $43.1 million.
Net income decreased by $3.2 million, or 10.1%, to $28.5 million in
fiscal 1996 from $31.7 million in fiscal 1995. The decrease in net income is
primarily attributable to the restructuring charge and taxation at "C"
corporation rates for a portion of fiscal 1996, partially offset by increased
sales and gross profit. Before taking into account the restructuring charge, net
income would have increased by $2.0 million, or 6.3%, to $33.7 million.
Pro forma net income increased by $1.0 million, or 4.8%, to $20.6
million in fiscal 1996 from $19.6 million in fiscal 1995. This change in pro
forma net income reflects primarily the cumulative effects of the changes in net
income. As a percentage of sales, pro forma net income in fiscal 1996 decreased
to 6.7% from 7.9% in fiscal 1995. This decline in pro forma net income as a
percentage of sales reflects primarily the restructuring charge in 1996, offset,
in part, by the percentage decline in other operating expenses and the decline
in pro forma income
18
<PAGE>
taxes, both as a percentage of sales.
Quarterly Results and Seasonality
The following table sets forth unaudited financial data for each of the
Company's last eight fiscal quarters.
<TABLE>
<CAPTION>
Year Ended August 31, 1996 Year Ended August 30, 1997
----------------------------------- ------------------------------------
First Second Third Fourth First Second Third Fourth
Quarter Quarter Quarter Quarter Quarter Quarter Quarter Quarter
------- ------- ------- ------- ------- ------- ------- -------
(dollars in thousands)
Income Statement Data:
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Net sales.......... $69,681 $74,631 $80,215 $80,767 $92,214 $104,685 $123,895 $117,209
Income from 8,766 10,305 4,378 11,060 11,364 14,675 17,755 14,963
operations.........
Net income......... 7,988 10,950 2,758(2) 6,807 6,950 8,831 10,921 9,315
Pro forma net 4,969 6,305 N/A N/A N/A N/A N/A N/A
income(1)..........
</TABLE>
(1) Gives pro forma effect to "C" corporation taxation at an assumed annual rate
of 39.5%.
(2) Net of restructuring charge of $5,200 (after income tax effect of $3,400).
The Company has generally experienced slightly lower sales volumes
during the summer months and the Company expects this trend to continue in the
foreseeable future. As a result, net income in the fourth fiscal quarter is
somewhat lower than in the third fiscal quarter, excluding the effect of the
restructuring charge in fiscal 1996, due largely to the continuation of the
Company's fixed costs during slower sales periods. The Company's quarterly
results of operations may also fluctuate as a result of a variety of other
factors, including the timing of commencement of operations at new distribution
centers.
Liquidity and Capital Resources
The Company's primary capital needs have been to fund (i) the working
capital requirements necessitated by its sales growth, acquisitions and
facilities expansions and (ii) prior to the initial public offering,
distributions to its existing shareholders, primarily to satisfy their tax
liabilities resulting from the "S" corporation status of the Operating
Subsidiary. The Company's primary sources of financing have been cash from
operations, bank borrowings under the Company's revolving credit facility (the
"Credit Facility"), subordinated loans from shareholders, a portion of the
proceeds from the initial public offering, and a portion of the proceeds of the
Company's public offering in fiscal 1997 (the "Second Offering"). The Company
anticipates that the proceeds from these offerings, its cash flows from
operations and available lines of credit will be adequate to support its
operations for the immediate future and for at least the next 24 months.
In March 1996, the Company commenced shipments from its Elkhart,
Indiana distribution center, which provides next day service to most of the
Midwestern United States. The increases in inventory reflected in the August 31,
1996 balance sheet are substantially the result of the opening of this facility.
Under the terms of the Credit Facility, the Company has available
unsecured borrowings of up to $80 million. Interest on amounts borrowed may be
paid at the option of the Company at a rate per annum equal to the bank's base
rate (8.5% at August 30, 1997) or, alternatively, at the bankers' acceptance
rate or LIBOR rate plus margins, which vary from 0.45% to 0.75% per annum. The
Credit Facility contains certain covenants limiting mergers, use of proceeds,
indebtedness, liens, investments, sale of assets and acquisitions. The Credit
Facility also contains certain financial covenants which require the Company to
maintain a minimum net worth, ratio of current assets to current liabilities,
ratio of liabilities to effective net worth, minimum interest coverage ratio and
positive net income, to refrain from capital expenditures in excess of certain
amounts and to limit the issuance of dividends. As of August 30, 1997, the
Company was in compliance with all bank covenants. As of August 30, 1997, the
Company had no outstanding borrowings under the Credit Facility.
Net cash provided by operating activities increased $76.7 million to
$45.8 million from a net cash used position of $30.9 million for the fiscal
years ended August 30, 1997 and August 31, 1996, respectively. In fiscal 1997,
inventory (excluding inventory of acquired companies) declined, reflecting
improved inventory control policies and procedures. The net usage of cash in
fiscal 1996 was primarily due to purchases of inventory in connection with the
initial stocking of the Elkhart distribution center and introduction of new
products. Net cash
19
<PAGE>
used in operating activities was $1.2 million in fiscal 1995. The decrease from
fiscal 1995 to fiscal 1996 results principally from purchases of inventory in
connection with the stocking of the Elkhart distribution center and the
introduction of new products.
Net cash used in investing activities for the fiscal years ended August
30, 1997 and August 31, 1996 was approximately $47.4 million and $37.4 million,
respectively. The increase of $10.0 million is primarily attributable to more
cash paid for acquisitions in fiscal 1997, than for those in fiscal 1996, offset
by reduced capital expenditures relating to the completion of the distribution
centers in Elkhart, Indiana and Harrisburg, Pennsylvania. The net usage of cash
in investing activities for fiscal 1996 was primarily due to the construction of
the distribution centers in Elkhart, Indiana and Harrisburg, Pennsylvania. Net
cash used in investing activities in fiscal 1995 of $9.5 million was a result of
purchases of property, plant and equipment.
Net cash provided by financing activities during the fiscal years ended
August 30, 1997 and August 30, 1996 was approximately $13.4 million and $69.3
million, respectively. The change of $55.9 million is primarily attributable to
the difference between the proceeds received from the completion of the
Company's public offerings, net of the repayment of existing long-term debt from
such proceeds in fiscal 1997. Net cash provided by financing activities of $7.9
in fiscal 1995 primarily reflects proceeds received from the borrowings in
connection with the Credit Facility and additional bank borrowings principally
to fund the growth in inventory, net of repayments of borrowings and
distributions to "S" corporation shareholders.
In July 1996, the Emerging Issues Task Force of the FASB reached a
consensus on Issue 96-14, "Accounting for the Costs Associated with Modifying
Computer Software for the Year 2000," which requires that costs associated with
modifying computer software for the Year 2000 be expensed as incurred. The
Company believes, based upon its internal reviews and other factors, that future
external and internal costs to be incurred relating to the modification of
internal-use software for the Year 2000 will not have a material effect on the
Company's results of operations or financial position.
Disclosures about Market Risks. The Company's market risk sensitive
instruments do not subject the Company to material market risk exposures.
The foregoing contains forward looking statements and there can be no
assurance due to changes in local, regional or national economies and the
availability of acquisition opportunities, among other things, that the
foregoing shall be the case.
20
<PAGE>
Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
MSC INDUSTRIAL DIRECT CO., INC.
-------------------------------
AND SUBSIDIARIES
----------------
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
------------------------------------------
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Report of Independent Public Accountants 22
Consolidated Balance Sheets as of August 31, 1996 and August 30, 1997 23
Consolidated Statements of Income for the three fiscal years ended August 30, 1997 24
Consolidated Statements of Shareholders' Equity for the three fiscal years
ended August 30, 1997 25
Consolidated Statements of Cash Flows for the three fiscal years ended August 30, 1997 26
Notes to Consolidated Financial Statements 27
</TABLE>
21
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
----------------------------------------
To MSC Industrial Direct Co., Inc.:
We have audited the accompanying consolidated balance sheets of MSC Industrial
Direct Co., Inc. (a New York corporation) and Subsidiaries as of August 31, 1996
and August 30, 1997, and the related consolidated statements of income,
shareholders' equity and cash flows for each of the three fiscal years in the
period ended August 30, 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 MSC Industrial Direct Co., Inc.
and Subsidiaries as of August 31, 1996 and August 30, 1997, and the results of
their operations and their cash flows for each of the three fiscal years in the
period ended August 30, 1997 in conformity with generally accepted accounting
principles.
ARTHUR ANDERSEN LLP
Melville, New York
October 31, 1997
22
<PAGE>
MSC INDUSTRIAL DIRECT CO., INC. AND SUBSIDIARIES
------------------------------------------------
CONSOLIDATED BALANCE SHEETS
---------------------------
(In thousands, except share data)
<TABLE>
<CAPTION>
August 31, August 30,
ASSETS 1996 1997
------ ---- ----
Current Assets:
<S> <C> <C>
Cash and cash equivalents $ 1,679 $ 13,418
Accounts receivable, net of allowance for doubtful accounts of $1,319 and
$2,030, respectively 41,042 55,348
Inventories 152,620 163,003
Due from officers, employees and affiliated companies 1,052 765
Prepaid expenses and other current assets 1,792 2,242
Current deferred income taxes 9,920 9,237
Prepaid Federal income tax payments (Note 7) 4,512 -
--------- ---------
Total current assets 212,617 244,013
--------- ---------
Property, Plant and Equipment, net 38,989 49,658
--------- ---------
Other Assets:
Goodwill 8,224 34,270
Other 5,654 6,893
--------- ---------
13,878 41,163
--------- ---------
$265,484 $334,834
======== ========
LIABILITIES AND SHAREHOLDERS' EQUITY
------------------------------------
Current Liabilities:
Accounts payable $ 13,270 $ 11,459
Accrued liabilities 33,076 41,997
Current portion of long-term notes payable 2,486 213
--------- ---------
Total current liabilities 48,832 53,669
Long-term notes payable 42,191 2,744
Other long-term liabilities 110 108
Deferred income tax liabilities 1,780 3,318
--------- ---------
Total liabilities 92,913 59,839
--------- ---------
Commitments and Contingencies (Note 13)
Shareholders' Equity:
Preferred stock; $0.001 par value; 5,000,000 shares authorized;
none outstanding - -
Class A common stock; $0.001 par value; 100,000,000 shares authorized;
8,311,394 and 16,665,983 shares, respectively, issued and outstanding 8 17
Class B common stock; $0.001 par value; 50,000,000 shares authorized;
23,475,000 and 17,182,200 shares, respectively, issued and outstanding 24 17
Additional paid-in capital 145,628 211,704
Retained earnings 29,482 65,499
Treasury stock, at cost - (499)
Deferred stock compensation (2,571) (1,743)
--------- ---------
Total shareholders' equity 172,571 274,995
--------- ---------
$ 265,484 $ 334,834
========= =========
</TABLE>
The accompanying notes are an integral part of these consolidated balance
sheets.
23
<PAGE>
MSC INDUSTRIAL DIRECT CO., INC. AND SUBSIDIARIES
------------------------------------------------
CONSOLIDATED STATEMENTS OF INCOME
---------------------------------
(In thousands, except per share data)
-------------------------------------
<TABLE>
<CAPTION>
For The Fiscal Years Ended
-------------------------------------------
September 2, August 31, August 30,
1995 1996 1997
---- ---- ----
(Note 2)
<S> <C> <C> <C>
Net sales $ 248,483 $ 305,294 $ 438,003
Cost of goods sold 145,195 178,519 258,748
------------ ----------- -----------
Gross profit 103,288 126,775 179,255
Operating expenses 69,532 83,666 120,498
Distribution center restructuring charge (Note 4) - 8,600 -
------------ ----------- -----------
Income from operations 33,756 34,509 58,757
------------ ----------- -----------
Other income (expense):
Income on rental property 118 123 177
Interest expense (1,870) (1,534) (490)
Interest income 29 647 723
Other income (expense), net 430 289 368
------------ ----------- -----------
(1,293) (475) 778
------------ ----------- -----------
Income before provision for income taxes 32,463 34,034 59,535
Provision for income taxes 765 5,531 23,518
------------ ----------- -----------
Net income $ 31,698 $ 28,503 $ 36,017
========== ========= ==========
Per share data (Note 2):
Net income per common share $ 1.06
==========
Weighted average common shares and common share
equivalents outstanding 34,109,018
==========
</TABLE>
The accompanying notes are an integral part of these consolidated statements.
24
<PAGE>
MSC INDUSTRIAL DIRECT CO., INC. AND SUBSIDIARIES
------------------------------------------------
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
-----------------------------------------------
FOR THE THREE FISCAL YEARS ENDED AUGUST 30, 1997
------------------------------------------------
(In thousands)
--------------
<TABLE>
<CAPTION>
Class A Class B Treasury Stock
Common Stock Common Stock Additional ----------------- Deferred
------------ ------------ Paid-In Retained Amount Stock
Shares Amount Shares Amount Capital Earnings Shares at cost Compensation Total
------ ------ ------ ------ ------- -------- ------ ------- ------------ -----
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
BALANCE, August 27, 1994 - $ - 24,000 $ 24 $ 8,034 $47,692 - $ - $ - $55,750
Net income - - - - - 31,698 - - - 31,698
Distributions to
shareholders - - - - - (15,360) - - - (15,360)
------ ------ ------ ------ -------- -------- ------ ------- ------------ -----
BALANCE, September 2,
1995 (Note 2) - - 24,000 24 8,034 64,030 - - - 72,088
Initial public offering
of common stock, net
of costs of offering 7,525 8 - - 132,623 - - - - 132,631
of $10,352 (Note 1)
Exchange of Class B
Common Stock for
Class A Common Stock 525 - (525) - - - - - - -
Issuance of restricted
common stock 157 - - - 2,981 - - - (2,981) -
(Note 11)
Cancellation of restricted
common stock (1) - - - (10) - - - 10 -
Amortization of deferred
stock compensation - - - - - - - - 400 400
Issuance of common stock
for acquisition of
subsidiary (Note 3) 105 - - - 2,000 - - - - 2,000
Net income - - - - - 28,503 - - - 28,503
Distributions to
shareholders (Note 1) - - - - - (63,051) - - - (63,051)
------ ------ ------ ------ ------- -------- ------ ------- ------------ -----
BALANCE, August 31, 1996 8,311 8 23,475 24 145,628 29,482 - - (2,571) 172,571
Secondary public offering
of common stock, net
of costs of offering 2,000 2 - - 64,444 - - - - 64,446
of $3,304 (Note 10)
Exchange of Class B
Common Stock for
Class A Common Stock 6,293 7 (6,293) (7) - - - - - -
Purchase of treasury
stock - - - - - - 14 (499) - (499)
Cancellation of
restricted common
stock (12) - - - (228) - - - 228 -
Amortization of deferred
stock compensation - - - - - - - - 600 600
compensation
Exercise of common stock
options, including
related tax benefits of
$380 74 - - - 1,860 - - - - 1,860
Net income - - - - - 36,017 - - - 36,017
------ ------ ------ ------ ------- -------- ------ ------- ------------ -------
BALANCE, August 30, 1997 16,666 $ 17 17,182 $ 17 $211,704 $65,499 14 $ (499) $(1,743) $274,995
====== ====== ====== ====== ======== ======== ====== ======= ============ =======
</TABLE>
The accompanying notes are an integral part of these consolidated statements.
25
<PAGE>
MSC INDUSTRIAL DIRECT CO., INC. AND SUBSIDIARIES
------------------------------------------------
CONSOLIDATED STATEMENTS OF CASH FLOWS
-------------------------------------
(In thousands)
--------------
<TABLE>
<CAPTION>
For The Fiscal Years Ended
--------------------------------------
September 2, August 31, August 30,
1995 1996 1997
---- ---- ----
(Note 2)
Cash flows from operating activities:
<S> <C> <C> <C>
Net income $ 31,698 $ 28,503 $ 36,017
-------- -------- --------
Adjustments to reconcile net income to net cash provided
by (used in) operating activities:
Depreciation and amortization 1,932 3,087 5,314
Amortization of deferred stock compensation - 400 600
Loss (gain) on disposal of property, plant and equipment (2) 29 218
Provision for doubtful accounts 694 1,019 1,127
Deferred income taxes - (7,811) 2,221
Changes in operating assets and liabilities, net of effect from
acquisitions:
Accounts receivable (8,578) (7,758) (9,410)
Inventories (30,561) (59,866) 5,977
Prepaid expenses and other current assets 26 510 (172)
Prepaid federal income tax payments (1,036) (1,397) 4,512
Other assets (1,435) (1,334) (1,298)
Accounts payable and accrued liabilities 6,081 14,523 673
Other long-term liabilities (3) (781) (2)
--------- --------- ---------
Total adjustments (32,882) (59,379) 9,760
--------- --------- ---------
Net cash provided by (used in) operating activities (1,184) (30,876) 45,777
--------- --------- ---------
Cash flows from investing activities:
Purchases of property, plant and equipment (9,495) (26,886) (13,528)
Proceeds from sale of property, plant and equipment 11 10 34
Cash paid for acquisitions, net of cash acquired - (10,530) (33,928)
--------- --------- ---------
Net cash used in investing activities (9,484) (37,406) (47,422)
--------- --------- ----------
Cash flows from financing activities:
Net proceeds from public offerings of common stock - 132,631 64,446
Purchase of treasury stock - - (499)
Net proceeds from exercise of common stock options - - 1,480
Net proceeds from (repayments of) notes payable 21,349 11,616 (52,330)
Payments of capital leases (478) - -
Proceeds from subordinated debt to shareholders 20,144 - -
Repayment of subordinated debt to shareholders (17,263) (11,778) -
Repayments from (advances to) affiliates (539) (138) 287
Distributions to shareholders (15,360) (63,051) -
--------- --------- ---------
Net cash provided by financing activities 7,853 69,280 13,384
--------- --------- ---------
Net increase (decrease) in cash and cash equivalents (2,815) 998 11,739
Cash and cash equivalents, beginning of year 3,496 681 1,679
--------- --------- ---------
Cash and cash equivalents, end of year $ 681 $ 1,679 $ 13,418
======== ======== ========
Supplemental disclosures of cash flow information:
Cash paid during the year for:
Interest $ 1,883 $ 2,022 $ 443
======== ======== ========
Income taxes $ 561 $ 12,376 $ 20,669
======== ======== ========
Supplemental schedule of noncash investing and financing activities:
Issuance of stock for purchase of subsidiary (Note 3) $ - $ 2,000 $ -
======== ======== ========
Issuance of stock for restricted stock plan (Note 11) $ - $ 2,981 $ -
======== ======== ========
</TABLE>
The accompanying notes are an integral part of these consolidated statements.
26
<PAGE>
MSC INDUSTRIAL DIRECT CO., INC. AND SUBSIDIARIES
------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
------------------------------------------
(In thousands, except per share, estimated lives and customer amounts)
----------------------------------------------------------------------
1. BUSINESS AND ORGANIZATION:
-------------------------
Organization
------------
MSC Industrial Direct Co., Inc. ("MSC" or the "Company") was
incorporated in the State of New York on October 24, 1995 as a holding company
for the purpose of (i) issuing 7,525 shares of Class A Common Stock in an
initial public offering ("IPO") and (ii) issuing 24,000 shares of Class B Common
Stock to the shareholders of Sid Tool Co., Inc. (the "Operating Subsidiary") in
exchange for their then outstanding 30 shares of common stock of the Operating
Subsidiary immediately prior to the effective date of MSC's IPO.
On December 20, 1995, the Company consummated the IPO relating to the
offer and sale of 8,050 shares of Class A Common Stock, 7,525 of which shares
were offered by the Company and 525 of which shares were offered by a principal
shareholder of the Company, at a price of $19.00 per share. The 525 shares
offered and sold by a principal shareholder were converted to Class A Common
Stock from previously issued Class B Common Stock. Net proceeds received by the
Company were approximately $132,600. As a result of the IPO, the Operating
Subsidiary no longer qualified as a subchapter "S" corporation, and became
subject to subchapter "C" corporation taxation. Prior to the offering, the
Operating Subsidiary declared an "S" corporation dividend to the then existing
shareholders in the aggregate amount of approximately $63,000, which amount was
equal to substantially all previously taxed, undistributed "S" corporation
earnings. The Operating Subsidiary paid the "S" corporation dividend by delivery
to the then existing shareholders of promissory notes in the principal amount of
such dividends, which notes have been repaid with a portion of the net proceeds
from the offering. The provision for income taxes for the year ended August 31,
1996 reflects "S" corporation taxation through the date of the public offering,
and "C" corporation taxation thereafter (Note 2).
Business
--------
The Company is a distributor of industrial equipment and supplies with
headquarters in Plainview, New York. The Company serves both domestic and
international markets through its distribution network, which includes fifty-two
local MSC branches in twenty-eight states, as well as certain other locations
related to acquired entities, concentrated in the Eastern and Southern United
States, and regional distribution centers in Harrisburg, Pennsylvania; Elkhart,
Indiana and Atlanta, Georgia.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
-------------------------------------------
Principles of Consolidation
---------------------------
The accompanying consolidated financial statements include the accounts
of MSC Industrial Direct Co., Inc. and its wholly-owned subsidiaries.
The fiscal 1995 financial statements included herein are those of the
Operating Subsidiary and have been retroactively restated to give effect to the
recapitalization of the Company related to the IPO (Note 1). The fiscal 1996 and
1997 consolidated financial statements are those of the Company and its
subsidiaries which, prior to December 20, 1995, reflect only the activity of the
Operating Subsidiary.
27
<PAGE>
MSC INDUSTRIAL DIRECT CO., INC. AND SUBSIDIARIES
------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
------------------------------------------
(In thousands, except per share, estimated lives and customer amounts)
----------------------------------------------------------------------
(CONTINUED)
-----------
Fiscal Year
- -----------
The Company's fiscal year ends on the Saturday closest to August 31.
The financial statements for fiscal 1995 (September 2, 1995), 1996 (August 31,
1996) and 1997 (August 30, 1997) contain activity for fifty-three weeks,
fifty-two weeks and fifty-two weeks, respectively.
Cash and Cash Equivalents
-------------------------
Cash and cash equivalents consist of cash in banks, as well as certain
highly liquid investments with original maturities of three months or less.
Concentration of Credit Risk
----------------------------
The Company's mix of receivables is diverse, with approximately 146,000
active customer accounts. The Company sells its products directly to end users
and, in some cases, to other wholesalers and distributors in its market areas.
Inventory Valuation
-------------------
Inventories consist of merchandise held for resale and are stated at
the lower of average cost or market.
Property, Plant and Equipment
-----------------------------
Depreciation and amortization of property, plant and equipment are
computed for financial reporting purposes on both the straight-line and
accelerated methods based on the estimated useful lives of the assets.
Property, plant and equipment are stated at cost. Expenditures for
maintenance and repairs are charged to expense as incurred; costs of major
renewals and improvements are capitalized. At the time property and equipment
are retired or otherwise disposed of, the cost and accumulated depreciation are
eliminated from the asset and accumulated depreciation accounts and the profit
or loss on such disposition is reflected in income.
In accordance with the provisions of Statement of Financial Accounting
Standards ("SFAS") No. 34, "Capitalization of Interest Cost", interest
attributable to construction of distribution centers is capitalized as part of
the cost of the related buildings during the period prior to which such
facilities are available and ready for use. The amount of interest included in
property, plant and equipment at August 31, 1996 and August 30, 1997 is $719 and
$944, respectively.
The Company capitalizes certain payroll costs associated with the
development of internal computer systems. These costs are included within
property, plant and equipment in the accompanying consolidated balance sheets.
These costs are amortized on a straight-line basis over the estimated useful
lives of the related computer systems, not to exceed five years.
Long-Lived Assets
-----------------
SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and
for Long-Lived Assets to Be Disposed Of," requires that long-lived assets,
certain identifiable intangibles and goodwill related to those assets to be held
and used be reviewed for impairment whenever events or changes in circumstances
indicate that the carrying amount of those assets may not be recoverable. The
adoption of SFAS No. 121 in fiscal 1997 did not have a material effect on the
Company's results of operations or financial position.
28
<PAGE>
MSC INDUSTRIAL DIRECT CO., INC. AND SUBSIDIARIES
------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
------------------------------------------
(In thousands, except per share, estimated lives and customer amounts)
----------------------------------------------------------------------
(CONTINUED)
-----------
Goodwill
--------
Goodwill shown in the consolidated balance sheets at August 31, 1996
and August 30, 1997 relates to several acquisitions completed during fiscal 1996
and 1997 (Note 3). Goodwill is being amortized on a straight-line basis over a
40-year period. Accumulated amortization was $44 and $581 as of August 31, 1996
and August 30, 1997, respectively.
Stock-Based Compensation
------------------------
In fiscal 1997, the Company adopted the provisions of SFAS No. 123,
"Accounting for Stock-Based Compensation" ("SFAS No. 123"), by continuing to
apply the provisions of Accounting Principles Board ("APB") Opinion No. 25,
"Accounting for Stock Issued to Employees", while providing the required pro
forma disclosures as if the fair value method had been applied (see Note 11).
Deferred Catalog Costs
----------------------
The costs of producing and distributing the Company's principal
catalogs are deferred and included in other assets in the Company's consolidated
balance sheets in accordance with Statement of Position ("SOP") 93-7, "Reporting
on Advertising Costs" ($4,488 and $5,349 at August 31, 1996 and August 30, 1997,
respectively). These costs are charged to expense over the period that the
catalogs remain the most current source of sales, which period is typically one
year or less. The costs associated with brochures and catalog supplements are
charged to expense as incurred.
Sales Returns
-------------
The Company reports its sales levels on a net sales basis, with net
sales being computed by deducting from gross sales the amount of actual sales
returns and the amount of reserves established for anticipated sales returns.
Net Income Per Common Share
---------------------------
Net income per common share for fiscal 1997 was computed by dividing
net income by the weighted average number of common shares and common share
equivalents outstanding during the year. For fiscal 1996 and 1995, net income
per common share on a pro forma basis which gives pro forma effect to the
recapitalization in the IPO, a Subchapter "C" corporation income tax provision
(Note 1) for both fiscal years and weighted average common share equivalents
outstanding during fiscal 1996, was as follows:
1995 1996
---- ----
Pro forma net income $ 19,640 $ 20,591
========= =========
Pro forma net income per common share $ 0.82 $ 0.70
========= =========
Pro forma weighted average common shares and
common share equivalents outstanding 24,000 29,623
========= =========
There were no common share equivalents outstanding during fiscal 1995
or in the period prior to the IPO in fiscal 1996.
29
<PAGE>
MSC INDUSTRIAL DIRECT CO., INC. AND SUBSIDIARIES
------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
------------------------------------------
(In thousands, except per share, estimated lives and customer amounts)
----------------------------------------------------------------------
(CONTINUED)
-----------
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.
Income Taxes
------------
The Company provides for income taxes in accordance with SFAS No. 109,
"Accounting for Income Taxes". Under the asset and liability method specified by
SFAS No. 109, the deferred income tax amounts included in the balance sheet are
determined based on the differences between the financial statement and tax
bases of assets and liabilities as measured by the enacted tax rates that will
be in effect when these differences reverse.
Differences between assets and liabilities for financial statement and
tax return purposes are principally related to inventories and certain accrued
liabilities related to the restructuring charge described in Note 4. Deferred
tax assets and liabilities, which were established in the second quarter of
fiscal 1996 due to the Company's taxation as a subchapter "C" Corporation since
the closing date of the IPO in December 1995, resulted in a credit to the
provision for income taxes of $3,966 during fiscal 1996.
Affiliates
----------
The Company is affiliated with MSC International Korea, Inc. and
various real estate entities (together, the "affiliates"). The affiliates are
owned primarily by the Company's principal shareholders. In connection with the
IPO during fiscal 1996, the Company acquired two affiliated companies, Primeline
International, Inc. and Kaja Productions, Inc. See Notes 5 and 12 for discussion
of certain related party transactions.
New Accounting Pronouncement
----------------------------
In March 1997, the Financial Accounting Standards Board issued SFAS No.
128, Earnings Per Share. This statement establishes standards for computing and
presenting earnings per share ("EPS"), replacing the presentation of currently
required primary EPS with a presentation of Basic EPS. For entities with complex
capital structures, the statement requires the dual presentation of both Basic
EPS and Diluted EPS on the face of the statement of operations. Under this new
standard, Basic EPS is computed based on weighted average shares outstanding and
excludes any potential dilution; Diluted EPS reflects potential dilution from
the exercise or conversion of securities into common stock or from other
contracts to issue common stock and is similar to the currently required fully
diluted EPS. SFAS No. 128 is effective for financial statements issued for
periods ending after December 15, 1997, including interim periods, and earlier
application is not permitted. When adopted, the Company will be required to
restate its EPS data for all prior periods presented. The Company does not
expect the impact of the adoption of this statement to be material to previously
reported EPS amounts.
30
<PAGE>
MSC INDUSTRIAL DIRECT CO., INC. AND SUBSIDIARIES
------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
------------------------------------------
(In thousands, except per share, estimated lives and customer amounts)
----------------------------------------------------------------------
(CONTINUED)
-----------
3. ACQUISITION OF BUSINESSES:
--------------------------
During fiscal 1996 and 1997, the Company acquired the following
businesses:
Business Acquired Date Acquired
----------------- -------------
Kaja Productions, Inc. * December 13, 1995
Primeline International, Inc. * December 13, 1995
D.T.C. Tool Corp. June 1, 1996
Cut-Rite Tool Corp. June 1, 1996
Swiss Precision Instruments, Inc. July 1, 1996
Brooks Precision Supply, Inc. November 1, 1996
Dolin Supply, Inc. January 1, 1997
Anderson Industrial Supply, Inc. January 1, 1997
Enco Manufacturing, Inc. February 1, 1997
Discount Tool and Supply Company August 1, 1997
* acquired from related parties
The acquisitions described above were accounted for as purchases and
were valued based on management's estimate of the fair value the assets acquired
and liabilities assumed with respect to each acquisition at the dates of
acquisition. The Company acquired Primeline International, Inc. for a purchase
price of approximately $2,000 payable in shares of Class A common stock, which
resulted in the issuance of 105 shares of Class A common stock. Costs in excess
of net assets acquired of $8,268 and $34,851 were allocated to goodwill at
August 31, 1996 and August 30, 1997, respectively.
Summarized below are the unaudited pro forma results of operations as
though each of these acquisitions had occurred at the beginning of fiscal 1996.
Pro forma adjustments have been made for pro forma income taxes and amortization
of goodwill related to these transactions.
August 31, August 30,
1996 1997
Pro Forma:
Net sales $ 416,887 $ 473,364
========== =========
Net income $ 19,663 $ 36,770
========== =========
Net income per common share $ .66 $ 1.08
========== =========
4. DISTRIBUTION CENTER RESTRUCTURING CHARGE:
-----------------------------------------
On May 9, 1996, the Company announced that it would be relocating its
multi-location Long Island, New York warehouse and distribution center operation
to a new, single-location, Company-owned facility near Harrisburg, Pennsylvania.
The Pennsylvania distribution center commenced shipping and became fully
operational in January 1997. The estimated cost associated with the relocation
of the Company's existing Long Island facilities is approximately $8,600, which
is primarily comprised of personnel relocation and severance, lease abandonment
costs, moving and disposal costs, and this amount has been reflected as a charge
to income from operations for the year ended August 31, 1996. Costs of
approximately $7,027 primarily relating to labor, rent for vacated facilities
and equipment disposals associated with the move were charged against the
liability as of August 30, 1997 and the remaining liability of $1,573 is
included in accrued liabilities in the accompanying consolidated balance sheet
as of August 30, 1997 (Note 8).
31
<PAGE>
MSC INDUSTRIAL DIRECT CO., INC. AND SUBSIDIARIES
------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
------------------------------------------
(In thousands, except per share, estimated lives and customer amounts)
----------------------------------------------------------------------
(CONTINUED)
-----------
5. DUE FROM AFFILIATED COMPANIES:
------------------------------
The amounts due from affiliated companies bear interest at the prime
rate (8.5% at August 30, 1997).
6. PROPERTY, PLANT AND EQUIPMENT:
------------------------------
The following is a summary of property, plant and equipment and the
estimated useful lives used in the computation of depreciation and amortization:
<TABLE>
<CAPTION>
Number of August 31, August 30,
Years 1996 1997
--------- ---------- ----------
<S> <C> <C> <C>
Land - $ 2,949 $ 2,949
Building 40 14,569 16,083
Building and leasehold improvements The lesser of the 2,563 2,847
life of the lease
or 31.5
Furniture, fixtures and equipment 3-10 29,034 35,912
Automobiles 5 321 725
Computer systems 3-15 3,704 8,493
----------- -----------
53,140 67,009
Less: Accumulated depreciation and 14,151 17,351
----------- -----------
amortization
$ 38,989 $ 49,658
========= =========
</TABLE>
7. INCOME TAXES:
-------------
The Company was required to make certain Federal income tax depository
payments in order to maintain its fiscal year end as a subchapter "S"
Corporation. Concurrent with the consummation of the IPO during fiscal 1996, the
Company no longer qualified as a subchapter "S" Corporation and became a
subchapter "C" Corporation. The balance in prepaid Federal income tax payments
as of August 31, 1996 represents the prepayments made prior to the Company's
subchapter "C" Corporation status which were returned to the Company prior to
August 30, 1997. At August 31, 1996, these Federal tax deposits amounted to
$4,512.
The provision for income taxes for the year ended August 31, 1996
reflects "S" corporation taxation through the date of the public offering, and
"C" corporation taxation thereafter (Note 2).
The provision for income taxes is comprised of the following:
<TABLE>
<CAPTION>
For the Fiscal Years Ended
-----------------------------------------------------
September 2, 1995 August 31, 1996 August 30, 1997
----------------- --------------- ---------------
<S> <C> <C> <C>
Current:
Federal, net of state income tax $ - $ 10,744 $ 17,575
benefit
State and local 765 2,598 3,722
--------- ---------- --------
765 13,342 21,297
--------- ---------- --------
Deferred:
Federal, net of state income tax - (3,128) 1,833
benefit
State and local - (717) 388
--------- ---------- --------
- (3,845) 2,221
--------- ---------- --------
Subchapter "C" impact of SFAS No. 109 - (3,966) -
--------- ---------- --------
Total $ 765 $ 5,531 $ 23,518
========= ========== ========
</TABLE>
32
<PAGE>
MSC INDUSTRIAL DIRECT CO., INC. AND SUBSIDIARIES
------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
------------------------------------------
(In thousands, except per share, estimated lives and customer amounts)
----------------------------------------------------------------------
(CONTINUED)
-----------
Significant components of deferred tax assets and liabilities are as
follows:
<TABLE>
<CAPTION>
August 31, 1996 August 30, 1997
--------------- ---------------
<S> <C> <C>
Current and non-current deferred tax liabilities:
Depreciation $ (183) $ (1,363)
Prepaid advertising (1,773) (2,113)
--------- ---------
(1,956) (3,476)
--------- ---------
Current and non-current deferred tax assets:
Accounts receivable 679 642
Inventory 4,382 3,670
Restructuring charge accrual 3,143 1,089
Deferred compensation 944 2,800
Deferred stock compensation 158 158
Other 790 1,036
--------- ---------
10,096 9,395
--------- ---------
Net Deferred Tax Assets $ 8,140 $ 5,919
========= =========
</TABLE>
The Company believes that, based upon its lengthy and consistent
history of profitable operations, it is probable that the net deferred tax
assets generated through August 30, 1997 will be realized, primarily from the
generation of future taxable income.
Reconciliation of the statutory Federal income tax rate to the
Company's effective tax rate is as follows:
<TABLE>
<CAPTION>
For the Fiscal Years Ended
August 31, 1996 August 30, 1997
--------------- ---------------
<S> <C> <C>
U.S. Federal statutory rate 35.0% 35.0%
State income taxes, net of Federal benefit 4.5 4.5
Income from "S" Corporation period taxable to
shareholders (11.9) -
Subchapter "C" impact of SFAS No. 109 (11.7) -
All other, net 0.4 -
----- -----
Effective income tax rate 16.3% 39.5%
==== ====
</TABLE>
8. ACCRUED LIABILITIES:
--------------------
Accrued liabilities consist of the following:
<TABLE>
<CAPTION>
August 31, August 30,
1996 1997
---------- ----------
<S> <C> <C>
Accrued purchases $10,349 $10,237
Accrued payroll and bonus 4,408 12,555
Accrued restructuring and relocation charges 7,956 4,949
Accrued other 10,363 14,256
-------- --------
Total accrued liabilities $33,076 $41,997
======= =======
</TABLE>
33
<PAGE>
MSC INDUSTRIAL DIRECT CO., INC. AND SUBSIDIARIES
------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
------------------------------------------
(In thousands, except per share, estimated lives and customer amounts)
----------------------------------------------------------------------
(CONTINUED)
-----------
9. LONG-TERM NOTES PAYABLE:
------------------------
Long-term notes payable consist of the following:
<TABLE>
<CAPTION>
August 31, August 30,
1996 1997
---------- ----------
<S> <C> <C>
Revolving credit agreement (a) $40,000 $ -
Term notes payable (b) 2,307 2,957
Credit agreement of subsidiary (c) 2,300 -
Other 70 -
------- ------
44,677 2,957
Less: Current portion 2,486 213
------- ------
$42,191 $2,744
======= ======
Maturities of long-term notes payable are as follows:
Fiscal
1998 $ 213
1999 624
2000 198
2001 204
2002 210
Thereafter 1,508
------
$2,957
</TABLE>
(a) As of August 30, 1997, the Company had an unsecured revolving credit
agreement with a bank, as agent for a group of banks, with no outstanding
borrowings. The credit agreement provides for maximum borrowings of $80,000
expiring on May 3, 2001. During the term of the agreement, the Company can
borrow at the bank's base rate (8.5% at August 30, 1997), or alternatively, at
the bankers acceptance ("BA") rate or LIBOR rate plus margins, which vary from
0.45% to 0.75% per annum based on the ratio of total liabilities to effective
net worth, or bid note rate. A facility fee of one-eighth of one percent
(0.125%) per annum is payable on the unused portion of the credit. The agreement
contains certain covenants including, but not limited to, restrictions related
to indebtedness, net worth, capital expenditures and the payment of dividends.
As of August 30, 1997, the Company was in compliance with all covenants.
(b) The term notes payable consist of three separate notes. The first note
represents the Company's share of a loan payable under a credit agreement with a
bank, as agent for a group of banks. The Company is obligated for 50% of the
total debt, as these borrowings are secured by real property which is owned 50%
by the Company and 50% by a real estate affiliate (Note 2). This note bears
interest at the LIBOR rate plus margins which vary from 0.45% to 0.75% per
annum, and is payable in monthly principal installments of $4, plus interest
through April 1999, at which time the balance of the unpaid principal and any
accrued interest is due. The balance as of August 30, 1997 is $483.
The second note is payable to the Pennsylvania Industrial Development
Authority and is secured by the land on which the Harrisburg, Pennsylvania
distribution center is located. The loan bears interest at 3% per annum and is
payable in monthly installments of approximately $14 through September 2011. The
outstanding balance under this note is $2,323 as of August 30, 1997.
The third note is payable to the Pennsylvania Department of Community
and Economic Development and is unsecured. The loan bears interest at 3% per
annum and is payable in monthly installments of approximately $1 through August
2011. The balance of this note at August 30, 1997 is $151.
34
<PAGE>
MSC INDUSTRIAL DIRECT CO., INC. AND SUBSIDIARIES
------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
------------------------------------------
(In thousands, except per share, estimated lives and customer amounts)
----------------------------------------------------------------------
(CONTINUED)
-----------
(c) The Company assumed obligations of $2,300 under a $3,750 line of
credit in connection with the acquisition of Swiss Precision Instruments, Inc.
(Note 3). During fiscal 1997, this amount was repaid by the Company. The overall
amount available was reduced, and $750 remains available as of August 30, 1997.
10. COMMON STOCK TRANSACTIONS:
Equity Offerings
In September 1996, the Company completed a secondary offering of 6,500
shares of Class A Common Stock, of which 2,000 shares were sold by the Company
and 4,500 shares were converted from Class B to Class A Common Stock and sold by
existing shareholders. This offering generated net proceeds to the Company of
approximately $64,446, which were used primarily to repay certain debt and to
finance acquisitions. The supplemental effect of the repayment of debt was not
material to the Company's fiscal 1997 results of operations.
In July 1997, the Company completed another secondary offering of 1,783
shares of Class A Common Stock, of which 58 shares were sold by existing
shareholders from Class A Common Stock already held by those shareholders and
1,725 shares were converted from Class B to Class A Common Stock and sold by
existing shareholders. The Company did not receive any of the proceeds from this
offering.
Treasury Stock Purchases
During fiscal 1997, the Company repurchased 14 shares of its Class A
Common Stock for $499, which is reflected at cost as treasury stock in the
accompanying consolidated financial statements.
11. EMPLOYEE BENEFIT PLANS:
Sid Tool Savings Plan
The Company maintains a defined contribution plan with both a profit
sharing feature and a 401(k) feature which covers all employees who have
completed at least one month of service with the Company. For fiscal 1995, 1996
and 1997, the Company contributed $1,350, $216 and $1,233, respectively, to the
Sid Tool Savings Plan. Company contributions are discretionary.
Stock Option Plan
In connection with the IPO, the Company adopted the MSC Industrial
Direct Co., Inc. 1995 Stock Option Plan, pursuant to which options to purchase
2,000 shares of Class A common stock may be granted. Options may be granted to
key employees, directors and consultants over terms not to exceed ten years and
they generally vest ratably over 5 years. Vesting requirements other than the
aforementioned are set forth by the Board of Directors when the award is
granted.
35
<PAGE>
MSC INDUSTRIAL DIRECT CO., INC. AND SUBSIDIARIES
------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
------------------------------------------
(In thousands, except per share, estimated lives and customer amounts)
----------------------------------------------------------------------
(CONTINUED)
-----------
A summary of the status of the Company's stock option plan at August
31, 1996 and August 30, 1997 and changes during the years then ended is
presented in the table and narrative below:
<TABLE>
<CAPTION>
1996 1997
-------------------------- --------------------------
Weighted Weighted
Average Average
Shares Exercise Price Shares Exercise Price
------ -------------- ------ --------------
<S> <C> <C> <C> <C>
Outstanding - beginning of year - $ - 756 $ 20.35
Granted 853 20.54 426 30.89
Exercised - - (74) 20.30
Cancelled/forfeited (97) 22.01 (19) 19.93
----- -----
Outstanding - end of year 756 20.35 1,089 24.49
===== =====
Exercisable - end of year - - 93 21.53
===== =====
Weighted average fair value of
options granted $10.46 $16.39
====== ======
</TABLE>
The fair value of each option grant is estimated on the date of grant
using the Black-Scholes option pricing model with the following assumptions:
1996 1997
---- ----
Expected life (years) 7.5 7.5
Risk-free interest rate 5.9% 6.86%
Volatility 35.0% 35.0%
Dividend yield 0.0% 0.0%
The following table summarizes information about stock options
outstanding at August 30, 1997:
<TABLE>
<CAPTION>
Number of Options Weighted Average Weighted Number of Options Weighted
Outstanding at Remaining Average Exercisable at Average
Range of Exercise Price August 30, 1997 Contractual Life Exercise Price August 30, 1997 Exercise Price
- ----------------------- --------------- ---------------- -------------- --------------- --------------
<S> <C> <C> <C> <C> <C>
$19.00 - $28.50 616 8.31 $19.59 83 $20.38
$28.51 - $42.77 473 9.58 $30.87 10 $30.75
----- --
$19.00 - $42.77 1,089 8.87 $24.49 93 $21.53
===== ==
</TABLE>
36
<PAGE>
MSC INDUSTRIAL DIRECT CO., INC. AND SUBSIDIARIES
------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
------------------------------------------
(In thousands, except per share, estimated lives and customer amounts)
----------------------------------------------------------------------
(CONTINUED)
-----------
The Company has adopted the pro forma disclosure provisions of SFAS No.
123. Accordingly, no compensation cost has been recognized for the stock option
plans. Had compensation cost for the Company's stock option plans been
determined under SFAS No. 123, the Company's net income and net income per share
would approximate the following pro forma amounts:
<TABLE>
<CAPTION>
1996 1997
---- ----
<S> <C> <C> <C>
Net income: As reported(a) $ 20,591 $ 36,017
Pro forma 19,446 33,805
Net income per common share As reported (a) $ .70 $ 1.06
Pro forma .66 .99
</TABLE>
(a) As reported net income and net income per common share amounts for
fiscal 1996 are pro forma (Note 2).
The effects of applying SFAS No. 123 in this pro forma disclosure are
not indicative of future amounts. SFAS No. 123 does not apply to option awards
granted prior to fiscal year 1996, and additional awards in future years are
anticipated.
Restricted Stock Plan
The Company adopted the Restricted Stock Plan in fiscal 1996, whereby
the Company awarded 157 shares of Class A common stock to various employees.
Employees vest in their ownership of these shares at the end of five years,
prior to which such shares are forfeited upon the departure of the employees.
The value of these shares at the grant date ($2,981) is included as a separate
component of shareholders' equity, and the related compensation charge is being
recorded ratably over the five year vesting period.
1996 1997
---- ----
Outstanding - beginning of year - 156
Granted 157 -
Exercised - (14)
Canceled/forfeited (1) (14)
------ ---
Outstanding - end of year 156 128
====== ===
Exercisable - end of year - 29
====== ====
Weighted average market value on grant date $19.00 N/A
====== ===
12. RELATED PARTY TRANSACTIONS:
For fiscal 1995 and 1996, respectively, sales to and purchases from
Primeline International, Inc. were as follows:
1995 1996
---- ----
(a)
Sales to affiliate $1,744 $492
Purchases from affiliate 967 210
(a) On December 13, 1995, the Company purchased Primeline International,
Inc. (Note 3). All intercompany transactions subsequent to that date have been
eliminated in consolidation (Note 2) and are not included in the table above.
37
<PAGE>
MSC INDUSTRIAL DIRECT CO., INC. AND SUBSIDIARIES
------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
------------------------------------------
(In thousands, except per share, estimated lives and customer amounts)
----------------------------------------------------------------------
(CONTINUED)
-----------
13. COMMITMENTS AND CONTINGENCIES:
Leases
The operations of the Company are conducted on leased premises, some of
which are leased from affiliates. The leases (most of which provide for the
payment of real estate taxes, insurance and other operating costs) are for
varying periods, the longest extending to the year 2010. At August 30, 1997,
approximate minimum annual rentals on such leases are as follows:
Total (Including
Related Party Related Party
Fiscal Commitments) Commitments
------ ------------ -----------
1998 $ 4,320 $ 1,587
1999 3,357 1,302
2000 2,338 1,097
2001 1,946 1,050
2002 1,384 1,050
Thereafter 2,168 2,010
Total rental expense (exclusive of real estate taxes, insurance and
other operating costs) for all operating leases for fiscal 1995, 1996 and 1997
was approximately $2,964, $3,290 and $4,672, respectively, including
approximately $2,511, $2,519 and $2,053, respectively, paid to affiliates. In
the opinion of the Company's management, the leases with affiliates are on terms
which approximate fair market value.
The Company is obligated under certain equipment and automobile
operating leases, which expire on varying dates through fiscal 2002. At August
30, 1997, approximate minimum annual rentals on such leases are as follows:
Fiscal
------
1998 $1,094
1999 698
2000 96
2001 9
2002 2
Guarantees
As of August 30, 1997, the Company was a guarantor on loans made to
affiliated real estate companies aggregating approximately $1,545.
Self-Insurance
The Company has a self-insured group health insurance plan. The Company
is responsible for all covered claims to a maximum liability of $100 per
participant during a September 1 plan year. Benefits paid in excess of $100 are
reimbursed to the plan under the Company's stop loss policy. In addition, the
Company also has an aggregate stop loss policy whereby the Company's liability
for total claims submitted cannot exceed a pre-determined dollar factor based
upon, among other things, past years' claims experience, actual claims paid and
monthly accumulated aggregate deductibles. Group health insurance expense for
fiscal 1995, 1996 and 1997 was approximately $3,200, $4,100 and $5,200,
respectively.
38
<PAGE>
MSC INDUSTRIAL DIRECT CO., INC. AND SUBSIDIARIES
------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
------------------------------------------
(In thousands, except per share, estimated lives and customer amounts)
----------------------------------------------------------------------
(CONTINUED)
-----------
Employment Agreements
The Company has entered into employment and consulting agreements with
various of the Company's officers and with the selling shareholders of acquired
businesses (Note 3). The future minimum commitments under these agreements are
as follows:
Number of Aggregate
Fiscal Year Individuals Annual Amount
----------- ----------- -------------
1998 22 $2,551
1999 17 2,005
2000 13 1,537
2001 7 1,147
2002 5 908
Thereafter 4 1,350
Litigation
The Company is subject to legal proceedings and claims which arise in
the ordinary course of its business. In the opinion of management, the amount of
ultimate liability with respect to these actions will not materially affect the
financial position or results of operations of the Company.
14. SUBSEQUENT EVENT:
New Facility
In November 1997, the Company purchased a building in Long Island, New
York, which will serve as corporate headquarters, for approximately $9,502.
39
<PAGE>
Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None
40
<PAGE>
PART III
Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
Information called for by Item 10 is set forth under the heading
"Election of Directors" in the Company's Proxy Statement for the annual meeting
of stockholders to be held in January 1998 (the "1997 Proxy Statement"), which
is incorporated herein by this reference.
Item 11. EXECUTIVE COMPENSATION.
Information called for by Item 11 is set forth under the heading
"Executive Compensation" in the 1997 Proxy Statement, which is incorporated
herein by this reference.
Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
Information called for by Item 12 is set forth under the heading
"Security Ownership of Certain Beneficial Owners and Management" in the 1997
Proxy Statement, which is incorporated herein by this reference.
Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
Information called for by Item 13 is set forth under the heading
"Certain Relationships and Related Transactions" in the 1997 Proxy Statement,
which is incorporated herein by this reference.
41
<PAGE>
PART IV
Item 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.
The Company did not file any reports on Form 8-K during the fourth
quarter of the fiscal year ended August 30, 1997.
Financial statements filed as a part of this report are listed on the
"Index to Consolidated Financial Statements" at page 21 herein.
a. Exhibits
Exhibit
No. Description
- ------- -----------
*3.01 Certificate of Incorporation of Registrant.
*3.02 By-laws of Registrant.
*4.01 Specimen Class A Common Stock Certificate.
*10.01 Registrant's 1995 Stock Option Plan.
*10.02 Employment Agreement, dated as of January 2, 1994, between
Registrant and Sidney Jacobson, as amended on October 31, 1995.
*10.03 Employment Agreement, dated as of August 1, 1994, between
Registrant and Mitchell Jacobson.
*10.04 Exchange Agreement dated October 30, 1995 between the
Registrant and the Shareholders named therein.
*10.05 Amended and Restated Credit Agreement, dated as of April 27,
1995, between the Registrant and the banks named
therein, as amended as of August 25, 1995.
21.01 List of Subsidiaries
23.01 Consent of Arthur Andersen LLP
27.01 Financial Data Schedule
- ------------------------------
* Filed as an Exhibit to the Company's Registration Statement on Form S-1,
Registration Statement No. 33-98832, as amended.
b. Financial Statement Schedules
For the three fiscal years ended August 30, 1997
Page
----
Report of Independent Public Accountants on Schedule........S-1
Schedule II - Valuation and Qualifying Accounts.............S-2
All other schedules have been omitted because the information is
not applicable or is presented in the Financial Statements or
Notes thereto.
42
<PAGE>
SIGNATURES
Pursuant to the requirements of the Section 13 or 15(d) of the
Securities Exchange Act of 1934, the Registrant has duly caused this report to
be signed on its behalf by the undersigned, thereunto duly authorized.
MSC INDUSTRIAL DIRECT CO., INC.
Dated: November 26, 1997 By /s/
--------------------------------
Mitchell Jacobson
President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
<TABLE>
<CAPTION>
Signature Title Date
--------- ----- ----
<S> <C> <C>
/s/ Sidney Jacobson Chairman of the Board of Directors November 26, 1997
- --------------------------------
Sidney Jacobson
/s/ Mitchell Jacobson President, Chief Executive Officer November 26, 1997
- -------------------------------- and Director
Mitchell Jacobson
/s/ James Schroeder Vice President, Logistics November 26, 1997
- --------------------------------
James Schroeder
/s/ Shelley Boxer Vice President, Chief Financial Officer, November 26, 1997
- -------------------------------- Principal Accounting Officer and Director
Shelley Boxer
/s/ Denis Kelly Director November 26, 1997
- --------------------------------
Denis Kelly
/s/ Melvin Redman Director November 26, 1997
- --------------------------------
Melvin Redman
/s/ Raymond Langton Director November 26, 1997
- --------------------------------
Raymond Langton
</TABLE>
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS ON SCHEDULE
To MSC Industrial Direct Co., Inc.:
We have audited, in accordance with generally accepted auditing standards, the
financial statements of MSC Industrial Direct Co., Inc. and Subsidiaries
included in this Form 10-K and have issued our report thereon dated October 31,
1997. Our audits were made for the purpose of forming an opinion on the basic
financial statements taken as a whole. This Schedule II 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 our 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
Melville, New York
October 31, 1997
S-1
<PAGE>
SCHEDULE II
MSC INDUSTRIAL DIRECT CO., INC. AND SUBSIDIARIES
SCHEDULE OF VALUATION AND QUALIFYING ACCOUNTS
(in thousands)
<TABLE>
<CAPTION>
Balance at Charged to Charged to
Beginning Costs and Other Balance at
of Year Expenses Accounts Deductions End of Year
---------- ---------- ---------- ---------- -----------
<S> <C> <C> <C> <C> <C>
For the fiscal year ended September 2, 1995
Allowance for doubtful accounts $ 652 $ 694 $ - $469 $ 877
======= ======= ====== ==== =======
For the fiscal year ended August 31, 1996
Allowance for doubtful accounts $ 877 $1,019 $235 (a) $812 $1,319
======= ====== ==== ==== ======
For the fiscal year ended August 30, 1997
Allowance for doubtful accounts $1,319 $1,127 $542 (a) $958 $2,030
====== ====== ==== ==== ======
</TABLE>
(a) Comprised of valuation accounts of acquired entities
S-2
<PAGE>
EXHIBIT 21.01
SUBSIDIARIES OF MSC INDUSTRIAL DIRECT CO., INC.
CORPORATION STATE OF INCORPORATION
- ----------- ----------------------
Sid Tool Co., Inc. New York
Primeline International, Inc. New York
Kaja Productions, Inc. New York
Cut-Rite Tool Corp. Florida
D.T.C. Tool Corp. Florida
Brooks Precision Supply, Inc. Massachusetts
MSC Services Corp. New York
Anderson Industrial Supply, Inc. Florida
Dolin Supply, Inc. New York
Discount Tool and Supply Company New York
Swiss Precision Instruments, Inc. California
Enco Manufacturing, Inc. New York
<PAGE>
EXHIBIT 23.01
CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS
As independent public accountants, we hereby consent to the
incorporation of our reports included in this Form 10-K, into the Company's
previously filed Registration Statement File No. 333-3256.
ARTHUR ANDERSEN LLP
Melville, New York
November 21,1997
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM MSC
INDUSTRIAL DIRECT CO., INC.'S AUGUST 30, 1997 FORM 10K AND IS QUALIFIED IN ITS
ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> AUG-30-1997
<PERIOD-START> SEP-01-1996
<PERIOD-END> AUG-30-1997
<CASH> 13,418
<SECURITIES> 0
<RECEIVABLES> 57,378
<ALLOWANCES> 2,030
<INVENTORY> 163,003
<CURRENT-ASSETS> 244,013
<PP&E> 67,009
<DEPRECIATION> 17,351
<TOTAL-ASSETS> 334,834
<CURRENT-LIABILITIES> 53,669
<BONDS> 0
0
0
<COMMON> 34
<OTHER-SE> 274,961
<TOTAL-LIABILITY-AND-EQUITY> 334,834
<SALES> 438,003
<TOTAL-REVENUES> 438,003
<CGS> 258,748
<TOTAL-COSTS> 120,498
<OTHER-EXPENSES> (1,268)
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 490
<INCOME-PRETAX> 59,535
<INCOME-TAX> 23,518
<INCOME-CONTINUING> 36,017
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 36,017
<EPS-PRIMARY> 1.06
<EPS-DILUTED> 1.06
</TABLE>
