<PAGE> 1
(SM) = SERVICEMARK
(TM) = TRADEMARK
(R) = REGISTERED TRADEMARK
Filed pursuant to Rule 424(b)(1)
Registration No. 333-00272
PROSPECTUS
5,400,000 SHARES
[LOGO]
WEST COAST ENTERTAINMENT CORPORATION
COMMON STOCK
------------------------
All of the 5,400,000 shares of common stock, $0.01 par value per share
("Common Stock"), offered hereby are being sold by West Coast Entertainment
Corporation ("West Coast" or the "Company"). Prior to this offering, there has
been no public market for the Common Stock of the Company. See "Underwriting"
for information relating to the determination of the initial public offering
price. The Common Stock has been approved for quotation on the Nasdaq National
Market under the symbol "WCEC."
------------------------
SEE "RISK FACTORS" BEGINNING ON PAGE 4 FOR A DISCUSSION OF
CERTAIN MATTERS THAT SHOULD BE CONSIDERED BY POTENTIAL INVESTORS.
------------------------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR
HAS THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE
SECURITIES COMMISSION PASSED UPON THE ACCURACY OR
ADEQUACY OF THIS PROSPECTUS. ANY
REPRESENTATION TO THE CONTRARY
IS A CRIMINAL OFFENSE.
<TABLE>
<CAPTION>
PRICE TO UNDERWRITING DISCOUNTS PROCEEDS TO
PUBLIC AND COMMISSIONS(1) COMPANY(2)
---------------- ------------------------------- ----------------
<S> <C> <C> <C>
Per Share................................ $13.00 $0.91 $12.09
Total(3)................................. $70,200,000 $4,914,000 $65,286,000
</TABLE>
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(1) The Company has agreed to indemnify the underwriters (the "Underwriters")
against certain liabilities, including liabilities under the Securities Act
of 1933, as amended (the "Securities Act"). See "Underwriting."
(2) Before deducting expenses payable by the Company, estimated at $2,167,000.
(3) The Company has granted the Underwriters a 30-day option to purchase up to
an additional 810,000 shares of Common Stock solely to cover
over-allotments, if any. If such option is exercised in full, the total
price to public, underwriting discounts and commissions and proceeds to
Company, will be $80,730,000, $5,651,100 and $75,078,900, respectively. See
"Underwriting."
------------------------
The shares of Common Stock are offered by the Underwriters, subject to
prior sale, when, as and if delivered to and accepted by the Underwriters, and
subject to approval of certain legal matters by counsel for the Underwriters. It
is expected that delivery of the Common Stock will be made against payment
therefor on or about May 17, 1996 in New York, New York.
------------------------
JEFFERIES & COMPANY, INC.
MCDONALD & COMPANY
SECURITIES, INC.
SUTRO & CO. INCORPORATED
May 14, 1996
<PAGE> 2
WEST COAST ENTERTAINMENT CORPORATION
[Color Picture:
Map of the United States indicating states with West Coast Entertainment
Corporation video store locations. Inset map indicating the expected opening
of two stores in Lima, Peru during 1996.
Gate Fold:
West Coast logo and photo collage of the interior of certain West Coast stores
set amongst background of movie reel cannister and photos of motion picture
actors.]
IN CONNECTION WITH THIS OFFERING, THE UNDERWRITERS MAY OVER-ALLOT OR EFFECT
TRANSACTIONS WHICH STABILIZE OR MAINTAIN THE MARKET PRICE OF THE COMMON STOCK
OFFERED HEREBY AT A LEVEL ABOVE THAT WHICH MIGHT OTHERWISE PREVAIL IN THE OPEN
MARKET. SUCH TRANSACTIONS MAY BE EFFECTED IN THE OVER-THE-COUNTER MARKET OR
OTHERWISE. SUCH STABILIZING, IF COMMENCED, MAY BE DISCONTINUED AT ANY TIME.
---------------------
THIS DOCUMENT DOES NOT CONSTITUTE AN OFFER TO SELL OR THE SOLICITATION OF AN
OFFER TO BUY SECURITIES IN ANY JURISDICTION IN WHICH SUCH OFFER OR SOLICITATION
IS UNLAWFUL. THERE ARE RESTRICTIONS ON THE OFFER AND SALE OF SECURITIES IN THE
UNITED KINGDOM. ALL APPLICABLE PROVISIONS OF THE FINANCIAL SERVICES ACT 1986 AND
THE PUBLIC OFFERS OF SECURITIES REGULATIONS 1995 WITH RESPECT TO ANYTHING DONE
BY ANY PERSON IN RELATION TO SECURITIES IN, FROM OR OTHERWISE INVOLVING THE
UNITED KINGDOM MUST BE COMPLIED WITH.
---------------------
West Coast Video(R), The Movie Buff's Movie Store(R), Game Power
Headquarters(SM), The Projector(TM), Spotlight on Video(TM) and Videosmith(R)
are trademarks, trade names and service marks of the Company. Certain
photographs are courtesy of MGM/UA Home Entertainment. Use thereof does not
imply a direct or indirect endorsement of the Company by the individuals
pictured or by Metro-Goldwyn-Mayer Inc.
<PAGE> 3
PROSPECTUS SUMMARY
The following summary is qualified in its entirety by, and should be read
in conjunction with, the more detailed information included elsewhere herein.
Except as otherwise indicated, all information herein (a) assumes (i) exercise
of an outstanding warrant (the "Warrant") to acquire 192,308 shares of Common
Stock, (ii) conversion of a portion of an outstanding convertible subordinated
secured note (the "Convertible Note") into 20,844 shares of Common Stock and
repayment, rather than conversion, of the remaining balance of the Convertible
Note, that would otherwise be convertible into an additional 187,595 shares of
Common Stock, (iii) no exercise of the Underwriters' over-allotment option and
(iv) the Company's acquisition of 171 video specialty stores substantially
concurrently with the consummation of this offering (collectively, the
"Acquisitions") and (b) gives effect to a 0.340-for-1 reverse split of the
Common Stock effective as of May 14, 1996. Unless the context otherwise
requires, references to "West Coast" or the "Company" include West Coast
Entertainment Corporation, West Coast Franchising Company, Videosmith
Incorporated and the 171 video specialty stores and related operations to be
acquired in connection with the Acquisitions. References to "system-wide
revenues" include the total of Company-owned store revenues and franchised store
revenues (as distinct from franchise fees paid by the franchisees to the Company
as franchisor).
THE COMPANY
West Coast owns and operates 199 video specialty stores and franchises 303
additional stores. The Company believes that, as of September 30, 1995, it was
the second largest video specialty retailer in the United States in terms of pro
forma system-wide revenues, number of franchised stores and total franchised
store revenues. The Company competes directly against major regional and
national video rental stores in most of its markets and believes it is a leading
video rental operator, in terms of number of stores, in all of the major markets
in which Company-owned stores operate. In addition, the Company is one of only
two domestic video specialty franchisors that has existing franchised stores
outside North America. System-wide, approximately 60% of the Company's stores
are currently operated under the West Coast Video(R) name and the remainder are
operated under such names as Videosmith(R) and Palmer Video. The Company intends
to apply the West Coast Video(R) name and its registered trademark The Movie
Buff's Movie Store(R) to all of its stores. For the fiscal year ended January
31, 1996, the Company's pro forma revenues were $82.2 million and pro forma net
income was $4.6 million. See "Selected Historical and Pro Forma Combined
Financial Data."
In order to realize the Company's goal of maximizing revenue and
profitability, the Company has adopted a business strategy designed to (i)
achieve or maintain market dominance in its chosen markets by acquiring,
developing or franchising additional stores, (ii) realize cost savings and
efficiencies by using proven management operating systems to integrate the
stores acquired, developed or franchised, (iii) operate stores designed to
reflect specific local demographics and demonstrated customer preferences and
(iv) build customer loyalty and promote additional rentals by offering superior
customer service through a highly trained sales force having comprehensive
product knowledge.
The Company's growth strategy is to (i) pursue the acquisition of video
specialty stores in this highly fragmented industry, (ii) continue to acquire
its own existing and future franchised stores and (iii) selectively develop new
video specialty stores. Consistent with this strategy, the Company has received
a commitment for a $60.0 million bank credit facility (the "New Credit
Facility"), a portion of which will become available upon consummation of this
offering, subject to certain conditions, to refinance certain indebtedness of
the Company and pay approximately $1.3 million of the cash portion of the
purchase price of the Acquisitions and for general corporate purposes and future
acquisition financing. The Company believes it is well-positioned to benefit
from consolidation in the industry among the approximately 28,000 video
specialty stores in the United States, approximately half of which are owned by
operators of one or two stores. In addition, as the second largest video
specialty franchisor in the United States in terms of system-wide revenues and
one of only two domestic-based franchisors with existing franchised stores
outside North America, the Company believes it is uniquely positioned to expand
through the acquisition of its existing and future West Coast Video(R)
franchisees and the continuation of its international and domestic franchising
activities.
The Company's stores are located in 25 states and two foreign countries,
with its Company-owned stores concentrated in Ohio, Pennsylvania, New Jersey,
Massachusetts and New York. The Company's stores are
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designed and managed to entertain and satisfy a broad range of customers,
including movie and interactive electronic game buffs, and carry between 7,000
and 17,000 videocassettes. Most of the Company's stores are superstores with
over 4,000 square feet per store, although some are smaller, custom-designed
stores, including some which are formatted as urban boutiques containing a wide
variety of older titles ("catalog titles"). The Company believes that its
ability to customize stores to reflect local market demographics gives it a
competitive advantage over chains with limited variation in format.
According to entertainment media analyst Paul Kagan Associates, Inc.
("Kagan Associates"), the domestic video rental and sales industry has grown
from approximately $3.6 billion in revenues in 1985 to over $14 billion in 1994
and is projected to reach approximately $22 billion in 2005. Kagan Associates
estimates the revenues received by movie distributors from international home
video at $3.7 billion in 1995. In 1994, according to Kagan Associates, the home
video market was the largest single source of revenue to movie distributors,
accounting for approximately 48.6% of movie distributors' total domestic
revenues and approximately 46.1% of movie distributors' worldwide revenues.
The principal executive offices of the Company are located at 9990 Global
Road, Philadelphia, Pennsylvania 19115, and its telephone number is (215)
677-1000.
CONCURRENT TRANSACTIONS
In January 1996, West Coast entered into definitive agreements to acquire a
total of 171 owned and operated video specialty stores (including 13 stores
owned by franchisees of the Company) plus franchisor's rights in regard to 20
additional stores franchised by one of the companies being acquired. The
aggregate consideration to be paid (excluding certain fees and contingent
consideration relating to newly opened stores) is approximately $76.4 million,
consisting of approximately $52.4 million payable in cash and approximately
$24.0 million payable in shares of Common Stock (1,843,708 shares valued for
this purpose at the initial public offering price of $13.00 per share). The
Acquisitions are expected to be consummated substantially concurrently with the
completion of this offering. In addition, the Company will concurrently use
approximately $6.9 million to repay certain outstanding indebtedness (inclusive
of accrued interest and prepayment premium). The Company will record
approximately $68.9 million of the aggregate purchase price of the Acquisitions
as goodwill. See "Concurrent Transactions" and "Unaudited Pro Forma Combined
Condensed Financial Statements." Each of the Acquisitions is subject to numerous
closing conditions, and therefore there can be no assurance that any of the
Acquisitions will be consummated. The consummation of this offering is not
contingent upon the closing of any of the Acquisitions. See "Use of Proceeds"
and "Risk Factors -- Acquisition Risks."
THE OFFERING
<TABLE>
<S> <C>
Common Stock offered by the Company................. 5,400,000 shares
Common Stock to be outstanding after this
offering.......................................... 12,213,152 shares(1)
Use of proceeds..................................... To finance in part the cash portion of
the purchase price of the Acquisitions
and to repay certain outstanding
indebtedness of the Company. See "Use
of Proceeds."
Nasdaq National Market symbol....................... WCEC
</TABLE>
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(1) Includes 1,843,708 shares of Common Stock to be issued to certain sellers as
part of the purchase price of the Acquisitions, 192,308 shares issuable
upon exercise of the Warrant and 20,844 shares issuable upon conversion of
a portion of the Convertible Note, but excludes shares contingently
issuable to certain sellers of newly opened stores. See "Concurrent
Transactions." An additional 525,000 shares of Common Stock have been
reserved for future issuance under the Company's 1995 Equity Incentive
Plan, 1995 Director Stock Option Plan and 1995 Employee Stock Purchase
Plan. See "Management -- Director Compensation" and "-- Employee Stock
Plans."
2
<PAGE> 5
SUMMARY HISTORICAL AND PRO FORMA FINANCIAL DATA
(IN THOUSANDS, EXCEPT STORE AND PER SHARE DATA)
<TABLE>
<CAPTION>
HISTORICAL
---------------------------------
PRO FORMA(1)
YEAR ENDED ------------
JANUARY 31, YEAR ENDED
--------------------------------- JANUARY 31,
1994 1995 1996 1996
------ ------ ------- ------------
<S> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Revenue.................................................... $2,520 $6,503 $14,719 $ 82,175
Operating income (loss).................................... (44) 385 1,216 7,995
Income (loss) before income taxes.......................... (86) 267 576 8,442
Net income (loss).......................................... (72) 204 334 4,632
Pro forma net income (loss) per share...................... $(0.07)(2) $ 0.12(2) $ 0.06(2) $ 0.38(3)
OTHER DATA:
Depreciation and amortization(4)........................... $ 870 $1,628 $ 2,585 $ 19,726
Purchases of videocassette rental inventory................ 685 1,430 2,002 18,246
STORE DATA:
Increase (decrease) in same store revenue(5)............... (6.1)% 14.2% 4.8% 1.5%
Company-owned stores at end of period...................... 14 28 28 197
Franchised stores at end of period......................... -- -- 304 310
------ ------ ------- -------
Total stores at end of period........................ 14 28 332 507
====== ====== ======= =======
</TABLE>
<TABLE>
<CAPTION>
HISTORICAL PRO FORMA(1)
----------- ------------
JANUARY 31, JANUARY 31,
1996 1996
----------- ------------
<S> <C> <C>
BALANCE SHEET DATA:
Cash and cash equivalents....................................................... $ 611 $ 3,976
Videocassette rental inventory, net............................................. 1,509 13,551
Total assets.................................................................... 16,515 108,041
Long-term debt, less current portion............................................ 7,101 4,351
Total liabilities............................................................... 15,972 20,938
Stockholders' equity............................................................ 543 87,303
</TABLE>
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(1) For a discussion of the assumptions and adjustments underlying the unaudited
pro forma combined financial data, see "Unaudited Pro Forma Combined
Condensed Financial Statements."
(2) Unaudited pro forma net income (loss) per share has been calculated for each
of the years in the three year period ended January 31, 1996 by dividing the
respective unaudited pro forma net income (loss) amounts by the weighted
average number of shares of common stock outstanding (843,000, 1,693,000 and
4,756,000 at January 31, 1994, 1995 and 1996, respectively). Unaudited pro
forma net income (loss) per share reflects an adjustment to the consolidated
statement of operations to give effect to the merger (the "Merger") and the
0.340 reverse stock split discussed in Notes 1 and 17 to the Company's
consolidated financial statements included elsewhere herein, as if they had
occurred as of February 1, 1992. Accordingly, the pro forma income tax
provision (benefit) and pro forma net income (loss) have been calculated as
if each entity included in the consolidated statement of operations had been
included in the Company's consolidated income tax returns and subject to
corporate income taxation as a corporation subject to taxation under
Subchapter C of the Internal Revenue Code of 1986, as amended (a "C
Corporation") during all periods presented.
(3) Unaudited pro forma net income per share for the year ended January 31, 1996
has been calculated by dividing unaudited pro forma net income by the pro
forma weighted average number of shares of Common Stock outstanding after
giving effect to (i) the Merger, (ii) the issuance of shares upon formation
of the Company, (iii) the 0.340-for-1 reverse stock split and the shares
issued in conjunction with this offering, (iv) the shares issued in
conjunction with the Acquisitions, (v) the repayment of all outstanding
debt, (vi) borrowings under the New Credit Facility and (vii) the impact of
the Warrant and the Convertible Note, as if all activity occurred as of
February 1, 1995. See Notes 1 and 7 to the Company's consolidated financial
statements. The pro forma weighted average number of common shares used to
calculate pro forma net income per share at January 31, 1996 is 12,322,075.
(4) The Company's policy is that videocassette rental inventory, which includes
video games, is stated at cost and is amortized over its estimated economic
life with no provision for salvage value. Videocassettes that are considered
base stock are amortized over 36 months on a straight-line basis. New
releases are amortized as follows: the first through third copies of each
title per store are amortized as base stock and succeeding copies of each
title per store are amortized over nine months on a straight-line basis.
(5) Same store revenue is defined as the aggregate revenues from Company-owned
stores open for the entirety of the periods being compared. Increase
(decrease) reflects change from prior fiscal year.
3
<PAGE> 6
RISK FACTORS
In addition to the other information in this Prospectus, the following risk
factors should be considered carefully in evaluating an investment in the Common
Stock offered hereby.
ABILITY TO SUSTAIN GROWTH AND MANAGE OPERATIONS
The Company's rapid growth could strain the Company's ability to manage
operations and effectively pursue its growth strategy. The Company's growth
strategy has involved (i) the acquisition from unrelated third parties of two
chains operating 21 stores, (ii) the opening of eight new stores, (iii) the
acquisition of the operating assets now held by the Company and its wholly owned
franchising subsidiary from a group of unrelated third parties having a total of
305 franchised stores and (iv) the ongoing integration of such new stores and
operations into the Company's management information, telecommunications,
management, marketing, finance and accounting, entertainment purchasing,
distribution, retail operations and merchandising systems. Future expansion will
require the Company's existing management personnel to, among other things,
identify and analyze new markets and new site locations; locate and negotiate
with numerous potential acquirees; consummate acquisitions; arrange for adequate
equity or debt financing to fund expansion; negotiate acceptable real estate
leases and related agreements for existing stores and for stores to be acquired
or opened and develop cost-effective transition plans for acquired stores; hire,
train and assimilate store managers and other store personnel; and address the
other specific risks described in more detail below. See "-- Acquisition Risks."
Accordingly, in some circumstances continued rapid growth could have a material
adverse effect on the Company's financial condition and results of operations.
OPERATING RISKS
Competition. The video retail industry is highly competitive. The Company
competes with other video specialty stores, including stores operated by
regional and national chains, as well as other businesses, such as
supermarkets, pharmacies, convenience stores, bookstores, mass merchants, mail
order operations and other retailers, that offer videos and interactive
electronic entertainment products. Many of the Company's stores compete with
stores operated by the Blockbuster Entertainment division of Viacom Inc.
("Blockbuster"), the dominant video specialty retailer in the United States.
Blockbuster and certain of the Company's non-video specialty store competitors
have significantly greater financial and marketing resources, market share and
name recognition than the Company. In addition, the Company's stores compete
with other leisure-time activities, including movie theaters, network and cable
television, live theater, sporting events and family entertainment centers. The
Company's failure to compete effectively would have a material adverse effect
on its financial condition and results of operations. See "Business --
Competition."
Technological Obsolescence. The Company competes with pay-per-view cable
television systems ("Pay-Per-View"), in which cable television subscribers pay a
fee to see a movie or other program selected by the subscriber. Existing
Pay-Per-View services offer a limited number of channels and programs and are
generally available only to households with a converter to unscramble incoming
signals. Recently developed technologies, however, permit certain cable
companies, direct broadcast satellite companies, telephone companies and other
telecommunications companies to transmit a much greater number of movies to
homes in more markets as frequently as every five minutes. Ultimately, further
improvements in these technologies or the development of other similar
technologies could lead to the availability of a broad selection of movies to
consumers on demand, which could have a material adverse effect on the Company's
financial condition and results of operations. See "Business -- Competition."
Changes in the manner in which movies are marketed by movie studios, including
an earlier release by movie studios of movie titles to cable television or other
distribution channels, could substantially decrease the demand for video
rentals, which could have a material adverse effect on the Company's financial
condition and results of operations. See "Video Industry Overview" and
"Business -- Competition."
Seasonality and Other Factors; Quarterly Fluctuations. The video and
interactive electronic entertainment products rental portions of the Company's
business are somewhat seasonal, and revenues may be affected by many factors,
including variations in the number and timing of theatrical movie releases, the
public
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<PAGE> 7
acceptance of new release titles available for rental and sale, the extent of
competition, marketing programs, weather, the timing of long holiday weekends,
special or unusual events and other factors that may affect retailers in
general. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations -- General Economic Trends, Quarterly Results and
Seasonality" and "Business -- Growth Strategy."
Fluctuations in Interactive Electronic Entertainment Products
Industry. Rentals and sales volumes for interactive electronic entertainment
products have fluctuated considerably in recent fiscal periods, both
industry-wide and for the Company, as a result of technological changes and the
introduction (or delay in introduction) of new products. Similar fluctuations
may occur in future periods.
Effects of Increased Minimum Wage. Proposals currently before the United
States Congress include plans which would raise the federal minimum wage from
$4.25 per hour to an amount between $5.15 and $6.50 per hour over periods
ranging from three months to two years. Many of the Company's part-time store-
level employees are paid at or slightly above the minimum wage. The passage of
such a proposal, or similar proposals in those states in which the Company's
operations are concentrated, could materially increase the Company's employment
costs and could have a material adverse effect on the Company's financial
condition and results of operations.
ACQUISITION RISKS
Integration. The success of the Company's growth strategy is dependent
upon its ability to achieve cost savings in connection with acquisitions
(including the Acquisitions) and otherwise successfully integrate acquired
operations. There can be no assurance, however, that the Company will be able to
achieve such savings or successfully integrate acquired operations (including
the operations comprising the Acquisitions) into its existing operations. There
can be no assurance that the Acquisitions or future acquisitions will not have a
material adverse effect upon the Company's operating results while the
operations of the acquired businesses are being integrated into the Company's.
Once integrated, acquired operations may not achieve levels of revenues or
profitability comparable to those achieved by the Company's existing operations
or otherwise perform as expected.
Identification of and Competition for Acquisitions. The Company's growth
strategy includes future acquisitions. There can be no assurance that the
Company will be able to identify suitable acquisition targets and complete
acquisitions in either existing or new markets. In addition, certain of the
Company's competitors may seek to acquire some of the same video specialty
stores that the Company seeks to acquire. Such competition for acquisitions
would increase acquisition prices and related costs and result in fewer
acquisition opportunities, which could have a material adverse effect on the
Company's growth.
Risk that Proposed Acquisitions Will Not Be Consummated; Misrepresentations
and Breaches by Sellers. While the Acquisitions are scheduled to close
substantially concurrently with the completion of this offering, there can be no
assurance that any of the Acquisitions will be consummated; however, this
offering is not contingent on the closing of any of the Acquisitions. If one or
more of the Acquisitions does not close, the net proceeds of this offering
allocated thereto will be used for general corporate purposes, including the
repayment of certain indebtedness and the acquisition of other video specialty
stores. See "Use of Proceeds." There is no assurance that the Company would be
able to use the additional proceeds to acquire other video specialty stores on
acceptable terms. In consummating the Acquisitions, the Company is relying upon
certain representations, warranties and indemnities made by the sellers with
respect to each of the Acquisitions, as well as its own due diligence
investigation. There can be no assurance that such representations and
warranties will be true and correct, that the Company's due diligence will
uncover all material adverse facts relating to the operations and financial
condition of the stores acquired or that all of the conditions to the Company's
obligations to consummate the Acquisitions will be satisfied. Any material
misrepresentations could have a material adverse effect on the Company's
financial condition and results of operations. In addition, the Company expects
that it may waive certain conditions to its obligations to consummate the
Acquisitions.
Financing Growth Strategy. The Company currently intends to finance future
acquisitions, as well as new store openings, primarily from the net proceeds
from the sale of debt or equity securities, cash from operations and borrowings
under credit facilities, including the New Credit Facility. Acquisitions may
also be
5
<PAGE> 8
made by issuing Company securities to the sellers. There can be no assurance
that the Company will be able to sell debt or equity securities on reasonable
terms. The inability to raise sufficient cash could inhibit implementation of
the Company's growth strategy. The New Credit Facility will contain various
restrictive covenants. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations -- Liquidity and Capital Resources -- The
Company."
Certain Formulaic Purchase Prices. The purchase prices for certain
Acquisitions contain components that are to be determined over 12 or 18-month
periods after the respective opening dates of 19 stores on the basis of certain
financial measurements for such stores over the final 12 months of such periods.
See "Concurrent Transactions." If such components of the purchase prices are
materially more than is currently expected, the Company will have to deploy more
cash or issue more shares of Common Stock than it is currently budgeting for
such purpose.
RISKS ASSOCIATED WITH FRANCHISE OPERATIONS
The Company has 203 franchisees operating 303 franchised stores. It obtains
franchise-related revenues from an initial fee and the sale of initial supplies
and from ongoing fees and royalties based on a percentage of franchisees' gross
revenues, as reported monthly by franchisees to the Company. No assurance can be
given that the Company will continue to market and sell new franchises or
operate its franchise operations at profitable levels. In addition, no assurance
can be given that desirable locations and acceptable leases can be obtained for
new franchisees. The Company monitors franchisees' compliance with ongoing
obligations on the basis of monthly revenue and ordered inventory reports. The
Company's standard franchise agreement generally also grants the Company the
right to audit the books and records of franchisees at any time. No assurance
can be given, however, that all franchisees will operate their stores in
accordance with the Company's operating guidelines and in compliance with all
material provisions of the franchise agreement, and the failure of franchisees
to so operate their stores could have a material adverse effect on the Company's
business. The standard franchise agreement gives the Company the choice of
seeking legal remedies, which could be time-consuming and expensive, and
terminating the franchisee, which would diminish the Company's revenue until
such time, if ever, as a new franchisee replaces the terminated franchisee.
Franchisees are not required to purchase supplies or inventory from the Company.
The standard franchise agreement further provides that a franchisee may
have rights to an exclusive territory within which other franchised or
Company-owned stores will not be set up or operated. The Company is currently
discussing with eight West Coast Video(R) franchisees the terms on which ten of
the stores being acquired, which are located within such franchisees' exclusive
territories, will be integrated into the Company's system; possibilities
include, but are not limited to, relocating such an acquired store or selling it
to a third party, assisting the franchisee to relocate, granting the franchisee
additional franchises or territorial or other rights, or including the
franchisee's stores in the intended program of Company acquisitions of
franchisees' stores described under "Business -- Growth Strategy -- Continue to
Acquire West Coast Franchisee Stores." Although the Company does not expect that
any such method of integration of such stores will have a material adverse
effect, there can be no assurance in this regard.
In addition, the Company is subject to the Federal Trade Commission's Trade
Regulation Rule entitled "Disclosure Requirements and Prohibitions Concerning
Franchising and Business Opportunity Ventures" (the "FTC Franchise Rule") and
state laws and regulations that govern the offer and sale of franchises. In
order to offer and sell franchises, the Company is required by the FTC Franchise
Rule to furnish each prospective franchisee a current franchise offering
circular prior to the sale of a franchise. In addition, 13 states at present
require a franchisor to comply with registration or filing requirements prior to
offering a franchise in the state and to provide a prospective franchisee with a
current franchise offering circular complying with the state's laws, prior to
the sale of the franchise, and five other states require written notice prior to
the offer of a franchise (collectively, the "Registration States"). The Company
is currently in the process of registering in all of the Registration States and
is currently entitled to sell franchises in all other states in compliance with
the FTC Franchise Rule. Violations of the FTC Franchise Rule and the franchise
offering requirements of the Registration States could result in civil penalties
against the Company and civil and criminal penalties against the executive
officers of the Company. No assurance can be given that the Company will not be
required to
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<PAGE> 9
cease offering and selling franchises in certain states because of future
changes in franchise laws or the Company's inability to comply with existing or
future franchise laws or until its franchise offering circular is updated.
This Prospectus does not constitute, and shall not be construed as, an
offer to sell a West Coast Video(R) franchise. Such offers may be made only by
an offering circular in compliance with state laws and the FTC Franchise Rule.
The description of the franchises set forth in this Prospectus is not intended
to be a complete description of the business of a franchisee of West Coast
Franchising Company.
RELIANCE ON KEY PERSONNEL; EXPERIENCE OF MANAGEMENT
The Company's operations are dependent on the continued efforts of T. Kyle
Standley, its President and Chief Executive Officer, and its other key
employees. If any of these individuals become unwilling or unable to continue
their employment or association with the Company, or if the Company is unable to
attract and retain other skilled employees, the Company's business could be
materially and adversely affected. The Company does not currently maintain key
man life insurance coverage on any of its executives. Certain key new members of
the Company's management group will be joining the Company upon consummation of
this offering. No Company executive will have had significant experience
operating a company as large, in terms of stores or annual revenues, as the
Company. See "Management."
CONTROL BY THE PRINCIPAL EXECUTIVES
Upon completion of this offering, Ralph W. Standley III and certain members
of his family, including T. Kyle Standley, will, in the aggregate, beneficially
own 31.7% of the Company's outstanding Common Stock. As a result, these
stockholders voting together will effectively be able to elect a majority of the
Company's directors and control the Company. These stockholders voting together
could delay or prevent a change in control of the Company or a business
combination involving the Company that is favored by other stockholders. See
"-- Anti-Takeover Provisions," "Management," "Principal Stockholders" and
"Description of Capital Stock."
ANTI-TAKEOVER PROVISIONS
The Company's Board of Directors has the authority to issue up to 2,000,000
shares of preferred stock, $.01 par value per share ("Preferred Stock"), in one
or more series and to determine the price, rights, preferences and privileges of
the shares of each such series without any further vote or action by the
stockholders. The rights of the holders of Common Stock will be subject to, and
may be adversely affected by, the rights of the holders of any shares of
Preferred Stock that may be issued in the future. The issuance of Preferred
Stock could have the effect of making it more difficult for a third party to
acquire a majority of the outstanding voting stock of the Company, thereby
delaying, deferring or preventing a change of control of the Company. In
addition, certain provisions in the Company's Certificate of Incorporation, as
amended, and Restated By-laws (the "By-laws") relating to supermajority
stockholder approval of mergers and certain similar transactions, restrictions
on calling special meetings of stockholders, restrictions on amendments to the
By-laws and prohibitions against action by majority written consent of the
stockholders may discourage or make more difficult any attempt by a person or
group of persons to obtain control of the Company.
In addition, the Company is subject to the anti-takeover provisions of
Section 203 of the Delaware General Corporation Law. In general, the statute
prohibits a publicly-held Delaware corporation from engaging in a "business
combination" with an "interested stockholder" for a period of three years after
the date of the transaction in which the person became an interested
stockholder, unless the business combination is approved in a prescribed manner.
For purposes of Section 203, a "business combination" includes a merger, asset
sale or other transaction resulting in a financial benefit to the interested
stockholder, and an "interested stockholder" is a person who, together with
affiliates and associates, owns (or within three years prior, did own) 15% or
more of a corporation's voting stock. See "Description of Capital
Stock -- Preferred Stock" and "-- Delaware Law and Certain Charter and By-Law
Provisions." The provisions of Section 203 may have the effect of delaying or
preventing changes in control or management of the Company, which could
adversely affect the market price of the Company's Common Stock and deprive
stockholders of an opportunity to receive a premium for their shares.
7
<PAGE> 10
SUBSTANTIAL PROCEEDS OF OFFERING PAYABLE FOR BENEFIT OF AFFILIATES
Approximately $216,781 of principal of and accrued interest on the
Convertible Note will be repaid from the net proceeds of this offering to an
executive officer of the Company, Jules E. Gardner. Another executive officer of
the Company, Kenneth R. Graffeo, has elected to convert his share of the
Convertible Note into 20,844 shares of Common Stock of the Company. In addition,
approximately $260,000 of the net proceeds of this offering will be paid to the
same two executive officers as fees, in connection with the acquisition of
certain West Coast Video(R) franchisee stores, pursuant to the terms of the
acquisition of substantially all of the operating assets pertaining to franchise
operations of West Coast Video Entertainment, Inc., an unrelated third party,
and its four affiliated corporations (collectively, the "WCEI Companies") by the
Company, through its wholly-owned subsidiary, West Coast Franchising Company
("WC Franchise") in July 1995. In the event that the Underwriters'
over-allotment option is exercised, approximately $3.1 million of the net
proceeds of this offering will be used to repay outstanding indebtedness of the
Company to an institutional lender, which indebtedness is personally guaranteed
by three executive officers of the Company, Ralph W. Standley III, T. Kyle
Standley and M. Trent Standley. Approximately $4.3 million of the net proceeds
will be used to pay the purchase price of the Acquisition of the assets of a
corporation in which an executive officer of the Company, Donald R. Thomas, is
an executive officer and has a 2% equity interest. See "Certain Transactions."
NO PRIOR TRADING MARKET; POTENTIAL VOLATILITY OF STOCK PRICE
Prior to this offering, there has been no public market for the Common
Stock. The initial public offering price has been determined through
negotiations between the Company and the Representatives (as defined) of the
Underwriters. See "Underwriting" for a discussion of factors considered in the
determination of the initial public offering price. There can be no assurance
that an active trading market will develop or be sustained or that the market
price of the Common Stock will not decline below the initial public offering
price.
SHARES ELIGIBLE FOR FUTURE SALE
The sale of a substantial number of shares of the Common Stock in the
public market following this offering, or the perception that the sale of a
substantial number of shares might occur, could have a material adverse effect
on the prevailing market price of the Common Stock or the ability of the Company
to raise capital through a public offering of its equity securities. Upon
completion of this offering and the consummation of the Acquisitions, the
Company will have outstanding 12,213,152 shares of Common Stock, of which the
5,400,000 shares sold in this offering (plus any additional shares sold upon
exercise of the Underwriters' over-allotment option) will be freely tradeable
without restriction or further registration under the Securities Act, except for
those shares held by "affiliates" (as defined in Rule 144 under the Securities
Act) of the Company. None of the remaining 6,813,152 outstanding shares of
Common Stock (collectively, the "Restricted Shares"), including Restricted
Shares to be issued in connection with the Acquisitions, have been registered
under the Securities Act, and they may be resold only upon registration under,
or in compliance with an exemption from the registration requirements of, the
Securities Act. Holders of 2,285,466 Restricted Shares will be eligible to sell
such shares pursuant to Rule 144, as currently in effect, subject to the manner
of sale, volume, notice and information requirements of Rule 144, beginning in
February 1997, holders of 2,470,826 Restricted Shares will be eligible to sell
such shares pursuant to Rule 144 beginning in July 1997 and holders of 2,056,860
Restricted Shares will be eligible to sell such shares pursuant to Rule 144
beginning on the second anniversary of the date of consummation of the
Acquisitions. The Securities and Exchange Commission has sought public comment
on the advisability of shortening the applicable holding periods under Rule 144
by one year. If such a change in Rule 144 were to be effected, the respective
dates set forth above would be February 1996 and July 1996 (each subject to
certain lock-up agreements) and the first anniversary of the date of
consummation of the Acquisitions. The Company has granted to holders of
Restricted Shares and the Warrant to purchase shares of Common Stock certain
demand and piggyback registration rights. See "Description of Capital
Stock -- Registration Rights," "Shares Eligible for Future Sale," "Management"
and "Certain Transactions."
DILUTION
Purchasers of the shares of Common Stock offered hereby will experience
immediate and substantial dilution of the net tangible book value of such
shares. See "Dilution."
8
<PAGE> 11
CONCURRENT TRANSACTIONS
In January 1996, the Company entered into definitive purchase agreements
with seven selling groups and with four West Coast Video(R) franchisees
(collectively, the "Sellers") to acquire 171 video specialty stores, plus
franchisor's rights in regard to 20 franchised stores, for aggregate
consideration (excluding costs related to the Acquisitions) of $76.4 million,
consisting of $52.4 million payable in cash and $24.0 million payable in shares
of Common Stock (1,843,708 shares valued for this purpose at the initial public
offering price of $13.00 per share). The cash portion of the purchase price of
the Acquisitions will be financed with a portion of the net proceeds of this
offering and approximately $1.3 million of borrowings under the New Credit
Facility. See "Use of Proceeds." The terms of the Acquisitions were negotiated
at arm's length. In connection with the Acquisitions, certain of the Sellers and
their affiliates have entered into consulting and/or employment agreements with
the Company. These include one person who will become Executive Vice
President -- Corporate Retail Operations and Development and a director of the
Company and nine other persons who will become Vice Presidents or Regional Vice
Presidents, but will not become executive officers or directors, at annual
salaries ranging from $75,000 to $210,000. The closing of each of the
Acquisitions is conditioned upon, among other things, consummation of a public
offering of the Company's Common Stock prior to specified dates, and such
closings are to take place substantially concurrently with consummation of such
a public offering. See "Risk Factors -- Acquisition Risks."
Set forth below is a brief description of each of the Acquisitions:
<TABLE>
<CAPTION>
NUMBER OF
OWNED AND
OPERATED
NAME OF SELLER(S) STORES LOCATIONS
- ------------------------------------------------ --------- --------------------------------
<S> <C> <C>
Palmer Corporation and certain affiliates
("Palmer Video").............................. 43(1) New York and New Jersey
American Video, Inc. and certain affiliates
(collectively, "Red Giraffe")................. 31 Indiana, Kentucky and Ohio
4 unaffiliated West Coast Video(R) franchisees
(the "Massachusetts Franchisees")............. 13(2)(3) Massachusetts
5 other unaffiliated selling groups............. 84(4) Pennsylvania, Ohio, New Jersey,
Virginia, Arkansas, Oklahoma,
Texas, Louisiana and Florida
Total................................. 171
===
</TABLE>
- ---------------
(1) Includes (a) one store owned by 142nd Retail Associates, a partnership in
which the Company will purchase the 51% partnership interest now owned by a
subsidiary of Palmer Corporation while the remaining 49% partnership
interests will continue to be owned by their present owners, William J.
Krasny and Cosmo Robles, neither of whom is affiliated with Palmer
Corporation or the Company, and (b) one store owned by 38th Retail
Associates Limited Partnership, in which the Company will purchase the 50%
general partnership interest now owned by a subsidiary of Palmer Corporation
while the remaining 50% limited partnership interest will continue to be
owned by the estate of Abraham Stelnik, which is not affiliated with Palmer
Corporation or the Company.
(2) Includes four stores owned by HB Associates, Inc., two stores owned by Best
Entertainment, Inc., six stores owned by New Age Entertainment, Inc. and one
store owned by Video Innovators, Inc.
(3) Excludes four Massachusetts Franchisee stores which the Company has an
option to purchase on or before August 1996, January 1997, March 1997 and
July 1997, respectively.
(4) Consists of 45 stores owned by Vidko Inc. and certain affiliates
(collectively, "Videoland"), 12 stores owned by Video Giant, Inc. ("Video
Giant"), 12 stores owned by A-Z Video Systems, Inc. ("A-Z Video"), 12 stores
owned by Showtime, Inc. ("Showtime Video") and three stores owned by certain
corporations under common control ("Video Video").
9
<PAGE> 12
The following table sets forth the consideration being paid for the stores
to be acquired in connection with the Acquisitions and the related indebtedness
for borrowed money of the Sellers being assumed and repaid by the Company
concurrently with the completion of this offering:
<TABLE>
<CAPTION>
CASH COMMON STOCK
-------------------- ------------------- TYPE OF
AMOUNT %(1) AMOUNT %(1) TOTAL(2) ACQUISITION
----------- ---- ----------- ---- ----------- ---------------
<S> <C> <C> <C> <C> <C> <C>
Palmer Video....... $10,039,444 50 % $10,039,455 50% $20,078,899 Merger
Red Giraffe........ 11,486,250(3) 70 4,838,750 30 16,325,000(3)(4) Asset purchase
4 Massachusetts
Franchisees...... 11,675,000(5) 100 11,675,000(5) Asset purchase
5 Other
Unaffiliated
Selling Groups:
A-Z Video(6)..... 4,300,000 100 4,300,000 Asset purchase
Showtime Video... 3,500,000 100 3,500,000(4) Stock purchase
Video Giant...... 1,710,000 19 7,290,000 81 9,000,000(4) Merger
Video Video...... 2,500,000 100 2,500,000 Asset purchase
Videoland........ 7,200,000 80 1,800,000 20 9,000,000(4) Asset purchase
----------- ----------- -----------
Total.... $52,410,694 $23,968,205 $76,378,899
=========== =========== ===========
</TABLE>
- ---------------
(1) Percentage of total consideration for each of the Acquisitions represented
by the cash component and by the stock component (if any), respectively.
(2) Subject to subsequent adjustment based upon the amount by which each
acquiree's working capital, as defined, or cash available at closing, or the
amount of sick pay and vacation pay then accrued, exceeds or is less than a
specified amount.
(3) Includes $2.0 million of indebtedness for borrowed money of the Red Giraffe
group which is being assumed and repaid by the Company.
(4) Excludes payments of cash and/or Common Stock to be made to these sellers at
specified times following the respective opening dates of certain newly
opened stores included in the Acquisitions (four Red Giraffe stores, two
Showtime Video stores, one Video Giant store and 12 Videoland stores) in an
amount determined on the basis of certain financial measurements for such
stores for a specified 12-month period. The amount to be paid for the Video
Giant store has been determined to be $570,675, payable in June 1996,
consisting of $28,581 payable in cash and $542,040 payable in shares of
Common Stock (41,695 shares valued for this purpose at the initial public
offering price of $13.00 per share). Upon consummation of the Acquisition of
Showtime Video, the Company will advance approximately $250,000 to such
seller to defray certain build-out and opening expenses of these stores;
such advances will be applied as an offset against payments, if any, made in
respect of newly opened stores.
(5) Excludes approximately $1,295,925 (11.1% of the purchase price payable to
the sellers in these acquisitions) which amount is payable to the former
owner of the WCEI Companies and Jules E. Gardner and Kenneth R. Graffeo, two
former executive officers of the WCEI Companies (who are now executive
officers of the Company), pursuant to the terms of the acquisition by WC
Franchise of the franchise-related operating assets of those companies in
July 1995. See "Certain Transactions."
(6) An executive officer of the Company, Donald R. Thomas, is an executive
officer of, and has a 2% equity interest in, this seller. See "Certain
Transactions."
Financial statements for certain of the Sellers are contained elsewhere in
this Prospectus. The Index to Consolidated Financial Statements groups the
separate financial statements of certain Sellers under headings corresponding to
each of the selling groups, including the four Massachusetts Franchisees.
Certain pro forma data contained in this Prospectus has been presented as of and
for the Company's fiscal year ended January 31, 1996. Included in this data are
financial data of American Video, Inc. and Red Giraffe Video Inc., in each case
as of and for the year ended January 3, 1996; financial data of each of the
other Sellers as of and for the year ended December 31, 1995; and financial data
of West Coast Entertainment, Inc. and affiliates as of and for the period ended
July 12, 1995.
10
<PAGE> 13
USE OF PROCEEDS
The net proceeds to the Company from the sale of the 5,400,000 shares of
Common Stock offered hereby, after deducting underwriting discounts and
commissions and other offering expenses (estimated to be approximately $7.1
million, excluding $0.5 million of such expenses previously paid in cash), are
estimated to be approximately $63.1 million ($72.9 million if the Underwriters'
over-allotment option is exercised in full). The Company intends to use such net
proceeds, together with borrowings under the New Credit Facility, as follows:
(i) approximately $52.4 million to pay the cash portion of the purchase price of
the Acquisitions, (ii) approximately $6.9 million to repay certain outstanding
indebtedness, inclusive of accrued interest and prepayment premium, (iii)
approximately $1.3 million to pay for accrued liabilities of one of the Sellers
and to pay certain build-out costs relating to an additional store to be
acquired by the Company, pursuant to certain Acquisition Agreements and (iv)
approximately $3.5 million of acquisition costs and $0.3 million relating to the
acceleration of obligations to the former owners of WCEI Companies. Certain of
such indebtedness to be repaid bears interest at one half of one percent above
the prime rate and is personally guaranteed by three executive officers of the
Company, Ralph W. Standley III, T. Kyle Standley and M. Trent Standley. See
"Certain Transactions." The balance of such indebtedness bears interest at rates
ranging from 10% to 12% per annum. Such indebtedness matures at various dates
through October 1998.
If one or more of the proposed Acquisitions is not consummated, the portion
of the net proceeds allocated thereto may instead be used for general corporate
purposes, including the repayment of certain indebtedness and the acquisition of
other video specialty stores. Although the Company has at present no agreements
or commitments to acquire additional stores other than in connection with the
Acquisitions, and there can be no assurance that additional acquisitions will be
consummated, the Company is aware of many acquisition opportunities which it
could consider in such circumstances. See "Risk Factors -- Acquisition Risks."
DIVIDEND POLICY
For the foreseeable future, the Company expects to retain its earnings to
finance the expansion and development of its business. The payment of dividends
is within the discretion of the Company's Board of Directors and will depend on
the earnings, capital requirements, restrictions in future credit agreements and
the operating and financial condition of the Company, among other factors. The
New Credit Facility will contain a covenant prohibiting the payment of dividends
without the lender's consent. There can be no assurance that the Company will
ever pay dividends in the future.
11
<PAGE> 14
DILUTION
The net tangible book value of the Company at January 31, 1996 (not giving
effect to the completion of this offering and the consummation of the
Acquisitions) was a deficit of approximately $6.4 million or a deficit of $1.28
per share. After giving effect to (i) the sale by the Company of the 5,400,000
shares of Common Stock offered hereby at the initial public offering price of
$13.00 per share and after deducting underwriting discounts and commissions and
estimated offering expenses payable by the Company and (ii) the consummation of
the Acquisitions, the pro forma net tangible book value of the Company at
January 31, 1996 would have been $11.4 million, or $0.95 per share of Common
Stock. This represents an immediate increase in pro forma net tangible book
value of $2.23 per share to the stockholders of the Company and an immediate
dilution of $12.05 per share to the new investors purchasing shares of Common
Stock in this offering. The following table illustrates this per share dilution.
<TABLE>
<S> <C> <C>
Assumed initial public offering price.............................. $13.00
Net tangible book value per share before this offering and
the Acquisitions.............................................. $(1.35)
Increase attributable to the sale of shares offered hereby....... 6.90
Decrease attributable to the Acquisitions........................ (4.60)
----
Pro forma net tangible book value per share after this
offering...................................................... 0.95
----
Dilution in net tangible book value per share...................... $12.05
====
</TABLE>
The following table summarizes, on a pro forma basis at January 31, 1996,
the number of shares of Common Stock purchased from the Company, the total cash
consideration paid and the average price per share of Common Stock paid or
contributed by existing stockholders and to be paid by the new investors
purchasing shares of Common Stock in this offering:
<TABLE>
<CAPTION>
TOTAL CASH AVERAGE
SHARES PURCHASED CONSIDERATION PRICE
-------------------- --------------------- PER
NUMBER % AMOUNT % SHARE
----------- ----- ----------- ----- -------
<S> <C> <C> <C> <C> <C>
Existing stockholders(1)................ 4,756,292 46.8% $ 892,000 1.3% $ 0.19
New investors(2)(3)..................... 5,400,000 53.2 70,200,000 98.7 13.00
--------- ----- ----------- -----
Total.............................. 10,156,292 100.0% $71,092,000 100.0%
========= ===== =========== =====
<FN>
- ---------------
(1) Does not give effect to the exercise of the Warrant or conversion of a
portion of the Convertible Note.
(2) If the Underwriters' over-allotment option is exercised in full, the shares
purchased from the Company will increase to 6,210,000 (56.6% of the shares
outstanding after this offering) and the total consideration paid to the
Company by the new investors will increase to $80,730,000 (98.9% of the cash
consideration paid to the Company by all stockholders).
(3) Excludes 1,843,708 shares of Common Stock to be issued to owners of certain
stores as part of the purchase price of the Acquisitions. Such shares are
valued for purposes of the Acquisitions in accordance with the initial
public offering price in this offering. See "Concurrent Transactions."
</TABLE>
12
<PAGE> 15
CAPITALIZATION
The following table sets forth the short-term debt and capitalization of
the Company at January 31, 1996, actual and pro forma to reflect (i) the sale of
the 5,400,000 shares of Common Stock offered hereby at the initial public
offering price of $13.00 per share, after deduction of underwriting discounts
and commissions and the application of the estimated net proceeds therefrom,
(ii) the consummation of the Acquisitions, as described under "Concurrent
Transactions," (iii) the concurrent repayment of certain indebtedness, (iv) the
0.340-for-1 reverse stock split of the Common Stock effective as of May 14, 1996
and (v) assumed borrowings under the New Credit Facility.
<TABLE>
<CAPTION>
JANUARY 31, 1996
---------------------
ACTUAL PRO FORMA
------- ---------
(IN THOUSANDS)
<S> <C> <C>
Short-term debt, including current portion of long-term debt............ $ 2,091 $ --
======= =======
Long-term debt, excluding current portion of long-term debt(1)(2)....... $ 7,101 $ 4,351
------- -------
Stockholders' equity:
Common stock, $0.01 par value, 25,000,000 shares authorized,
14,000,001 shares issued and outstanding; 12,020,844 (pro
forma)(3)(4)....................................................... 140 120
Preferred stock, $0.01 par value, 2,000,000 shares authorized, no
shares issued...................................................... -- --
Additional paid-in capital............................................ 819 87,599
Accumulated deficit................................................... (416) (416)
------- -------
Total stockholders' equity.................................... 543 87,303
------- -------
Total capitalization.......................................... $ 7,644 $91,654
======= =======
</TABLE>
- ---------------
(1) For a description of the New Credit Facility, see "Management's Discussion
and Analysis of Financial Condition and Results of Operations -- Liquidity
and Capital Resources."
(2) Excludes $800,000 of additional long-term debt incurred after January 31,
1996. See "Business -- Suppliers."
(3) Excludes 192,308 shares issuable upon exercise of the Warrant in accordance
with the formula described under "Description of Capital Stock -- Warrant."
Excludes 20,844 shares issuable upon exercise of a portion of the
Convertible Note, the balance of which is assumed to be repaid. Excludes
525,000 shares of Common Stock reserved subsequent to January 31, 1996 for
future issuance under the Company's 1995 Equity Incentive Plan, 1995
Director Stock Option Plan and 1995 Employee Stock Purchase Plan. See
"Management -- Director Compensation" and "-- Employee Stock Plans."
(4) Includes 1,843,708 shares to be issued to sellers of certain stores as part
of the purchase price of the Acquisitions. Such shares are valued for
purposes of the Acquisitions in accordance with the initial public offering
price in this offering. See "Concurrent Transactions."
13
<PAGE> 16
UNAUDITED PRO FORMA COMBINED CONDENSED FINANCIAL STATEMENTS
PRO FORMA COMBINED CONDENSED FINANCIAL STATEMENTS (UNAUDITED)
YEAR ENDED JANUARY 31, 1996
Substantially concurrently with the completion of this offering, the
Company expects to acquire 171 owned and operated video specialty stores, plus
the rights of one acquired company as franchisor of an additional 20 franchised
stores, for aggregate consideration of approximately $83.7 million, consisting
of the following: approximately $52.4 million in cash, approximately $24.0
million in shares of Common Stock (1,843,708 shares valued for this purpose at
the initial public offering price of $13.00 per share), approximately $3.9
million in acquisition costs and approximately $3.4 million in minimum
contingent consideration (of which approximately $2.0 million and $1.4 million
is to be paid in cash and stock, respectively). The Acquisitions will be
accounted for using the purchase method of accounting.
The following unaudited pro forma combined condensed financial statements
reflect (i) the consummation of the Acquisitions, (ii) the completion of this
offering at the purchase price of $13.00 per share and the application of the
estimated net proceeds therefrom and (iii) the borrowing of $4.4 million under
the New Credit Facility and the use of such funds to refinance approximately
$3.1 million of existing indebtedness and pay approximately $1.3 million of the
cash portion of the purchase price for the Acquisitions (collectively, the "Pro
Forma Transactions") in accordance with the "Use of Proceeds" section of this
Prospectus. The unaudited pro forma combined balance sheet at January 31, 1996
gives effect to the Pro Forma Transactions as if each had occurred at that date.
The unaudited pro forma combined statements of operations for the year ended
January 31, 1996 give effect to the Pro Forma Transactions as if each had
occurred at February 1, 1995.
In the opinion of the Company's management, all adjustments necessary to
present fairly such unaudited pro forma combined condensed financial statements
have been made based on the proposed terms and structure of the Pro Forma
Transactions. In the opinion of the Company's management, the purchase prices
have been preliminarily allocated to all significant tangible and intangible
assets in accordance with APB 16 and the final allocation is not expected to
differ materially from the allocation reflected in the unaudited pro forma
combined condensed financial statements. In connection with the preliminary
allocation of purchase prices, no value has been assigned to the various
employment arrangements entered into between the Company and certain prior
owners of the entities to be acquired. Such employment contracts were entered
into with respect only to those prior owners who are to remain in the employment
of the Company. Such contracts serve to identify the future salary arrangements
with previous owners at competitive market rates. In assessing the value of
non-competition arrangements, the Company considered the significant competitive
pressure that now exists in all geographic markets and that the industry is
undergoing a significant consolidation by large operators with more economic
substance which acts as a deterrent to others seeking to enter the market.
Accordingly, the Company does not believe these arrangements possess any
significant value. The Company anticipates, however, that changes in the
composition of the assets to be acquired and the liabilities to be assumed in
connection with the Acquisitions will occur due to changes in the ordinary
course of business of the video specialty stores to be acquired; however, the
terms of the agreements relating to the Acquisitions provide that operations of
these stores are to continue in the ordinary course of business until the date
of their acquisition. Therefore, the Company believes any related change in
adjustments should not be material to the unaudited pro forma combined condensed
financial statements, although there can be no assurance in this regard. See
"Risk Factors -- Acquisition Risks."
The unaudited pro forma combined condensed financial statements do not
purport to represent what the Company's results of operations or financial
position would actually have been had the Pro Forma Transactions occurred on
either of the dates set forth above or to project the Company's results of
operations for any future period.
The unaudited pro forma financial information should be read in connection
with the accompanying notes, and the historical financial statements and notes
thereto of the Company and certain of the Sellers and "Management's Discussion
and Analysis of Financial Condition and Results of Operations" included
elsewhere in this Prospectus.
14
<PAGE> 17
UNAUDITED PRO FORMA COMBINED CONDENSED BALANCE SHEET
JANUARY 31, 1996
(IN THOUSANDS)
<TABLE>
<CAPTION>
CONCURRENT PRO FORMA COMPANY
WEST COAST ACQUISITIONS(1) ADJUSTMENTS PRO FORMA(2)
------------- --------------- ----------- ------------
<S> <C> <C> <C> <C>
ASSETS:
Current assets:
Cash........................................... $ 611 $ 2,600 $ 58,517(3) $
(207)(4)
(56,195)(5)
(1,350)(6) 3,976
Accounts receivable............................ 1,085 512 (51)(4) 1,546
Merchandise inventories........................ 504 3,638 -- 4,142
Prepaid expenses............................... 151 686 (149)(4)
183(5) 871
------- ------- -------- --------
Total current assets..................... 2,351 7,436 748 10,535
Videocassette rental inventory................. 1,509 12,579 (129)(4)
(408)(5) 13,551
Furnishings, equipment and leasehold
improvements, net............................ 1,235 5,900 (545)(4) 6,590
Other assets................................... 4,258 1,232 (2,056)(3)
(101)(4)
(2,056)(5) 1,277
Intangible assets.............................. 6,967 239 68,667(5) 75,873
Deferred tax asset............................. 195 145 (125)(4) 215
------- ------- -------- --------
Total assets............................. $16,515 $27,531 $ 63,995 $108,041
======= ======= ======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY:
Current liabilities:
Current portion of long-term debt.............. $ 2,091 $ 1,959 $ (2,024)(3) $
(1,959)(4)
(67)(5) --
Accounts payable............................... 1,327 7,695 -- 9,022
Accrued expenses and other liabilities......... 4,686 3,507 (1,829)(3)
(1,124)(4)
1,849(5)
(1,350)(6) 5,739
Income taxes................................... 760 723 (591)(4) 892
Advances from stockholders..................... 7 1,067 (1,067)(4) 7
------- ------- -------- --------
Total current liabilities................ 8,871 14,951 (8,162) 15,660
Deferred tax liability......................... -- 486 170(5) 656
Long-term debt................................. 7,101 2,874 (2,477)(3)
(2,874)(4)
(273)(5) 4,351
Other long-term liabilities.................... -- 1,201 (1,130)(4) 71
------- ------- -------- --------
Total liabilities........................ 15,972 19,512 (14,746) 20,738
------- ------- -------- --------
Common stock................................... 140 5,878 (38)(3)
(5,860)(5) 120
Additional paid-in capital..................... 819 1,129 62,829(3)
6,149(4)
16,673(5) 87,599
Treasury stock................................. -- (210) 210(5) --
Loans to stockholders.......................... -- (1,289) 1,289(4) --
Accumulated surplus/(deficit).................. (416) 2,511 (2,511)(5) (416)
------- ------- -------- --------
Total stockholders' equity............... 543 8,019 78,741 87,303
------- ------- -------- --------
Total liabilities and stockholders'
equity................................. $16,515 $27,531 $ 63,995 $108,041
======= ======= ======== ========
</TABLE>
See accompanying Notes to Unaudited Pro Forma Combined Condensed Balance Sheet.
15
<PAGE> 18
NOTES TO UNAUDITED PRO FORMA COMBINED CONDENSED BALANCE SHEET
YEAR ENDED JANUARY 31, 1996
(1) Concurrent acquisitions include the following (in thousands):
<TABLE>
<CAPTION>
VIDEOCASSETTE
CURRENT RENTAL TOTAL CURRENT TOTAL
ASSETS INVENTORY ASSETS LIABILITIES LIABILITIES
------ ------------- ------- ----------- -----------
<S> <C> <C> <C> <C> <C>
PALMER CORPORATION AND SUBSIDIARIES
(UNAUDITED)......................................... $3,732 $ 3,419 $ 9,559 $ 5,391 $ 6,552
------ ------- ------- ------- -------
RED GIRAFFE:
American Video, Inc and Red Giraffe Video, Inc...... 911 2,426 4,548 2,018 3,619
Lancaster Group, Inc................................ 93 143 590 244 602
------ ------- ------- ------- -------
1,004 2,567 5,138 2,262 4,221
------ ------- ------- ------- -------
MASSACHUSETTS FRANCHISEES:
New Age Entertainment, Inc.......................... 162 823 1,650 921 1,330
HB Associates, Inc.................................. 207 391 921 569 609
Best Entertainment, Inc............................. 83 385 524 142 142
Video Innovators, Inc............................... 141 140 568 416 499
------ ------- ------- ------- -------
593 1,739 3,663 2,048 2,580
------ ------- ------- ------- -------
5 OTHER UNAFFILIATED SELLING GROUPS:
A-Z Video Systems, Inc (Unaudited).................. 33 524 976 1,002 1,165
------ ------- ------- ------- -------
Showtime, Inc....................................... 387 766 1,467 774 781
------ ------- ------- ------- -------
Video Giant, Inc.................................... 730 1,210 2,365 315 801
------ ------- ------- ------- -------
VIDEO VIDEO:
Video Video of Parsipany, Inc, Video Video of
Chatham, Inc and Video Video Management
Corporation (Unaudited)........................... 87 198 495 654 702
Video Video of Westfield, Inc (Unaudited)........... 56 119 238 700 700
------ ------- ------- ------- -------
143 317 733 1,354 1,402
------ ------- ------- ------- -------
VIDEOLAND:
Anthony Cocca's Videoland, Inc...................... 387 1,415 2,299 1,306 1,368
Vidko, Inc (Unaudited).............................. 113 137 275 121 121
Kobie-co Movie Outlet............................... 314 483 1,056 378 521
------ ------- ------- ------- -------
814 2,035 3,630 1,805 2,010
------ ------- ------- ------- -------
$7,436 $12,577 $27,531 $ 14,951 $ 19,512
====== ======= ======= ======= =======
</TABLE>
See Index to Consolidated Financial Statements set forth in this Prospectus for
cross-reference to historical financial statements of certain of the Sellers.
(2) See the introductory paragraphs under "Unaudited Pro Forma Combined
Condensed Financial Statements."
16
<PAGE> 19
(3) Reflects the estimated net proceeds received by the Company in connection
with this offering (and the use of a portion thereof) and the effect of the
0.340-for-1 reverse stock split, as follows (in thousands):
<TABLE>
<S> <C> <C>
Gross proceeds from offering............................. $70,200
Less: Estimated total fees and expenses.................. $(7,626)
Fees and expenses paid prior to January 31, 1996... 545
-------
Estimated fees and expenses to be paid from offering
proceeds............................................ (7,081)
Repayment of current portion of long-term debt........... $(2,024)
Repayment of long-term debt.............................. (6,628)
Accrued interest......................................... (301)
-------
Repayment of debt and accrued interest................. (8,953)
Borrowings of long-term debt under the New Credit
Facility............................................ 4,351
-------
Net cash change........................................ $58,517
=======
</TABLE>
At January 31, 1996, (a) Other assets included $2.1 million of the
estimated fees and expenses associated with this offering and (b) Accrued
expenses and other liabilities included $0.3 million of interest and $1.5
million of fees and expenses. The pro forma adjustments reflect elimination
of these items.
These transactions had the following pro forma effect on stockholders'
equity (in thousands):
<TABLE>
<CAPTION>
COMMON ADDITIONAL
STOCK PAID IN CAPITAL
------ ---------------
<S> <C> <C>
Increase due to issuance of shares in the offering... $ 54 $70,146
Increase due to conversion of a portion of the
Convertible Note................................... 217
Decrease due to effect of reverse stock split........ (92) 92
Decrease due to estimated offering expenses.......... (7,626)
------ -------
Net change................................. $(38) $62,829
====== =======
</TABLE>
(4) Reflects the elimination of certain assets and liabilities of certain
Sellers which, in accordance with the various purchase and sale agreements,
will not be acquired by the Company, as follows (in thousands):
<TABLE>
<S> <C> <C>
Cash........................................................... $ 207
Accounts receivable............................................ 51
Prepaid expenses............................................... 149
Videocassette rental inventory................................. 129
Furnishings, equipment and leasehold improvement, net.......... 545
Other assets................................................... 101
Deferred taxes................................................. 125
------
Total assets not acquired................................. $1,307
------
Current portion of long-term debt.............................. $1,959
Accrued expenses and other liabilities......................... 1,124
Income taxes payable........................................... 591
Advances from stockholders..................................... 1,067
Long-term debt................................................. 2,874
Other long-term liabilities.................................... 1,130
------
Total liabilities not acquired............................ $8,745
------
Net liabilities not acquired.............................. $7,438
======
</TABLE>
The increase in additional paid in capital of $6.1 million reflects the
$7.4 million of net liabilities not acquired less the elimination of loans
to stockholders in the amount of $1.3 million.
17
<PAGE> 20
(5) Reflects (i) the estimated allocation of purchase price to be paid in
connection with the Acquisitions based on the estimated fair value of the
assets and liabilities to be acquired, (ii) the elimination of historical
stockholders' equity relating to the entities to be acquired in connection
with the Acquisitions and (iii) the acceleration of amounts due to the
former owner of the WCEI Companies. The purchase price to be paid in
connection with the Acquisitions is approximately $83.7 million, which
consists of: approximately $52.4 million in cash, approximately $24.0
million in Common Stock (1,843,708 shares valued for this purpose at the
initial public offering price of $13.00 per share), approximately $3.9
million in acquisition costs ($0.6 million which had been prepaid and $1.5
million which had been accrued at January 31, 1996) and approximately $3.4
million in minimum contingent consideration. The pro forma effect of these
transactions is as follows (in thousands):
<TABLE>
<S> <C> <C>
Cash portion of purchase price................................. $52,410
Plus: Estimated fees and expenses to be paid from offering
proceeds..................................................... 3,990
Fees and expenses paid prior to January 31, 1996......... (545)
-----
Net fees and expenses to be paid from offering proceeds...... 3,445
Payment of obligations to former owner of WCEI Companies
(Short-term portion)......................................... 67
Payment of obligations to former owner of WCEI Companies
(Long-term portion).......................................... 273
-----
Total payment of obligations to former owner of
WCEI Companies......................................... 340
-------
Net cash change.......................................... $56,195
=======
</TABLE>
At January 31, 1996 Other assets included $2.1 million of the estimated fees
and expenses associated with the Acquisitions, of which $1.5 million was
unpaid at year end. The pro forma adjustment to Accrued expenses and other
liabilities reflects $3.4 million to reflect accrual of minimum contingent
consideration, offset by the elimination of such unpaid fees and expenses.
The estimated allocation of purchase price is as follows (in thousands):
<TABLE>
<CAPTION>
PRO-FORMA
HISTORICAL VALUE FAIR NET
OF NET ASSETS VALUE ASSETS
ACQUIRED ADJUSTMENT ACQUIRED
---------------- ---------- ---------
<S> <C> <C> <C>
Cash....................................... $ 2,393 $ 2,393
Merchandise inventories.................... 3,638 3,638
Accounts receivable........................ 461 461
Prepaid expenses........................... 537 $ 183 720
Videocassette rental inventory............. 12,450 (408) 12,042
Furnishings, equipment and leasehold
improvements, net........................ 5,355 5,355
Other assets............................... 1,131 1,131
Goodwill................................... 239 68,667 68,906
Deferred taxes............................. 20 20
---------------- ---------- ---------
Total................................. $ 26,224 $ 68,442 $94,666
Accounts payable........................... $ 7,695 $ 7,695
Accrued expenses and other liabilities..... 2,383 2,383
Income taxes payable....................... 132 -- 132
Advances from stockholders................. -- -- --
Deferred tax liability..................... 486 $ 170 656
Other long-term liabilities................ 71 71
---------------- ---------- ---------
Total liabilities..................... $ 10,767 $ 170 $10,937
---------------- ---------- ---------
Total...................................... $ 15,457 $ 68,272 $83,729
=========== ======== ========
</TABLE>
18
<PAGE> 21
These transactions had the following effect on stockholders' equity (in
thousands):
<TABLE>
<CAPTION>
ADDITIONAL
COMMON PAID-IN TREASURY RETAINED
STOCK CAPITAL STOCK EARNINGS
------- ---------- -------- --------
<S> <C> <C> <C> <C>
Elimination of historical stockholders'
equity................................... $(5,878) $ (1,129) $210 $ (2,511)
Elimination of historical stockholders'
equity reflected in note (4)............. (6,149)
Shares issued as partial consideration for
Acquisitions............................. 18 23,951
------- ------- ---- -------
Net change in stockholders' equity......... $(5,860) $ 16,673 $210 $ (2,511)
======= ======= ==== =======
</TABLE>
(6) Represents repayment at closing of approximately $1.3 million of accrued
liabilities of one of the Sellers and payment of certain build-out costs
relating to an additional store to be acquired by the Company, pursuant to
certain Acquisition Agreements.
19
<PAGE> 22
UNAUDITED PRO FORMA COMBINED CONDENSED STATEMENTS OF OPERATIONS(1)(2)
YEAR ENDED JANUARY 31, 1996
(IN THOUSANDS)
<TABLE>
<CAPTION>
HISTORICAL(3)
-------------------------------------
WEST RECENT CONCURRENT PRO FORMA COMPANY
COAST ACQUISITION ACQUISITIONS ADJUSTMENTS PRO FORMA
------- ------------ ------------ ----------- ---------
<S> <C> <C> <C> <C> <C>
Revenues:
Rental revenues................................ $ 9,209 $ -- $ 55,872 $ (927) $ 64,154
Franchise fees................................. 3,211 3,260 1,475 (1,595) 6,351
Merchandise and other sales.................... 2,299 502 8,923 (54) 11,670
------- ------ -------- ------- --------
Total revenue.......................... 14,719 3,762 66,270 (2,576)(4) 82,175
Operating costs and expenses:
Store operating costs.......................... 6,234 -- 32,042 (3,164)(5) 35,112
Cost of goods sold............................. 1,384 622 7,786 (2,133)(6) 7,659
Amortization of videocassette and video game
rental inventory............................ 1,972 -- 15,818 (3,100)(7) 14,690
General and administrative..................... 3,659 2,728 8,315 (1,849)(8) 12,853
Intangible amortization........................ 254 -- -- 3,612 (9) 3,866
------- ------ -------- ------- --------
Operating income................................. 1,216 412 2,309 4,058 7,995
Interest expense................................. 640 213 523 (1,018)(10) 358
Other, net....................................... -- -- (743) (62)(11) (805)
------- ------ -------- ------- --------
Income before provision for income taxes......... 576 199 2,529 5,138 8,442
Income taxes..................................... 242 -- 523 3,045 (12) 3,810
------- ------ -------- ------- --------
Net income....................................... $ 334 $ 199 $ 2,006 $ 2,093 $ 4,632
======= ====== ======== ======= ========
Pro forma net income per share................... $ .06(13) -- -- -- $ .38 (14)
======= ========
</TABLE>
See accompanying Notes to the Unaudited Pro Forma Combined Condensed Statement
of Operations
20
<PAGE> 23
NOTES TO UNAUDITED PRO FORMA COMBINED CONDENSED STATEMENTS OF OPERATIONS
JANUARY 31, 1996
(1) Concurrent acquisitions include the following (in thousands):
<TABLE>
<CAPTION>
OPERATING NET
RENTAL OTHER TOTAL INCOME INCOME
REVENUE REVENUE REVENUE (LOSS) (LOSS)
------- ------- ------- --------- ------
<S> <C> <C> <C> <C> <C>
PALMER CORPORATION AND SUBSIDIARIES (Unaudited)............ $17,297 $ 6,067 $23,364 $ (166) $ 233
RED GIRAFFE:
American Video, Inc and Red Giraffe Video, Inc........... 8,557 987 9,544 631 482
Lancaster Group, Inc..................................... 1,239 189 1,428 39 6
------- ------- ------- ------ ------
9,796 1,176 10,972 670 488
------- ------- ------- ------ ------
MASSACHUSETTS FRANCHISEES:
New Age Entertainment, Inc............................... 3,592 405 3,997 12 (43)
HB Associates, Inc....................................... 2,381 374 2,755 29 (5)
Best Entertainment, Inc.................................. 1,327 225 1,552 271 270
Video Innovators, Inc.................................... 774 73 847 69 29
------- ------- ------- ------ ------
8,074 1,077 9,151 381 251
------- ------- ------- ------ ------
5 OTHER UNAFFILIATED SELLING GROUPS:
A-Z Video Systems, Inc (Unaudited)....................... 3,382 178 3,560 213 21
------- ------- ------- ------ ------
Showtime, Inc............................................ 3,475 436 3,911 (56) (63)
------- ------- ------- ------ ------
Video Giant, Inc......................................... 4,906 305 5,211 189 110
------- ------- ------- ------ ------
Video Video:
Video Video of Parsipany, Inc, Video Video of Chatham,
Inc and Video Video Management Corporation
(Unaudited).......................................... 1,078 202 1,280 3 (50)
Video Video of Westfield, Inc (Unaudited).............. 706 140 846 (91) (114)
------- ------- ------- ------ ------
1,784 342 2,126 (88) (164)
------- ------- ------- ------ ------
Videoland:
Anthony Cocca's Videoland, Inc......................... 3,999 484 4,483 532 514
Vidko, Inc (Unaudited)................................. 522 27 549 135 135
Koble-co Movie Outlet.................................. 2,637 306 2,943 499 481
------- ------- ------- ------ ------
7,158 817 7,975 1,166 1,130
------- ------- ------- ------ ------
$55,872 $10,398 $66,270 $ 2,309 $2,006
======= ======= ======= ====== ======
</TABLE>
- ---------------
Included within Other Revenue, which consists primarily of merchandise revenue,
is royalty income of $1,446 relating to Palmer Corporation and its subsidiaries
and $29 relating to American Video, Inc. and Red Giraffe Video, Inc.
See Index to Consolidated Financial Statements set forth in this Prospectus for
cross-reference to historical financial statements of certain of the Sellers.
(2) See the introductory paragraphs under "Unaudited Pro Forma Combined
Condensed Financial Statements."
(3) West Coast includes the historical results of operations of the Company.
Recent Acquisition includes the results of operations of the WCEI
Companies prior to the acquisition thereof by the Company. Concurrent
Acquisitions includes the historical results of operations of the Sellers.
21
<PAGE> 24
<TABLE>
<CAPTION>
PRO FORMA
ADJUSTMENTS
----------------
<S> <C> <C>
(4) Adjustment consists of the following (in thousands):
a. To record the elimination of franchisee fees recorded by the WCEI
Companies received from the Massachusetts Franchisees, as such
amounts will be considered intercompany transactions upon
acquisition.......................................................... $ 474
b. To eliminate rental revenues ($927) and merchandise sales ($54)
included in the historical financial statements of the Sellers
relating to stores not being acquired pursuant to the Concurrent
Acquisitions......................................................... 981
c. To conform the classification used by a Seller for advertising
reimbursements with those used by the Company (see corresponding
adjustments 5(f) and 6(b)). ......................................... 1,121
--------
$ 2,576
========
(5) Adjustment consists of the following (in thousands):
a. To record the elimination of franchisee fees paid by the
Massachusetts Franchisees to the WCEI Companies, as such amounts will
be considered intercompany transactions upon acquisition............. $ 474
b. To record the change in historical compensation, including fringe
benefits related to owners of certain Sellers. (In negotiating the
Acquisitions, employment agreements were entered into in those
specific instances where an owner was to be retained. In all other
situations, the asset purchase agreements specifically exclude
employment reference as such individuals will not be employed by
the Company. The net adjustment includes $988 related to those
owners to be retained, at lower compensation levels, and $364
related to those owners not to be retained.) ........................ 1,353
c. To eliminate store operating costs included in the historical
financial statements of the Sellers relating to stores not acquired
in association with the Concurrent Acquisitions...................... 953
d. To record the reduction in depreciation expense as a result of
depreciating the acquired furnishings, equipment and leasehold
improvements over its estimated remaining useful life................ 1,225
e. To conform the method of accounting for handling fees under a
revenue sharing agreement with the method used by the Company........ 148
f. To conform the classification used by a Seller for fees payable
under a revenue sharing agreement with those used by the Company (see
offsetting adjustment 4(c) and 6(b)). ............................... (989)
--------
$ 3,164
========
(6) Adjustment consists of the following (in thousands):
a. To eliminate the cost of goods sold included in the historical
financial statements of the Sellers relating to merchandise sales of
the stores not acquired in association with the Concurrent
Acquisitions......................................................... $ 23
b. To conform the classification used by a Seller for advertising
reimbursements and fees payable under a revenue sharing agreement
with those used by the Company (see corresponding adjustments 4(c)
and 5(f)). .......................................................... 2,110
--------
$ 2,133
========
</TABLE>
22
<PAGE> 25
<TABLE>
<CAPTION>
PRO FORMA
ADJUSTMENTS
----------------
<S> <C> <C>
(7) Adjustment consists of the following (in thousands):
- To record a decrease in videocassette rental inventory amortization
expense resulting from the allocations of purchase price to
videocassette rental tapes of the acquired entities, based on
current replacement cost for bulk purchases of used tapes, as well
as the assignment of a three year amortizable life which serves to
extend the remaining economic useful lives of videocassette rental
tapes acquired. Replacement cost for bulk purchases of used tapes
is significantly less than the cost of new tape purchases. As a
result, future amortization relating to these tapes, on a per tape
basis, will be significantly less than the amortization relating to
new tape purchases. In addition, to the extent the acquired tapes
have book values lower than newly purchased tapes, sales of the
acquired tapes should result in higher operating income than sales
of new tape purchases. These favorable effects resulting from
purchase accounting will diminish with the passage of time and will
not extend beyond the three year period subsequent to acquisition
which is the period over which these tapes will be amortized. The
Company believes that there will be no changes to future revenue
associated with base stock inventory acquired and therefore there
is no corresponding pro forma adjustment to revenue necessary. The
Company believes that its method of amortization, as well as that
of the entities being acquired, results in an appropriate matching
of tape amortization expense with the revenue received from the
associated rental of such tapes....................................... $ 3,100
======
(8) Adjustment consists of the following (in thousands):
a. To record the change in historical compensation, including fringe
benefits related to owners of certain entities to be acquired. (In
negotiating the Concurrent Acquisitions, employment agreements
were entered into in those specific instances where an owner was
to be retained. In all other situations, the asset purchase
agreements specifically exclude employment reference as such
individuals will not be employed by the Company. The net
adjustment includes $330 related to those owners to be retained at
lower compensation levels and $215 related to those owners not to
be retained.) ....................................................... $ 545
b. To record the elimination of historical compensation and related
fringe benefits totaling $1,047, and lease expense totaling $201.
(The Company believes its existing corporate infrastructure is
sufficient to handle the operations being acquired without
retaining certain general and administrative employees of certain
entities to be acquired. As a result, the Company has entered into
agreements with certain Sellers relating to the termination of
existing employees and the assumption of a lease arrangement by
the former owners upon acquisition.) ................................ 1,248
c. To eliminate general and administrative costs included in the
historical financial statement of the Sellers relating to a business
not acquired in association with the Concurrent Acquisitions......... 56
------
$ 1,849
======
(9) Adjustment consists of the following (in thousands):
a. To record goodwill amortization relating to the excess of the
estimated purchase price, including related acquisition costs, over
the estimated fair value of assets acquired in the Concurrent
Acquisitions (20 years on a straight-line basis)..................... $ 3,422
b. To record the amortization of intangibles, principally franchise
agreements, resulting from the acquisition of the WCEI Companies (15
years on a straight-line basis)...................................... 190
------
$ 3,612
======
</TABLE>
23
<PAGE> 26
<TABLE>
<CAPTION>
PRO FORMA
ADJUSTMENTS
----------------
<S> <C> <C>
(10) Adjustment consists of the following (in thousands):
- To eliminate historical interest expense due to the partial use of
offering proceeds to extinguish outstanding borrowings................ $ 1,376
- To record interest expense related to borrowings under the New
Credit Facility at the lending bank's base rate (8.25% at January 31,
1996)................................................................. (358)
------
$ 1,018
======
(11) Adjustment consists of the following (in thousands):
- To eliminate minority shareholder interest that will be acquired as
part of the Concurrent Acquisitions................................... $ 62
======
(12) Adjustment consists of the following (in thousands):
a. To reflect the estimated effect on the income tax provision as if
the Recent Acquisitions and Concurrent Acquisitions had been taxed as
C corporations. ..................................................... $ 517
b. To reflect the income tax effect on the pro forma adjustments (4)
through (11) above at an effective tax rate of 39%, exclusive of
non-deductible goodwill totaling $1,347. ............................ 2,528
------
$ 3,045
======
(13) Unaudited pro forma net income (loss) per share has been calculated
for the year ended January 31, 1996 by dividing the unaudited pro
forma net income amount by the weighted average number of shares of
common stock outstanding (4,756,000 at January 31, 1996). Unaudited
pro forma net income (loss) reflects an adjustment to the consolidated
statement of operations to give effect to the Merger and the 0.340
reverse stock split as if they had occurred as of February 1, 1992.
Accordingly, the pro forma income tax provision (benefit) and pro
forma net income have been calculated as if each entity included in
the consolidated statement of operations had been included in the
Company's consolidated income tax returns and subject to corporate
income taxation as a C Corporation during all periods presented.
(14) Unaudited pro forma net income per share for the year ended January
31, 1996 has been calculated by dividing unaudited pro forma net
income by the pro forma weighted average number of shares of Common
Stock outstanding after giving effect to (i) the Merger, (ii) the
issuance of shares upon formation of the Company, (iii) the assumed
0.340-for-1 reverse stock split and the shares issued in conjunction
with this offering, (iv) the shares issued in conjunction with the
Acquisitions, (v) repayment of all existing outstanding debt, (vi)
borrowings under the New Credit Facility and (vii) the impact of the
Warrant and a portion of the Convertible Note, as if all activity
occurred as of February 1, 1995. See Notes 1 and 7 to the Company's
consolidated financial statements. The pro forma weighted average
number of common shares used to calculate pro forma net income per
share at January 31, 1996 is 12,322,075.
</TABLE>
24
<PAGE> 27
SELECTED HISTORICAL AND PRO FORMA COMBINED FINANCIAL DATA
The selected historical financial data presented under the captions
Statement of Operations Data for the three years ended January 31, 1996, and
Balance Sheet Data at January 31, 1996 and January 31, 1995 have been derived
from the Company's consolidated financial statements, appearing elsewhere
herein, which were audited by Price Waterhouse LLP. The selected historical
financial data presented under the captions Statement of Operations Data for the
year ended January 31, 1993 and Balance Sheet Data at January 31, 1994 and
January 31, 1993, have been derived from the Company's consolidated statement of
operations and balance sheet, which were audited by Price Waterhouse LLP and not
included in this Prospectus. The selected historical financial data presented
under the captions Statement of Operations Data and Balance Sheet Data at and
for the year ended January 31, 1992 have been derived from the unaudited
financial statements of the Company not included in this Prospectus. The
unaudited pro forma financial data presented under the captions Statement of
Operations Data and Balance Sheet Data at and for the year ended January 31,
1996, have been derived from the unaudited pro forma combined condensed
financial statements, certain of which appear elsewhere herein. The unaudited
pro forma combined financial data do not purport to represent what the Company's
results of operations and financial position would actually have been had the
Acquisitions or this offering actually occurred at the dates indicated, or to
project the Company's results of operations or financial position for any future
period. The Selected Historical and Pro Forma Combined Financial Data set forth
below should be read in conjunction with the financial statements and notes
thereto, "Management's Discussion and Analysis of Financial Condition and
Results of Operations," and "Unaudited Pro Forma Combined Condensed Financial
Statements" included elsewhere in this Prospectus.
<TABLE>
<CAPTION>
HISTORICAL
------------------------------------------------------
PRO FORMA(1)
YEAR ENDED JANUARY 31, -------------
------------------------------------------------------ YEAR ENDED
1992 1993 1994 1995 1996 JAN. 31, 1996
------ ------ ------ ------ ------- -----------
(IN THOUSANDS, EXCEPT STORE AND PER SHARE DATA)
<S> <C> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Revenue................................. $ 921 $1,120 $2,520 $6,503 $14,719 $82,175
Operating costs and expenses............ 995 1,225 2,564 6,118 13,503 74,180
----- ----- ------ ------ ------- -------
Operating income (loss)................. (74) (105) (44) 385 1,216 7,995
Interest expense, net and other......... 26 45 42 118 640 (447)
----- ----- ------ ------ ------- -------
Income (loss) before income taxes....... (100) (150) (86) 267 576 8,442
Income taxes (benefit).................. -- -- (14) 63 242 3,810
----- ----- ------ ------ ------- -------
Net income (loss)....................... $ (100) $ (150) $ (72) $ 204 $ 334 $ 4,632
===== ===== ====== ====== ======= =======
Pro forma net income (loss) per share... $(0.35)(2) $(0.36)(2) $(0.07)(2) $ 0.12(2) $ 0.06(2) $ 0.38(3)
OTHER DATA:
Depreciation and amortization(4)........ $ 512 $ 418 $ 870 $1,628 $ 2,585 $19,726
Purchases of videocassette rental
inventory............................. 232 471 685 1,430 2,002 18,246
STORE DATA:
Increase (decrease) in same store
revenue(5)............................ -- 14.9% (6.1)% 14.2% 4.8% 1.5%
Company-owned stores at end of period... 6 8 14 28 28 197
Franchised stores at end of period...... -- -- -- -- 304 310
----- ----- ------ ------ ------- -------
Total stores at end of period........... 6 8 14 28 332 507
===== ===== ====== ====== ======= =======
</TABLE>
(footnotes on following page)
25
<PAGE> 28
<TABLE>
<CAPTION>
HISTORICAL
------------------------------------------------
PRO FORMA(1)
JANUARY 31, ------------
------------------------------------------------ JANUARY 31,
1992 1993 1994 1995 1996 1996
----- ----- ----- ------ ------- ------------
<S> <C> <C> <C> <C> <C> <C>
(IN THOUSANDS)
BALANCE SHEET DATA:
Cash and cash equivalents.................... $ -- $ 23 $ 12 $ 45 $ 611 $ 3,976
Videocassette rental inventory, net.......... 67 162 388 1,464 1,509 13,551
Total assets................................. 216 360 770 3,631 16,515 108,041
Long-term debt, less current portion......... 328 302 332 738 7,101 4,351
Total liabilities............................ 656 906 1,338 3,266 15,972 20,738
Stockholders' equity......................... (440) (546) (568) 365 543 87,303
</TABLE>
- ---------------
(1) For a discussion of the assumptions and adjustments underlying the unaudited
pro forma combined financial data, see "Unaudited Pro Forma Combined
Condensed Financial Statements."
(2) Unaudited pro forma net income (loss) per share has been calculated for each
of the years in the five year period ended January 31, 1996 by dividing the
respective unaudited pro forma net income amounts by the weighted average
number of shares of common stock outstanding (289,000, 418,000, 843,000,
1,693,000 and 4,756,000, as of January 31, 1992, 1993, 1994, 1995 and 1996,
respectively). Unaudited pro forma net income (loss) reflects an adjustment
to the consolidated statement of operations to give effect to the Merger and
the 0.340 reverse stock split as if they had occurred as of February 1,
1992. Accordingly, the pro forma income tax provision (benefit) and pro
forma net income have been calculated as if each entity included in the
consolidated statement of operations had been included in the Company's
consolidated income tax returns and subject to corporate income taxation as
a C Corporation during all periods presented.
(3) Unaudited pro forma net income per share for the year ended January 31, 1996
has been calculated by dividing unaudited pro forma net income by the
weighted average number of shares of Common Stock outstanding after giving
effect to (i) the Merger, (ii) the issuance of shares upon formation of the
Company, (iii) the 0.340-for-1 reverse stock split and the shares issued in
conjunction with this offering, (iv) the shares issued in conjunction with
the Acquisitions, (v) the repayment of all existing outstanding debt, (vi)
borrowings under the New Credit Facility and (vii) the impact of the
Warrant, as if all activity occurred as of February 1, 1995. See Notes 1 and
7 to the Company's consolidated financial statements. The pro forma weighted
average number of common shares used to calculate pro forma net income per
share at January 31, 1996 is 12,322,075.
(4) The Company's policy is that videocassette rental inventory, which includes
video games, is stated at cost and is amortized over its estimated economic
life with no provision for salvage value. Videocassettes that are considered
base stock are amortized over 36 months on a straight-line basis. New
releases are amortized as follows: the first through third copies of each
title per store are amortized as base stock and succeeding copies of each
title per store are amortized over nine months on a straight-line basis.
(5) Same store revenue is defined as the aggregate revenues from Company-owned
stores open for the entirety of the periods being compared. Increase
(decrease) reflects change from prior fiscal year.
26
<PAGE> 29
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
OVERVIEW
Since 1989, the Company has experienced rapid growth in revenue primarily
as a result of acquiring video specialty store chains, opening new stores and
increasing existing store revenues. The number of stores owned and operated by
the Company increased from one at June 30, 1989 to 28 at January 31, 1996, while
during the same period the number of franchised stores increased from none to
304. Until 1993, all of the Company's stores were located in Ohio. After
acquiring the Videosmith(R) chain in 1994, the Company owned and operated stores
in Ohio and Massachusetts. In 1995, the acquisition of the franchise-related
operating assets of the WCEI Companies provided the Company with 305 franchised
stores located principally in Pennsylvania, New Jersey, Illinois, Maryland,
Massachusetts, Ohio and Florida as well as purchasing, management information
and retail operations systems developed specifically to manage video specialty
stores. Upon consummation of the Acquisitions, the Company will own and operate
199 stores and will be the franchisor of 303 stores. The Acquisitions will
significantly increase the number of stores in Pennsylvania, Ohio, New Jersey
and New York as well as expand the Company's stores to a total of 25 states.
Historically, the Company's revenues have been derived primarily from the
rental of videocassettes and video games (together with sales of previously
viewed videocassettes, "rental revenues"), while lesser amounts have been
derived from payments from franchisees ("franchise fees") and sales of
videocassettes, miscellaneous merchandise and other sales ("merchandise and
other sales"). Acquisitions of franchised stores and stores with differing
levels of merchandise and other sales compared with rental revenues have had,
and may in the future have, an effect on the Company's mix of revenue
components. See "-- Pro Forma Results of Operations." The Company believes that
convenience, selection, customer service, weather and, to a lesser extent, price
are the most significant factors in determining rental volumes. Significant
increases in rental revenues largely depend upon the appeal of new releases
coming from motion picture producers and video game developers. Management plans
and executes various buying, marketing and operating strategies so as to take
maximum advantage of those competitive factors which are under its control. The
Company receives franchise fee payments monthly in arrears from its 303
franchised stores. The franchise fee payment due from each franchisee is equal
to 7% of the aggregate revenues from all of the franchisee's stores for the
prior month, of which 2% of such aggregate revenues has been devoted to paying
marketing and advertising costs. Merchandise and other sales are derived
primarily from new videocassettes sold directly to customers, sales of supplies
to franchisees, video game sales and the sale of confectionery and other
movie-related merchandise.
Store operating expenses generally consist of expenses incurred at the
store level, including amortization of videocassette and video game rental
inventory, personnel expense, lease expense and utility expense and
depreciation. For purposes of this "Management's Discussion and Analysis of
Financial Condition and Results of Operations," videocassette and video game
rental inventory amortization expense has been removed from store operating
expenses and discussed separately. Videocassette and video game rental inventory
amortization expense is a substantial component of total expenses and will vary
depending on the amortization policy adopted. The Company's policy is to state
videocassette rental inventory, which includes video games, at cost and amortize
inventory over its estimated economic life with no provision for salvage value.
Videocassettes that are base stock are amortized over 36 months on a
straight-line basis. New release videocassettes are amortized as follows: the
first through third copies of each title per store are amortized as base stock
and succeeding copies of each title per store are amortized over nine months on
a straight-line basis. The Company believes that its method of amortization, as
well as that of the entities being acquired, results in an appropriate matching
of tape amortization expense with the revenue received from the associated
rental of such tapes.
Cost of sales is a smaller component of total expenses consisting primarily
of costs associated with purchasing videocassettes to be sold directly to
customers, supplies to be sold to franchisees, video games and confectionery
items. General and administrative expenses are non-store level expenses and
include general corporate expenses such as marketing and advertising, personnel,
administration, legal and accounting and amortization expenses. These functions
are primarily performed at the Company's headquarters in Philadelphia,
Pennsylvania.
Intangible assets are primarily comprised of franchise rights and goodwill.
Franchise rights are amortized on a straight-line basis over 15 years, the
estimated remaining economic life of such rights. Goodwill is amortized on a
straight-line basis over 20 years.
27
<PAGE> 30
RESULTS OF OPERATIONS
The following table sets forth for the periods indicated, on a historical
basis and on a pro forma basis, statement of operations data and other data
expressed as a percentage of total revenue and the number of stores open at the
end of each period.
<TABLE>
<CAPTION>
HISTORICAL
------------------------- PRO FORMA
----------------------
YEAR ENDED JANUARY 31,
------------------------- YEAR ENDED JANUARY 31,
1994 1995 1996 1996
----- ----- ----- ----------------------
<S> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Revenues:
Rental revenues............................. 89.2% 86.2% 62.6% 78.1%
Franchise fees.............................. -- -- 21.8 7.7
Merchandise and other sales................. 10.8 13.8 15.6 14.2
----- ----- ----- -----
Total.................................... 100.0 100.0 100.0 100.0
----- ----- ----- -----
Operating costs and expenses:
Store operating expenses(1)................. 51.7 52.7 42.3 42.7
Cost of sales............................... 1.7 5.9 9.4 9.3
Amortization of videocassette and video game
rental inventory(2)...................... 31.1 22.1 13.4 17.9
General and administrative.................. 17.2 13.4 24.9 15.7
Intangible amortization..................... -- -- 1.7 4.7
----- ----- ----- -----
Total.................................... 101.7 94.1 91.7 90.3
----- ----- ----- -----
Operating income (loss)..................... (1.7) 5.9 8.3 9.7
Non-operating (income) expense, net......... 1.7 1.8 4.4 (0.5)
----- ----- ----- -----
Income before income taxes.................. (3.4) 4.1 3.9 10.2
Provision for income taxes.................. (0.5) 1.0 1.6 4.6
----- ----- ----- -----
Net income (loss)........................... (2.9)% 3.1% 2.3% 5.6%
===== ===== ===== =====
OTHER DATA:
Purchases of videocassette rental
inventory................................ 27.2% 22.0% 13.6% 22.2%
STORE DATA:
Increase (decrease) in same store
revenue(3)............................... (6.1)% 14.2% 4.8% 1.5%
Company-owned stores open at end of
period................................... 14 28 28 197
Franchised stores open at end of period..... -- -- 304 310
----- ----- ----- -----
Total stores open at end of period.......... 14 28 332 507
===== ===== ===== =====
</TABLE>
- ---------------
(1) Exclusive of amortization of videocassette and video game rental inventory.
(2) The Company's tape amortization policy requires that videocassette rental
inventory, which includes video games, is stated at cost and is amortized
over its estimated economic life with no provision for salvage value.
Videocassettes that are considered base stock are amortized over 36 months
on a straight-line basis. New releases are amortized as follows: the first
through third copies of each title per store are amortized as base stock and
succeeding copies of each title per store are amortized over nine months on
a straight-line basis.
(3) Same store revenue is defined as the aggregate revenues from Company-owned
stores open for the entirety of the periods being compared. Increase
(decrease) reflects change from prior fiscal year.
PRO FORMA RESULTS OF OPERATIONS
Pro forma results of operations are not necessarily indicative of what the
Company's results of operations would have been had the Company actually made
the Acquisitions reflected in the Pro Forma Statement of Operations Data on the
dates indicated, nor do they purport to project future results of operations.
Any significant acquisitions in future periods could impact the future mix of
rental revenues, franchise fees and merchandise and other sales and (because
each such component of revenues involves different types of
28
<PAGE> 31
expenses) the future mix of expenses and the Company's operating margins. See
"Risk Factors -- Acquisition Risks."
Revenues. Rental revenues represented 78.1% of pro forma total revenues as
compared with 62.6% of historical total revenues for the same period.
Merchandise and other sales represented 14.2% of total revenues on a pro forma
basis as compared with 15.6% on a historical basis and franchise fees
represented 7.7% of total revenues on a pro forma basis as compared with 21.8%
on a historical basis. These differences reflect the fact that the primary
revenue source for the companies being acquired is rental revenue. The Company
believes that future acquisitions, if any, of owned and operated stores
(particularly acquisitions of existing West Coast Video(R) franchised stores)
should increase rental revenues as a percentage of total revenues.
Store Operating Expenses. Store operating expenses represented 42.7% of
pro forma total revenues as compared with 42.3% of historical total revenues for
the same period. In the future, a change in the mix of the number of
Company-owned and franchised stores should result in a change in store operating
expenses as a percentage of total revenues, since franchising operations involve
no store operating expenses.
Amortization of Videocassette and Video Game Rental Inventory.
Amortization of videocassette and video game inventory was 17.9% of total
pro forma revenues, compared to 13.4% of historical total revenues for the
same period, because the rental of purchased stocks of videocassettes and video
games constitutes a larger component of the Company 's business on a pro forma
basis than on an historical basis. Pro forma and historical amortization of
videocassette and video game rental inventory as a percentage of rental revenue
were approximately the same.
General and Administrative Expenses. General and administrative expenses
were 15.7% of pro forma total revenues, as compared with 24.9% of total
historical revenues during the same period. This difference was due primarily to
a consolidation of the administrative function on a pro forma basis so that the
incremental increase in revenues was greater than the incremental increase in
general and administrative costs. The Company believes that its current general
and administrative infrastructure can support additional acquisitions without
major augmentation which should result in improving general and administrative
expense margins.
Net Income. Net income was 5.6% of revenues on a pro forma basis, as
compared with 2.3% for the Company historically during the same period. This
difference was due primarily to the expected economies of scale on a pro forma
basis compared to the Company's current operations.
HISTORICAL RESULTS OF OPERATIONS FOR THE COMPANY
The Company's revenues constituted 17.9% of pro forma combined total
revenues for the fiscal year ended January 31, 1996.
YEAR ENDED JANUARY 31, 1996 COMPARED TO YEAR ENDED JANUARY 31, 1995
Revenues. Revenues increased $8.2 million, or 126.2%, from $6.5 million
for the year ended January 31, 1995 to $14.7 million for the year ended January
31, 1996. Of this increase, approximately $4.2 million was contributed by the 14
Boston-based Videosmith(R) stores, which were acquired by the Company on August
5, 1994 and were therefore included in the Company's accounts for all 12 months
of the fiscal year ended January 31, 1996 but less than six months of the fiscal
year ended January 31, 1995. An additional $3.2 million of franchise fees and
$0.7 million of associated product sales was contributed by the Company's
franchise-related operations following the acquisition on July 12, 1995 of the
operating assets of the WCEI Companies relating to the West Coast Video(R)
franchise system (hereinafter, the "franchise business"). A video game store
acquired from the WCEI Companies contributed an additional $0.3 million of
merchandise and other sales. Revenues from the Company's other video stores
decreased $0.2 million reflecting the closing of one store, a delay in opening
another store and changes in sources of supply.
Rental revenues increased $3.6 million, or 64.3%, from $5.6 million for the
year ended January 31, 1995 to $9.2 million for the year ended January 31, 1996,
due primarily to having 12 months of revenues, as compared to less than six
months of revenues, from the Videosmith(R) stores and also to an increase of
$0.2 million in revenues from the Company's stores. Increases occurred primarily
in Videosmith(R) stores, principally as a result of continuing growth in two
stores, the elimination of a closely situated competitor from
29
<PAGE> 32
one market and a change of management personnel early in 1995 in a third store.
During the last six and one half months of the year ended January 31, 1996, as a
result of the acquisition of the franchise business, franchise fees became, for
the first time, a source of revenue for the Company and generated 21.8% of total
revenues for the entire period. Merchandise and other sales increased $1.4
million, or 156.3%, from $0.9 million for the year ended January 31, 1995 to
$2.3 million for the year ended January 31, 1996. In the six and one half months
following the Company's acquisition of the franchise business, sales of supplies
to franchisees amounted to $0.7 million and retail sales at the video game store
acquired from the WCEI Companies amounted to an additional $0.3 million.
Merchandise and other sales also grew faster than rental revenues during the
period because the Company owned the Videosmith(R) stores for all 12 months of
the year (compared to less than six months of the prior year) and merchandise
and other sales accounted for a larger percentage of total revenues for the
Videosmith(R) stores (14.7%) than for the Company's other video specialty stores
(6.3%) due to Videosmith(R)'s historical emphasis on merchandise and other sales
in comparison with most other chains in the industry.
Store Operating Expenses. Store operating expenses net of amortization of
videocassette rental inventory increased $2.8 million, or 81.7%, from $3.4
million for the fiscal year ended January 31, 1995 to $6.2 million for the
fiscal year ended January 31, 1996, reflecting 12 months of operations for the
Videosmith(R) stores and the acquisition of the video game store for six and one
half months. As a percentage of total revenues, store operating expenses
decreased 10.4 percentage points from 52.7% for the fiscal year ended January
31, 1995 to 42.3% for the fiscal year ended January 31, 1996. This decrease was
primarily an effect of the acquisition of the franchise business, which
contributed $3.9 million of revenues during the period but involved no store
operating expenses. As a percentage of rental revenues and merchandise and other
sales (excluding franchise fees), store operating costs increased 1.5 percentage
points, from 52.7% for the year ended January 31, 1995 to 54.2% for the year
ended January 31, 1996, due primarily to higher occupancy and payroll costs per
store in metropolitan Boston as compared to Ohio.
Cost of Sales. Cost of sales increased $1.0 million, or 262.3%, from $0.4
million for the year ended January 31, 1995 to $1.4 million for the year ended
January 31, 1996, primarily as a result of the acquisition of the franchise
business (which accounted for $0.8 million of the increase) and the expansion of
the Company's product sales resulting from the Videosmith(R) acquisition (which
accounted for $0.1 million of the increase). As a percentage of total revenues,
cost of sales increased by 3.5 percentage points, from 5.9% for the year ended
January 31, 1995 to 9.4% for the year ended January 31, 1996, due primarily to a
change in the mix of total revenues in favor of merchandise and other sales and
the acquisition of the franchise business. The franchise business had
merchandise and other sales that were 24.0% of its total revenues, which is
higher than the comparable percentage for the Company historically. As a
percentage of merchandise and other sales, cost of sales increased by 17.6
percentage points, from 42.6% for the year ended January 31, 1995 to 60.2% for
the year ended January 31, 1996, primarily because sales to franchisees (which
represent 69.0% of the total merchandise and other sales of the franchise
business) are made at substantially lower margins.
Amortization of Videocassette and Video Game Rental Inventory.
Amortization of videocassette and video game rental inventory increased
$0.6 million, or 37.3%, from $1.4 million for the fiscal year ended January 31,
1995 to $2.0 million for the fiscal year ended January 31, 1996, due to
the expansion of the Company's rental business through the Videosmith(R)
acquisition which occurred on August 5, 1994. As a percentage of total revenues,
amortization of videocassette and video game rental inventory decreased 8.7
percentage points from 22.1% for the fiscal year ended January 31, 1995 to 13.4%
for the fiscal year ended January 31, 1996 primarily as a result of a change in
the mix of total revenues in favor of franchise fees and merchandise and other
sales. As a percentage of rental revenues, amortization of videocassette and
video game rental inventory decreased 4.2 percentage points from 25.6% for the
year ended January 31, 1995 to 21.4% for the year ended January 31, 1996, due
primarily to the difference in the ratio of videocassette purchases to rental
revenues between the Videosmith(R) stores (a ratio of approximately 18%) and the
Company's other stores (a ratio of approximately 27%), which reflects the
greater than industry-average demand for the rental of film classics and other
catalog titles, as compared to new releases and video games, at Videosmith(R)
stores.
General and Administrative Expenses. General and administrative expenses,
including intangible amortization, increased $3.1 million, or 349.8%, from $0.9
million for the fiscal year ended January 31, 1995 to
30
<PAGE> 33
$4.0 million for the fiscal year ended January 31, 1996, reflecting increased
head count and non-store operating costs acquired from the WCEI Companies of
$2.8 million and approximately $0.4 million of general and administrative
expenses attributable to including 12 months (rather than less than six months),
of Videosmith(R) operations. As a percentage of total revenues, general and
administrative expenses increased 13.2 percentage points from 13.4% for the
fiscal year ended January 31, 1995 to 26.6% for the fiscal year ended January
31, 1996, primarily as a result of the acquisition of the franchise business,
whose general and administrative expenses equalled 65.8% of its total revenues
because the principal cost of this business is the administrative cost of
providing support services to franchisees.
Non-Operating Expense, Net. Non-operating expense, net, increased $0.5
million, or 442.4%, from $0.1 million for the fiscal year ended January 31, 1995
to $0.6 million for the fiscal year ended January 31, 1996. As a percentage of
total revenues, non-operating expense, net, increased 2.6 percentage points from
1.8% for the fiscal year ended January 31, 1995 to 4.4% for the fiscal year
ended January 31, 1996 due to approximately $0.5 million of additional interest
expense incurred in connection with the Videosmith(R) acquisition and the
acquisition of the franchise business from the WCEI Companies.
Net Income. As a result of the foregoing, particularly the acquisition of
the franchise business and the inclusion of 12 months of Videosmith(R)
operations, net income increased $0.1 million, from $0.2 million for the year
ended January 31, 1995 to $0.3 million for the year ended January 31, 1996.
YEAR ENDED JANUARY 31, 1995 COMPARED TO YEAR ENDED JANUARY 31, 1994
Revenues. Revenues increased $4.0 million, or 158.1%, from $2.5 million
for the year ended January 31, 1994 to $6.5 million for the year ended January
31, 1995. Of this increase, approximately $3.8 million was a result of the
Company's acquisition of the 14 Videosmith(R) stores on August 5, 1994. The
remaining $0.2 million is attributable to revenue increases at the Company's
Nostalgia Ventures stores.
Rental revenues accounted for 86.2%, and merchandise and other sales
accounted for 13.8%, of total revenues for the year ended January 31, 1995,
compared with 89.2% and 10.8%, respectively, for the year ended January 31,
1994. The Company had no franchise fee revenues during either year. Merchandise
and other sales increased faster than rental revenues because the Videosmith(R)
stores had a higher ratio of merchandise and other sales to rental revenues than
the Company's other stores due to Videosmith(R)'s historical emphasis on
merchandise and other sales in comparison with most other chains in the
industry.
Store Operating Expenses. Store operating expenses increased $2.1 million,
or 163.4%, from $1.3 million in the year ended January 31, 1994 to $3.4 million
in the year ended January 31, 1995, reflecting the inclusion of the store
operating expenses of the 14 Videosmith(R) stores for six months in the year
ended January 31, 1995 (as compared to no portion of the year ended January 31,
1994). As a percentage of total revenues, store operating expenses increased 1.0
percentage point from 51.7% in the year ended January 31, 1994 to 52.7% in the
year ended January 31, 1995. This increase was primarily the result of higher
occupancy and payroll costs per store in metropolitan Boston as compared with
Ohio.
Cost of Sales. Cost of sales increased $0.4 million, or 768.2%, from $0.04
million for the year ended January 31, 1994 to $0.4 million for the year ended
January 31, 1995, reflecting the sales activities of the Videosmith(R) stores.
As a percentage of total revenues, cost of sales increased by 4.2 percentage
points, from 1.7% for the year ended January 31, 1994 to 5.9% for the year ended
January 31, 1995, due primarily to a change in the mix of total revenues in
favor of merchandise and other sales in accordance with Videosmith(R)'s
historical emphasis on such sales. As a percentage of merchandise and other
sales, cost of sales increased by 26.4 percentage points, from 16.2% for the
year ended January 31, 1994 to 42.6% for the year ended January 31, 1995, due
primarily to differences in product mix between the Videosmith(R) stores and the
Company's other stores.
Amortization of Videocassette and Video Game Rental Inventory.
Amortization of videocassette and video game rental inventory increased
$0.6 million, or 83.2%, from $0.8 million in the year ended January 31,
1994 to $1.4 million in the year ended January 31, 1995, reflecting the rental
activities of the Videosmith(R) stores that were acquired in August 1994.
As a percentage of total revenues, amortization of videocassette and video game
rental inventory decreased 9.0 percentage points from 31.1% in the year ended
January 31, 1994 to 22.1% in the year ended January 31, 1995, and as a
percentage of rental revenues, amortization of
31
<PAGE> 34
videocassette and video game rental inventory decreased 9.3 percentage points,
from 34.9% for the year ended January 31, 1994 to 25.6% for the year ended
January 31, 1995. These decreases were primarily due to the lower ratio of
videocassette purchases to videocassette rental revenue between the
Videosmith(R) stores during such period (a ratio of approximately 15%) and the
Company's other stores (a ratio of approximately 35%), which reflects the
greater than industry-average demand for the rental of film classics and other
catalog titles, as compared to new releases and video games, at Videosmith(R)
stores.
General and Administrative Expenses. General and administrative expenses
increased $0.5 million, or 101%, from $0.4 million in the year ended January 31,
1994 to $0.9 million in the year ended January 31, 1995. As percentage of total
revenues, general and administrative expenses decreased 3.8 percentage points
from 17.2% of revenues in the year ended January 31, 1994 to 13.4% in the year
ended January 31, 1995, primarily as a result of reduced legal expenses. The
Videosmith(R) stores had general and administrative expenses of 13.8% of
revenues in the year ended January 31, 1995.
Non-Operating Expense, Net. Non-operating expense, net, increased $0.06
million from $0.04 million in the fiscal year ended January 31, 1994 to $0.1
million in the fiscal year ended January 31, 1995. As a percentage of total
revenues, non-operating expense, net, increased 0.1 percentage points from 1.7%
of revenues during the year ended January 31, 1994 to 1.8% during the year ended
January 31, 1995 as a result of the additional interest expense incurred in
connection with the Videosmith(R) acquisition.
Net Income. As a result of the foregoing, particularly the Videosmith(R)
acquisition, net income increased $0.3 million, or 300.0%, from a loss of $0.1
million in the year ended January 31, 1994 to a profit of $0.2 million in the
year ended January 31, 1995.
HISTORICAL RESULTS OF OPERATIONS FOR PALMER VIDEO
Palmer Video's revenues constituted 27.1% of pro forma combined total
revenues for the fiscal year ended January 31, 1996.
NINE MONTHS ENDED DECEMBER 31, 1995 COMPARED TO NINE MONTHS ENDED DECEMBER 31,
1994
Revenues. Revenues increased $0.9 million, or 5.5%, from $16.5 million for
the nine months ended December 31, 1994 to $17.4 million for the nine months
ended December 31, 1995, primarily due to an increase in total stores between
the two periods. Rental revenue increased $0.9 million, or 7.5%, from $12.0
million for the nine months ended December 31, 1994 to $12.9 million for the
nine months ended December 31, 1995. This increase was primarily due to an
increase in same store rental revenue ($0.5 million) and an increase in store
count ($0.4 million). Merchandise sales decreased $0.2 million, or 5.6%, from
$3.6 million for the nine months ended December 31, 1994 to $3.4 million for the
nine months ended December 31, 1995. This decrease resulted from a decrease in
wholesale sales to franchisees of $0.4 million partially offset by an increase
in retail sales of $0.2 million. Royalty and other revenue (which consists
primarily of franchise royalties and advertising revenue derived from
publication of a monthly magazine) increased $0.1 million, or 11.1%, from $0.9
million for the nine months ended December 31, 1994 to $1.0 million for the nine
months ended December 31, 1995, primarily due to an increase in advertising
revenues.
Store Operating Expenses. Store operating expenses increased $0.8 million,
or 10.3%, from $7.8 million for the nine months ended December 31, 1994 to $8.6
million for the nine months ended December 31, 1995. As a percentage of total
revenues, store operating expenses increased 2.1 percentage points from 47.3%
for the nine months ended December 31, 1994 to 49.4% for the nine months ended
December 31, 1995. This increase was primarily due to payroll, advertising,
supply and other costs associated with the opening of five stores which are
expensed in the period incurred.
Cost of Sales. Cost of sales increased $0.8 million, or 28.6%, from $2.8
million for the nine months ended December 31, 1994 to $3.6 million for the nine
months ended December 31, 1995. As a percentage of total revenues, cost of sales
increased 3.7 percentage points from 17.0% for the nine months ended December
31, 1994 to 20.7% for the nine months ended December 31, 1995. This increase was
primarily due to an
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increase in revenue-sharing videocassette leasing fees, which are included in
cost of sales rather than in purchases of videocassettes or the amortization of
such purchases.
Amortization of Videocassette and Video Game Rental Inventory.
Amortization of videocassette and video game rental inventory decreased
$0.5 million, or 15.6%, from $3.2 million for the nine months ended
December 31, 1994 to $2.7 million for the nine months ended December 31, 1995.
As a percentage of total revenues, amortization of videocassette and video game
rental inventory decreased 3.9 percentage points from 19.4% for the nine months
ended December 31, 1994 to 15.5% for the nine months ended December 31, 1995.
This decrease in total amortization expense was primarily a result of increased
revenue-sharing videocassette leasing fees (which increased cost of sales), and
a decrease in videocassettes purchased.
General and Administrative Expenses. General and administrative expenses
increased $0.1 million, or 4.3%, from $2.3 million for the nine months ended
December 31, 1994 to $2.4 million for the nine months ended December 31, 1995.
As a percentage of total revenues, general and administrative expenses decreased
0.1 percentage points from 13.9% for the nine months ended December 31, 1994 to
13.8% for the nine months ended December 31, 1995. This decrease in percent was
primarily due to holding general and administrative employees' head count
constant while revenues increased.
Non-Operating Income, Net. Non-operating income, net, increased $1.0
million, from a loss of $0.2 million for the nine months ended December 31, 1994
to $0.8 million for the nine months ended December 31, 1995. This increase was
primarily due to a settlement of bank debt of $0.8 million and a decrease in
interest expense of $0.1 million.
Net Income. As a result of the foregoing, net income increased $0.4
million, from $0.0 million for the nine months ended December 31, 1994 to $0.4
million for the nine months ended December 31, 1995.
YEAR ENDED MARCH 31, 1995 COMPARED TO YEAR ENDED MARCH 31, 1994
Revenues. Revenues increased $0.3 million, or 1.4%, from $22.2 million for
the year ended March 31, 1994 to $22.5 million for the year ended March 31,
1995. This increase was primarily due to an increase in merchandise sales and
royalty revenue offset by a decrease in rental revenue. Rental revenue decreased
$0.4 million, or 2.4%, from $16.7 million for the year ended March 31, 1994 to
$16.3 million for the year ended March 31, 1995, reflecting a decrease in
revenues per store. Merchandise sales increased $0.5 million, or 11.6%, from
$4.3 million for the year ended March 31, 1994 to $4.8 million for the year
ended March 31, 1995. This increase was primarily due to an increase in retail
sales of $0.3 million and an increase in wholesale sales of $0.2 million.
Royalty and other revenue increased $0.2 million, or 16.7%, from $1.2 million
for the year ended March 31, 1994 to $1.4 million for the year ended March 31,
1995. This increase consisted primarily of a $0.1 million increase in royalty
revenue due to the receipt of past due royalties from franchisees.
Store Operating Expenses. Store operating expenses increased $0.3 million,
or 2.9%, from $10.4 million for the year ended March 31, 1994 to $10.7 million
for the year ended March 31, 1995. As a percentage of total revenues, store
operating expenses increased 0.8 percentage points from 46.8% for the year ended
March 31, 1994 to 47.6% for the year ended March 31, 1995. This increase was
primarily due to store closings and new store start-up and operating expenses of
new stores.
Cost of Sales. Cost of sales decreased $0.4 million, or 8.7% from $4.6
million for the year ended March 31, 1994 to $4.2 million for the year ended
March 31, 1995. As a percentage of total revenues, cost of sales decreased 2.0
percentage points from 20.7% for the year ended March 31, 1994 to 18.7% for the
year ended March 31, 1995. This decrease was primarily due to a decrease in
revenue-sharing videocassette leasing fees which are included in cost of sales.
Amortization of Videocassette and Video Game Rental Inventory.
Amortization of videocassette and video game rental inventory decreased
$0.3 million, or 6.8%, from $4.4 million for the year ended March 31, 1994
to $4.1 million for the year ended March 31, 1995. As a percentage of total
revenues, amortization of videocassette and video game rental inventory
decreased 1.6 percentage points from 19.8% for the year ended March 31, 1994 to
18.2% for the year ended March 31, 1995. This decrease in total amortization
expense was primarily the result in a decrease in videocassettes purchased.
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General and Administrative Expenses. General and administrative expenses
decreased $0.4 million, or 10.8%, from $3.7 million for the year ended March 31,
1994 to $3.3 million for the year ended March 31, 1995. As a percentage of total
revenues, general and administrative expenses decreased 2.0 percentage points
from 16.7% for the year ended March 31, 1994 to 14.7% for the year ended March
31, 1995. This decrease was primarily due to a reduction in salaries, insurance
premiums and bad debt expenses and generally greater cost efficiencies.
Non-Operating Expense, Net. Non-operating expense, net, remained
relatively constant at $0.2 million for the year ended March 31, 1994 and for
the year ended March 31, 1995.
Net Income. As a result of the foregoing, net loss decreased $0.5 million,
from a loss of $0.8 million for the year ended March 31, 1994 to a loss of $0.3
million for the year ended March 31, 1995.
YEAR ENDED MARCH 31, 1994 COMPARED TO YEAR ENDED MARCH 31, 1993
Revenues. Revenues increased $1.6 million, or 7.8%, from $20.6 million for
the year ended March 31, 1993 to $22.2 million for the year ended March 31,
1994. This increase was primarily attributable to a net increase in total stores
between the two periods. Rental revenue increased $0.9 million, or 5.7%, from
$15.8 million for the year ended March 31, 1993 to $16.7 million for year ended
March 31, 1994. This increase was primarily due to the increase in number of
stores and an increase in number of copies of new release tapes leased during
this period. Merchandise sales increased $1.3 million, or 43.3%, from $3.0
million for the year ended March 31, 1993 to $4.3 million for the year ended
March 31, 1994. This increase was primarily due to management's decision to
increase inventory and space devoted to movies for sale. Royalty and other
revenue decreased $0.6 million, or 33.3%, from $1.8 million for the year ended
March 31, 1993 to $1.2 million for the year ended March 31, 1994. This decrease
was primarily caused by a decrease in royalty income of $0.3 million, due to a
decrease in the number of franchised stores during the period, and a decrease in
advertising income of $0.2 million.
Store Operating Expenses. Store operating expenses increased $1.2 million,
or 13.0%, from $9.2 million for the year ended March 31, 1993 to $10.4 million
for the year ended March 31, 1994. As a percentage of total revenues, store
operating expenses increased 2.1 percentage points from 44.7% for the year ended
March 31, 1993 to 46.8% for the year ended March 31, 1994. This increase was
primarily due to an increase in operating expenses relating to the start-up
costs of new stores, as well as related increases in operating expenses for such
stores.
Cost of Sales. Cost of sales increased $2.7 million, or 142.1%, from $1.9
million for the year ended March 31, 1993 to $4.6 million for the year ended
March 31, 1994. As a percentage of total revenues, cost of sales increased 11.5
percentage points from 9.2% for the year ended March 31, 1993 to 20.7% for the
year ended March 31, 1994. The increase was primarily due to an increase in
revenue-sharing videocassette leasing fees which are included in cost of sales.
Cost of sales also increased due to increased product sales, as noted above.
Amortization of Videocassette and Video Game Rental Inventory.
Amortization of videocassette and video game rental inventory decreased $0.9
million, or 17.0%, from $5.3 million for the year ended March 31, 1993 to $4.4
million for the year ended March 31, 1994. As a percentage of total revenues,
amortization of videocassette and video game rental inventory decreased 5.9
percentage points from 25.7% for the year ended March 31, 1993 to 19.8% for the
year ended March 31, 1994, primarily as a result of an increase in the use of
revenue-sharing videocassette leasing and a decrease in videocassettes
purchased.
General and Administrative Expenses. General and administrative expenses
increased $0.1 million, or 2.8%, from $3.6 million for the year ended March 31,
1993 to $3.7 million for the year ended March 31, 1994, primarily due to
increases in administrative salaries. As a percentage of total revenues, general
and administrative expenses decreased 0.8 percentage points from 17.5% for the
year ended March 31, 1993 to 16.7% for the year ended March 31, 1994. This
decrease was primarily due to the opening of additional stores while holding
general and administrative expenses relatively constant.
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Non-Operating Expense, Net. Non-operating expense, net, remained
relatively constant at $0.2 million for the year ended March 31, 1993 and for
the year ended March 31, 1994.
Net Income. As a result of the foregoing, net income decreased $0.9
million from net income of $0.1 million for the year ended March 31, 1993 to a
net loss of $0.8 million for the year ended March 31, 1994.
HISTORICAL RESULTS OF OPERATIONS FOR RED GIRAFFE
The consolidated pro forma revenues of American Video, Inc. and Red Giraffe
Video, Inc. (as used in this section, "Red Giraffe") constituted 11.2% of pro
forma combined total revenues for the year ended January 31, 1996.
YEAR ENDED JANUARY 3, 1996 COMPARED TO YEAR ENDED DECEMBER 28, 1994
Revenues. Rental and product sale revenues increased $0.9 million and $0.3
million, respectively, or 11.7% and 55.6%, respectively, from $7.7 million and
$0.6 million, respectively, for the year ended December 28, 1994 to $8.6 million
and $0.9 million, respectively, for the year ended January 3, 1996. The increase
in rental revenues for the year ended January 3, 1996 is attributable to the
opening of five new stores, one each in October 1994 and February, September,
November and December 1995. The increase in product sales resulted from the
opening of such five new stores as well as from the continuing increased
emphasis on such sales by management. The decrease in rental revenues from 93%
of total revenues for the year ended December 28, 1994 to 90% for the year ended
January 3, 1996 resulted from the continuing initiative undertaken by management
to increase product sale revenues which caused product sale revenues to increase
more than rental revenues.
Store Operating Expenses. Store operating expenses increased $0.8 million,
or 18.3%, from $4.5 million for the year ended December 28, 1994 to $5.3 million
for the year ended January 3, 1996, due primarily to an increased participation
in a revenue-sharing videocassette leasing program during 1995. As a percentage
of total revenues, store operating expenses increased 1.4 percentage points from
53.9% for the year ended December 28, 1994 to 55.3% for the year ended January
3, 1996. Excluding the effect of participation in a revenue-sharing
videocassette leasing program, store operating costs would have declined as a
percentage of revenues from 53.6% in the fiscal year ended December 28, 1994 to
52.7% in the fiscal year ended January 3, 1996.
Cost of Sales. Cost of sales increased $0.1 million, or 61.8%, from $0.3
million for the year ended December 28, 1994 to $0.4 million for the year ended
January 3, 1996. As a percentage of product revenues, cost of sales increased
1.7 percentage points from 43.4% for the year ended December 28, 1994 to 45.1%
for the year ended January 3, 1996. The increase in the percentage resulted
principally from price reductions put in place by management in connection with
the increased emphasis on such sales as previously discussed.
Amortization of Videocassette and Video Game Rental Inventory.
Amortization of videocassette and video game rental inventory increased $0.2
million, or 8.3%, from $2.2 million for the year ended December 28, 1994 to $2.4
million for the year ended January 31, 1996, primarily due to the addition of
four new stores in 1995. As a percentage of total revenues, amortization of
videocassette and video game rental inventory declined 1.6 percentage points
from 26.6% for the year ended December 28, 1994 to 25.0% for the year ended
January 3, 1996, primarily due to increased revenues, along with an increased
percentage of base stock amortization created by new store development.
General and Administrative Expenses. General and administrative expenses
increased $0.2 million, or 25.7%, from $0.6 million for the year ended December
28, 1994 to $0.8 million for the year ended January 3, 1996. As a percentage of
total revenues, general and administrative expenses increased 0.7 percentage
points, from 7.9% for the year ended December 28, 1994 to 8.6% for the year
ended January 3, 1996. This was due primarily to approximately $100,000 of
nonrecurring legal and accounting costs associated with the proposed sale of the
Company's assets to West Coast and a previously considered acquisition. If these
nonrecurring costs had not been incurred, general and administrative expenses
would have decreased as a percentage of revenues.
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Non-Operating Expense, Net. Non-operating expense, net, remained constant
from the year ended December 28, 1994 to the year ended January 3, 1996.
Net Income. As a result of the foregoing, net income decreased $0.1
million, or 15%, from $0.6 million for the year ended December 28, 1994 to $0.5
million for the year ended January 3, 1996.
YEAR ENDED DECEMBER 28, 1994 COMPARED TO YEAR ENDED DECEMBER 29, 1993
Revenues. Rental and product sale revenues increased $0.7 million and $0.2
million, respectively, or 9.5% and 38.5%, respectively, from $7.0 million and
$0.4 million, respectively, for the year ended December 29, 1993 to $7.7 million
and $0.6 million, respectively, for the year ended December 28, 1994. The
increase in rental revenues was primarily attributable to an increase in the
average number of stores being operated by the Company and a 1.1% increase in
same store volume. The increase in product sales principally related to the
increase in the average number of stores in operation as previously discussed,
coupled with the increased emphasis on such sales by management. The decrease in
rental revenues from 94.0% of total revenues for the year ended December 29,
1993 to 92.6% for the year ended December 28, 1994 resulted from the initiative
implemented by management to increase the level of product sales.
Store Operating Expenses. Store operating expenses increased $0.3 million,
or 6.9%, from $4.2 million for the year ended December 29, 1993 to $4.5 million
for the year ended December 28, 1994. As a percentage of revenues, store
operating expenses decreased 2.2 percentage points from 56.1% for the year ended
December 29, 1993 to 53.9% for the year ended December 28, 1994. This was due
primarily to increased efficiencies from higher store volumes and a decreased
participation in a revenue-sharing videocassette leasing program as compared to
1993.
Cost of Sales. Cost of sales increased slightly in total dollars for the
year ended December 29, 1993 when compared to the year ended December 28, 1994
and increased as a percentage of total revenues from 2.9% for the fiscal year
ended December 29, 1993 to 3.2% for the fiscal year ended December 28, 1994. As
a percentage of total product sale revenues, cost of sales decreased 5.2
percentage points from 48.6% for the year ended December 29, 1993 to 43.4% for
the year ended December 28, 1994. This decrease was primarily the result of a
shift in sales mix, particularly an increased emphasis on previously viewed
movies and concessions from the fiscal year ended December 29, 1993 to the
fiscal year ended December 28, 1994 causing a corresponding shift in costs.
Amortization of Videocassette and Video Game Rental Inventory.
Amortization of videocassette and video game rental inventory increased $0.4
million, or 19.2%, from $1.8 million for the year ended December 29, 1993 to
$2.2 million for the year ended December 28, 1994. As a percentage of revenues,
amortization of videocassette and video game rental inventory increased 2.6
percentage points from 24.8% in the year ended December 29, 1993 to 26.6% for
the year ended December 28, 1994 primarily as a result of the significant
increase in the level of purchases of videocassette rental inventory.
General and Administrative Expenses. General and administrative expenses
decreased $0.02 million, or 2.3%, from $0.7 million for the year ended December
29, 1993 to $0.6 million for the year ended December 28, 1994. As a percentage
of total revenues, general and administrative expenses decreased from 8.9% for
the year ended December 29, 1993 to 7.9% for the year ended December 28, 1994.
This occurred primarily as a result of the revenue growth previously discussed
without a corresponding increase in general and administrative expenses.
Non-Operating Expense, Net. Non-operating expense, net, remained
relatively constant during the year ended December 28, 1994 and the year ended
December 29, 1993.
Net Income. As a result of the foregoing, net income increased $0.2
million, or 52.5%, from $0.4 million for the year ended December 29, 1993 to
$0.6 million for the year ended December 28, 1994 primarily due to increased
revenues without a proportionate increase in costs.
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LIQUIDITY AND CAPITAL RESOURCES
THE COMPANY
For the fiscal year ended January 31, 1996, the Company had net cash
provided by operating activities of $3.1 million, net cash used in investing
activities of $5.6 million (consisting primarily of cash used to acquire
businesses of $3.5 million and cash used to purchase videocassette rental
inventory of $2.0 million) and net cash provided by financing activities of $3.0
million, resulting in a net increase in cash and cash equivalents of $0.6
million.
To date, the Company has funded its operations and acquisitions through
cash provided by operating activities, bank loans guaranteed by its existing
stockholders, loans and lines of credit from videocassette and interactive
electronic entertainment products suppliers, and financing provided by sellers
in connection with certain acquisitions. The Company expects to meet its
short-term liquidity requirements through net cash provided by operations and
borrowings under the New Credit Facility. Management believes that these sources
of cash will be sufficient to meet the Company's operating needs for at least
the next 12 months.
The Company expects to finance the acquisition and development of
additional stores and the build-out of new stores and leasehold improvements in
acquired and new stores with cash provided by operations, seller financing,
issuance of additional equity shares and by accessing proceeds of the New Credit
Facility. See "Risk Factors -- Acquisition Risks -- Financing Growth Strategy."
In March 1996, the Company received a commitment from PNC Bank, National
Association, ("PNC Bank") for such facility, contingent upon, among other
things, the completion of the public offering of Common Stock described herein.
The Company's commitment letter from PNC Bank contemplates that, among other
things: (a) the credit facility will consist of a two-year revolving credit
facility followed by a three-year term loan; (b) borrowings under the facility
will be available for working capital, capital expenditures, refinancing of
existing indebtedness and for certain permitted acquisition financing; (c) the
maximum amount available for borrowing at any time will equal 2.75 times the
Company's operating cash flow (as defined for the purposes of the New Credit
Facility) during the previous four quarters; (d) at the Company's option,
interest rates will vary from either PNC Bank's base rate, as defined, to 1%
above such base rate, or from the Eurodollar rate, as defined, to 2.5% above
such Eurodollar rate, in each case depending on the ratio of the Company's total
debt to operating cash flow, as defined; (e) borrowings will be secured by a
first security interest in substantially all of the Company's assets, including
the stock of its subsidiaries; and (f) borrowings will be subject to various
conditions including compliance with certain financial tests and ratios.
Build-out costs for new stores are expected to range from $200,000 to
$250,000 per store. The aggregate costs of converting acquired stores to West
Coast signage and format are expected to be approximately $2.3 million over an
18-month period following the Acquisitions. The aggregate costs of upgrading
West Coast's management information systems and integrating acquired stores into
such systems are expected to be approximately $0.9 million over such period.
Over the next two years the Company will make additional payments in cash and
Common Stock, currently estimated for the purpose of the Company's pro forma
financial statements at $3.4 million in the aggregate, to the sellers of 19
stores being purchased in connection with the Acquisitions at formulaic purchase
prices based on certain financial measurements for such stores in future
periods. The Company has options to purchase an additional four stores at
similar formulaic prices.
The Company may also seek additional debt financing or equity capital
through private or public offerings of securities. The availability of debt
financing or equity capital will depend upon prevailing market conditions, the
market price of the Common Stock and other factors over which the Company has no
control, as well as the Company's financial condition and results of operations.
There can be no assurance that funds will be available in sufficient amounts to
finance the acquisition or opening of enough video speciality stores to sustain
the Company's recent rates of growth.
Videocassette and interactive electronic entertainment product rental
inventories are treated as noncurrent assets under generally accepted accounting
principles because they are not assets which are reasonably expected to be
completely realized in cash or sold in the normal business cycle. Although the
rental of this inventory generates the major portion of the Company's revenue,
the classification of these assets as noncurrent results in their exclusion from
working capital. The aggregate amount payable for this inventory,
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however, is reported as a current liability until paid and, accordingly, is
included in the computation of working capital. Consequently, the Company
believes working capital is not an appropriate measure of its liquidity. Due to
the accounting treatment of videocassette and interactive electronic
entertainment products rental inventory as a noncurrent asset, the Company
expects to operate with a working capital deficit following this offering.
PALMER VIDEO
Palmer Video has financed its operations primarily from internal cash flow
and bank debt. Palmer Video expects to have no long-term debt at the closing of
its Acquisition by the Company.
RED GIRAFFE
Red Giraffe has financed its operations primarily from cash flows from
operations and bank financing. The Company expects to repay all of Red Giraffe's
outstanding long-term debt that the Company assumes upon consummation of the
Acquisition of Red Giraffe.
GENERAL ECONOMIC TRENDS, QUARTERLY RESULTS AND SEASONALITY
The Company's results of operations are generally affected by economic
trends in its market area but results to date have not been impacted by
inflation. If a period of high inflation is encountered, the Company believes
that it will be able to pass on its higher costs to its customers.
A concentration of new store openings and the related pre-opening costs in
any particular fiscal quarter could have an adverse impact on the financial
results for that quarter, leading to fluctuating quarterly financial results,
which could adversely impact the Company's Common Stock price.
The videocassette and interactive electronic entertainment products rental
business is somewhat seasonal, with revenues in early Spring generally being
lower due in part to the change in Daylight Savings Time and improved weather,
and revenues in early Fall generally being lower due in part to the start of
school, the football season and the new television season.
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VIDEO INDUSTRY OVERVIEW
According to Kagan Associates, domestic video retail industry revenues
exceeded $14 billion in 1994, with industry revenues projected to grow to
approximately $22 billion by 2005. Of the total domestic revenues in 1994, video
rental revenues were approximately $9.4 billion and video sales revenues were
approximately $4.6 billion.
The industry is characterized by a high degree of fragmentation, with only
nine chains in 1995, including the Company, reported to be operating in excess
of 100 video specialty stores, and the average chain operating fewer than 50
stores. In recent years the video retail industry has begun to consolidate as
regional chains and smaller video specialty store operations are acquired by
operators with greater access to capital. The Company believes that although
video specialty store revenues will continue to grow as consumers rent and
purchase prerecorded videos, a greater rate of growth will occur among video
specialty store operators engaged in a program of acquiring competitors.
According to Kagan Associates, the home video market was the largest single
source of revenue to movie distributors, accounting for approximately 48.6% of
movie distributors' total domestic revenues and approximately 46.1% of movie
distributors' worldwide revenues in 1994. Due to the high production cost of
films today, the Company believes that without home video revenues, most films
would have been unprofitable. Furthermore, in order to quickly recoup the large
theatrical marketing budgets that often exceed a film's production cost, most
films are released simultaneously in a large number of theaters. This broad
exposure usually results in most theaters playing the film only for a few weeks
before replacing it with another release.
Movie studios seek to maximize their revenues by releasing movies in
sequential release date windows to various movie distribution channels. These
distribution channels currently include, in release date order (with approximate
1994 revenues to the motion picture distributors shown in parentheses), movie
theaters ($5.7 billion), video specialty stores ($8.1 billion) and other media
including Pay-Per-View and similar services ($0.2 billion), pay television ($1.7
billion), domestic basic cable television ($0.4 billion) and domestic network
and syndicated television ($0.5 billion).
Sales of prerecorded videos have grown at a cumulative annual growth rate
of 12.9% for the three-year period ending December 31, 1994, but in 1994 still
only represented approximately 33% of video retail industry revenues from all
distribution channels. Movie studios influence the relative levels of video
rentals versus sales by setting wholesale video prices. The movie studios
typically set the initial wholesale price of prerecorded videos at between $50
and $65, which encourages rental rather than sale. In order to maximize revenues
to the studios, after approximately six to twelve months the studios will often
lower the price of these same videos to between $15 and $20, which encourages
their purchase. In addition, a relatively small number of titles that are
believed to have broader consumer appeal, such as Cinderella, The Lion King and
Batman Forever, are wholesaled initially by the studios at between $12 and $17,
which also encourages their purchase rather than rental. While much of this type
of product is heavily promoted as "sell-through" titles by all types of mass
market retailers, the video specialty stores offer this product both for sale
and rental and thus also attract the customer who prefers to rent rather than
buy despite a title's relatively low purchase price.
The Company believes, based on its own practices and information provided
by the sellers in the Acquisitions, that video specialty stores typically
purchase a majority of the films that were released in the box office regardless
of their success in attracting theatre viewers. The Company believes that many
of its customers are predisposed to view a specific film as a result of its
marketing campaign, but due to its short playing time at a local theater, they
will often rent or purchase the prerecorded home video version of that film. In
addition, the Company believes consumers are more apt to view films that were
not box office hits on rented videos than on any other medium because video
specialty stores provide the opportunity to browse and make an impulse choice
among a very broad selection of film titles at a low price. Therefore, video
specialty stores represent a reliable revenue source for a majority of the film
output of the major movie studios.
The Company believes that it will become increasingly likely that certain
major studios will begin to release their films on new digital video discs
("DVD") within the next 12 to 18 months. Video discs and video disc players
function like videocassettes and VCRs but provide a higher quality video image
by using digital technology. To the extent that this format becomes popular with
consumers, the video retail industry could also carry film titles in this format
for both rental and sale, thereby creating an additional revenue base.
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BUSINESS
GENERAL
West Coast owns and operates 199 video specialty stores and franchises 303
video specialty stores located in 25 states, principally in the Northeast and
Midwest, and two foreign countries. The Company believes that, as of September
30, 1995, it was the second largest video specialty retailer in the United
States in terms of pro forma system-wide revenues, number of franchised stores
and total franchised store revenues. The Company competes directly against major
regional and national video rental stores in most of its markets and believes it
is a leading video rental operator, in terms of number of stores, in all of the
major markets in which Company-owned stores operate. In addition, the Company is
one of only two domestic video specialty franchisors that has existing
franchised stores outside North America. At May 1, 1996, the Company owned and
operated 28 stores and was the franchisor of another 296 stores; the
Acquisitions involve an additional 171 owned and operated stores (including 13
stores which are currently owned by franchisees of the Company) plus the rights
of one of the acquired companies as franchisor of 20 franchised stores.
System-wide, approximately 60% of the Company's stores are currently operated
under the West Coast Video(R) name and the remainder are operated under such
names as Videosmith(R) and Palmer Video. The Company intends to extend the West
Coast Video(R) name and logo and its registered trademark The Movie Buff's Movie
Store(R), as soon as practicable, to those stores which currently operate under
other trade names. For the fiscal year ended January 31, 1996, the Company's pro
forma revenues were $82.2 million and pro forma net income was $4.6 million. See
"Selected Historical and Pro Forma Combined Financial Data."
The Company's stores are designed and managed to create an atmosphere that
enhances the appreciation of movies, children's video programming and
interactive electronic entertainment products. To achieve this, the Company has
developed several store format templates in order to appeal to the varying
demographic preferences of its customers. These formats take into account the
population density and demographic profile of each store's targeted geographic
region. Each of the Company's stores rents and sells videocassettes and
interactive electronic game products and also sells certain popular electronic
accessories and a variety of confectionery items. Sites for the Company's stores
within each designated trade area are selected on the basis of such factors as
visibility, ready accessibility (particularly for evening drivetime parking),
signage and adaptability of existing structures to the Company's requirements,
as well as cost considerations.
The Company has grown to its present size primarily through the
acquisitions of the Premiere Video/Nostalgia Ventures and Videosmith(R)
specialty store chains in April 1993 and August 1994, respectively, and through
the acquisition of its West Coast Video(R) operating assets and franchising
capability in July 1995. See " -- Development of the Company." Although single
stores and small chains, as a whole, currently have the largest share of the
video retail market, the Company believes that large regional and national
chains will substantially increase their market share and account for the
majority of future industry growth due to their greater capital resources, their
ability to achieve economies of scale in areas such as purchasing, advertising
and administration and their announced expansion plans.
The Company believes that there are a significant number of attractive
acquisition targets, including West Coast Video(R) franchisees, and/or store
sites available in its selected markets, and that the Company believes the net
proceeds of this offering will enable it to accelerate its planned expansion,
enhance its ability to complete acquisitions and permit it to negotiate more
favorable terms for store acquisitions and new store openings. The key factors
that the Company considers in determining its rate of expansion include store
location and historical or projected profitability of stores as well as the
availability of adequate financing.
BUSINESS STRATEGY
The key elements of the Company's business strategy are as follows:
Achieve or Maintain Market Dominance. Upon consummation of the
Acquisitions, the Company will operate or franchise 502 video specialty stores
located principally in the Northeast and Midwest. Following this offering, the
Company intends to initially focus its acquisition, store expansion and
franchising efforts primarily in those areas where its stores are currently
located so as to maximize market share. The Company believes that by achieving
or maintaining market leadership positions or positions of significant
concentration
40
<PAGE> 43
within the regions in which it presently competes, the Company will be able to
maximize operating efficiencies in inventory management, marketing,
distribution, training and store supervision.
Realize Cost Savings By Integrating Stores Using Proven Management
Operating Systems. The Company intends to realize greater cost savings and
efficiencies by integrating the stores acquired, developed or franchised using
proven management systems. The Company has developed advanced software systems
for the purposes of monitoring and managing store inventory, sales, purchases
and customer membership. These proven systems allow the Company to facilitate
the integration of stores the Company acquired in the Acquisitions and
additional stores it acquires, builds or franchises. In addition, such systems
allow the Company to monitor rental trends and manage sales and rental turnover
so as to satisfy customer demand for an extensive selection of new releases as
well as catalog titles while maximizing store profitability. By centralizing all
buying decisions through its software systems, the Company obtains volume
discounts and cooperative advertising credits that would otherwise be
unavailable to its individual stores. To maximize customer satisfaction and
store profitability, rentals are then monitored on a regular basis utilizing the
Company's point-of-sale ("POS") management information system which enables the
Company to reallocate videocassettes and interactive electronic entertainment
products among stores. See "Risk Factors -- Acquisition Risks -- Integration."
Operate Differentiated Store Formats. The Company has developed several
store formats designed to appeal to the varying demographic preferences of its
customers and to meet varying real estate market conditions. These formats vary
in terms of square footage, store design and lay-out. While several of its
competitors have chosen uniform, chain-wide store formats and locations, the
Company believes that having available store formats that take into account
population density and other demographic characteristics is critical in allowing
penetration into market areas that do not conform to uniform, chain-wide
standards. Most of the Company's stores are superstores with over 4,000 square
feet per store, although some are smaller, custom-designed stores, including
some which are formatted as urban boutiques containing a wide variety of catalog
titles. The Company's stores carry between 7,000 and 17,000 videocassettes.
The Company has developed an innovative template and proprietary support
system that operates as a store within a store under the Game Power
Headquarters(SM) trade name. These interactive electronic departments range from
400 square feet to 1,800 square feet and allow the stores to rent, sell, buy and
trade interactive electronic entertainment software for various game cartridge
platforms and personal computers. The departments also have kiosks providing a
"Try Before You Buy" entertainment environment while promoting new game hardware
formats and software introductions.
Provide Superior Customer Service. The Company believes its salesforce's
appreciation and understanding of movies, children's video programming and
interactive electronic entertainment products can result in a higher level of
service than most of its competitors. One criterion used in the Company's
recruitment and selection of employees is their general knowledge in regard to
movies and electronic games. In addition, employees undergo continuous training
to increase their knowledge about the store's video titles and about cinema and
electronic games in general. The Company believes that the implementation of
this strategy in the stores which it acquires can result in higher sales per
customer, higher overall customer satisfaction, higher customer loyalty, lower
employee turnover levels and higher catalog title inventory turnover.
GROWTH STRATEGY
Historically, the Company's growth has resulted from the acquisition of
existing video retail store chains and the opening and franchising of new
stores, as well as increases in existing store sales. The key elements of the
Company's growth strategy are as follows:
Pursue Acquisitions in Highly Fragmented Industry. The Company acquired
two video specialty store chains in 1993 and 1994 and the operating assets of
the nation's second-largest franchisor of video specialty stores in 1995. It
believes that its most significant opportunity for growth over the next several
years will continue to be the acquisition of existing video retailers. The
industry remains highly fragmented with approximately 28,000 video retailers in
the United States, approximately half of which are operated by operators of one
or two stores. Existing video retailers typically have an established customer
base and favorable location. The criteria for acquisition candidates includes
store location and demographics, profitabil-
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<PAGE> 44
ity, store sales volume, store size and store management personnel. In addition,
the Company seeks acquisition candidates that can realize expense reductions and
more efficient store management through integration into the Company's
information and inventory management systems and marketing and advertising
programs. The Company has already had preliminary discussions with numerous
video retail store owners at various times regarding the potential acquisition
of their stores. Management expects that some of these discussions will result
in new acquisitions, although the Company has no agreements or commitments to
acquire stores other than in the Acquisitions described herein.
Continue to Acquire West Coast Franchisee Stores. The Company intends to
pursue the acquisition of individual or small chains of video specialty stores
within the West Coast Video(R) franchising system. As franchisor, the Company
maintains a right of first refusal to purchase these stores and intends to
selectively acquire these stores in the future at prices which it considers to
be reasonable where it believes that it can increase store revenues by deploying
its own capital, human and other resources and can achieve a higher return to
the Company on store operations by fully integrating the stores into the
Company's operating systems, thereby managing costs and generating operating
profits that exceed the Company's franchise royalty fees from such stores. West
Coast Video(R) franchisee-owned stores are typically of high quality and conform
with the Company's own video retail strategy. Consistent with this strategy, as
part of the Acquisitions, the Company will acquire 13 video retail stores
located in Massachusetts which are currently owned and operated by the four
unaffiliated Massachusetts Franchisees.
Selectively Develop New Stores. The Company plans to open new video retail
stores in locations where acquisition of existing stores is impracticable but
favorable store location studies indicate a substantial probability of success
for a new store. In addition, the Company plans to grow in certain geographic
areas, including internationally, through franchising and believes that its
existing operating systems can be successfully applied to numerous other
franchisees. The Company currently has 10 franchised stores in Canada and one in
Curacao and has under development two of a planned 22 stores in Peru and certain
neighboring countries pursuant to an area development agreement.
See "Risk Factors -- Acquisition Risks."
MANAGEMENT OPERATING SYSTEMS
The Company's management operating systems have been developed and tested
over years of franchise experience. Management believes that these systems,
whose costs are already being met by franchise royalty payments, will allow the
Company to grow at considerably less incremental general and administrative
expense than would otherwise ordinarily be incurred. The West Coast corporate
staff includes 49 professionals working in the following capacities:
<TABLE>
<CAPTION>
NUMBER OF
DEPARTMENT EMPLOYEES
-------------------------------------------------------------------------- ---------
<S> <C>
Marketing................................................................. 16
Purchasing................................................................ 4
Management Information Systems............................................ 5
Retail Operations......................................................... 7
Accounting................................................................ 9
Distribution Services..................................................... 3
Executive................................................................. 5
--
Total........................................................... 49
==
</TABLE>
Marketing. The Company currently has in place a centralized professional
marketing department supporting all of the Company's video specialty stores. The
Company's in-house art department provides the resources of a full service
agency and utilizes an integrated computerized system for in-house scanning,
page layout and mechanical production, illustrations and color printing.
Management believes this in-house creative development has resulted in
substantial cost savings and enhanced production efficiencies for the Company's
owned and operated stores and franchised stores.
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<PAGE> 45
The Company develops an extensive semi-annual marketing campaign several
months in advance of its six-month implementation period. The store managers'
kits for these campaigns provide national and regional promotions and media
flight schedules in a format that is designed to facilitate local store
customization. The campaigns have earned a wide variety of national awards from
the Video Software Dealers Association in the past five years, including "Best
Overall Campaign," "Best Community Service" and "Best Special Media/Special
Events." These campaigns have increased the familiarity of existing and
potential customers with the Company and are also intended to increase customer
rental and purchase transactions and frequency of visits.
The Company uses radio and newspaper advertising and direct mail
solicitation to promote its business in the markets in which the Company
competes and uses television advertising in those metropolitan areas where the
Company is a dominant player. The marketing department has a dedicated staff
that publishes and distributes a proprietary, full color monthly consumer
magazine, "Spotlight on Video(TM)," which promotes new releases and special
offers exclusive to the Company.
The costs of the Company's marketing department are funded in part by a
contribution from West Coast's franchisees that is earmarked for advertising and
marketing. Such contribution is equal to 1% of the franchisees' gross revenues.
Another 1% contribution is spent on local advertising. In addition to these
contributions, the Company offsets the costs of its advertising with cooperative
advertising funds and market development funds made available by movie studios
and suppliers to promote certain videocassettes. The Company expects that it
will receive increased amounts of these third-party funds as the Company grows.
Purchasing. The Company believes that the consistent selection of movies
that appeal to the consumer is a significant feature of its operations. The
Company's eight movie and electronic entertainment purchasers each have, on
average, eight years of industry experience, including Videosmith's purchaser of
"sell-through" video titles who has five years of experience in that capacity.
The rental entertainment purchasers use computerized purchasing models that
analyze data in regard to the sales and rental performance of individual titles
from the Company's stores on-line through the Company's POS systems. The Company
also publishes a proprietary monthly publication, "The Projector(TM)," for owned
and operated stores and franchised stores that projects suggested purchase
quantities on a title-by-title basis for stores of varying demographic profiles
and rental volume levels. The Company believes its purchasing department has
considerable specific expertise in evaluating, finding distribution sources for
and purchasing independent, arthouse, foreign and other highly entertaining
films that are frequently not noticed or are ignored by other video specialty
chains.
Management Information Systems. The Company has developed, at considerable
expense, proprietary POS software with continuous inventory and customer
database and extensive management reporting capabilities. Nearly all of its
franchisees utilize such POS software. In addition, the Management Information
Systems department provides a broad range of services to management as well as
to owned and operated stores and franchised stores. Such services include:
management of various relational databases which aid in movie and interactive
electronic entertainment products purchasing, store site evaluation and
selection and customer profiling and targeting; on-line POS and other store and
corporate software maintenance, service and repair; technical support for the
installation of store computer hardware and software; maintenance of hardware
support agreements; on-line verification of franchisee revenues for royalty
audit purposes; franchisee POS system training; and enhancement and upgrading of
POS software.
Retail Operations. The Company has developed, at considerable time and
expense, comprehensive retail operations policy and procedure manuals to achieve
standardization among its Company-owned stores, as well as its franchisees. In
addition, the Company's retail operations group works directly with both
corporate and franchisee stores to provide assistance on a broad range of
operational issues including competitive strategies, product pricing, revenue
enhancement, expense management, new site analysis and selection and
remerchandising and renovation plans and analysis. The retail operations group
provides training and orientation to new franchisees as well as ongoing training
programs. The retail operations group has also developed a detailed timetable
and manual and provides direct assistance in the opening of new franchised
stores as well as owned and operated stores, including obtaining
permits/licenses, financing equipment, providing opening checklists and store
configuration options, formulating construction guidelines, initiating
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<PAGE> 46
vendor contacts, helping to manage and meet exterior signage specifications and
wage and hiring guidelines, and developing professional service and vendor
contacts.
STORE LOCATIONS
The following table lists the number of stores owned and franchised by the
Company in each state or foreign country, including the stores to be acquired
through the Acquisitions. More than 80% of the Company's owned and operated
stores, and more than 85% of its franchised stores, are located in the Northeast
and Midwest.
<TABLE>
<CAPTION>
NUMBER OF
OWNED AND NUMBER OF TOTAL
STATE OR FOREIGN COUNTRY OPERATED STORES FRANCHISED STORES STORES
- ------------------------------------------------------ --------------- ----------------- ------
<S> <C> <C> <C>
Ohio.................................................. 36 13 49
Pennsylvania.......................................... 35 111 146
New Jersey............................................ 34 74 108
Massachusetts......................................... 27 14 41
New York.............................................. 15 5 20
Indiana............................................... 14 1 15
Kentucky.............................................. 14 -- 14
Virginia.............................................. 12 2 14
Arkansas.............................................. 4 -- 4
Oklahoma.............................................. 3 -- 3
Texas................................................. 2 3 5
Louisiana............................................. 2 2 4
Florida............................................... 1 13 14
Illinois.............................................. -- 17 17
Maryland.............................................. -- 14 14
California............................................ -- 5 5
New Hampshire......................................... -- 4 4
Delaware.............................................. -- 3 3
Minnesota............................................. -- 3 3
Arizona............................................... -- 2 2
Oregon................................................ -- 2 2
Connecticut........................................... -- 1 1
Maine................................................. -- 1 1
Michigan.............................................. -- 1 1
Tennessee............................................. -- 1 1
Canada................................................ -- 10 10
Curacao............................................... -- 1 1
--- --- ---
Total....................................... 199 303 502
=== === ===
</TABLE>
PRODUCTS
The Company's primary source of revenue is the rental of videocassettes.
The Company's stores feature between 7,000 and 17,000 videocassettes. At
present, the Company generally rents new release titles for $2.00 to $3.00 for
one day, depending on the age and popularity of the title, while catalog titles
rent for $1.00 to $2.00 for one day. Video games generally rent for $3.00 for
one day. The Company regularly reviews and determines its rental prices for
titles based on the length of time each title has been available on
videocassette and the frequency of rentals for each title. Movie titles are
classified into a variety of thematic categories, including certain categories
which are custom tailored to local tastes and demographic profiles, and are
displayed alphabetically within those categories. The Company attempts to keep
available within each store sufficient numbers of current popular titles, as
well as a significant selection of catalog titles, to satisfy customer demand.
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<PAGE> 47
West Coast also offers videocassettes for sale. Generally, previously
viewed videocassettes are sold for $7.99 to $11.99 beginning 12 weeks after a
new title is released to video specialty stores. Sales of new videocassettes
consist primarily of children's and family titles generally priced at $15.99 to
$20.99. Based on anticipated growth in the overall market for videocassette
sales, planned improvements in the Company's videocassette sales merchandising
and the reported revenue mix of other video retailers, the Company expects its
per store sales of new (and, to a lesser extent, used) videocassettes to
increase.
In addition to video rentals and sales, West Coast also rents and sells
interactive electronic entertainment products compatible with various game
hardware platforms and personal computers. Kagan Associates estimates that
domestic interactive electronic entertainment software revenue will increase
from approximately $5.7 billion in 1995 to approximately $8.8 billion in 2002.
The Company expects per store rental revenue of interactive electronic
entertainment products to increase because of an overall rise in the popularity
of CD-ROM and new hardware formats. As a result, the Company believes that its
Game Power Headquarters(SM) format will experience significant growth in the
next several years.
SUPPLIERS
The Company's suppliers of rental videocassette and interactive electronic
entertainment products include Ingram Entertainment, Inc. ("Ingram"), Waxworks,
Inc., Rentrak Corporation, Star Video Entertainment, Inc. and Baker and Taylor
Information and Entertainment Services. Prior to consummation of the
Acquisitions, West Coast purchased approximately 50% of its rental videocassette
products from Ingram under a contract that expires in July 2002. Under this
contract, following the Acquisitions the Company must purchase at least 50% of
its annual requirements for such products during each of the first two years of
the contract, the lesser of 30% of its annual requirements or $25 million during
the third through fifth years of the contract and the lesser of 25% of its
annual requirements or $25 million during the last two years of the contract.
The Company currently receives marketing funds and an advertising allowance
from Ingram based upon a percentage of its videocassette and interactive
electronic entertainment products purchases. In addition, the Company currently
has an unsecured open account with outstanding amounts due 60 days from invoice
for all rental, sell-through and game product purchases and 90 days from invoice
for all sell-through product intended for new store openings and Christmas
catalog product. If the relationship with Ingram were terminated, the Company
believes that it could readily obtain its required inventory of videocassette
and interactive electronic entertainment products products from alternative
suppliers at prices and on terms comparable to those with Ingram. A subsidiary
of Ingram has lent the Company $1.4 million, evidenced by a subordinated secured
promissory note which is payable in installments commencing July 1997 and which
bears interest at 11%, accompanied by a stock purchase warrant. See "Description
of Capital Stock -- Warrant" and Note 7 to the Company's consolidated financial
statements. In March 1996, Ingram lent $800,000 to the Company evidenced by a
subordinated secured promissory note with an annual interest rate of 12%.
Principal and interest are due and payable in four quarterly installments,
beginning on April 1, 1999, subject to mandatory prepayment, together with a
$400,000 prepayment premium, upon the consummation of this offering. See "Use of
Proceeds."
FRANCHISING
The Company currently receives franchise fees from West Coast Video(R)
franchisees equal to approximately 7% of each franchisee's monthly gross
revenues, subject to stated monthly minimum royalties. Of this amount, the
Company has devoted an amount equal to 2% of such monthly gross revenues to
direct and indirect advertising and marketing programs. The Company also
receives a one-time fee upon execution of the franchise agreement. Franchisees
are not required to purchase their initial inventory or supplies from the
Company, although they sometimes do so. Thereafter, franchisees purchase
virtually all of their movie and interactive game product from unaffiliated
suppliers.
Franchisees are entitled to develop West Coast Video(R) stores at approved
locations within a specified geographic area under the terms of a standard
franchise agreement. The exclusivity accorded to a franchisee
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<PAGE> 48
generally does not extend beyond a radius of three miles from each franchised
location, with franchisees in urban locations often being limited to a one-half
to one mile radius. Franchises are typically awarded for a term of ten years,
subject to the franchisee's right to renew for additional ten-year periods.
The Company provides training for the franchisee's managers and other store
personnel. Franchisees are required to meet the Company's quality control
standards in regard to store appearance and size of videocassette inventory,
among other things. The Company provides advice about title selection, initial
promotional advertising, posters and brochures.
Each franchise owner has sole responsibility for all operational decisions
and financing commitments relating to the store, including monthly rent,
utilities and payroll. Franchisees are required to indemnify West Coast against
claims arising from the franchisee's operations and to provide specified amounts
of insurance coverage. The Company does not currently provide any form of credit
enhancement for any of its franchisees' operations.
The franchise agreement requires the Company's express written agreement to
any transfer of a franchise or any sale of a controlling interest in a
franchisee. The agreement also authorizes the Company at any time to inspect and
monitor the franchisee's operations and audit its books and records. The Company
is entitled to terminate a franchise for a material breach of the terms of the
franchise agreement, subject to compliance with certain state laws regarding
termination for cause, prior notice and similar matters. Since acquiring the
assets of WC Franchise in July 1995, the Company has terminated six franchisees.
Under the terms of an area development agreement with respect to Peru and
certain contiguous South American countries, the area developer will pay the
Company a development fee of up to $175,000 over a five-year period, based on
the achievement of certain specified milestones, as well as license fees equal
to 3% of the revenues of each of its franchised stores.
See "Risk Factors -- Risks Associated with Franchise Operations."
COMPETITION
The video retail industry is highly competitive. The Company competes with
other video specialty stores, including stores operated by regional and national
chains, such as Blockbuster, and with other businesses, such as supermarkets,
pharmacies, convenience stores, bookstores, mass merchants, mail order
operations and other retailers, that offer videos and interactive electronic
entertainment products. Certain of the Company's competitors, including
Blockbuster, have significantly greater financial and marketing resources,
market share and name recognition than the Company. The Company believes that,
apart from Blockbuster, neither the Company nor any other video specialty store
chain accounts for 2% or more of industry-wide revenues. In addition, the
Company's stores compete with other leisure-time activities, including movie
theaters, network and cable television, live theater, sporting events and family
entertainment centers. However, many of these have a higher per person cost than
the rental of a video.
The Company believes the principal competitive factors among participants
in the video retail industry are store location and visibility, title selection,
the number of copies of each new release available and customer service. While
the Company does not believe that price is a significant competitive factor
among video retailers, it is a significant factor relative to competition with
movie theaters and other forms of entertainment. The Company's goal is to offer
a higher level of service, greater title selection and more copies of new
releases than its competitors to foster more frequent visits and video rentals
by customers.
The Company's stores also compete with Pay-Per-View cable television
systems, in which home subscribers pay a fee to see programming selected by the
subscriber. Existing Pay-Per-View services offer a limited number of channels
and programming and are generally available only to households with a converter
to unscramble incoming signals. While recently developed technologies permit
certain telecommunications companies to transmit a much greater number of movies
to homes in more markets as frequently as every five minutes, the Company
believes that substantial technological developments will be necessary to allow
such alternatives to match the low price, viewing convenience (in terms of
stopping, restarting and rerunning the programs) and selection available through
video rental. Furthermore, the Company believes that movie studios have a
significant interest in maintaining the movie rental business because the sale
of video rental units typically represents the studios' largest source of
revenues. According to Kagan Associates, the home video
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<PAGE> 49
market was the largest single source of revenue to movie distributors,
accounting for approximately 48.6% of movie distributors' total domestic
revenues and approximately 46.1% of movie distributors' worldwide revenues in
1994. For further information concerning competition within the industry, see
"Video Industry Overview."
EMPLOYEES
At April 1, 1996, the Company had 361 employees, including 299 in retail
stores and the remainder in corporate administrative and warehousing operations.
Of such employees, 136 were full-time and 225 were part-time. Staffing
requirements for West Coast stores range from six to 12 employees, depending on
size, and typically include one store manager and one or two assistant managers.
Store managers report directly either to a Regional Vice President (of which the
Company will have seven following this offering) or, in regions with many
stores, to a district manager who, in turn, reports to a Regional Vice
President. The Company believes that its employee relations are good. None of
the Company's employees is represented by a labor union. The Company expects to
have approximately 2,000 employees immediately following consummation of the
Acquisitions, including approximately 750 full-time and approximately 1,250
part-time employees.
PROPERTIES
The Company's corporate headquarters is located at 9990 Global Road,
Philadelphia, Pennsylvania and consists of approximately 10,200 square feet of
office space. Approximately 11,000 square feet of warehouse space is located in
an adjacent building at 490 Red Lion Road. Currently, annual rentals for these
facilities are $61,260 and $27,375, respectively, plus taxes, insurance and
utilities. These facilities are leased pursuant to an agreement which expires on
June 30, 1996, with five consecutive one-year renewal options for annual rental
amounts to be increased respectively by 3% each year.
The Company also rents 1,250 square feet of office space at 685 Delaware
Avenue, Suite 115, Marion, Ohio for its Ohio operations, under a lease for the
period ending December 31, 1996 for an annual rental of $12,000, plus taxes,
insurance and utilities, and 2,400 square feet of office space at 1266
Commonwealth Avenue, Boston, Massachusetts for its Massachusetts operations,
with a lease for the period ending August 31, 1997, for an annual rental of
$31,500, plus taxes, insurance and utilities, with two five-year renewal
options. Office and warehouse facilities for Regional Vice Presidents'
operations is typically located in premises leased by a conveniently located
store within each region. The Company believes that such facilities are adequate
for current and future operations.
The Company leases all of its video specialty stores. The leases for the
Company's 14 Videosmith(R) stores generally have an initial term of five to ten
years and seven of such leases provide options to renew for additional terms.
The leases with respect to the remaining stores generally have an initial term
of five years and provide one or two options to renew for an additional term of
three to five years. Rents for the renewal terms are typically at pre-negotiated
rates. The majority of the leases contain percentage rental provisions which
only apply based upon high thresholds of in-store gross sales revenues. The
Company has not to date paid material amounts of percentage rentals. The Company
is responsible for taxes, insurance and utilities under most leases. The Company
expects that future stores will also occupy leased premises. The leases for the
stores to be acquired through the Acquisitions generally do not vary in
important respects from the typical lease for existing stores other than the
Videosmith(R) stores.
INTELLECTUAL PROPERTY
The Company owns a number of trademarks, trade names and service marks
including West Coast Video(R), The Movie Buff's Movie Store(R), Game Power
Headquarters(SM), The Projector(TM), Spotlight on Video(TM) and Videosmith(R).
The Company also owns its own IRIS version and source code of the West Coast
Video(R) and Game Power Headquarters(SM) software. The Company considers its
intellectual property rights to be an important part of its business.
LEGAL PROCEEDINGS
The Company was served with a Demand for Arbitration (the "Demand") by a
Game Power Headquarters(SM) franchisee on January 22, 1996 (Interactive
Associates, L.C., Inter Active Electronics Corporation, BSMS Acquisitions, Inc.
and RKT Acquisitions Company, American Arbitration Association,
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<PAGE> 50
Case No. 54 114 000 33 96). The Demand alleges that one of the WCEI Companies,
as predecessor franchisor of video game stores, engaged in acts of fraud and
misrepresentation, breach of contract and unfair and deceptive trade practices,
first by misstating its intentions in regard to developing and supporting a
network of stand-alone video game stores, thereby inducing the franchisee to
incur substantial development expenses, and then by failing to deliver promised
support, including design plans and specifications, opening inventory and
computer hardware and software. The Demand seeks compensatory damages in excess
of $355,000. The Company has denied the material allegations of the Demand and
intends to vigorously defend against this action.
On March 20, 1996, a Complaint was filed against the Company in the
Superior Court of the State of California in and for the City and County of
Santa Clara, Anderson & Wells, Sundance Venture Partners, L.P., and Murphy's
Express v. R.K.T. Acquisition Co., West Coast Entertainment Corporation, and
Does 1 through 10 (Case No. CV756743). Plaintiffs claim that the Company failed
to close an $800,000 bridge financing loan from Sundance Venture Partners, L.P.
("Sundance") which plaintiffs allege would have entitled Sundance, as lender, to
warrants for Company common stock worth $420,000 (valued at a share price
equivalent to the price at which the Company subsequently offered its stock in a
public offering) and Anderson & Wells to a $60,000 placement fee. Based on these
assertions, the Complaint alleges breach of contract, breach of the covenant of
good faith and fair dealing and interference with economic relations against the
Company due to its purported failure to close the loan. The Company has denied
the material allegations in the Complaint and plans to defend vigorously against
plaintiffs' claims.
DEVELOPMENT OF THE COMPANY
West Coast Entertainment Corporation is a Delaware corporation established
by Ralph W. Standley III and T. Kyle Standley in February 1995 (originally under
the name RKT Acquisition Co.) for two purposes: (i) to combine four corporations
(the "Predecessor Corporations") through which the Standley family had
theretofore conducted their video store business and (ii) to acquire
substantially all of the operating assets relating to franchise operations of
West Coast Video Entertainment, Inc., an unrelated third party, and its four
affiliated corporations (collectively, the "WCEI Companies"). In July 1995 each
of the four Predecessor Corporations, Giant Video Corporation ("GVC"), Nostalgia
Ventures, Inc. ("NVI"), G.V. Management Corp. ("GVMC") and Videosmith (DE)
Incorporated ("VDI"), merged with and into the Company (the "Merger"). As a
result of the Merger, the former stockholders of the four Predecessor
Corporations became stockholders of the Company. Simultaneously, the Company,
through its wholly-owned subsidiary WC Franchise, a Delaware corporation,
acquired substantially all of the franchise-related operating assets of the WCEI
Companies for $4.0 million in cash and $4.4 million principal amount of
promissory notes and also agreed to make $500,000 of noncompetition payments and
pay certain subsequent fees as described under "Concurrent Transactions."
The four Predecessor Corporations that were merged into the Company had
previously conducted their respective operations under substantially common
ownership. See Notes 1 and 11 to the Company's consolidated financial
statements. GVC, an Ohio corporation, was incorporated in 1989 and opened its
first video specialty store in Dayton, Ohio in June 1989. In April 1993 all of
the outstanding stock of NVI, an Ohio corporation with seven stores in the
Greater Dayton area, was acquired by the controlling stockholders of GVC from
unrelated third parties for $100,000 in cash and $108,000 principal amount of
promissory notes accompanied by a $256,000 noncompetition payment. In August
1994 the controlling stockholders of NVI, together with certain other investors,
acquired from an unrelated third party through VS Acquisition Corp., a newly
formed Delaware corporation ("VSAC"), all of the outstanding stock of VDI, the
parent of Videosmith Incorporated, a Massachusetts corporation with 14 stores in
Massachusetts, for $1.9 million in cash. Shortly thereafter, VSAC merged with
and into VDI. In May 1992 the controlling stockholders of GVC formed an Ohio
corporation, GVMC, which provided management services to certain of the other
corporations. In February 1992 over three years prior to the acquisition of its
franchise-related operating assets by the Company, one of the WCEI Companies
filed for protection under Chapter 11 of the Federal Bankruptcy Code due to the
financial condition of its owned and operated video specialty stores, as
distinct from its franchising operations.
48
<PAGE> 51
MANAGEMENT
EXECUTIVE OFFICERS AND DIRECTORS
The executive officers and directors of the Company are as follows:
<TABLE>
<CAPTION>
NAME AGE POSITION
- ------------------------------------------ ---- ------------------------------------------
<S> <C> <C>
Ralph W. Standley III..................... 57 Chairman of the Board of Directors
T. Kyle Standley.......................... 32 President, Chief Executive Officer and
Director
Donald R. Thomas(1)....................... 52 Chief Operating Officer and Director
Kenneth R. Graffeo........................ 38 Executive Vice President-Marketing
Peter Balner(2)........................... 49 Executive Vice President-Corporate Retail
Operations and Development and Director
Jules E. Gardner.......................... 35 Executive Vice President-Franchise
Operations
Jerry L. Misterman........................ 49 Vice President-Finance
M. Trent Standley......................... 31 Vice President, Secretary and Director
James B. Dinneen, Jr.(3).................. 34 Director
C. Stewart Forbes(1)(4)................... 56 Director
Wesley F. Hoag(1)(3)(4)................... 39 Director
</TABLE>
- ---------------
(1) To become a director concurrently with consummation of this offering
(2) To become a director concurrently with consummation of this offering and the
Acquisition of Palmer Video
(3) Member of the Audit Committee
(4) Member of the Compensation Committee
Ralph W. Standley III has served as the Chairman of the Board of West Coast
and its principal predecessors for the past five years. He also served as
President of two such predecessors, NVI and VDI, and as Secretary of two other
predecessors, GVI and GVMC, from the date of their inception or acquisition by
West Coast through July 1995. Ralph W. Standley III is the father of T. Kyle
Standley and M. Trent Standley.
T. Kyle Standley has served as the President and Chief Executive Officer
and a Director of West Coast and its predecessors since its inception in
February 1995. Previously, he served as an executive officer of two of West
Coast's predecessors, GVC and GVMC, commencing in 1991. Mr. Standley was
director of research at Colliers International Property Consultants from 1989 to
1991, and prior thereto was a financial analyst at Paine Webber Incorporated.
Mr. Thomas has served as Chief Operating Officer since he joined the
Company in May 1995. Mr. Thomas has also served as Chairman of the Board of
Directors and Executive Consultant since 1985 to A-Z Video, a chain of 12
company-owned and 21 licensed video specialty stores; Chairman of the Board of
Directors, President and Chief Executive Officer of Club Donatello Owners
Association, a hotel-condominium owners association in San Francisco, since
early 1994; and as President of D.R. Thomas Enterprises, Ltd., a management
consulting firm, since 1991. From 1990 through 1992, Mr. Thomas also served as
Senior Vice President of Creative Strategies Research International, Inc., a
high-technology market research and management consulting firm.
Mr. Graffeo has served as Executive Vice President-Marketing since he
joined the Company in July 1995 in connection with the acquisition by WC
Franchise of certain franchise-related operating assets. Prior thereto, Mr.
Graffeo served West Coast Entertainment, Inc. as its Executive Vice President
from December 1993 until July 1995 and as Vice President-Marketing from December
1992 through December 1993. From July 1990 through December 1992, Mr. Graffeo
served as Director of Marketing for West Coast Video Enterprises, Inc. Both West
Coast Entertainment, Inc. and West Coast Video Enterprises, Inc. were WCEI
Companies previously engaged in the franchising and ownership and operation of
video specialty stores. From 1986 to 1990, Mr. Graffeo served as a
Vice-President of Marketing Services for Geographic Marketing Group, a
BBDO/Tracy Locke Company, a domestic marketing group, with direct responsibility
for the marketing
49
<PAGE> 52
campaigns of brands such as Kraft General Foods and Pepsi-Cola. From 1980 to
1986, Mr. Graffeo was employed by Coca-Cola Co. Inc., where he served in various
marketing and brand management positions.
Mr. Balner has served as President and Chief Executive Officer of Palmer
Video, a rental video retailer, since December 1981. Mr. Balner has received
numerous awards, including "Retailer of the Year" in 1989 and 1993 and "Video
Man of the Year" in 1989, and was inducted into the "Video Hall of Fame" in
1992. Mr. Balner has served on the Board of Directors of the Video Software
Dealers Association since 1993.
Mr. Gardner has served as Executive Vice President-Franchise Operations
since he joined the Company in July 1995 in connection with the acquisition by
WC Franchise of certain franchise-related operating assets. Prior to July 1995,
Mr. Gardner served as Chief Operating Officer for West Coast Entertainment, Inc.
from November 1992. From July 1990 through November 1992, Mr. Gardner was a Vice
President of West Coast Video Enterprises, Inc. with responsibility for
marketing video specialty store franchises. On February 25, 1992, West Coast
Video Enterprises, Inc., of which Mr. Gardner was an executive officer, filed
for protection under Chapter 11 of the Federal Bankruptcy Code. Prior to 1990,
Mr. Gardner also coordinated the national sales and distribution efforts of
Sorbee International, a manufacturer of sugar-free candies.
Mr. Misterman has served as Vice President-Finance of the Company since
mid-July 1995 and as Chief Financial Officer of WC Franchise, a wholly owned
subsidiary of the Company, since the acquisition by WC Franchise of certain
franchise-related operating assets in July 1995. Prior to and until July 1995,
Mr. Misterman served as Chief Financial Officer of each of the WCEI Companies,
of Sorbee International, a manufacturer of sugar-free candies, from March 1989,
and of Medical Products Labs, a manufacturer and distributor of fluoride-related
sugar-free dental products, from March 1990. Prior to 1990, Mr. Misterman's
experience included serving as the Chief Financial Officer of the Seven-Up
Bottling Group of Philadelphia Inc., Corporate Controller and Assistant
Treasurer of Aydin Corporation, a manufacturer of electronic communications
systems and equipment, and also as Chief Financial Officer of Providers Benefit
Company, a manager and operator of several primary health care facilities and a
finance company. On February 25, 1992, West Coast Video Enterprises, Inc., of
which Mr. Misterman was an executive officer, filed for protection under Chapter
11 of the Federal Bankruptcy Code.
M. Trent Standley has served as a Vice President, Secretary and a Director
of West Coast since May 1995. He also served as President of one of West Coast's
predecessors, GVI, from 1989 to 1995, as Vice President of two other
predecessors, VDI from 1994 to 1995 and GVMC from 1992 to 1995, and as Secretary
of a fourth predecessor, NVI, from 1993 to 1995.
Mr. Dinneen has served the Company as a Director since August 1995. Since
January 1995, Mr. Dinneen has served as Managing Director of Merion Capital
Management, LLC, an investment management company. From 1991 to 1994, Mr.
Dinneen served as Assistant to the President of WSR Corporation, an auto parts
retailer, with responsibility for general management and strategic planning
functions. Prior to 1991, Mr. Dinneen served as a financial analyst for Merrill
Lynch Capital Partners, Inc.
Mr. Forbes has served as President of Colliers International Property
Consultants since 1979.
Mr. Hoag has served as General Counsel and Chief Operating Officer of R.
Meeder & Associates, Inc., a registered investment adviser ("Meeder"), since
July 1993, and since April 1994 has served as Vice President of The Flex-Funds
and The Flex-Partners, investment companies sponsored by Meeder. From 1984 to
1993, Mr. Hoag was an attorney at the law firm of Porter, Wright, Morris &
Arthur.
Executive officers of the Company are generally elected by the Board of
Directors on an annual basis and serve at the discretion of the Board of
Directors. Directors serve for one-year terms, until the next Annual Meeting of
Stockholders and until their respective successors are duly elected and
qualified.
Mr. Dinneen has been elected as a director of the Company pursuant to an
agreement with the former stockholders (other than members of the Standley
Family) of VDI and NVI (the "Non-Standley Investors") in connection with the
merger of each of VDI and NVI with and into the Company in July 1995. The
agreement will terminate when the Non-Standley Investors own less than 475,469
shares, which equals one half of the shares of Common Stock acquired by them in
the merger.
50
<PAGE> 53
DIRECTOR COMPENSATION
Non-employee directors of the Company receive an annual stipend of $10,000
and all directors are reimbursed for their out-of-pocket expenses incurred in
connection with their attendance at Board and committee meetings.
Under the Company's 1995 Director Stock Option Plan (the "Director Option
Plan"), upon the effectiveness of the registration statement of which this
Prospectus is a part, Messrs. Dinneen, Forbes and Hoag, the Company's
non-employee directors, will be granted an option to purchase 3,000 shares of
Common Stock at an exercise price per share equal to the public offering price.
In addition, each non-employee director initially elected to the Board of
Directors in the future will be granted an option, upon his or her initial
election as a director, to purchase 3,000 shares of Common Stock. Each
non-employee director will also receive a subsequent grant of an option for
1,000 shares on the date of each Annual Meeting of Stockholders at which such
director is reelected as a director of the Company, beginning with the Annual
Meeting for the year ending January 31, 1997. All options granted under the
Director Option Plan have or will have an exercise price equal to the fair
market value of the Common Stock on the date of grant, will vest over a
three-year period, provided the optionholder continues to serve as a director of
the Company, and will expire ten years from the date of grant (subject to
earlier termination in the event the optionee ceases to serve as a director of
the Company). The total number of shares of Common Stock that may be issued
under the Director Option Plan is 50,000 shares.
EXECUTIVE COMPENSATION
Summary Compensation
The following table sets forth certain information concerning the annual
and long-term remuneration paid to or accrued for the Chief Executive Officer
and each of the other four most highly compensated executive officers of the
Company whose salaries and bonuses exceeded $100,000 for services rendered
during the year ended January 31, 1996 (the "Named Executives") together with
similar information in regard to such remuneration paid to or accrued for the
Named Executives for services rendered during the year ended January 31, 1995.
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
ANNUAL
COMPENSATION(1)
FISCAL YEAR ENDED ---------------------
NAME AND PRINCIPAL POSITION JANUARY 31, SALARY BONUS
- ------------------------------------------------ ----------------- -------- --------
<S> <C> <C> <C>
Ralph W. Standley III 1996 $117,923
Chairman of the Board......................... 1995 $ 52,000 $ 34,000(2)
T. Kyle Standley 1996 $ 43,795
President and Chief Executive Officer......... 1995 $ 26,000 $ 30,000(2)
Kenneth R. Graffeo(3)
Executive Vice President...................... 1996 $200,000
Jules E. Gardner(3)
Executive Vice President...................... 1996 $200,000
Jerry L. Misterman(3)
Vice President-Finance........................ 1996 $118,750
</TABLE>
- ---------------
(1) In accordance with the rules of the Securities and Exchange Commission,
other compensation in the form of perquisites and other personal benefits
has been omitted in those instances where such perquisites and other
personal benefits constituted less than the lesser of $50,000 or 10% of the
total of annual salary and bonuses for the executive officer for the fiscal
year.
(2) All amounts shown as bonus for this executive officer are accrued but unpaid
as of January 31, 1996, and payment thereof is contingent on consummation of
this offering.
(3) This executive officer joined the Company in July 1995.
51
<PAGE> 54
The Company expects to pay higher amounts of executive compensation to
Ralph W. Standley III and T. Kyle Standley in the year ending January 31, 1997
and subsequent years as its operations expand. Estimates of such amounts have
been reflected in the pro forma combined financial data set forth elsewhere in
this Prospectus.
Option Grants and Year-End Option Values
To date, the Company has not granted any employee stock options. Future
grants will be made at the discretion of the Compensation Committee.
Employment Agreements
In connection with the purchase by WC Franchise of substantially all the
operating assets pertaining to franchising operations of the WCEI Companies, WC
Franchise entered into employment agreements with each of Messrs. Gardner,
Graffeo and Misterman. Each of these agreements has a two-year term which
expires in July 1997. Under such agreements, these employees serve WC Franchise
as its President, Executive Vice President-Marketing and Vice President-Finance,
respectively. Messrs. Gardner, Graffeo and Misterman are also executive officers
of the Company.
These agreements provide for annual salaries of $200,000 to each of Messrs.
Gardner and Graffeo, and $118,750 to Mr. Misterman. All reasonable travel,
entertainment and other expenses incurred in connection with the performance of
their employment duties are reimbursable by the Company.
Under each agreement, the employee's employment may be terminated by the
Company in the event that the employee fails to perform his respective duties
for a certain period of time, for cause, upon the death or disability of the
employee or at the election of the employee upon two months' written notice
provided to the Company. In the event that the Company moves the employee's
primary place of employment to a location beyond a 40 mile radius of its present
Philadelphia site and the employee elects to terminate his employment for such
reason, then the Company is obligated to pay each such terminating employee the
balance of any salary and benefits which he would have been entitled to receive
had he remained employed for the remainder of the term of the respective
agreement.
The Company has entered into a one-year employment agreement with Mr.
Balner which will become effective upon consummation of the Acquisition of
Palmer Video. Mr. Balner will serve as Executive Vice President-Corporate Retail
Operations and Development at an annual salary of $210,000. Except that Mr.
Balner's agreement does not provide for termination benefits if his primary
place of employment is moved, such agreement is substantially similar in all
other material respects to those of Messrs. Gardner, Graffeo and Misterman.
The agreements generally prohibit each employee from competing with the
Company during his term of employment by the Company and for two years
thereafter, and contain customary confidentiality and invention assignment
provisions in favor of the Company. The agreements require the Company to
indemnify each employee to the fullest extent permitted under the Delaware
General Corporation Law for liabilities incurred by each employee in the
performance of his duties.
EMPLOYEE STOCK PLANS
1995 Equity Incentive Plan. The Company's 1995 Equity Incentive Plan (the
"Equity Plan") was adopted by the Board of Directors and approved by the
stockholders of the Company in July 1995. The Equity Plan enables the Company to
grant options to purchase Common Stock, to make awards of restricted Common
Stock, and to issue certain other equity-related securities of the Company to
employees of and consultants to the Company. The total number of shares of
Common Stock which may be issued under the Equity Plan is 350,000 shares. Stock
options entitle the optionee to purchase Common Stock from the Company for a
specified exercise price as determined by the Board of Directors, during a
period specified in the applicable option agreement. Restricted stock awards
entitle the recipient to purchase Common Stock from the Company under terms
which provide for vesting over a period of time and a right of repurchase in
favor of the Company with respect to the unvested portion of the Common Stock
subject to the award upon the termination of the recipient's employment or other
relationship with the Company. The maximum number
52
<PAGE> 55
of shares with respect to which options or awards may be granted to any employee
under the Equity Plan may not exceed 90,000 shares of Common Stock during any
calendar year.
Under the Equity Plan, the Company may grant options that are intended to
qualify as incentive stock options within the meaning of Section 422 of the
Internal Revenue Code of 1986, as amended (the "Code") ("incentive stock
options"), or options not intended to qualify as incentive stock options
("nonstatutory options"). Incentive stock options may only be granted to
employees of the Company. Stock options granted under the Equity Plan will be
nontransferable, and it is expected that they will generally become exercisable
over a four-year period and expire ten years after the date of grant (subject to
earlier termination in the event of the termination of the optionee's employment
with the Company).
The Equity Plan is administered by the Compensation Committee of the Board
of Directors, which selects the persons to whom stock options and restricted
stock awards are granted and determines the number of shares of Common Stock
covered by the option or award, its exercise price or purchase price, its
vesting schedule and (in the case of stock options) its expiration date. To
date, no stock options, restricted stock or other equity incentives have been
granted under the Equity Plan.
1995 Employee Stock Purchase Plan. The Company's 1995 Employee Stock
Purchase Plan (the "Purchase Plan") was adopted by the Board of Directors and
approved by the stockholders of the Company in November 1995. The Purchase Plan
authorizes the issuance of up to a total of 125,000 shares of Common Stock to
participating employees through a series of semiannual offerings. Offering
periods will commence on each July 1, beginning July 1, 1996, and January 1 and
terminate on the following June and December 31, respectively. The maximum
number of shares available in each offering is 25,000 shares. The Purchase Plan
will terminate when the maximum number of shares issuable under the Purchase
Plan has been purchased by participating employees. Any employee, including an
employee who is a director, of the Company or a participating subsidiary is
eligible to participate in an offering if, on the first day of the applicable
offering, he or she is regularly employed by the Company or the subsidiary for
more than 20 hours a week and has been so employed for more than five months in
a calendar year. The price at which employees may purchase Common Stock in an
offering is 85% of the closing price of the Common Stock on the Nasdaq National
Market on the day the offering commences or on the day the offering terminates,
whichever is lower. An employee may elect to have up to 10% of his or her
qualifying compensation withheld for the purpose of purchasing stock under the
Purchase Plan. On the date an offering commences, each participating employee is
deemed to have been granted an option to purchase up to the number of whole
shares determined by dividing 12% of such employee's compensation for the
immediately prior six-month period by 85% of the fair market value of the Common
Stock on the date the offering commences. Unless the participant elects to
withdraw from the offering, each participant who continues to be employed by the
Company on the date such offering terminates is deemed to have exercised the
option and purchased on such date such number of shares (subject to the maximum
number covered by his or her option) as may be purchased with the amount of his
or her payroll deductions at the offering price. If the total number of shares
of Common Stock that would otherwise be purchased in the offering with the
accumulated payroll deductions exceeds the number of shares available during the
offering, the available shares will be allocated on a pro rata basis to
participating employees.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
The Board of Directors has not had a Compensation Committee prior to this
offering; instead, the functions of the Compensation Committee have been
performed by the Board of Directors as a whole. Immediately following the
completion of this offering, the Company will establish a Compensation Committee
consisting of Messrs. Forbes and Hoag. For information concerning certain
transactions and relationships among the Company and the members of the Board of
Directors, see "Certain Transactions."
53
<PAGE> 56
CERTAIN TRANSACTIONS
In July 1994, in connection with its formation, VSAC, one of the Company's
predecessors, issued 13 shares of its Common Stock to each of Ralph W. Standley
III, T. Kyle Standley and M. Trent Standley for cash payments of $2,000 each. In
August 1994, in connection with the acquisition by VSAC of all of the capital
stock of VDI, VSAC issued (i) an additional 414 shares of its Common Stock to
Ralph W. Standley III and an additional 402 shares of its Common Stock to each
of T. Kyle Standley and M. Trent Standley for an aggregate cash payment of
$194,000 each and (ii) 279 shares of its Series A Convertible Preferred Stock to
James B. Dinneen, Jr. for a cash payment of $100,000. In September 1994, VSAC
was merged with and into VDI and VDI issued shares of its Common Stock and
Series A Convertible Preferred Stock to the stockholders of VSAC in
consideration for the cancellation of their capital stock of VSAC.
In February 1995, in connection with its formation and initial
capitalization, the Company issued a total of 1,028,460 shares of Common Stock
to Ralph W. Standley III (342,840 of which shares Mr. Standley subsequently
transferred to the Ralph W. Standley III Irrevocable Trust), 1,028,460 shares of
Common Stock to T. Kyle Standley and 228,547 shares of Common Stock to M. Trent
Standley for cash payments of $4,500, $4,500 and $1,000, respectively.
In July 1995, in connection with the merger of NVI, GVC, GVMC and VDI into
the Company, the Company issued a total of 611,379 shares of Common Stock to
Ralph W. Standley III, 64,304 shares of Common Stock to Ralph W. Standley III's
wife, 407,465 shares of Common Stock to T. Kyle Standley, 436,411 shares of
Common Stock to M. Trent Standley and 172,956 shares of Common Stock to Mr.
Dinneen, reflecting the value of each such person's stockholdings in such four
entities, in consideration for cancellation of their capital stock in such four
entities.
The Company has entered into employment contracts with Messrs. Graffeo,
Gardner and Misterman and, contingent upon consummation of this offering and the
Acquisition of Palmer Video, Mr. Balner. See "Management -- Employment
Contracts."
Two corporations, 51% of whose outstanding stock was owned by Mr. Gardner
and 40% by Mr. Graffeo, operated two West Coast Video(R) stores from July 1991
through October 1993 and October 1995, respectively, under royalty-free license
agreements from the WCEI Companies (prior to July 1995) and WC Franchise
(thereafter). Had standard royalties and advertising fees not been waived, such
stores would have paid the franchisors approximately $59,800 during fiscal 1992,
approximately $64,480 during fiscal 1993, approximately $34,800 during fiscal
1994 and $33,280 during fiscal 1995. The two stores were sold to unrelated third
parties which had already become West Coast Video(R) franchisees.
For a description of the agreement with the Non-Standley Investors,
pursuant to which Mr. Dinneen has been elected a director of the Company, see
"Management -- Executive Officers and Directors." For a description of a
registration rights agreement to which Mr. Dinneen is a party, see "Description
of Capital Stock -- Registration Rights."
Upon the effectiveness of the registration statement of which this
Prospectus is a part, the Company will grant certain stock options to Messrs.
Dinneen, Forbes and Hoag under the Director Option Plan. See
"Management -- Director Compensation."
The Company will pay an aggregate purchase price of $9,156,781, consisting
of $4,578,391 in cash and 352,184 shares of Common Stock, to Peter Balner in
connection with the Acquisition by the Company of all outstanding stock of
Palmer Video owned by him, together with an additional $2,289,196, consisting of
$436,686 in cash and 142,501 shares of Common Stock, payable to two family
trusts of which Mr. Balner is trustee.
The Company will pay an aggregate purchase price of $4,300,000 in cash to
A-Z Video in connection with the Acquisition of 12 video specialty stores. Mr.
Thomas, the Chief Operating Officer of the Company, is Chairman of the Board of
A-Z Video and owns 2% of its outstanding capital stock. See "Concurrent
Transactions."
54
<PAGE> 57
Concurrently with the consummation of the Acquisitions, the Company will
repay approximately $3.1 million of indebtedness to a financial institution, all
of which has been guaranteed by Ralph W. Standley III, T. Kyle Standley and M.
Trent Standley.
Concurrently with the consummation of the Acquisitions, the Company will
repay $216,781 of principal of and accrued interest on the Convertible Note to
Mr. Gardner. Mr. Graffeo has elected to convert an additional $216,781 of
principal and accrued interest into 20,844 shares of Common Stock. Each of
Messrs. Graffeo and Gardner has a 10% interest in each such note, which was
issued to West Coast Video Enterprises, Inc. in July 1995 as part of the
purchase price for the franchise-related assets of that corporation which were
acquired by the Company's wholly owned subsidiary, WC Franchise. See
"Description of Capital Stock -- Convertible Subordinated Secured Note."
In July 1995, the Company also agreed to pay to each of Messrs. Graffeo and
Gardner 1.11% (and the WCEI Companies 8.88%) of the total purchase price paid by
the Company to the seller in connection with the acquisition of the stock or
assets of any company which was a West Coast Video(R) franchisee as of July 12,
1995. Under this agreement, the Acquisition of stores from the Massachusetts
Franchisees will result in a payment of approximately $130,000 to each such
individual.
The Company has adopted a policy requiring all future transactions between
the Company and its officers, directors and affiliates to be on terms no less
favorable to the Company than could be obtained from unrelated third parties and
to be approved by a majority of the disinterested members of the Company's Board
of Directors.
55
<PAGE> 58
PRINCIPAL STOCKHOLDERS
The following table sets forth certain information regarding the beneficial
ownership of the Company's Common Stock as of May 1, 1996 and as adjusted to
reflect the sale of Common Stock offered hereby by (i) each person who is known
to the Company to own beneficially more than 5% of the outstanding shares of
Common Stock, (ii) each director and nominee, (iii) each Named Executive and
(iv) all directors and executive officers as a group.
<TABLE>
<CAPTION>
SHARES BENEFICIALLY
OWNED PRIOR TO SHARES BENEFICIALLY
OFFERING(1) OWNED AFTER OFFERING(1)
NAME AND ADDRESS OF ------------------------ ------------------------
BENEFICIAL OWNER NUMBER PERCENT(2) NUMBER PERCENT(2)
- ----------------------------------------------- --------- ---------- --------- ----------
<S> <C> <C> <C> <C>
5% STOCKHOLDERS:
Ralph W. Standley III(3)(4)(5)............... 1,361,323 28.6% 1,361,323 11.3%
Ralph W. Standley III Irrevocable
Trust(3)(5)............................... 342,820 7.2 342,820 2.9
T. Kyle Standley(3)(5)....................... 1,435,935 30.2 1,435,935 11.9
M. Trent Standley(3)......................... 664,958 14.0 664,958 5.5
OTHER EXECUTIVE OFFICERS:
Peter Balner(6).............................. -- -- 352,184 2.9
Palmer Corporation
1767 Morris Avenue
Union, NJ 07083-3598
Jules E. Gardner(3)(7)....................... -- -- -- --
Kenneth R. Graffeo(3)(8)..................... -- -- 20,844 *
Donald R. Thomas(3).......................... -- -- -- --
OTHER DIRECTORS:
James B. Dinneen, Jr.(9)..................... 172,956 3.6 172,956 1.4
Merion Capital Management
767 Third Avenue, 27th Floor
New York, NY 10017
C. Stewart Forbes............................ -- -- -- --
Colliers International
84 State Street, 5th Floor
Boston, MA 02109
Wesley F. Hoag............................... -- -- -- --
R. Meeder & Associates
P.O. Box 7177
Dublin, OH 43017
All directors and executive officers as a group
(11 persons)(4)(5)(7)........................ 3,977,992 83.6 4,351,020 36.2
</TABLE>
- ---------------
* Less than 1%
(1) Each stockholder possesses sole voting and investment power with respect to
the shares listed, except as otherwise indicated. In accordance with the
rules of the Securities and Exchange Commission, each stockholder is deemed
to beneficially own any shares subject to stock options or warrants which
are currently exercisable or which become exercisable, or convertible
securities which are currently exercisable or which become exercisable,
within 60 days after May 1, 1996, and any reference in these footnotes to
shares subject to stock options held by the person or entity in question
refers to stock options which are currently exercisable or which become
exercisable within 60 days after May 1, 1996. The inclusion herein of shares
listed as beneficially owned does not constitute an admission of beneficial
56
<PAGE> 59
ownership. The number and percentage of outstanding shares owned after this
offering assumes none of the listed stockholders will purchase additional
shares in this offering.
(2) Number of shares deemed outstanding includes shares outstanding as of May 1,
1996 and any shares subject to stock options held by the person or entity in
question that are currently exercisable or exercisable within 60 days
following May 1, 1996. Number of shares deemed outstanding after this
offering includes the additional 5,400,000 shares of Common Stock which are
being offered by the Company hereby but excludes the 810,000 shares of
Common Stock which are subject to the Underwriters' over-allotment option
and excludes the shares of Common Stock which are to be issued by the
Company in connection with the Acquisitions. The issuance of any such shares
concurrently with or following this offering would proportionately decrease
the respective percentages set forth above. None of the sellers in the
Acquisitions or their respective affiliates will become the beneficial owner
of more than 5% of the Company's outstanding stock, or (except for Mr.
Balner) an executive officer or director of the Company, as a result of the
Acquisitions.
(3) These holders have an address c/o the Company, 9990 Global Road,
Philadelphia, Pennsylvania 19115.
(4) Includes 64,304 shares owned by this stockholder's wife; this stockholder
disclaims beneficial ownership of all such 64,304 shares.
(5) Voting and dispositive power over 342,820 shares owned by this trust is
shared by T. Kyle Standley and John H. Chory, Esq., as co-trustees. The
beneficiaries of the trust are Ralph W. Standley III's issue, who include T.
Kyle Standley and M. Trent Standley. The number of shares in the column next
to Ralph W. Standley III's name excludes these shares.
(6) Excludes 142,501 shares of Common Stock to be acquired by two family trusts,
over which Mr. Balner has no voting or dispositive power, in connection with
the Acquisition of Palmer Video by the Company.
(7) Excludes 20,844 shares of Common Stock which this stockholder would be
entitled to acquire upon consummation of this offering through the
conversion of his ratable portion of the Convertible Note. See "Description
of Capital Stock -- Convertible Subordinated Secured Note." This Prospectus
assumes that this stockholder's portion of the Convertible Note will be
repaid, not converted.
(8) Includes 20,844 shares of Common Stock acquired by this stockholder through
conversion of his portion of the Convertible Note.
(9) All of these shares are held by a charitable remainder trust, over which Mr.
Dinneen shares voting power, and is the sole income beneficiary.
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<PAGE> 60
DESCRIPTION OF CAPITAL STOCK
GENERAL
The authorized capital stock of the Company consists of 25,000,000 shares
of Common Stock and 2,000,000 shares of Preferred Stock. As of May 1, 1996,
there were outstanding (i) 4,756,292 shares of Common Stock held by 12
stockholders of record, (ii) the Warrant, which provides for the purchase of
192,308 shares of Common Stock and (iii) the Convertible Note, which would be
convertible in its entirety into 208,439 shares of Common Stock but which this
Prospectus assumes will be repaid in part and converted only as to 20,844 shares
of Common Stock.
The following summary of certain provisions of the Company's Common Stock,
Preferred Stock, Certificate of Incorporation, as amended (the "Certificate of
Incorporation") and Restated By-laws (the "By-Laws") is believed to be complete
in all material respects. For further details, see the Company's Certificate of
Incorporation and By-laws included as exhibits to the Registration Statement of
which this Prospectus is a part. See "Additional Information."
COMMON STOCK
Holders of Common Stock are entitled to one vote for each share held on all
matters submitted to a vote of stockholders and do not have cumulative voting
rights. Accordingly, holders of a majority of the outstanding shares of Common
Stock entitled to vote in any election of directors may elect all of the
directors standing for election. Holders of Common Stock are entitled to receive
ratably such dividends, if any, as may be declared by the Board of Directors out
of funds legally available therefor, subject to preferential dividend rights, if
any, of any outstanding series of Preferred Stock. Upon the liquidation,
dissolution or winding-up of the Company, holders of Common Stock are entitled
to receive ratably the net assets of the Company available for distribution
after the payment of all debts and other liabilities of the Company. Holders of
Common Stock have no preemptive, subscription, redemption or conversion rights.
The outstanding shares of Common Stock are, and the shares offered hereby will
be, when issued and paid for, fully paid and nonassessable. The rights,
preferences and privileges of holders of Common Stock are subject to, and may be
adversely affected by, the rights of holders of shares of any series of
Preferred Stock that the Company may designate and issue in the future.
PREFERRED STOCK
The Board of Directors will be authorized, subject to any limitations
prescribed by law, without further stockholder approval, to issue from time to
time up to an aggregate of 2,000,000 shares of Preferred Stock, in one or more
series. Each such series of Preferred Stock shall have such number of shares,
designations, preferences, voting powers, qualifications and special or relative
rights or privileges as shall be determined by the Board of Directors, which may
include, among others, dividend rights, voting rights, redemption and sinking
fund provisions, liquidation preferences, conversion rights and preemptive
rights.
The stockholders of the Company have granted the Board of Directors
authority to issue the Preferred Stock and to determine its rights and
preferences in order to eliminate delays associated with a stockholder vote on
specific issuances. The rights of the holders of Common Stock will be subject to
the rights of holders of any Preferred Stock issued in the future. The issuance
of Preferred Stock, while providing desirable flexibility in connection with
possible acquisitions and other corporate purposes, could have the effect of
making it more difficult for a third party to acquire, or of discouraging a
third party from attempting to acquire, a majority of the outstanding voting
stock of the Company. The Company has no present plans to issue any shares of
Preferred Stock.
CONVERTIBLE SUBORDINATED SECURED NOTE
In connection with the acquisition of substantially all of the operating
assets pertaining to the franchise operations of the WCEI Companies by WC
Franchise, the Company and its wholly owned subsidiaries, WC Franchise and
Videosmith Incorporated, jointly issued the Convertible Note to West Coast Video
Enterprises,
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<PAGE> 61
Inc. (the "Holder"). The currently outstanding principal amount of the
Convertible Note is $2,000,000 and it accrues interest at the rate of 10% per
annum. All accrued but unpaid interest must be paid in full on January 31, 1997,
subject to certain rights of deferral. All outstanding principal and accrued but
unpaid interest outstanding at the closing of the offering contemplated hereby
must be paid in full. All or any portion of the principal, except the last
$50,000, and/or unpaid interest, may be prepaid at any time prior to the
consummation of this offering without penalty. At its sole option, the Holder
may convert all or a portion of the Convertible Note (the "Conversion Amount")
into that number of shares of Common Stock that represents the Conversion Amount
divided by 80% of the initial public offering price (208,439 shares). All shares
issued and/or payments of principal or interest made under the Convertible Note
are required to be so issued or made in the following proportions: 80% to the
Holder, 10% to Jules E. Gardner and 10% to Kenneth R. Graffeo. See "Certain
Transactions."
WARRANT
In July 1995, the Company issued the Warrant to Resource Holdings, Inc., a
subsidiary of Ingram. The Warrant entitles its holder to purchase a number of
shares equal to $1,750,000 divided by 70% of the initial public offering price
per share in this offering (192,308 shares). The exercise price of the Warrant
is 70% of such initial public offering price. The exercise price may be paid (i)
in cash or by certified check, (ii) upon the surrender of the documents
evidencing certain indebtedness owed by the Company to Resource Holdings Inc. or
(iii) by a combination of methods (i) and (ii). The Warrant expires on July 12,
2000. See Note 7 to the Company's consolidated financial statements. The Company
has granted certain registration rights relating to the shares of Common Stock
issuable upon exercise of the Warrant. See "-- Registration Rights."
DELAWARE LAW AND CERTAIN CHARTER AND BY-LAW PROVISIONS
The Company is subject to the provisions of Section 203 of the General
Corporation Law of Delaware. In general, Section 203 prohibits a publicly held
Delaware corporation from engaging in a "business combination" with an
"interested stockholder" for a period of three years after the date of the
transaction in which the person became an interested stockholder, unless the
business combination is approved in a prescribed manner. A "business
combination" includes mergers, asset sales and other transactions resulting in a
financial benefit to the interested stockholder. Subject to certain exceptions,
an "interested stockholder" is a person who, together with affiliates and
associates, owns, or within three years did own, 15% or more of the
corporation's voting stock.
The General Corporation Law of Delaware provides generally that the
affirmative vote of a majority of the shares entitled to vote on any matter is
required to approve the sale or exchange of all or substantially all of a
corporation's assets or the merger or consolidation of a corporation with or
into any other corporation, or to amend a corporation's certificate of
incorporation or by-laws, unless a corporation's certificate of incorporation or
by-laws, as the case may be, requires a greater percentage. The Company's
Certificate of Incorporation and By-laws require the affirmative vote of the
holders of at least two-thirds of the shares of capital stock of the Company
issued and outstanding and entitled to vote to approve the sale or exchange of
all or substantially all of the Company's assets or the merger or consolidation
of the Company with or into any other corporation (except for mergers or
consolidations which do not result in a substantial change in ownership of the
Company's outstanding capital stock). The Company's Certificate of Incorporation
and By-laws also require the affirmative vote of the holders of at least 75% of
the shares of capital stock of the Company issued and outstanding and entitled
to vote to amend or repeal such provision and certain of the provisions
described in the next two paragraphs.
The Company's By-laws also provide that any action required or permitted to
be taken by the stockholders of the Company may be taken without a meeting only
by the unanimous written consent of stockholders, and that special meetings of
stockholders may be called only by the Board of Directors or the President of
the Company. In addition, stockholders wishing to nominate a candidate for
election as a director or bring other business before a meeting of stockholders
must comply with certain advance notice and informational requirements in the
Company's By-laws. The foregoing provisions could have the effect of delaying
until the next stockholders' meeting stockholder actions which are favored by
the holders of a
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<PAGE> 62
majority of the outstanding voting securities of the Company. These provisions
may also discourage another person or entity from making a tender offer for the
Common Stock, because such person or entity, even if it acquired a majority of
the outstanding voting securities of the Company, would be able to take
unilateral action as a stockholder (such as electing new directors or approving
a merger) only at a duly called stockholders meeting, and not by written consent
unless it had acquired 100% of the Company's outstanding voting stock.
The Company's Certificate of Incorporation contains certain provisions
permitted under the General Corporation Law of Delaware relating to the
liability of directors. The provisions eliminate a director's liability to the
Company or its stockholders for monetary damages for a breach of fiduciary duty,
except in circumstances involving certain wrongful acts, such as the breach of a
director's duty of loyalty or acts or omissions which involve intentional
misconduct or a knowing violation of law. The Company's Certificate of
Incorporation also contains provisions obligating the Company to indemnify its
directors and officers to the fullest extent permitted by the General
Corporation Law of Delaware. The Company believes that these provisions will
assist the Company in attracting and retaining qualified individuals to serve as
directors.
REGISTRATION RIGHTS
Certain securityholders of the Company and certain persons who are to
receive shares of Common Stock in connection with the Acquisitions (collectively
the "Rightsholders"), who together will own or have the right to acquire a total
of 2,987,273 shares of Common Stock (the "Registrable Shares") upon the closing
of this offering (assuming consummation of each of the Acquisitions and exercise
of the Warrant), are parties to agreements with the Company under which they
have certain rights with respect to the registration of the Registrable Shares
under the Securities Act for resale to the public. These agreements provide that
in the event the Company proposes to register any of its Common Stock under the
Securities Act for its own account or otherwise, the Rightsholders are entitled
to include their Registrable Shares in such registration, subject to certain
conditions and limitations, which include the right of the managing underwriter
of any such offering to exclude some or all of the Registrable Shares from such
registration. In addition, certain of the Rightsholders have demand registration
rights under which, beginning twelve months after the closing of this offering,
they may require the Company to register all or part of their Registrable Shares
for resale to the public under the Securities Act, subject to certain conditions
and limitations. The Company is required to bear the expenses of certain
registrations (except underwriting discounts and commissions).
The Company is prohibited, pursuant to this agreement, from subsequently
granting registration rights to a third party which are more favorable to such
party than those rights enjoyed by the Rightsholders, unless approved by
Rightsholders who own more than 50% of the Registrable Shares.
TRANSFER AGENT AND REGISTRAR
The Transfer Agent and Registrar for the Common Stock is Chemical Mellon
Shareholder Services, L.L.C.
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SHARES ELIGIBLE FOR FUTURE SALE
Upon completion of this offering and the consummation of the Acquisitions,
the Company will have outstanding 12,213,152 shares of Common Stock. Of these
shares, the 5,400,000 shares sold in this offering (plus any additional shares
sold upon exercise of the Underwriters' over-allotment option) will be freely
tradeable without restriction under the Securities Act except that shares owned
by "affiliates" of the Company will be subject to certain restrictions. None of
the remaining 6,813,152 outstanding shares of Common Stock (collectively, the
"Restricted Shares"), including Restricted Shares to be issued in connection
with the Acquisitions, have been registered under the Securities Act, and they
may be resold publicly only upon registration under the Securities Act or in
compliance with an exemption from the registration requirements of the
Securities Act.
SALES OF RESTRICTED SECURITIES
At present, Rule 144 provides generally that if two years have elapsed
since the later of the date of the acquisition of restricted shares of Common
Stock from the Company or any affiliate of the Company, the acquiror or
subsequent holder thereof may sell, within any three-month period, a number of
shares that does not exceed the greater of 1% of the then outstanding shares of
Common Stock or the average weekly trading volume of the Common Stock during the
four calendar weeks preceding the date on which notice of the sale is filed with
the Securities and Exchange Commission (the "Commission"). Sales under Rule 144
are also subject to certain manner of sale provisions, notice requirements and
the availability of current public information about the Company. If three years
have elapsed since the later of the date of acquisition of restricted shares of
Common Stock from the Company or from any affiliate of the Company, and the
acquiror or subsequent holder thereof is deemed not to have been an affiliate of
the Company at any time during the 90 days preceding a sale, such person would
be entitled to sell such shares without regard to the limitations described
above. Holders of 2,285,466 Restricted Shares will be eligible to sell such
shares pursuant to Rule 144 under the Securities Act, subject to the manner of
sale, volume, notice and information requirements of Rule 144, beginning in
February 1997, holders of 2,470,826 Restricted Shares will be eligible to sell
such shares pursuant to Rule 144 beginning in July 1997 and holders of 2,056,860
Restricted Shares will be eligible to sell such shares pursuant to Rule 144
beginning on the second anniversary of the date of consummation of the
Acquisitions. The Commission has recently sought public comment on the
advisability of shortening the applicable holding periods under Rule 144 by one
year. If such a change in Rule 144 were to be effected, the respective dates
referred to above would be February 1996 and July 1996 (subject to the lock-up
agreements referred to below) and the first anniversary of the date of
consummation of the Acquisitions.
LOCK-UP AGREEMENTS
Pursuant to the terms of lock-up agreements with the Underwriters, the
Company, executive officers, directors and certain stockholders of the Company,
who hold in the aggregate approximately 4,618,000 shares of Common Stock have
agreed not to offer, sell, offer to sell, contract to sell, assign, pledge,
grant any option to purchase or otherwise dispose of or transfer any Common
Stock of the Company, or any other security of the Company, convertible into, or
exchangeable or exercisable for, Common Stock for a period of 180 days after the
effective date of the registration statement of which this Prospectus is a part
(the "Registration Statement") (the "Lock-up Period"), without the prior written
consent of Jefferies & Company, Inc. ("Jefferies"), except that (a) the Company
may issue (i) Common Stock or options to purchase Common Stock under the 1995
Equity Incentive Plan, the 1995 Director Option Plan or the 1995 Employee Stock
Purchase Plan, (ii) Common Stock upon the exercise of presently outstanding
warrants and (iii) Common Stock in connection with the Company's express
strategy of growth through acquisitions provided that such Common Stock is
restricted and is not tradeable prior to the expiration of the Lock-up Period
and (b) the executive officers, directors and certain stockholders of the
Company may make bona fide gifts to donees who agree to be bound by the
foregoing restrictions. See "Underwriting."
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REGISTRATION RIGHTS
The Company intends to file registration statements under the Securities
Act registering the shares of Common Stock reserved for issuance under the
Company's 1995 Equity Incentive Plan, 1995 Director Stock Option Plan and 1995
Employee Stock Purchase Plan soon after the completion of this offering. See
"Management -- Director Compensation" and "-- Employee Stock Plans." The Company
has granted demand and piggyback registration rights to certain holders of
certain Restricted Shares (including Restricted Shares to be issued in
connection with the Acquisitions) and to the holder of the Warrant in connection
with certain offerings of securities made by the Company or its affiliates. See
"Description of Capital Stock -- Registration Rights." Shares registered under
registration statements will be available for sale in the open market, unless
such shares are subject to vesting restrictions imposed by the Company.
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UNDERWRITING
Subject to the terms and conditions set forth in the Underwriting
Agreement, the Company has agreed to sell to the Underwriters named below, for
whom Jefferies, McDonald & Company Securities, Inc. and Sutro & Co. Incorporated
are acting as the representatives (the "Representatives"), and the Underwriters
have severally agreed to purchase, the number of shares of Common Stock set
forth opposite their respective names in the table below at the price set forth
on the cover page of this Prospectus:
<TABLE>
<CAPTION>
NUMBER
UNDERWRITERS OF SHARES
------------ ---------
<S> <C>
Jefferies & Company, Inc. ................................................ 1,234,000
McDonald & Company Securities, Inc........................................ 1,233,000
Sutro & Co. Incorporated.................................................. 1,233,000
A.G. Edwards & Sons, Inc. ................................................ 100,000
Lehman Brothers Inc. ..................................................... 100,000
Merrill Lynch, Pierce, Fenner & Smith Incorporated........................ 100,000
Morgan Stanley & Co. Incorporated......................................... 100,000
Oppenheimer & Co., Inc. .................................................. 100,000
Prudential Securities Incorporated........................................ 100,000
Salomon Brothers Inc...................................................... 100,000
Cleary Gull Reiland & McDevitt Inc. ...................................... 50,000
Cowen & Company........................................................... 50,000
Crowell, Weedon & Co. .................................................... 50,000
Cruttenden Roth Incorporated.............................................. 50,000
First of Michigan Corporation............................................. 50,000
Ladenburg, Thalmann & Co. Inc. ........................................... 50,000
Legg Mason Wood Walker, Incorporated...................................... 50,000
Mesirow Financial, Inc. .................................................. 50,000
H.J. Meyers & Co., Inc. .................................................. 50,000
Needham & Company, Inc. .................................................. 50,000
The Ohio Company.......................................................... 50,000
Piper Jaffray Inc. ....................................................... 50,000
Pryor, McClendon, Counts & Co. ........................................... 50,000
Rauscher Pierce Refsnes, Inc. ............................................ 50,000
Raymond James & Associates, Inc. ......................................... 50,000
Starr Securities, Inc. ................................................... 50,000
Unterberg Harris.......................................................... 50,000
Van Kasper & Company...................................................... 50,000
Vector Securities International, Inc. .................................... 50,000
Wheat First Butcher Singer................................................ 50,000
---------
Total........................................................... 5,400,000
=========
</TABLE>
The Underwriting Agreement provides that the obligation of the Underwriters
to purchase the shares of the Common Stock is subject to certain conditions. The
Underwriters are committed to purchase all of the shares of the Common Stock
(other than those covered by the over-allotment option described below), if any
are purchased.
The Underwriters propose to offer the Common Stock to the public initially
at the public offering price set forth on the cover page of this Prospectus, and
to certain dealers at such price, less a concession not in excess of $0.55 per
share. The Underwriters may allow, and such dealers may reallow, a discount not
in excess of $0.10 per share to certain other dealers. After the initial public
offering of the Common Stock, the public
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offering price, the concession to selected dealers and the reallowance to other
dealers may be changed by the Representatives.
The Company has granted to the Underwriters an option, exercisable for 30
days from the date of this Prospectus, to purchase up to 810,000 additional
shares of Common Stock from the Company at the initial public offering price,
less the underwriting discount. To the extent such option is exercised, each
Underwriter will become obligated, subject to certain conditions, to purchase
additional shares of Common Stock proportionate to such Underwriter's initial
commitment as indicated in the preceding table. The Underwriters may exercise
such right of purchase only for the purpose of covering over-allotments, if any,
made in connection with the sale of the shares of Common Stock.
The Company has agreed with the Underwriters not to sell any shares of
Common Stock or securities exercisable for or convertible into shares of Common
Stock for a period of 180 days from the effective date of the Registration
Statement, without the prior written consent of Jefferies. See "Shares Eligible
for Future Sale -- Lock-up Agreements."
Prior to this offering, there has been no public trading market for the
Common Stock, and there can be no assurance that an active trading market will
develop or be sustained upon the completion of this offering. The initial public
offering price of the shares of Common Stock has been determined by negotiations
between the Company and the Representatives. Among the factors considered in
such negotiations were the history of, and the prospects for, the Company and
the industry in which it competes, an assessment of the Company's management,
the Company's past and present operations, its past and present earnings and the
trend of such earnings, the general condition of the securities markets at the
time of this offering, the price-earnings ratios and the market prices of
publicly traded securities that the Company and the Representatives believe to
be comparable to the Company, and other factors deemed to be relevant. The
Common Stock has been approved for quotation on the Nasdaq National Market under
the symbol "WCEC."
The Company has agreed to indemnify the Underwriters against certain
liabilities that may be incurred in connection with this offering, including
liabilities under the Securities Act, or to contribute to payments that the
Underwriters may be required to make in respect thereof.
The foregoing includes a summary of the principal terms of the Underwriting
Agreement and does not purport to be complete. Reference is made to the copy of
the Underwriting Agreement that is on file as an exhibit to the registration
statement of which this Prospectus is a part.
Pursuant to an engagement letter between the Company and Jefferies, the
Company engaged Jefferies to act as its advisor in connection with the
establishment of the New Credit Facility and, in connection therewith, the
Company will pay Jefferies a cash fee of $150,000, plus reimbursement of
out-of-pocket expenses (not to exceed $10,000 without the prior consent of the
Company).
LEGAL MATTERS
The validity of the Common Stock offered hereby has been passed upon for
the Company by Hale and Dorr, Boston, Massachusetts. Certain legal matters in
connection with this offering will be passed upon for the Underwriters by
Skadden, Arps, Slate, Meagher & Flom, Los Angeles, California. John H. Chory, a
partner of Hale and Dorr, shares voting and dispositive power, as a co-trustee
of the Ralph W. Standley III Irrevocable Trust, with respect to 342,820 shares
of Common Stock owned by such trust.
EXPERTS
The financial statements of each of West Coast Entertainment Corporation;
New Age Entertainment, Inc. (one of the Massachusetts Franchisees); HB
Associates, Inc. (one of the Massachusetts Franchisees); Video Innovators, Inc.
(one of the Massachusetts Franchisees); Best Entertainment, Inc. (one of the
Massachusetts Franchisees); Showtime, Inc.; Video Giant, Inc.; Anthony Cocca's
Videoland, Inc.; Vidko, Inc.; Kobie-Co Movie Outlet; and Videosmith Incorporated
have been included herein and in the Registration Statement in reliance on the
reports of Price Waterhouse LLP, independent accountants, as of the dates and
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for the periods indicated in their reports appearing elsewhere herein, except as
they relate to the unaudited twelve month period ended December 31, 1995 of
Vidko, Inc., and on the authority of said firm as experts in auditing and
accounting.
The financial statements of each of Lancaster Group, Inc. (a member of the
Red Giraffe group), Palmer Corporation and subsidiaries and Videosmith
Incorporated have been included herein and in the Registration Statement in
reliance on the reports of KPMG Peat Marwick LLP, independent certified public
accountants, as of the dates and for the periods indicated in their reports
appearing elsewhere herein, and on the authority of said firm as experts in
auditing and accounting.
The combined financial statements of American Video, Inc. (a member of the
Red Giraffe group) and Red Giraffe Video, Inc. have been included herein and in
the Registration Statement in reliance on the report of Carpenter & Mountjoy,
PSC, independent certified public accountants, as of the dates and for the
periods indicated in their report appearing elsewhere herein, and on the
authority of said firm as experts in auditing and accounting.
The combined financial statements of West Coast Entertainment, Inc., and
affiliates have been included herein and in the Registration Statement in
reliance on the report of Miller, Glusman, Footer & Magarick, P.C., independent
certified public accountants, as of the dates and for the periods indicated in
their report appearing elsewhere herein, and on the authority of said firm as
experts in auditing and accounting.
ADDITIONAL INFORMATION
The Company has filed with the Commission a registration statement on Form
S-1 under the Securities Act of 1933, as amended, with respect to the shares of
Common Stock offered hereby. This Prospectus does not contain all of the
information set forth in the Registration Statement and the exhibits and
schedules thereto, as permitted by the rules and regulations of the Commission.
For further information with respect to the Company and the shares of Common
Stock offered hereby, reference is hereby made to such Registration Statement,
exhibits and schedules. Statements contained in this Prospectus as to the
contents of any contract or other document referred to are not necessarily
complete, and in each instance reference is made to the copy of such contract or
other document filed as an exhibit to the Registration Statement, each such
statement being qualified in all respects by such reference. A copy of the
Registration Statement may be examined without charge at the offices of the
Commission at 450 Fifth Street, N.W., Washington, D.C. 20549 and at regional
offices of the Commission located at 7 World Trade Center, 13th Floor, New York,
New York, 10048 and Citicorp Center, 500 West Madison Street, Suite 1400,
Chicago, Illinois 60661-2511. Copies of all or any part thereof may be obtained
from the Public Reference Section of the Commission, Washington, D.C. 20549 upon
payment of the fees prescribed by the Commission.
The Company intends to furnish its stockholders with annual reports
containing audited financial statements accompanied by a report thereon by its
independent public accounting firm and quarterly reports for the first three
quarters of each fiscal year containing unaudited financial information.
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<TABLE>
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
This Index relates to the financial statements set forth in this Prospectus
of West Coast Entertainment Corporation (the "Company"), its previously acquired
businesses ("Previously Acquired Businesses") and certain companies whose stock
or assets are to be acquired by the Company or which are to be merged into West
Coast substantially concurrently with the consummation of the offering described
herein, which companies are identified under the caption "Concurrent
Transactions" (the "Concurrent Acquisitions").
<CAPTION>
PAGE
----
<S> <C>
THE REGISTRANT
West Coast Entertainment Corporation
Report of Independent Accountants.............................................. F-4
Consolidated Balance Sheet..................................................... F-5
Consolidated Statement of Operations........................................... F-6
Consolidated Statement of Cash Flows........................................... F-7
Consolidated Statement of Stockholders' Equity/(Deficit)....................... F-8
Notes to the Consolidated Financial Statements................................. F-9
PREVIOUSLY ACQUIRED BUSINESSES
Videosmith Incorporated
Report of Independent Accountants.............................................. F-22
Balance Sheet.................................................................. F-23
Statement of Operations........................................................ F-24
Statement of Stockholder's Equity.............................................. F-25
Statements of Cash Flows....................................................... F-26
Notes to Financial Statements.................................................. F-27
Videosmith Incorporated
Independent Auditors' Report................................................... F-31
Balance Sheets................................................................. F-32
Statements of Operations and Retained Earnings................................. F-33
Statements of Cash Flows....................................................... F-34
Notes to Financial Statements.................................................. F-35
West Coast Entertainment, Inc. and Affiliates
Report of Independent Certified Public Accountants............................. F-39
Combined Balance Sheets........................................................ F-40
Combined Statements of Operations.............................................. F-41
Combined Statements of Changes in Stockholders' Deficiency..................... F-42
Combined Statements of Cash Flows.............................................. F-43
Notes to Combined Financial Statements......................................... F-44
CONCURRENT ACQUISITIONS (EXCLUDING A-Z VIDEO AND VIDEO VIDEO)
PALMER VIDEO
Palmer Corporation and Subsidiaries
Independent Auditors' Report................................................. F-48
Consolidated Balance Sheets.................................................. F-49
Consolidated Statements of Operations........................................ F-50
Consolidated Statements of Cash Flows........................................ F-51
Consolidated Statements of Stockholders' Equity.............................. F-52
Notes to Consolidated Financial Statements................................... F-53
RED GIRAFFE
American Video, Inc. and Red Giraffe Video, Inc.
Independent Auditor's Report................................................. F-61
Combined Balance Sheets...................................................... F-62
Combined Statements of Income................................................ F-63
</TABLE>
F-1
<PAGE> 69
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Combined Statements of Stockholders' Equity.................................. F-64
Combined Statements of Cash Flows............................................ F-65
Notes to Combined Financial Statements....................................... F-66
Lancaster Group, Inc.
Independent Auditors' Report................................................. F-70
Balance Sheets............................................................... F-71
Statements of Operations..................................................... F-72
Statements of Stockholders' Equity (Deficit)................................. F-73
Statements of Cash Flows..................................................... F-74
Notes to Financial Statements................................................ F-75
4 MASSACHUSETTS FRANCHISEES
New Age Entertainment, Inc.
Report of Independent Accountants............................................ F-78
Balance Sheet................................................................ F-79
Statement of Operations...................................................... F-80
Statements of Cash Flows..................................................... F-81
Statement of Stockholders' Equity............................................ F-82
Notes to Financial Statements................................................ F-83
HB Associates, Inc.
Report of Independent Accountants............................................ F-87
Balance Sheet................................................................ F-88
Statement of Operations...................................................... F-89
Statement of Cash Flows...................................................... F-90
Statement of Stockholders' Equity............................................ F-91
Notes to Financial Statements................................................ F-92
Best Entertainment, Inc.
Report of Independent Accountants............................................ F-96
Balance Sheet................................................................ F-97
Statement of Operations...................................................... F-98
Statement of Cash Flows...................................................... F-99
Statement of Stockholders' Equity............................................ F-100
Notes to Financial Statements................................................ F-101
Video Innovators, Inc.
Report of Independent Accountants............................................ F-105
Balance Sheet................................................................ F-106
Statement of Operations...................................................... F-107
Statement of Cash Flows...................................................... F-108
Statement of Stockholders' Equity............................................ F-109
Notes to the Financial Statements............................................ F-110
OTHER UNAFFILIATED SELLING GROUPS:
SHOWTIME VIDEO
Showtime, Inc.
Report of Independent Accountants............................................ F-114
Balance Sheet................................................................ F-115
Statement of Operations...................................................... F-116
Statement of Cash Flows...................................................... F-117
Statement of Stockholder's Equity............................................ F-118
Notes to Financial Statements................................................ F-119
VIDEO GIANT
Video Giant, Inc.
Report of Independent Accountants............................................ F-122
</TABLE>
F-2
<PAGE> 70
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Balance Sheet................................................................ F-123
Statement of Operations...................................................... F-124
Statement of Cash Flows...................................................... F-125
Statement of Stockholders' Equity............................................ F-126
Notes to Financial Statements................................................ F-127
VIDEOLAND
Anthony Cocca's Videoland, Inc.
Report of Independent Accountants............................................ F-130
Balance Sheet................................................................ F-131
Statement of Operations...................................................... F-132
Statement of Cash Flows...................................................... F-133
Statement of Stockholders' Equity............................................ F-134
Notes to Financial Statements................................................ F-135
Vidko, Inc.
Report of Independent Accountants............................................ F-139
Balance Sheet................................................................ F-140
Statement of Operations...................................................... F-141
Statement of Cash Flows...................................................... F-142
Statement of Stockholders' Equity............................................ F-143
Notes to Financial Statements................................................ F-144
Kobie-Co Movie Outlet
Report of Independent Accountants............................................ F-147
Balance Sheet................................................................ F-148
Statement of Operations...................................................... F-149
Statement of Cash Flows...................................................... F-150
Statement of Owner's Equity.................................................. F-151
Notes to Financial Statements................................................ F-152
</TABLE>
F-3
<PAGE> 71
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Stockholders of
West Coast Entertainment Corporation
In our opinion, the accompanying consolidated balance sheet and the related
consolidated statements of operations, of cash flows and of stockholders' equity
(deficit) present fairly, in all material respects, the financial position of
West Coast Entertainment Corporation, formerly the combined companies of Giant
Video Corporation, Nostalgia Ventures, Inc., Videosmith, Inc., and G.V.
Management Corporation, at January 31, 1996 and 1995 and the results of their
operations and their cash flows for each of the three years in the period ended
January 31, 1996, in conformity with generally accepted accounting principles.
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 of these statements in accordance with
generally accepted auditing standards which 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,
assessing the accounting principles used and significant estimates made by
management, and evaluating the overall financial statement presentation. We
believe that our audits provide a reasonable basis for the opinion expressed
above.
PRICE WATERHOUSE LLP
March 12, 1996
Boston, Massachusetts
F-4
<PAGE> 72
WEST COAST ENTERTAINMENT CORPORATION
CONSOLIDATED BALANCE SHEET
(IN THOUSANDS, EXCEPT PAR VALUE)
<TABLE>
<CAPTION>
JANUARY 31,
--------------------
1995 1996
------ -------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents............................................. $ 45 $ 611
Accounts receivable................................................... -- 1,085
Merchandise inventories............................................... 288 504
Prepaid expenses and other current assets............................. 162 151
Receivable from stockholder........................................... 30 --
------ -------
Total current assets.......................................... 525 2,351
Videocassette rental inventory, net..................................... 1,464 1,509
Furnishings, equipment and leasehold improvements, net.................. 1,299 1,235
Other assets............................................................ 269 4,258
Intangible assets (net of accumulated amortization of $254,000 at
January 31, 1996)..................................................... -- 6,967
Deferred tax asset...................................................... 74 195
------ -------
$3,631 $16,515
====== =======
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Current portion of long-term debt..................................... $ 859 $ 2,091
Accounts payable...................................................... 735 1,327
Accrued expenses...................................................... 495 4,686
Income taxes.......................................................... 397 760
Advances from stockholders............................................ 42 7
------ -------
Total current liabilities..................................... 2,528 8,871
Long-term debt.......................................................... 738 7,101
------ -------
Total liabilities............................................. 3,266 15,972
Commitments (Note 14)
Stockholders' equity:
Common stock, $0.01 par value, 25,000 shares authorized, 7,273, and
14,000 shares issued and outstanding at January 31, 1995 and 1996,
respectively....................................................... 73 140
Preferred stock, $0.01 par value, 2,000 shares authorized, no shares
issued............................................................. -- --
Additional paid-in capital............................................ 819 819
Accumulated deficit................................................... (527) (416)
------ -------
Total stockholders' equity.................................... 365 543
------ -------
$3,631 $16,515
====== =======
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-5
<PAGE> 73
WEST COAST ENTERTAINMENT CORPORATION
CONSOLIDATED STATEMENT OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
YEAR ENDED JANUARY 31,
-----------------------------
1994 1995 1996
------ ------ -------
<S> <C> <C> <C>
Revenues:
Rental revenue................................................ $2,248 $5,606 $ 9,209
Merchandise sales............................................. 272 897 2,299
Franchise fees................................................ -- -- 3,211
------ ------ -------
2,520 6,503 14,719
------ ------ -------
Costs and expenses:
Store operating expenses...................................... 2,086 4,866 8,206
Cost of goods sold............................................ 44 382 1,384
General and administrative.................................... 434 870 3,913
------ ------ -------
2,564 6,118 13,503
------ ------ -------
Income (loss) from operations................................... (44) 385 1,216
------ ------ -------
Interest expense................................................ 42 118 640
------ ------ -------
Income (loss) before provision for income taxes................. (86) 267 576
Provision (benefit) for income taxes............................ (14) 63 242
------ ------ -------
Net income (loss)............................................. $ (72) $ 204 $ 334
====== ====== =======
Unaudited pro forma data:
Income (loss) before income taxes............................. $ (86) $ 267 $ 576
Income tax provision (benefit)................................ (29) 63 275
------ ------ -------
Net income (loss)............................................. $ (57) $ 204 $ 301
====== ====== =======
Net income (loss) per share................................... $ (.07) $ .12 $ .06
====== ====== =======
Weighted average number of common shares...................... 843 1,693 4,756
====== ====== =======
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-6
<PAGE> 74
WEST COAST ENTERTAINMENT CORPORATION
<TABLE>
CONSOLIDATED STATEMENT OF CASH FLOWS
<CAPTION>
YEAR ENDED JANUARY 31,
------------------------------
1994 1995 1996
------ ------- -------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income (loss)............................................ $ (72) $ 204 $ 334
Adjustments to reconcile net income (loss) to cash flows
provided by (used in) operating activities:
Amortization of videocassette rental inventory............ 784 1,436 1,972
Depreciation and amortization of furnishings, equipment
and leasehold improvements.............................. 86 192 359
Amortization of intangible assets......................... 254
Changes in assets and liabilities:
Accounts receivable..................................... -- -- (262)
Merchandise inventories................................. 2 4 64
Prepaid expenses and other assets....................... (77) (66) (3,522)
Accounts payable........................................ 75 27 115
Accrued expenses........................................ 140 (190) 3,575
Current taxes........................................... 36 135 363
Deferred taxes.......................................... 43 (117) (121)
------ ------- -------
Net cash provided by operating activities................. 1,017 1,625 3,131
------ ------- -------
Cash flows from investing activities:
Acquisition of businesses, net of cash acquired.............. 3 (1,734) (3,453)
Purchases of property and equipment.......................... (6) (47) (95)
Purchases of videocassette rental inventory.................. (685) (1,430) (2,002)
------ ------- -------
Net cash used in investing activities..................... (688) (3,211) (5,550)
------ ------- -------
Cash flows from financing activities:
Proceeds from long-term debt................................. 189 1,410 5,565
Repayment of long-term debt.................................. (479) (474) (2,352)
Proceeds (repayments) from advances from stockholders........ -- 34 (5)
Shareholder contribution (distributions)..................... (50) 649 (223)
------ ------- -------
Net cash used in financing activities..................... (340) 1,619 2,985
------ ------- -------
Net increase (decrease) in cash and cash equivalents........... (11) 33 566
------ ------- -------
Cash and cash equivalents, beginning of period................. 23 12 45
------ ------- -------
Cash and cash equivalents, end of period....................... $ 12 $ 45 $ 611
====== ======= =======
Supplemental cash flow data:
Interest paid................................................ $ 42 $ 118 $ 332
====== ======= =======
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-7
<PAGE> 75
WEST COAST ENTERTAINMENT CORPORATION
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY/(DEFICIT)
(IN THOUSANDS, EXCEPT SHARES)
<TABLE>
<CAPTION>
TOTAL
COMMON STOCK ADDITIONAL STOCKHOLDERS'
------------------- PAID-IN ACCUMULATED EQUITY
SHARES AMOUNT CAPITAL DEFICIT (DEFICIT)
---------- ------ ---------- ----------- ------------
<S> <C> <C> <C> <C> <C>
Balance at January 31, 1993................ 1,419,571 $ 15 $ (3) $(558) $ (546)
Shares issued -- Nostalgia Ventures,
Inc. .................................... 1,272,725 12 88 -- 100
Net loss................................... -- -- -- (72) (72)
S Corporation distribution................. -- -- -- (50) (50)
----------- ---- ---- ----- -----
Balance at January 31, 1994................ 2,692,296 27 85 (680) (568)
Shares issued -- Videosmith, Inc........... 4,580,505 46 734 -- 780
Net income................................. -- -- -- 204 204
S Corporation distribution................. -- -- -- (51) (51)
----------- ---- ---- ----- -----
Balance at January 31, 1995................ 7,272,801 73 819 (527) 365
Shares issued -- West Coast Entertainment
Corporation.............................. 6,727,200 67 -- -- 67
Net income................................. -- -- -- 334 334
S Corporation distribution................. -- -- -- (223) (223)
----------- ---- ---- ----- -----
Balance at January 31, 1996................ 14,000,001 $140 $819 $(416) $ 543
=========== ==== ==== ===== =====
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-8
<PAGE> 76
WEST COAST ENTERTAINMENT CORPORATION
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION AND BUSINESS
West Coast Entertainment Corporation (the "Company") was incorporated in
the State of Delaware in February 1995 for the purpose of conducting business as
an owner and operator as well as a franchisor of videocassette rental stores.
Upon incorporation, 10,000 shares were issued to the Company's then existing
shareholders. On July 12, 1995, in connection with an anticipated initial public
offering (the "Offering"), Giant Video, Inc., G.V. Management Corporation,
Nostalgia Ventures, Inc. and Videosmith, Inc. were merged into the Company.
These four entities were individually formed or acquired over the past several
years and were under substantial common ownership and common day-to-day
management prior to the merger. In accordance with the plan of merger, the
Company declared a 672.72-for-1 stock split with respect to its 10,000 shares
issued and outstanding and issued and exchanged 7,272,801 shares of its common
stock for all of the outstanding common stock of the above four entities. In
addition, the stockholders of the above four entities own all of the Company's
shares of common stock outstanding (14,000,001) prior to the Offering. The
financial statements of the above four entities have been combined and included
in the accompanying consolidated financial statements from the date of the
respective entity's acquisition or inception, at its historical cost, determined
as of such date. The par value and number of shares outstanding have been
retroactively adjusted to appropriately reflect the merger transaction as well
as the fact that the entities were acquired or formed at various times during
the past several years.
<TABLE>
The consolidated financial statements of the Company include the accounts
and transactions of the following companies:
<S> <C>
Giant Video, Inc. For the years ended January 31, 1994, 1995 and 1996.
G.V. Management Corporation For the years ended January 31, 1994, 1995, 1996.
Nostalgia Ventures, Inc. For the period from April 3, 1993 (the date the company was
acquired by the above noted stockholders) to January 31, 1994,
for the years ended January 31, 1995 and 1996.
Videosmith, Inc. For the period from August 5, 1994 (the date the company was
acquired by the above noted stockholders) to January 31, 1995
and for the year ended January 31, 1996.
West Coast Franchising For the period from July 12, 1995 (the date of inception) to
Company January 31, 1996 (see Note 11).
</TABLE>
As of January 31, 1996, the Company owns and operates 28 video rental
stores and is a franchisor of a chain of 304 video stores.
Unaudited pro forma data included in the consolidated statement of
operations reflect certain adjustments to give effect to the income tax
implications of the merger transaction. Unaudited pro forma data, as adjusted,
reflect certain supplemental adjustments to the consolidated statement of
operations to give effect to the income tax implications of the merger
transaction and application of the estimated proceeds of the Offering (see Note
16).
As certain of the combined entities were Subchapter S Corporations and were
not subject to federal and state income taxes, historical per share data is not
considered meaningful and, accordingly, has not been presented.
F-9
<PAGE> 77
WEST COAST ENTERTAINMENT CORPORATION
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
A summary of the Company's significant accounting policies follows:
Pervasiveness 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 these estimates.
Consolidation
All significant intercompany balances and transactions have been eliminated
in the accompanying consolidated financial statements.
Classification
Certain prior year balances have been reclassified to conform with current
year classifications.
Cash Equivalents
The Company considers all highly liquid investments with original
maturities of three months or less to be cash equivalents.
Revenue Recognition
Revenue is recognized at the time of rental or sale of a videocassette or
video game. Franchise fees, related to the sale of franchises, are recognized
when the stores are opened for business. Post-sale franchise fees are recognized
based on stated percentages of franchisee revenue as defined in the franchise
agreements.
Franchising Costs
Direct costs relating to franchise sales for which revenue has not been
recognized is deferred until the related revenue is recognized.
Merchandise Inventory
Merchandise inventory, consisting primarily of videocassettes and video
games, are stated at the lower of cost or market. Cost is determined by the
first-in, first-out method.
Videocassette Rental Inventory
Videocassette rental inventory, which includes video games, is stated at
cost and is amortized over its estimated economic life with no provision for
salvage value. Videocassettes that are considered base stock are amortized over
36 months on a straight-line basis. New release videocassettes are amortized as
follows: the first through third copies of each title per store are amortized as
base stock and the fourth and succeeding copies of each title per store are
amortized over nine months on a straight-line basis. The unamortized cost, if
any, of videocassette rental inventory that is sold is charged to operations at
the time of the sale. The Company believes that its method of amortization
results in an appropriate matching of tape amortization expense with the revenue
received from the associated rental of such tapes.
F-10
<PAGE> 78
WEST COAST ENTERTAINMENT CORPORATION
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Furnishings, Equipment and Leasehold Improvements
Furnishings, equipment and leasehold improvements are stated at cost.
Depreciation and amortization are provided on a straight-line basis over the
estimated useful lives (5 to 7 years) of furnishings and equipment and, for
leasehold improvements, over the lesser of the estimated useful lives or lease
terms (primarily 5 to 10 years). Repair and maintenance costs are expensed as
incurred.
Intangible Assets
Intangible assets are primarily comprised of franchise rights and a
covenant not-to-compete. Franchise rights are amortized on a straight-line basis
over 15 years, the estimated remaining economic life of such rights. The
covenant not-to-compete is amortized on a straight-line basis over the term of
the agreement.
Income Taxes
Income taxes for financial reporting purposes are recorded in accordance
with Statement of Financial Accounting Standards No. 109, Accounting for Income
Taxes ("SFAS 109"). SFAS 109 is an asset and liability approach that requires
the recognition of deferred tax assets and liabilities for the expected future
tax consequences of temporary differences between the carrying amounts and the
tax bases of the Company's assets and liabilities. The measurement of deferred
tax assets is reduced, if necessary, by a valuation allowance.
Prior to the effective date of the merger transaction discussed in Note 1,
Nostalgia Ventures, Inc. and Videosmith, Inc. were subject to tax as C
corporations, while Giant Video, Inc., and G.V. Management Corporation had
elected to be treated as S corporations for federal and state income tax
purposes. Under the provisions of Subchapter S, a pro rata portion of each
entity's taxable income is allocated to each individual shareholder.
Accordingly, no provision for income taxes relating to Giant Video, Inc., and
G.V. Management Corporation is included in the accompanying consolidated
statement of operations for any period prior to the effective date of the
merger.
Concurrent with the merger transaction, the assets received from the merged
S corporations became subject to C corporation tax. As such, the income tax
expense included in the accompanying consolidated statement of operations
subsequent to the effective date of the merger includes normal corporate level
federal and state income taxes. The deferred tax attributes arising from the
conversion to C Corporation status totalled $72,000, resulting in the
recognition of a deferred tax asset.
3. VIDEOCASSETTE RENTAL INVENTORY
<TABLE>
Videocassette rental inventory and related amortization are as follows (in
thousands):
<CAPTION>
JANUARY 31,
-------------------
1995 1996
------- -------
<S> <C> <C>
Videocassette rental inventory................................... $ 2,494 $ 3,299
Accumulated amortization......................................... (1,030) (1,790)
------- -------
$ 1,464 $ 1,509
======= =======
</TABLE>
Amortization expense related to videocassette rental inventory totaled
$784,000, $1,436,000 and $1,972,000 for the years ended January 31, 1994, 1995
and 1996, respectively.
F-11
<PAGE> 79
WEST COAST ENTERTAINMENT CORPORATION
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
4. FURNISHINGS, EQUIPMENT AND LEASEHOLD IMPROVEMENTS
<TABLE>
Furnishings, equipment and leasehold improvements comprise the following
(in thousands):
<CAPTION>
JANUARY 31,
-----------------
1995 1996
------ ------
<S> <C> <C>
Furniture and fixtures............................................. $ 561 $ 634
Equipment and vehicles............................................. 73 220
Leasehold improvements............................................. 1,216 1,291
------ ------
1,850 2,145
Accumulated depreciation and amortization.......................... (551) (910)
------ ------
$1,299 $1,235
====== ======
</TABLE>
Depreciation and amortization totaled $86,000, $192,000 and $359,000 for
the years ended January 31, 1994, 1995 and 1996, respectively.
5. NON-CURRENT OTHER ASSETS
<TABLE>
Non-Current other assets is comprised of the following (in thousands):
<CAPTION>
JANUARY 31,
---------------
1995 1996
---- ------
<S> <C> <C>
Deferred expenses relating to the initial public offering and
pending acquisitions.............................................. $146 $4,109
Other............................................................... 123 149
---- ------
$269 $4,258
==== ======
</TABLE>
<TABLE>
6. ACCRUED EXPENSES
Accrued expenses is comprised of the following (in thousands):
<CAPTION>
JANUARY 31,
---------------
1995 1996
---- ------
<S> <C> <C>
Accrued wages and taxes............................................. $212 $ 259
Property taxes payable.............................................. 33 --
Sales taxes......................................................... 58 102
Accrued rent........................................................ 77 126
Accrued professional fees........................................... -- 3,006
Accrued advertising expenses........................................ -- 267
Accrued interest expenses........................................... 10 318
Accrued finder's fee................................................ -- 200
Other............................................................... 105 408
---- ------
$495 $4,686
==== ======
</TABLE>
F-12
<PAGE> 80
WEST COAST ENTERTAINMENT CORPORATION
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
7. LONG-TERM DEBT
<TABLE>
Long-term debt is comprised of the following (in thousands):
<CAPTION>
JANUARY 31,
------------------
1995 1996
------- -------
<S> <C> <C>
Revolving credit facility................................................ $ -- $ 1,166
Senior bank term loan.................................................... -- 2,250
11% subordinated secured note payable.................................... -- 1,400
10% second subordinated secured convertible note payable................. -- 2,000
10% second subordinated secured note payable............................. -- 2,000
Unsecured non-interest bearing $500 obligation due to the former owner of
West Coast Video, less unamortized discount of $118 based on an imputed
interest rate of 10%. Monthly installments of $8.3 are required
beginning in July 1995 and continuing through June 2000. (See Note
11).................................................................... -- 340
Bank term loan, interest at prime plus 1.75% (10.25% at January 31,
1995), secured by the assets and common stock of Videosmith, Inc., and
limited guarantees of $750 by the stockholders of Videosmith, Inc.
Payable in monthly installments of $20.8 plus interest beginning on
September 5, 1994 and continuing through July 5, 1998.................. 938 --
Note payable to the Company's principal supplier of video rental tapes,
secured by the inventory sold to the Company by the supplier, with
interest at prime plus 4% (12.5% at January 31, 1995), payable in
monthly installments of principal plus interest of $10.4 through
October 1996........................................................... 208 --
10% note payable to the landlord of Giant Video Inc.'s six stores,
secured by all of the assets and stock of Giant Video, Inc. Interest
and principal is payable in various monthly installments through July
1995................................................................... 170 --
10% note payable to former shareholder of Nostalgia Ventures, Inc.,
secured by the assets and common stock of Nostalgia Ventures, Inc.,
with principal and interest due in monthly installments of $8.9 through
March 1996............................................................. 110 --
Various notes payable due in monthly installments with interest rates
varying from prime plus 2% to 4%....................................... 171 36
------ -------
1,597 9,192
Less: current portion.................................................... (859) (2,091)
------ -------
$ 738 $ 7,101
====== =======
</TABLE>
Effective July 12, 1995, and in connection with the merger transaction
discussed in Note 1, the Company refinanced borrowings that were in existence at
that time. In addition, on that date, the Company issued certain notes payable
in connection with an acquisition (see Note 11). A summary of the various credit
facilities follows.
SENIOR DEBT
On July 12, 1995, the Company entered into a $3,000,000 senior bank term
loan (the "Term Loan") and a $1,250,000 bank revolving credit facility (the
"Facility"), both of which bear interest at prime + 1/2% (8 3/4% at January 31,
1996) through July 11, 1996 and at prime thereafter. Under the terms of this
arrangement, quarterly principal payments of $375,000 are required on the Term
Loan beginning October 1, 1995 and ending July 11, 1997. Borrowings under the
Facility are limited to the borrowing base of 75% of eligible outstanding
franchisee fee receivables plus $500,000 (the "Overadvance") through April 29,
1996. The
F-13
<PAGE> 81
WEST COAST ENTERTAINMENT CORPORATION
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Overadvance decreases to $333,333 for the period April 30, 1996 through May 30,
1996 and to $166,667 for the period May 31, 1996 through June 29, 1996 and is $0
thereafter. The Facility expires on July 11, 1997 and provides for a commitment
fee payable quarterly, computed as 1/2% of the average unused Facility during
the preceding quarter.
The senior borrowings are secured by a first security interest in the
assets and common stock of the Company and contain certain restrictive
covenants, including the maintenance of 1) minimum tangible net worth, 2)
maximum ratio of debt to tangible net worth and 3) a minimum fixed charge
coverage ratio. In addition, dividend declarations are restricted under the
terms of the agreement.
SUBORDINATED DEBT
On July 12, 1995, the Company entered into a $1,400,000, 11% subordinated
secured note payable with a primary supplier of video tape rentals. In
accordance with the terms of the note, all interest accruing through July 12,
1997 shall be compounded annually and added to the outstanding principal balance
of the note. Commencing on October 12, 1997, and continuing until all principal
and accrued interest are paid in full, interest payments shall be made
quarterly. Principal payments of $110,000, $180,000 and $190,000 are payable on
October 12, 1997, January 12, 1998 and April 12, 1998, respectively. All
remaining unpaid principal and accrued interest is due and payable in full on
July 12, 1998. The note also provides for a subordinated security interest in
the common stock and assets of the Company and contains restrictive covenants
similar to those included in the Senior Debt as described above.
<TABLE>
In conjunction with this note the Company issued a detachable warrant
entitling the holder to purchase shares of the Company's common stock. The
warrant is exercisable beginning on the earlier of the Offering date or July 12,
1997 and expires on July 12, 2000. The number of shares that can be acquired is
equal to the quotient obtained by dividing $1.75 million by the exercise price
per share. The exercise price per share is dependent on the timing of the
Offering as outlined below:
<CAPTION>
OFFERING DATE EXERCISE PRICE/SHARE($)
------------- ----------------------
<S> <C>
On or before January 12, 1996......... 80% of IPO price
January 13, 1996-July 12, 1996........ 70% of IPO price
July 13, 1996-July 12, 1997........... 60% of IPO price
</TABLE>
In the event that the Offering does not occur on or before July 13, 1997,
the number of shares that can be acquired is equal to 6.25% of the common stock
outstanding on the exercise date. The exercise price of the warrant after July
12, 1997 is equal to $1,400,000 and the company has the right, upon such
exercise, to redeem the interest for $300,000. Upon the occurrence of a Private
Sale Event, as defined in the warrant, the holder of the warrant is entitled to
acquire 875,000 shares of the Company's common stock at an exercise price of
$1.60 per share. The warrants may be exercised for cash, presentation of the
related note payable, or a combination of the two. The Company has determined
that the value of the warrant is insignificant at the date of issuance.
On March 5, 1996, the Company entered into an $800,000, 12% subordinated
secured note payable with the same primary supplier of video tape rentals
referred to above. In accordance with the terms of the note, all interest which
accrues through February 1, 1999 shall be compounded annually and added to the
outstanding principal balance of the note on February 1 of each year. Equal
quarterly principal and accrued interest payments commence on April 1, 1999
continuing through January 1, 2000. In the event that the Company prepays the
note in whole or in part prior to August 1, 1997, a prepayment penalty of
$400,000 will be due to the lender. Prepayment is mandatory upon the occurrence
of an initial public stock offering or a change of control event, as defined in
the note. The note also provides for a subordinated security interest in the
common
F-14
<PAGE> 82
WEST COAST ENTERTAINMENT CORPORATION
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
stock and assets of the Company and contains restrictive covenants similar to
those included in the Senior Debt as described above.
Also, on July 12, 1995, and in connection with the acquisition of West
Coast Entertainment Inc., West Coast Video Enterprises, Inc., West Coast
Services, Inc., Game Power Headquarters, Inc., and Premier Advertising, Inc.
(the "Acquired Businesses"), the Company issued a $2,000,000 10% second
subordinated secured convertible note payable (the "convertible note"), a
$2,000,000 10% second subordinated secured note payable (the "subordinated
note") and a $500,000 unsecured non-interest bearing note to the former
shareholder of the Acquired Businesses.
In accordance with the terms of the convertible note, repayment of
principal and interest is dependent upon the Company's ability to successfully
undertake the Offering on or before January 31, 1997 (the "conversion date"). If
the Offering occurs on or before the conversion date, all principal together
with unpaid interest accrued thereon shall be paid in full out of the proceeds
of the IPO. However, the holder of the convertible note may elect to convert
some or all of the outstanding principal, together with interest accrued
thereon, into the number of shares of the Company's common stock as determined
by dividing the appropriate amount of principal and interest so converted by 80%
of the Offering price per share.
If the Company's Offering does not occur by the conversion date, the entire
outstanding principal balance shall be converted into shares of the Company's
stock using an agreed upon formula, not to exceed 49% of the total outstanding
share value at the conversion date. Interest payments are not required until
January 31, 1997 at which point the holder of the convertible note can elect to
convert such amounts into shares of the Company's stock in conjunction with the
conversion of the principal discussed above or to receive a lump sum payment. In
the event that the Company does not have adequate available cash at that time or
such payment would be precluded by the Senior Debt or the Subordination
Agreements, such payment shall be made on July 31, 1997 along with any
additional interest accruing through that date.
The Company may, at its option, prepay all or any portion of the
outstanding principal and/or interest without penalty and without discount, with
the exception of the last $50,000 of principal which can be prepaid only with
the consent of the holder.
In accordance with the terms of the subordinated note, principal payments
are required to be made in 16 monthly installments of $125,000 beginning on July
31, 1997 or, at the Company's election on September 30, 1997. Interest will
accrue on the subordinated note at 10% per annum, compounded annually, however,
no interest payments accruing on the original borrowing are required until
January 31, 1997, at which point all interest shall be paid in one lump sum
subject to the Company having adequate cash balances available and the terms of
the Senior Debt and the Subordination Agreements. In the event that the interest
payment is not made on January 31, 1997, such payment shall be made 50% on July
31, 1997 and 50% on August 31, 1997 along with the additional interest accruing
through those dates. Monthly interest payments on the remaining unpaid principal
will begin on either February 28, 1997 or September 30, 1997.
The Company may prepay all or any portion of the principal and/or interest
at any time without penalty and without discount.
The convertible note and the subordinated note provide the holder with a
second subordinated security position with respect to the assets and common
stock of the Company. In addition, the notes contain certain restrictive
covenants similar to those described in the Senior Debt.
In the event that the Company is unable to complete the offering, it is
management's intention to reduce its present cost structure and restructure its
obligations.
F-15
<PAGE> 83
WEST COAST ENTERTAINMENT CORPORATION
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Principal due on long-term debt for each of the years following January 31,
1996 is as follows:
<TABLE>
<S> <C>
1997............................................................. $2,091,000
1998............................................................. 4,668,000
1999............................................................. 2,311,000
2000............................................................. 91,000
2001............................................................. 31,000
----------
$9,192,000
==========
</TABLE>
In March 1996, the Company received a commitment for a $60 million credit
facility from PNC Bank, National Association, contingent upon completion of the
Offering.
8. INCOME TAXES
The components of the provision for income taxes are as follows (in
thousands):
<TABLE>
<CAPTION>
YEAR ENDED
JANUARY 31,
---------------
1995 1996
----- -----
<S> <C> <C>
Current:
Federal................................................... $ 139 $ 176
State..................................................... 41 187
----- -----
180 363
----- -----
Deferred:
Federal................................................... (100) (112)
State..................................................... (17) (9)
----- -----
(117) (121)
----- -----
Tax provision............................................... $ 63 $ 242
===== =====
</TABLE>
F-16
<PAGE> 84
WEST COAST ENTERTAINMENT CORPORATION
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
<TABLE>
Deferred income taxes reflect the net tax effects of temporary differences
between amounts of assets and liabilities for financial reporting purposes and
such amounts as measured by tax laws. The temporary differences which give rise
to deferred tax assets and liabilities are as follows (in thousands):
<CAPTION>
JANUARY 31,
-------------------
1995 1996
------- -------
<S> <C> <C>
Deferred tax asset:
Intangible amortization........................................ $ 10 $ --
Videocassette rental inventory amortization.................... 668 --
Furnishings, equipment and leasehold improvement
depreciation................................................ 588 596
Recognized built-in loss carryforward.......................... 126 812
Write-off of fixed assets...................................... 94 --
Expense accruals............................................... -- 165
State NOL carryforward......................................... -- 66
Acquisition costs.............................................. -- 21
Other.......................................................... 25 19
------- -------
1,511 1,679
Deferred tax asset valuation allowance........................... (1,437) (1,484)
------- -------
$ 74 $ 195
======= =======
</TABLE>
As a result of a change in ownership of Videosmith, Inc. at August 4, 1994,
there is an annual limitation on the use of net unrealized built-in losses. Such
limitation applies only to those built-in losses recognized for income tax
purposes in the five-year period beginning with the date of the ownership
change. The use of such losses is limited to approximately $45,000 per year for
the carryforward period, generally 15 years subsequent to the year recognized,
and are subject to certain consolidated tax return limitations, including
Videosmith's separate company taxable income. A majority of the temporary
differences noted above at January 31, 1996 are comprised of net unrealized
built-in losses that have not been recognized for income tax reporting purposes.
Management anticipates that approximately 68% of such unrealized built-in losses
will be recognized on a tax return basis within the five year period.
Management believes that it is more likely than not that it will generate
taxable income sufficient to realize a portion of the tax benefit associated
with the future deductible temporary differences identified above. This belief
is based upon a review of all available evidence, including historical operating
results and projections of future taxable income, recognizing the limitations
discussed above.
F-17
<PAGE> 85
WEST COAST ENTERTAINMENT CORPORATION
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
<TABLE>
A reconciliation between the provision for income taxes and the amount
determined by applying the U.S. federal statutory rate to income before income
taxes is as follows (in thousands):
<CAPTION>
YEAR ENDED
JANUARY 31,
--------------
1995 1996
----- ----
<S> <C> <C>
Income at statutory rate of 34%...................................... $ 93 $196
State tax expense, net of federal benefit.......................... 25 58
Amount not subject to federal income tax due to S Corporation
status.......................................................... 28 (33)
Change in valuation allowance...................................... (102) 47
Nondeductible intangible amortization.............................. 11 11
Deferred tax asset due to conversion to C Corporation status....... -- (72)
Reserve for contingency............................................ -- 22
Other.............................................................. 8 13
----- ----
$ 63 $242
===== ====
</TABLE>
9. RELATED PARTY TRANSACTIONS
The principal stockholders have from time to time loaned the Company funds
for working capital purposes. No interest is charged on these loans.
10. LEASE COMMITMENTS
<TABLE>
The Company leases its facilities under operating leases extending until
2002. Minimum future rental payments under these leases as of January 31, 1996
are as follows (in thousands):
<CAPTION>
YEAR ENDING OPERATING LEASES
----------- ----------------
<S> <C>
1997........................................................ $1,652
1998........................................................ 1,411
1999........................................................ 864
2000........................................................ 492
2001........................................................ 185
Thereafter.................................................. 237
------
Future minimum payments....................................... $4,841
======
</TABLE>
Rent expense totalled approximately $427,000, $939,000 and $1,947,000 for
the years ended January 31, 1994, 1995 and 1996, respectively.
11. ACQUISITIONS
All acquisitions have been accounted for as purchases; operations of the
companies and businesses acquired have been included in the accompanying
consolidated financial statements from their respective dates of acquisition.
NOSTALIGIA VENTURES
On April 2, 1993, the stockholders discussed in Note 1 acquired 100% of the
outstanding stock of Nostalgia Ventures, Inc. and entered into a three year
non-competition agreement with the former owner of
F-18
<PAGE> 86
WEST COAST ENTERTAINMENT CORPORATION
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Nostalgia Ventures, Inc. The purchase price was $464,000, consisting of cash of
$100,000, short-term debt of $108,000 and a note payable of $256,000.
VIDEOSMITH, INC.
On August 4, 1994, V.S. Acquisition Corporation acquired 100% of the
outstanding stock of Xtra-vision Corporation and its wholly owned subsidiary,
Videosmith, Inc. The purchase price of $2,042,000 was paid in cash. V.S.
Acquisition Corporation, Xtra-vision Corporation and Videosmith Inc., merged on
September 20, 1994 to form Videosmith Inc.
WEST COAST FRANCHISING COMPANY
On July 12, 1995, West Coast Franchising Company, a wholly-owned subsidiary
of the Company, acquired the business, assets and certain liabilities of West
Coast Entertainment, Inc., West Coast Video Enterprises, Inc., West Coast
Services, Inc., Game Power Headquarters, Inc., and Premier Advertising, Inc.
(the "Acquired Businesses"). West Coast Franchising Company operates as a
franchisor of 307 chain stores under the trade name of West Coast Video involved
in the sale and rental of videocassettes, recorders, related equipment and
supplies.
The cost of the Acquired Businesses was approximately $8.6 million,
comprising cash of $4 million, a $2 million second subordinated secured
convertible note payable, a $2 million second subordinated secured note payable
(see Note 7) and acquisition costs of $200,000. Additionally, the Company
entered into a five year, non-interest bearing arrangement Agreement with the
former owner of the Acquired Businesses. Under the Agreement the Company is
required to make equal monthly payments over five years totalling $500,000 to
the former owner (see Note 7). In addition, in connection with the acquisition,
the Company entered into an arrangement to pay the former owner and certain key
executives of the Acquired Businesses a fee in the event that the Company
purchases the assets or stock of any Franchisee of the Acquired Businesses. The
remaining obligation under the Agreement is required to be reduced by 80% of any
fee paid under the arrangement within the five year period.
<TABLE>
The allocation of the purchase price associated with the above acquisitions
is summarized as follows (in thousands):
<CAPTION>
NOSTALGIA VIDEOSMITH ACQUIRED
VENTURES INC. BUSINESSES
--------- ---------- ----------
<S> <C> <C> <C>
Working capital..................................... $124 $ (334) $1,075
Videocassette rental inventory...................... 199 1,082 --
Furnishings, equipment and leasehold improvements... 101 1,285 200
Intangible assets................................... 130 -- 7,221
Other............................................... (90) 9 86
---- ------ ------
$464 $2,042 $8,582
==== ====== ======
</TABLE>
SUMMARY
<TABLE>
The following unaudited pro forma information presents the results of
operations as though acquisition of Videosmith Inc. and the Acquired Businesses
had occurred as of February 1, 1994 (in thousands):
<CAPTION>
YEAR ENDED
JANUARY 31,
-------------------
1995 1996
------- -------
<S> <C> <C>
Revenues......................................................... $20,746 $18,482
Net income (loss)................................................ (76) 414
</TABLE>
F-19
<PAGE> 87
WEST COAST ENTERTAINMENT CORPORATION
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
12. EQUITY INCENTIVE PLANS
Effective July 5, 1995, the Company adopted and the stockholders approved
the 1995 Equity Incentive Plan. Under the terms of this plan, the Board of
Directors is authorized to grant options at an exercise price that is not less
than the fair market value of a share of the Company's common stock at the date
of grant. The exercise and expiration dates for options granted under this plan
shall be set forth in the agreement evidencing such option with the exception of
the expiration date for Incentive Stock Options, which shall be no later than 10
years after the date on which the option is granted. In addition, the Board of
Directors can grant restricted stock awards which shall consist of the sale and
issuance by the Company, and the purchase by the recipient, of shares of the
Company's common stock. The price at which shares of the Company's common stock
are sold to recipients of such awards is at the discretion of the Board of
Directors. The Company has reserved 350,000 shares of common stock for issuance
under the plan. As of January 31, 1996, no awards have been granted under this
plan.
The Company's 1995 Employee Stock Purchase Plan (the "Purchase Plan") was
adopted by the Board of Directors in November 1995. The Purchase Plan authorizes
the issuance of up to a total 125,000 shares of Common Stock to participating
employees through a series of semiannual offerings. Offering periods will
commence on each July 1, beginning July 1, 1996, and January 1 and terminate on
the following June 30 and December 31, respectively. The maximum number of
shares available in each offering is 25,000 shares. The price at which employees
may purchase Common Stock in an offering is 85% of the closing price of the
Common Stock on the day the offering commences or on the day the offering
terminates, whichever is lower.
The Company's 1995 Director Stock Option Plan (the "Director Option Plan")
was adopted by the Board of Directors in November 1995. Under the Director
Option Plan, upon the effectiveness of the Offering, the Company's non-employee
directors will be granted an option to purchase 9,000 shares of Common Stock at
an exercise price per share equal to the public offering price. In addition,
each non-employee director initially elected to the Board of Directors in the
future will be granted an option, upon his or her initial election as a
director, to purchase 9,000 shares of Common Stock. Each non-employee director
will also receive a subsequent grant of an option for 3,000 shares on the date
of each Annual Meeting of Stockholders at which such director is reelected as a
director of the Company, beginning with the Annual Meeting for the year ending
January 31, 1997. All options granted under the Director Option Plan have or
will have an exercise price equal to the fair market value of the Common Stock
on the date of grant, will vest over a three-year period, provided the
optionholder continues to serve as a director of the Company, and will expire
ten years from the date of grant. The total number of shares of Common Stock
that may be issued under the Director Option Plan is 50,000 shares.
13. PREFERRED STOCK
The Board of Directors is authorized, subject to any limitations prescribed
by law, without further stockholder approval, to issue from time to time up to
an aggregate of 2,000,000 shares of Preferred Stock, in one or more series. Each
such series of Preferred Stock shall have such number of shares, designations,
preferences, voting powers, qualifications and special or relative rights or
privileges as shall be determined by the Board of Directors, which may include,
among others, dividend rights, voting rights, redemption and sinking fund
provisions, liquidation preferences, conversion rights and preemptive rights.
The rights of the holders of Common Stock will be subject to the rights of
holders of any Preferred Stock issued in the future. The issuance of Preferred
Stock could have the effect of making it more difficult for a third party to
acquire, or of discouraging a third party from attempting to acquire, a majority
of the outstanding voting stock of the Company. The Company has not issued any
shares of Preferred Stock as of January 31, 1996.
F-20
<PAGE> 88
WEST COAST ENTERTAINMENT CORPORATION
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
14. COMMITMENTS
On July 12, 1995, the Company entered into a contract with a supplier of
video rental products that requires the Company to purchase, at a discount, its
requirements for such products over the ensuing seven year period as follows:
<TABLE>
<S> <C>
July 12, 1995-July 12, 1997...... 50% of annual requirements
lesser of 30% of annual requirements or $25
July 13, 1997-July 12, 2000...... million
lesser of 25% of annual requirements or $25
July 13, 2000-July 12, 2002...... million
</TABLE>
15. LITIGATION
The Company is involved in litigation that is incidental to the operation
of its business. The Company believes that the outcome of such litigation will
not materially affect the Company's financial position or results of operations.
16. UNAUDITED PRO FORMA INFORMATION
Unaudited pro forma information reflects an adjustment to the consolidated
statement of operations for each of the years in the three year period ended
January 31, 1996. Such adjustment gives effect to the merger transaction
discussed in Note 1, as if it had occurred as of February 1, 1992. Accordingly,
the pro forma income tax provision (benefit) and proforma net income have been
calculated as if each entity included in the consolidated statement of
operations had been included in the Company's consolidated income tax returns
and subject to corporate income taxation as a C Corporation during all periods
presented.
Unaudited pro forma net income (loss) per share has been calculated for the
respective periods by dividing the respective unaudited pro forma net income
amounts by the weighted average number of shares of common stock outstanding
effected for the 0.340 reverse stock split discussed in Note 17.
17. SUBSEQUENT EVENT (UNAUDITED)
On May 14, 1996 the Board of Directors approved a 0.340-to-1 reverse stock
split of the Company's Common Stock. The consolidated financial statements have
not been retroactively adjusted to reflect the split. On a post-split basis the
number of shares of common stock outstanding as of January 31, 1996 and 1995 is
4,756,292 and 2,470,827, respectively. See Note 16 regarding the effect of the
split on unaudited pro forma net income (loss) per share.
F-21
<PAGE> 89
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and
Stockholder of Videosmith Incorporated
In our opinion, the accompanying balance sheet and the related statements
of operations, of cash flows and of stockholder's equity present fairly, in all
material respects, the financial position of Videosmith Incorporated at August
4, 1994, and the results of its operations and its cash flows for the period
from January 30, 1994 through August 4, 1994, in conformity with generally
accepted accounting principles. These financial statements are the
responsibility of the Company's management; our responsibility is to express an
opinion on these financial statements based on our audit. We conducted our audit
of these statements in accordance with generally accepted auditing standards
which 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, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audit provides a
reasonable basis for the opinion expressed above.
The financial statements of the Company for the years ended January 29,
1994 and January 31, 1993 were audited by the other independent accountants
whose report dated March 11, 1994 expressed an unqualified opinion on those
statements.
PRICE WATERHOUSE LLP
Boston, Massachusetts
November 10, 1995
F-22
<PAGE> 90
VIDEOSMITH INCORPORATED
(A WHOLLY-OWNED SUBSIDIARY OF XTRA-VISION CORPORATION)
<TABLE>
BALANCE SHEET
<CAPTION>
AUGUST 4,
1994
----------
<S> <C>
ASSETS
Current assets:
Cash and cash equivalents...................................................... $ 308,149
Merchandise inventories........................................................ 229,660
Prepaid expenses and other current assets...................................... 191,884
----------
Total current assets................................................... 729,693
Videocassette rental inventory, net............................................ 848,271
Furnishings and equipment, net................................................. 1,752,819
Other non-current assets....................................................... 54,383
----------
Total non-current assets............................................... 2,655,473
----------
Total assets........................................................... $3,385,166
==========
LIABILITIES AND STOCKHOLDER'S EQUITY
Current liabilities:
Current portion of long term debt.............................................. $ 17,315
Accounts payable............................................................... 476,706
Accrued expenses............................................................... 286,086
Income taxes payable........................................................... 226,837
----------
Total current liabilities.............................................. 1,006,944
Long-term debt................................................................... 45,163
----------
Total liabilities...................................................... 1,052,107
Stockholder's equity
Common stock, $1 par value, 300,000 shares authorized, 9,075 shares issued and
outstanding................................................................. 9,075
Additional paid-in capital..................................................... 1,590,903
Retained earnings.............................................................. 733,081
----------
Total stockholder's equity............................................. 2,333,059
----------
$3,385,166
==========
</TABLE>
The accompanying notes are an integral
part of the financial statements
F-23
<PAGE> 91
VIDEOSMITH INCORPORATED
(A WHOLLY-OWNED SUBSIDIARY OF XTRA-VISION CORPORATION)
<TABLE>
STATEMENT OF OPERATIONS
<CAPTION>
JANUARY 30, 1994
TO AUGUST 4, 1994
-----------------
<S> <C>
Revenues..................................................................... $3,826,215
----------
Costs and expenses:
Operating expenses......................................................... 3,221,313
General and administrative................................................. 521,282
----------
3,742,595
----------
Income from operations.................................................. 83,620
----------
Interest expense............................................................. 3,000
----------
Income before provision for income taxes................................ 80,620
Provision for income taxes................................................... 226,837
----------
Net loss................................................................ $ (146,217)
==========
</TABLE>
The accompanying notes are an integral
part of the financial statements
F-24
<PAGE> 92
VIDEOSMITH INCORPORATED
(A WHOLLY-OWNED SUBSIDIARY OF XTRA-VISION CORPORATION)
<TABLE>
STATEMENT OF STOCKHOLDER'S EQUITY
<CAPTION>
ADDITIONAL TOTAL
COMMON PAID-IN RETAINED STOCKHOLDER'S
STOCK CAPITAL EARNINGS EQUITY
------ ---------- --------- -------------
<S> <C> <C> <C> <C>
Balance at January 30, 1994.................. $9,075 $2,220,925 $ 879,298 $3,109,298
Forgiveness of receivable from parent........ -- (630,022) -- (630,022)
Net income................................... -- -- (146,217) (146,217)
------ ---------- --------- ----------
Balance at August 4, 1994.................... $9,075 $1,590,903 $ 733,081 $2,333,059
====== ========== ========= ==========
</TABLE>
The accompanying notes are an integral
part of the financial statements
F-25
<PAGE> 93
VIDEOSMITH INCORPORATED
(A WHOLLY-OWNED SUBSIDIARY OF XTRA-VISION CORPORATION)
<TABLE>
STATEMENT OF CASH FLOWS
<CAPTION>
JANUARY 30, 1994
TO AUGUST 4, 1994
-----------------
<S> <C>
Cash flows from operating activities
Net loss................................................................... $ (146,217)
Adjustments to reconcile net income to net cash flows provided by operating
activities:
Amortization of videocassette rental inventory.......................... 592,408
Depreciation and amortization of furnishings and equipment.............. 196,528
Change in operating assets and liabilities:
Merchandise inventories............................................... (59,744)
Prepaid expenses and other assets..................................... (34,717)
Income taxes payable.................................................. 99,425
Accounts payable...................................................... 239,070
Accrued expenses and other liabilities................................ 159,236
----------
Net cash provided by operating activities.......................... 1,045,989
----------
Cash flows from investing activities
Purchases of furnishings and equipment..................................... (8,594)
Purchases of videocassette rental inventory................................ (617,513)
----------
Net cash used in investing activities.............................. (626,107)
----------
Cash flows from financing activities
Increase in amount receivable from parent.................................. (151,318)
Repayments of long-term debt............................................... (12,558)
----------
Net cash used in financing activities.............................. (163,876)
----------
Net increase in cash and cash equivalents.................................... 256,006
Cash and cash equivalents, at beginning of period............................ 52,143
----------
Cash and cash equivalents, at end of period.................................. $ 308,149
==========
Supplemental disclosure of cash flow information:
Cash paid during the period for interest..................................... $ 50,561
==========
Cash paid during the period for income taxes................................. $ 125,000
==========
</TABLE>
The accompanying notes are an integral
part of the financial statements
F-26
<PAGE> 94
VIDEOSMITH INCORPORATED
(A WHOLLY-OWNED SUBSIDIARY OF XTRA-VISION CORPORATION)
NOTES TO FINANCIAL STATEMENTS
1. DESCRIPTION OF BUSINESS
The financial statements present the results of Videosmith Incorporated
(the "Company"), a wholly-owned subsidiary of Xtra-vision Corporation (the
"Parent"), itself a wholly-owned subsidiary of Xtra-vision plc, a publicly held
Irish company. The Company operates 14 video rental stores in Massachusetts.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
A summary of the Company's significant accounting policies follows:
Cash and Cash Equivalents
The Company considers all highly liquid investments with original
maturities of three months or less to be cash equivalents.
Revenue Recognition
Revenue is recognized at the time of rental or sale of a videocassette or
video game. Late charges are recognized when payment is received.
Merchandise Inventory
Merchandise inventory, consisting primarily of videocassettes and video
games, is stated at the lower of cost or market. Cost is determined by the
first-in, first-out method.
Videocassette Rental Inventory
All rental tapes are carried at their residual value of $6 per tape. All
tapes purchased are written down to their residual value in the month of
purchase. The Company believes that its method of amortization results in an
appropriate matching of tape amortization expense with the revenue received from
the associated rental of such tapes.
Furnishings and Equipment
Furnishings and equipment are stated at cost. Depreciation and amortization
are provided over the estimated useful lives (5 to 10 years) of furnishings and
equipment and over the lesser of the estimated useful lives or lease terms of
leased items (primarily 3 to 4 years) and leasehold improvements (10 years),
using the straight-line method. Repair and maintenance costs are expensed as
incurred.
Income Taxes
The Company accounts for income taxes in accordance with Financial
Accounting Standards No. 109, "Accounting for Income Taxes" ("SFAS 109"). SFAS
109 is an asset and liability approach that requires the recognition of deferred
tax assets and liabilities for the expected future tax consequences of temporary
differences between the carrying amounts and the tax bases of other assets and
liabilities. Deferred tax assets are recognized, net of any valuation allowance,
for deductible temporary differences and net operating loss and tax credit
carryforwards. Deferred tax expense represents the change in the deferred tax
asset or liability balances.
The Company is included in its parent's consolidated federal and state
income tax returns and its taxes are calculated as if it was filing a separate
return.
F-27
<PAGE> 95
VIDEOSMITH INCORPORATED
(A WHOLLY-OWNED SUBSIDIARY OF XTRA-VISION CORPORATION)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
<TABLE>
3. PREPAID EXPENSES AND OTHER CURRENT ASSETS
Prepaid expenses and other current assets at August 4, 1994 consist of the
following:
<S> <C>
Prepaid rent...................................................... $ 97,024
Other............................................................. 94,860
--------
$191,884
========
</TABLE>
4. PROPERTY AND EQUIPMENT
<TABLE>
Property and furnishings at August 4, 1994, consist of the following:
<CAPTION>
ESTIMATED
USEFUL
LIFE
---------
<S> <C> <C>
Computers............................................. 5 years $ 460,356
Furniture and fixtures................................ 7 years 854,765
Leasehold improvements................................ 10 years 2,796,999
----------
4,112,120
Less accumulated depreciation......................... 2,359,301
----------
$1,752,819
==========
</TABLE>
Depreciation charged to income during the period from January 30, through
August 4, 1994, amounted to $196,528.
<TABLE>
5. ACCRUED EXPENSES
Accrued expenses at August 4, 1994 consist of the following:
<S> <C>
Coupon accrual.................................................... $ 26,510
Sales taxes payable............................................... 49,640
Accrued payroll................................................... 37,689
Accrued accounting expense........................................ 20,109
Accrued rent...................................................... 18,384
Other............................................................. 133,754
--------
$286,086
========
</TABLE>
<TABLE>
6. NOTE PAYABLE
Note payable at August 4, 1994, comprises the following:
<S> <C>
Unsecured note payable to Trustee of Security Realty Trust with
interest at prime plus 2% payable through October 1998......... $62,478
Less amount payable within one year.............................. 17,315
-------
$45,163
=======
</TABLE>
7. RELATED PARTY TRANSACTIONS
A receivable from the parent totalling $630,022 was forgiven by the Company
during the period ending August 4, 1994.
F-28
<PAGE> 96
VIDEOSMITH INCORPORATED
(A WHOLLY-OWNED SUBSIDIARY OF XTRA-VISION CORPORATION)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
8. LEASE COMMITMENTS
<TABLE>
The Company's stores, office space, and certain equipment used in the
business are leased. The Company operates seven of its stores on the basis of a
minimum rent and a percentage of net sales when sales exceed a certain base
amount. At August 4, 1994, future minimum lease payments required under
operating leases in excess of one year were as follows:
<CAPTION>
OPERATING
LEASES
----------
<S> <C>
1996........................................................... $1,307,463
1997........................................................... 1,291,349
1998........................................................... 1,153,235
1999........................................................... 581,433
2000........................................................... 256,575
Thereafter..................................................... 265,232
----------
Future minimum payments........................................ $4,855,287
==========
</TABLE>
Rent expense totalled approximately $544,952 for the period from January
30, 1994 through August 4, 1994.
9. INCOME TAXES
At August 4, 1994, the deferred tax asset amounts to approximately $1.3
million. The Company has not recorded this asset because in management's view,
the current conditions in the industry and the past financial performance of the
Company do not make it more likely than not that the asset would be recovered
against future taxable book income. Accordingly, a valuation reserve of the
entire amount of the asset has been established to reduce it to zero. In view of
the change in ownership of the Company's immediate parent company, there is a
limitation which applies to built-in losses recognized in the five year period
beginning with the ownership change.
<TABLE>
The components of income tax expense for the period from January 30, 1994
through August 4, 1994 are:
<CAPTION>
<S> <C>
Income tax expense
Current:
Federal.................................................... $174,501
State...................................................... 52,336
--------
$226,837
========
</TABLE>
Deferred income taxes as of August 4, 1994, reflect the impact of
"temporary differences" between amounts of assets, and liabilities for financial
reporting purposes and such amount as measured by tax laws.
F-29
<PAGE> 97
VIDEOSMITH INCORPORATED
(A WHOLLY-OWNED SUBSIDIARY OF XTRA-VISION CORPORATION)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
<TABLE>
The timing differences which give rise to the deferred tax assets and
liabilities, are as follows at August 4, 1994:
<S> <C>
Deferred tax asset:
Videocassettes rental amortization.......................... $ 866,021
Furnishings and equipment depreciation...................... 364,734
Write-off of fixed assets................................... 94,221
Other....................................................... 19,130
-----------
1,344,106
Deferred tax asset valuation allowance........................ (1,344,106)
-----------
$ --
===========
</TABLE>
<TABLE>
A reconciliation of the tax expense for financial statement purposes and
the expected statutory federal rate of 35% is as follows:
<S> <C>
Federal statutory income tax at 35%............................. $ 28,217
State income taxes, net of federal benefit...................... 5,135
Timing differences for which no deferred tax asset is
established................................................... 192,601
Other........................................................... 884
--------
$226,837
========
</TABLE>
10. SUBSEQUENT EVENT
Effective August 5, 1995, Xtra-vision plc entered into an agreement to sell
100% of the outstanding stock of the Company's Parent to V.S. Acquisition
Corporation.
F-30
<PAGE> 98
INDEPENDENT AUDITORS' REPORT
The Board of Directors
Videosmith Incorporated:
We have audited the accompanying balance sheets of Videosmith Incorporated
(a wholly-owned subsidiary of Xtra-vision Corporation) as of January 29, 1994
and January 31, 1993, and the related statements of operations and retained
earnings and cash flows for the years then ended. These financial statements are
the responsibility of the Company's management. Our responsibility is to express
an opinion on these financial statements based on our 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 Videosmith Incorporated as
of January 29, 1994 and January 31, 1993, and the results of its operations and
its cash flows for the years then ended, in conformity with generally accepted
accounting principles.
KPMG PEAT MARWICK LLP
Boston, Massachusetts
March 11, 1994
F-31
<PAGE> 99
VIDEOSMITH INCORPORATED
(A WHOLLY-OWNED SUBSIDIARY OF XTRA-VISION CORPORATION)
<TABLE>
BALANCE SHEETS
JANUARY 29, 1994 AND JANUARY 31, 1993
<CAPTION>
1994 1993
---------- ----------
<S> <C> <C>
ASSETS
Current assets:
Cash.............................................................. $ 52,143 $ 44,530
Accounts receivable............................................... 51,750 56,283
Merchandise inventories........................................... 169,916 365,602
Prepaid expenses and other assets................................. 159,800 303,100
---------- ----------
Total current assets...................................... 433,609 769,515
---------- ----------
Noncurrent assets:
Rental films and equipment, net of accumulated depreciation of
$4,552,243 in 1994 and $4,812,969 in 1993 (note 2)............. 823,166 1,230,591
Property and equipment, net (note 3).............................. 1,940,753 2,639,093
---------- ----------
Total noncurrent assets................................... 2,763,919 3,869,684
---------- ----------
Total assets.............................................. $3,197,528 $4,639,199
========== ==========
LIABILITIES AND STOCKHOLDER'S EQUITY
Current liabilities:
Current maturities of note payable (note 4)....................... $ 17,315 $ 10,504
Current maturities of obligations under capital leases (note 6)... 6,335 37,978
Trade accounts payable............................................ 237,636 430,305
Other liabilities and accrued expenses............................ 126,850 153,520
Income taxes payable (note 8)..................................... 127,412 160,461
Payable to parent (note 5)........................................ -- 290,772
Restructuring reserve (note 7).................................... -- 717,596
---------- ----------
Total current liabilities................................. 515,548 1,801,136
---------- ----------
Long-term liabilities:
Note payable, net of current maturities (note 4).................. 47,448 61,662
Obligations under capital leases, net of current maturities (note
6)............................................................. 3,938 10,851
---------- ----------
Total long-term liabilities............................... 51,386 72,513
---------- ----------
Total liabilities......................................... 566,934 1,873,649
---------- ----------
Commitments (note 6)
Stockholder's equity (note 9):
Common stock, $1 par value, 300,000 shares authorized, 9,075
shares issued and outstanding.................................. 9,075 9,075
Additional paid-in capital........................................ 2,220,925 2,220,925
Retained earnings................................................. 879,298 535,550
---------- ----------
3,109,298 2,765,550
Less receivable from parent (note 5).............................. 478,704 --
---------- ----------
Net stockholder's equity.................................. 2,630,594 2,765,550
---------- ----------
Total liabilities and stockholder's equity................ $3,197,528 $4,639,199
========== ==========
</TABLE>
See accompanying notes to financial statements.
F-32
<PAGE> 100
VIDEOSMITH INCORPORATED
(A WHOLLY-OWNED SUBSIDIARY OF XTRA-VISION CORPORATION)
<TABLE>
STATEMENTS OF OPERATIONS AND RETAINED EARNINGS
YEARS ENDED JANUARY 29, 1994 AND JANUARY 31, 1993
<CAPTION>
1994 1993
---------- -----------
<S> <C> <C>
Revenue:
Sales of merchandise............................................. $1,182,791 $ 1,254,708
Film and equipment rentals....................................... 7,140,420 7,603,024
---------- -----------
8,323,211 8,857,732
---------- -----------
Cost of sales:
Cost of merchandise.............................................. 836,916 767,801
Film and equipment rentals (note 2).............................. 1,168,406 1,015,551
Operating expenses............................................... 4,698,055 5,065,974
---------- -----------
6,703,377 6,849,326
---------- -----------
Operating profit......................................... 1,619,834 2,008,406
---------- -----------
Other expenses:
Restructuring costs (note 7)..................................... -- 717,596
General and administrative....................................... 1,171,958 1,383,935
Interest......................................................... 9,844 36,302
Miscellaneous.................................................... 34,956 30,561
Provision to reduce the carrying value of rental tapes (note
2)............................................................ -- 1,430,404
---------- -----------
1,216,758 3,598,798
---------- -----------
Income (loss) before income taxes........................ 403,076 (1,590,392)
Income taxes (note 8).............................................. 59,328 240,908
---------- -----------
Net income (loss)........................................ 343,748 (1,831,300)
Retained earnings at beginning of year............................. 535,550 2,366,850
---------- -----------
Retained earnings at end of year................................... $ 879,298 $ 535,550
========== ===========
</TABLE>
See accompanying notes to financial statements.
F-33
<PAGE> 101
VIDEOSMITH INCORPORATED
(A WHOLLY-OWNED SUBSIDIARY OF XTRA-VISION CORPORATION)
<TABLE>
STATEMENTS OF CASH FLOWS
YEARS ENDED JANUARY 29, 1994 AND JANUARY 31, 1993
<CAPTION>
1994 1993
----------- -----------
<S> <C> <C>
Cash flows from operating activities:
Net income (loss)............................................... $ 343,748 $(1,831,300)
Adjustments to reconcile net income (loss) to cash flows
provided by operating activities:
Rental tape depreciation..................................... 1,168,406 1,015,551
Provision to reduce the carrying value of rental tapes....... -- 1,430,404
Depreciation and amortization on property and equipment...... 419,588 515,813
Provision for restructuring costs............................ -- 717,596
Write-off of leasehold improvements on store closure......... 552 22,653
Decrease in accounts receivable................................. 4,533 19,972
Decrease in merchandise inventories............................. 195,686 43,701
Decrease in prepaid expenses and other assets................... 143,300 51,897
(Decrease) increase in income taxes payable..................... (33,049) 140,208
(Decrease) increase in trade accounts payable................... (192,669) 132,767
(Decrease) in accrued expenses and other liabilities............ (26,670) (653)
----------- -----------
Net cash provided by operating activities............... 2,023,425 2,258,609
----------- -----------
Cash flows from investing activities:
Purchases of property and equipment............................. (84,910) (383,504)
Purchases of rental films and equipment......................... (1,115,467) (1,402,012)
----------- -----------
Net cash used in investing activities................... (1,200,377) (1,785,516)
----------- -----------
Cash flows from financing activities:
(Decrease) in amount payable to parent.......................... (290,772) (462,096)
Repayments of notes payable..................................... (7,403) (7,403)
(Increase) in amount receivable from parent..................... (478,704) --
Payments of obligations under capital leases.................... (38,556) (57,878)
----------- -----------
Net cash used in financing activities................... (815,435) (527,377)
----------- -----------
Net increase (decrease) in cash................................... 7,613 (54,284)
Cash at beginning of year......................................... 44,530 98,814
----------- -----------
Cash at end of year............................................... $ 52,143 $ 44,530
=========== ===========
Cash paid during the year for:
Interest........................................................ $ 18,208 $ 36,302
=========== ===========
Income taxes.................................................... $ 95,162 $ 100,700
=========== ===========
</TABLE>
See accompanying notes to financial statements.
F-34
<PAGE> 102
VIDEOSMITH INCORPORATED
(A WHOLLY-OWNED SUBSIDIARY OF XTRA-VISION CORPORATION)
NOTES TO FINANCIAL STATEMENTS
JANUARY 29, 1994 AND JANUARY 31, 1993
1. BASIS OF PRESENTATION
The financial statements present the results of Videosmith Incorporated
("the Company"), a wholly owned subsidiary of Xtra-vision Corporation (the
"Parent"), itself a wholly-owned subsidiary of Xtra-vision plc, a publicly held
Irish company.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Business Activities
The Company operates video stores which rent and sell video films,
equipment and related accessories.
Property and Equipment
Property and equipment are stated at cost. Depreciation is computed using
the straight-line method. Maintenance and repairs are charged to expense as
incurred. Leasehold improvements are amortized using the straight-line method
over the term of the lease.
Rental Films and Equipment
Until January 31, 1993, rental films and equipment were recorded at cost
and amortized to a residual value over their estimated useful life which
approximated thirty months. Because of changes in the industry, the effective
useful life of a rental tape has, in management's view, decreased significantly
as industry and consumer pressures for "quick release, hit-driven" movies have
increased. Taking this into account, management revised the estimated carrying
value of its inventory at January 29, 1993, resulting in a charge against income
of $1,430,404. At January 29, 1994, all rental tapes are carried at their
residual value. All tapes purchased are written down to their residual value in
the month of purchase. The Company believes that its method of amortization
results in an appropriate matching of tape amortization expense with the revenue
received from the associated rental of such tapes.
Inventories
Merchandise inventories are generally stated on the conventional retail
method which approximates lower of cost or market. Inventories consist of video
tapes, film and equipment available for sale.
Income Taxes
The Company files its federal tax return on a consolidated basis along with
its parent. Income taxes are provided based on the taxable income of each
Company to the extent there is any net tax charge attributable to the
consolidated U.S. companies. State income taxes are also filed on a consolidated
basis.
Statement of Financial Accounting Standards No. 109, Accounting for Income
Taxes, was issued by the Financial Accounting Standards Board in February 1992.
Statement 109 requires a change from the deferred method under APB Opinion 11 to
the asset and liability method of accounting for income taxes. Under the asset
and liability method of Statement 109, deferred income taxes are recognized for
the future tax consequences attributable to differences between the financial
statement carrying amounts of existing assets and liabilities and their
respective tax bases. Deferred tax assets and liabilities, are measured using
enacted tax rates expected to apply to taxable income in the years in which
those temporary differences are expected to be recovered or settled. Under
Statement 109, the effect on deferred taxes of a change in tax rate is
recognized in income in the period that includes the enactment date.
The Company adopted Statement 109 on February 1, 1993, on a prospective
basis. The impact of the adoption of FAS 109 was not material.
F-35
<PAGE> 103
VIDEOSMITH INCORPORATED
(A WHOLLY-OWNED SUBSIDIARY OF XTRA-VISION CORPORATION)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
Reclassifications
Certain amounts in the 1993 financial statements have been reclassified to
conform with the 1994 presentation.
3. PROPERTY AND EQUIPMENT
<TABLE>
Property and equipment at January 29, 1994 and January 31, 1993 consist of
the following:
<CAPTION>
ESTIMATED
USEFUL
1994 1993 LIFE
---------- ---------- ---------
<S> <C> <C> <C>
Computers........................................ $ 454,683 $ 467,399 5 years
Furniture and fixtures........................... 849,688 1,152,868 7 years
Leasehold improvements........................... 2,735,798 3,235,704 10 years
---------- ----------
4,040,349 4,855,971
Less accumulated depreciation and amortization... 2,099,596 2,216,878
---------- ----------
$1,940,753 $2,639,093
========== ==========
</TABLE>
Depreciation and amortization charged to income during the years ended
January 29, 1994 and January 31, 1993 amounted to $419,588 and $515,813,
respectively.
4. NOTE PAYABLE
<TABLE>
Note payable at January 29, 1994 and January 31, 1993 consist of the
following:
<CAPTION>
1994 1993
------- -------
<S> <C> <C>
Note payable to trustee of Security Realty Trust with interest at
prime plus 2% payable through October 1998..................... $64,763 $72,166
Less amount payable within one year.............................. 17,315 10,504
------- -------
$47,448 $61,662
======= =======
</TABLE>
5. RELATED PARTY TRANSACTIONS
Amounts due to or from the parent corporation are interest free and are
payable on demand. The payable balance was $290,772 at the end of fiscal year
1993. The Company has paid expenses on behalf of and remitted amounts received
on the sale of stores to the parent corporation during fiscal 1994. At January
29, 1994, the receivable from parent amounted to $478,704. This receivable from
parent is classified as a reduction of stockholder's equity due to the
uncertainty related to the stockholder's ability to pay off the outstanding
balance.
F-36
<PAGE> 104
VIDEOSMITH INCORPORATED
(A WHOLLY-OWNED SUBSIDIARY OF XTRA-VISION CORPORATION)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
6. LEASE COMMITMENTS
<TABLE>
The Company's stores, office space, and certain equipment used in the
business are leased. The Company operates seven of its stores on the basis of a
minimum rent and a percentage of net sales when sales exceed a certain base
amount. At January 29, 1994, future minimum lease payments required under
capital leases and noncancelable operating leases in excess of one year were as
follows:
<CAPTION>
CAPITAL OPERATING
YEAR ENDING LEASES LEASES
----------- ------- ----------
<S> <C> <C>
1995........................................................ $ 9,683 $ 976,873
1996........................................................ 3,343 991,760
1997........................................................ 384 916,990
1998 and thereafter......................................... -- 2,048,345
------- ----------
Future minimum payments....................................... 13,410 $4,933,968
==========
Less amount representing interest............................. 3,137
-------
Present value of future minimum lease payments................ 10,273
Less current maturities....................................... 6,335
-------
Obligations under capital leases, net of current maturities... $ 3,938
=======
</TABLE>
Rent expense totalled approximately $1,239,000 and $1,484,000 for the years
ended January 29, 1994 and January 31, 1993, respectively.
7. RESTRUCTURING COSTS
In fiscal 1993, the Company provided approximately $428,000 for
restructuring costs it intended to incur during 1994 in consolidating its store
operations. The Company had also provided for anticipated losses of
approximately $290,000 it expected to incur on disposal of four of its stores in
1994. During fiscal 1994 these reserves were fully utilized.
8. INCOME TAXES
The Company files its federal tax return on a consolidated basis with its
parent. As mentioned in note 1, on February 1, 1993, the Company implemented
Financial Accounting Standards Board Statement 109, Accounting for Income Taxes.
At the date of implementation, the Company could have recorded a deferred tax
asset of approximately $1,050,000 if management had felt that the future income
of the Company would support the recovery of such an asset. The asset occurs
principally because the Company has shorter lives for leasehold improvements and
tape inventory for book purposes than for tax purposes. The asset is indicative
of the future benefits available for deduction for tax purposes in later years
of amounts which have already been expensed for book purposes.
At January 29, 1994, the asset would amount to approximately $1,100,000.
The Company has not recorded this asset because in management's view, the
current conditions in the industry and the past financial performance of the
Company do not make it more likely than not that the asset would be recovered
against future taxable book income. Accordingly, a valuation reserve of the
entire amount of the asset has been established to reduce it to zero.
F-37
<PAGE> 105
VIDEOSMITH INCORPORATED
(A WHOLLY-OWNED SUBSIDIARY OF XTRA-VISION CORPORATION)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
<TABLE>
The components of income tax expense are:
<CAPTION>
1994 1993
------- --------
<S> <C> <C>
Income tax expense:
Current:
Federal.................................................... $11,045 $217,550
State...................................................... 48,283 23,358
------- --------
$59,328 $240,908
======= ========
</TABLE>
<TABLE>
A reconciliation of the tax expense for financial statement purposes and
the expected statutory federal rate of 34% is as follows:
<CAPTION>
1994 1993
-------- ---------
<S> <C> <C>
Federal statutory income tax (benefit) at 34%................ $137,192 $(540,733)
State income taxes, net of federal benefit................... 20,046 15,650
Permanent adjustments........................................ -- 2,035
Intercompany fees............................................ (51,000) --
Timing differences and book adjustments for which no deferred
tax asset is established................................... (46,910) 763,956
-------- ---------
$ 59,328 $ 240,908
======== =========
</TABLE>
9. SUBSEQUENT EVENT
The ultimate parent company has entered into a letter of intent with
unrelated parties to sell the entire outstanding issued common stock of the
Company and of its parent, Xtra-vision Corp. It is contemplated that the
transaction will be finalized in April, 1994.
F-38
<PAGE> 106
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Stockholders and Board of Directors
West Coast Entertainment, Inc. and Affiliates
We have audited the accompanying combined balance sheets of West Coast
Entertainment, Inc.; West Coast Video Enterprises, Inc. and its wholly owned
subsidiary, National Video, Inc.; West Coast Services, Inc.; Interactive
Electronics Corporation d/b/a Game Power Headquarters; Game Power Headquarters,
Inc.; and Premier Advertising, Inc. (collectively known as "the Companies") as
of December 31, 1993 and 1994 and July 12, 1995, and the related combined
statements of operations, changes in stockholders' deficiency and cash flows for
the years and period then ended. These combined financial statements are the
responsibility of the Companies' management. Our responsibility is to express an
opinion on these combined 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 audits 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 combined financial statements referred to above present
fairly, in all material respects, the combined financial position of the
Companies as of December 31, 1993 and 1994 and July 12, 1995, and the combined
results of their operations and their cash flows for the years and period then
ended, in conformity with generally accepted accounting principles.
MILLER, GLUSMAN, FOOTER & MAGARICK, P.C.
Certified Public Accountants
January 26, 1996
Philadelphia, Pennsylvania
F-39
<PAGE> 107
WEST COAST ENTERTAINMENT, INC. AND AFFILIATES
<TABLE>
COMBINED BALANCE SHEETS
DECEMBER 31, 1993 AND 1994 AND JULY 12, 1995
<CAPTION>
DECEMBER 31,
--------------------------- JULY 12,
1993 1994 1995
----------- ----------- -----------
<S> <C> <C> <C>
ASSETS
Current assets:
Cash (Note 1)..................................... $ 545,391 $ 414,464 $ 511,489
Accounts receivable, net of allowance for doubtful
accounts approximating $10,000 in 1993 and
$91,000 in 1994 and 1995....................... 928,850 1,119,929 869,679
Inventories (Note 1).............................. 391,493 524,718 341,300
Prepaid expenses and other current assets......... 22,752 11,977 39,847
----------- ----------- -----------
Total current assets...................... 1,888,486 2,071,088 1,762,315
Due from affiliates (Note 6)........................ 42,928 42,928 42,928
Property and equipment, net (Notes 1 and 2)......... 313,802 273,895 254,408
Other assets........................................ 201,273 172,145 57,173
----------- ----------- -----------
$ 2,446,489 $ 2,560,056 $ 2,116,824
=========== =========== ===========
LIABILITIES AND STOCKHOLDERS' DEFICIENCY
Current liabilities:
Current portion of long-term debt (Note 4)........ $ 511,827 $ 594,043 $ 475,997
Notes payable, stockholders (Note 3).............. 158,172 309,729 237,939
Accounts payable and accrued expenses............. 1,027,638 1,111,504 826,688
Other............................................. 45,000 80,000 25,000
----------- ----------- -----------
Total current liabilities................. 1,742,637 2,095,276 1,565,624
----------- ----------- -----------
Long-term debt, net of current portion (Note 4)..... 3,643,736 3,110,387 2,881,147
----------- ----------- -----------
Commitments (Note 7)
Stockholders' deficiency:
Common stock (Note 5)............................. 787,000 787,000 787,000
Additional paid-in capital........................ 2,564,000 2,714,000 2,714,000
Accumulated deficit............................... (6,290,884) (6,146,607) (5,830,947)
----------- ----------- -----------
Total stockholders' deficiency............ (2,939,884) (2,645,607) (2,329,947)
----------- ----------- -----------
$ 2,446,489 $ 2,560,056 $ 2,116,824
=========== =========== ===========
</TABLE>
The accompanying notes are an integral part of these statements.
F-40
<PAGE> 108
WEST COAST ENTERTAINMENT, INC. AND AFFILIATES
<TABLE>
COMBINED STATEMENTS OF OPERATIONS
YEARS ENDED DECEMBER 31, 1993 AND 1994
AND THE PERIOD ENDED JULY 12, 1995
<CAPTION>
YEARS ENDED DECEMBER 31, PERIOD ENDED
-------------------------- JULY 12,
1993 1994 1995
---------- ----------- ------------
<S> <C> <C> <C>
Revenues (Note 1):
Franchise and royalty fees......................... $7,079,779 $ 6,848,813 $3,660,385
Product sales...................................... 1,729,547 3,568,140 782,614
---------- ----------- ----------
8,809,326 10,416,953 4,442,999
---------- ----------- ----------
Costs and expenses
(Notes 6 and 7):
Cost of product sales........................... 1,516,247 3,177,829 703,815
Operating expenses.............................. 6,455,991 6,795,569 3,208,829
---------- ----------- ----------
7,972,238 9,973,398 3,912,644
---------- ----------- ----------
Income from operations.......................... 837,088 443,555 530,355
Interest expense, net................................ (264,714) (362,917) (215,043)
Other income (expense)............................... (32,717) 63,639 348
---------- ----------- ----------
Net income........................................... $ 539,657 $ 144,277 $ 315,660
========== =========== ==========
</TABLE>
The accompanying notes are an integral part of these statements.
F-41
<PAGE> 109
WEST COAST ENTERTAINMENT, INC. AND AFFILIATES
<TABLE>
COMBINED STATEMENTS OF CHANGES IN STOCKHOLDERS' DEFICIENCY
YEARS ENDED DECEMBER 31, 1993 AND 1994
AND THE PERIOD ENDED JULY 12, 1995
<CAPTION>
COMMON STOCK
(SEE NOTE 5)
---------------------- ADDITIONAL
NUMBER OF PAID-IN ACCUMULATED
SHARES AMOUNT CAPITAL DEFICIT TOTAL
--------- -------- ---------- ----------- -----------
<S> <C> <C> <C> <C> <C>
Balance, January 1, 1993..... 1,006,000 $486,000 $2,465,000 $(6,755,541) $(3,804,541)
Issuance of common stock..... 2,000 301,000 99,000 -- 400,000
Distributions................ -- -- -- (75,000) (75,000)
Net income................... -- -- -- 539,657 539,657
--------- -------- ---------- ----------- -----------
Balance, December 31, 1993... 1,008,000 787,000 2,564,000 (6,290,884) (2,939,884)
Contribution of capital...... -- -- 150,000 -- 150,000
Net income................... -- -- -- 144,277 144,277
--------- -------- ---------- ----------- -----------
Balance, December 31, 1994... 1,008,000 787,000 2,714,000 (6,146,607) (2,645,607)
Net income................... -- -- -- 315,660 315,660
--------- -------- ---------- ----------- -----------
Balance, July 12, 1995....... 1,008,000 $787,000 $2,714,000 $(5,830,947) $(2,329,947)
========= ======== ========== =========== ===========
</TABLE>
The accompanying notes are an integral part of these statements.
F-42
<PAGE> 110
WEST COAST ENTERTAINMENT, INC. AND AFFILIATES
<TABLE>
COMBINED STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 1993 AND 1994
AND THE PERIOD ENDED JULY 12, 1995
<CAPTION>
YEARS ENDED
DECEMBER 31, PERIOD ENDED
------------------------- JULY 12,
1993 1994 1995
----------- --------- ------------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income........................................ $ 539,657 $ 144,277 $ 315,660
Adjustments to reconcile net income to net cash
provided by (used in) operating activities:
Provision for bad debts........................ -- 36,366 --
Gain on sale of assets......................... (42,032) -- --
Depreciation and amortization.................. 95,693 147,792 40,677
Changes in assets and liabilities:
(Increase) decrease in assets:
Accounts receivable....................... (359,906) (227,446) 250,250
Inventories............................... (327,742) (133,224) 183,418
Prepaid expenses and other current
assets.................................. (2,497) 10,775 (27,870)
Other assets.............................. (179,335) 29,128 114,972
Increase (decrease) in liabilities:
Accounts payable and accrued expenses..... 113,086 83,866 (284,816)
Other current liabilities................. 45,000 35,000 (55,000)
----------- --------- -----------
Total adjustments.............................. (657,733) (17,743) 221,631
----------- --------- -----------
Net cash provided by (used in) operating
activities................................... (118,076) 126,534 537,291
----------- --------- -----------
Cash flows from investing activities:
Purchases of property and equipment............... (209,340) (107,885) (21,190)
Net advances to affiliates........................ (10,167) -- --
----------- --------- -----------
Net cash used in investing activities.......... (219,507) (107,885) (21,190)
----------- --------- -----------
Cash flows from financing activities:
Proceeds from issuance of stock................... 400,000 -- --
Proceeds from additional paid-in capital.......... -- 150,000 --
Net repayments of long-term debt.................. (2,089,437) (451,133) (2,319,076)
Proceeds from notes payable, stockholders......... 158,172 151,557 1,900,000
Distributions to stockholders..................... (75,000) -- --
----------- --------- -----------
Net cash used in financing activities.......... (1,606,265) (149,576) (419,076)
----------- --------- -----------
Net increase (decrease) in cash..................... (1,943,848) (130,927) 97,025
Cash, beginning of period........................... 2,489,239 545,391 414,464
----------- --------- -----------
Cash, end of period................................. $ 545,391 $ 414,464 $ 511,489
=========== ========= ===========
</TABLE>
The accompanying notes are an integral part of these statements.
F-43
<PAGE> 111
WEST COAST ENTERTAINMENT, INC. AND AFFILIATES
NOTES TO COMBINED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 1993 AND 1994
AND THE PERIOD ENDED JULY 12, 1995
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The combined financial statements include the accounts of West Coast
Entertainment, Inc. ("Entertainment"); West Coast Video Enterprises, Inc.
("Enterprises") and its wholly owned subsidiary, National Video, Inc.
("National"); West Coast Services, Inc. ("Services"); Interactive Electronics
Corporation d/b/a Game Power Headquarters ("Interactive"); Game Power
Headquarters, Inc. ("Game Power"); and Premier Advertising, Inc. (hereafter
collectively known as "the Companies"). Significant intercompany accounts and
transactions have been eliminated in the combined financial statements.
The results for the 1995 period reflect a material decline in product sales
as a result of de-emphasis and/or elimination of certain product lines and a
significant decline in franchise and royalty fees as a result of an overall
decline in the number of new franchises sold. To offset these revenue declines,
the Companies instituted a significant cost-reduction program resulting in an
overall increase in net income for the period ended July 12, 1995.
The Companies (1) sell and service video franchises, which operate outlets
for the rental and sale of video cassettes, electronic games and related
accessories, (2) distribute operational and ancillary sale items to franchise
stores, and (3) sell merchandise to video and game stores.
Pursuant to an asset purchase agreement ("the Purchase Agreement") which
became effective July 12, 1995, the Companies agreed to sell substantially all
of their assets and certain liabilities to BSMS Acquisition Co., Inc. ("the
Buyer").
During 1994, Interactive effected a statutory merger with Game Power under
the tax-free reorganization regulations of the Internal Revenue Code. Under the
terms of the merger agreement, the surviving company, Game Power, acquired 100%
of the stock of Interactive.
During 1992, Enterprises filed for bankruptcy protection under Chapter 11
of the U.S. Bankruptcy Code, and later submitted a Plan of Reorganization that
became effective January 1993. As disclosed in Note 4, certain liabilities
incurred in connection with the Plan of Reorganization were not assumed by the
Buyer under the terms of the Purchase Agreement.
Cash
The Companies maintain their cash accounts at several financial
institutions in Philadelphia, PA. Balances at these institutions are insured by
the Federal Deposit Insurance Corporation up to $100,000. Uninsured balances
approximated $285,000 as of July 12, 1995.
Inventories
Merchandise, consisting primarily of video cassettes and games, and
computer inventories are stated at the lower of cost, using the first-in,
first-out method, or market.
Property and Equipment
Property and equipment are stated at cost. Depreciation is computed under
the straight-line method over the estimated useful lives of the assets.
Leasehold improvements are amortized over the shorter of the terms of the leases
or service lives of the improvements.
F-44
<PAGE> 112
WEST COAST ENTERTAINMENT, INC. AND AFFILIATES
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
Revenue Recognition
Franchise fees, related to the sale of franchises, are recognized when the
stores are opened for business. Royalty and advertising income are recognized
based on 5% and 2%, respectively, of franchisee revenue as defined in the
franchise agreement. Sales to video and game stores are recognized when goods
are shipped.
Income Taxes
The Companies, except for National and Game Power, have elected
S-corporation status for federal and state income tax purposes. Consequently,
taxable income flows through and is taxed to the stockholders on their
individual income tax returns. Accordingly, no provision for federal and state
income taxes has been made in the accompanying combined financial statements.
National and Game Power have available unused federal net operating loss
carryforwards, expiring through 2009, aggregating approximately $165,000 and
$281,000 as of December 31, 1993 and 1994, respectively, and $281,000 as of July
12, 1995. A valuation allowance has been provided for the full amount of the
resulting deferred tax asset.
Reclassification
Certain items in the 1993 and 1994 combined financial statements have been
reclassified to conform to the 1995 presentation.
2. PROPERTY AND EQUIPMENT
<TABLE>
Property and equipment consisted of the following:
<CAPTION>
YEARS ENDED
DECEMBER 31, PERIOD ENDED
------------------------- JULY 12,
1993 1994 1995
---------- ---------- ------------
<S> <C> <C> <C>
Equipment..................................... $1,065,566 $1,082,503 $1,096,172
Furniture and fixtures........................ 125,111 147,797 147,797
Computer equipment............................ 58,590 81,961 81,961
Leasehold improvements........................ 61,375 106,266 113,787
---------- ---------- ----------
1,310,642 1,418,527 1,439,717
Accumulated depreciation and amortization..... 996,840 1,144,632 1,185,309
---------- ---------- ----------
$ 313,802 $ 273,895 $ 254,408
========== ========== ==========
</TABLE>
Depreciation and amortization expense were approximately $96,000 and
$148,000 for the years 1993 and 1994, respectively; and approximately $41,000
for the 1995 period.
3. NOTES PAYABLE, STOCKHOLDERS
A demand note payable in the approximate amount of $158,000, $210,000 and
$183,000 at December 31, 1993 and 1994 and July 12, 1995, respectively, to one
stockholder bears interest at the prime rate (8.75% at July 12, 1995). The
remaining note payable to another stockholder is non-interest bearing and
payable in monthly installments through November 1995. The notes payable to the
stockholders were not assumed by the Buyer as part of the Purchase Agreement.
F-45
<PAGE> 113
WEST COAST ENTERTAINMENT, INC. AND AFFILIATES
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
4. LONG-TERM DEBT
<TABLE>
Long-term debt consisted of:
<CAPTION>
YEARS ENDED
DECEMBER 31, PERIOD ENDED
------------------------- JULY 12,
1993 1994 1995
---------- ---------- ------------
<S> <C> <C> <C>
Note payable, bank(a)......................... $3,163,264 $3,071,964 $1,116,525
Note payable, stockholder(b).................. -- -- 1,894,647
Due to affiliate(c)........................... 399,250 180,250 81,780
Creditor settlements(d)....................... 593,049 452,216 264,192
---------- ---------- ----------
4,155,563 3,704,430 3,357,144
Less current portion.......................... 511,827 594,043 475,997
---------- ---------- ----------
$3,643,736 $3,110,387 $2,881,147
========== ========== ==========
<FN>
- ---------------
(a) Repayment terms under a February 1995 refinancing agreement, called for (1)
an immediate payment of $1.9 million, and (2) monthly principal payments of
$10,000 plus interest at prime plus 2% (10.75% at July 12, 1995). The
remaining balance was paid in full from the proceeds of the Purchase
Agreement.
(b) Note payable, stockholder, with monthly principal payments of $20,200,
including interest at 11.925%. The remaining balance was not assumed by the
Buyer as part of the Purchase Agreement.
(c) Represents amounts due to an affiliated entity (not included in the combined
Companies) that assumed $600,000 of the amount due to the bank under the
Plan of Reorganization (see Note 1). Payment terms called for monthly
principal payments of $18,250 plus interest at prime plus 1%. This liability
was not assumed by the Buyer as part of the Purchase Agreement.
(d) Consists of amounts payable to various franchisees, limited partners of
affiliated partnerships and unsecured creditors under the terms of the Plan
of Reorganization (see Note 1). This liability was not assumed by the Buyer
as part of the Purchase Agreement.
</TABLE>
5. COMMON STOCK
<TABLE>
Common stock consisted of the following:
<CAPTION>
YEARS ENDED
DECEMBER 31, PERIOD ENDED
------------------------- JULY 12,
1993 1994 1995
---------- ---------- ------------
<S> <C> <C> <C>
Entertainment
No par value
Authorized -- 1,000,000 shares
Issued and outstanding -- 5,000 shares........... $475,000 $475,000 $475,000
Enterprises
Class A
Authorized -- 8,000,000 shares
Issued and outstanding -- none................... -- -- --
Class B
$.01 par value
Authorized -- 2,000,000 shares
Issued and outstanding -- 1,000,000 shares....... 10,000 10,000 10,000
Services(a)
$1 par value
Authorized, issued and outstanding -- 1,000
shares........................................... 1,000 1,000 1,000
</TABLE>
F-46
<PAGE> 114
WEST COAST ENTERTAINMENT, INC. AND AFFILIATES
<TABLE>
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
<CAPTION>
YEARS ENDED
DECEMBER 31, PERIOD ENDED
------------------------- JULY 12,
1993 1994 1995
---------- ---------- ------------
<S> <C> <C> <C>
Interactive/Game Power (a)
No par value
Authorized, issued and outstanding -- 1,000
shares........................................... $ 300,000 $ 300,000 $ 300,000
Premier
$1 par value
Authorized, issued and outstanding -- 1,000
shares........................................... 1,000 1,000 1,000
---------- ---------- ----------
787,000 787,000 787,000
Combined additional paid-in capital................... 2,564,000 2,714,000 2,714,000
---------- ---------- ----------
Combined capitalization............................... $3,351,000 $3,501,000 $3,501,000
========== ========== ==========
<FN>
- ---------------
(a) Issued during 1993.
</TABLE>
6. RELATED PARTY TRANSACTIONS
The Companies make and receive non-interest bearing temporary cash advances
to and from affiliated companies not included in the Purchase Agreement and the
accompanying combined financial statements.
The Companies lease certain facilities and equipment under operating leases
with related parties (not included in the Purchase Agreement and the
accompanying combined financial statements) which were terminated on July 12,
1995. Rent expense under these leases aggregated approximately $111,000 and
$150,000 for the years 1993 and 1994, respectively; and approximately $37,000
for the 1995 period.
7. LEASE COMMITMENTS
The Companies leased their facilities and certain equipment under operating
leases. Except for the Game Power lease, which was assumed by the Buyer, all
other leases were terminated on July 12, 1995.
Rent expense (including amounts to related parties) approximated $171,000
and $242,000 for the years 1993 and 1994, respectively; and approximately
$63,000 for the 1995 period.
F-47
<PAGE> 115
INDEPENDENT AUDITORS' REPORT
To Stockholders
Palmer Corporation:
We have audited the accompanying consolidated balance sheets of Palmer
Corporation and subsidiaries as of March 31, 1995 and 1994 and the related
consolidated statements of operations, stockholders' equity and cash flows for
the years then ended. These consolidated financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these consolidated 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 consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Palmer
Corporation and subsidiaries at March 31, 1995 and 1994, and the results of
their operations and their cash flows for the years then ended in conformity
with generally accepted accounting principles.
As discussed in note 2 to the consolidated financial statements, in 1994,
the Company changed its method of accounting for videocassette rental inventory.
KPMG PEAT MARWICK LLP
Princeton, New Jersey
June 16, 1995, except as to note 14,
which is as of March 11, 1996
F-48
<PAGE> 116
PALMER CORPORATION AND SUBSIDIARIES
<TABLE>
CONSOLIDATED BALANCE SHEETS
<CAPTION>
MARCH 31,
------------------------- DECEMBER 31,
1995 1994 1995
---------- ---------- ------------
(UNAUDITED)
<S> <C> <C> <C>
ASSETS
Current Assets:
Cash and cash equivalents (note 2).................. $ 466,558 $ 68,870 $ 429,348
Marketable equity securities........................ 5,870 5,870 5,870
Accounts receivables, less allowance for doubtful
accounts of $68,000, $59,560 and $68,000......... 379,313 385,225 454,044
Merchandise inventories (note 3).................... 1,864,104 1,117,524 2,573,444
Prepaid expenses.................................... 203,245 66,667 86,897
Notes receivable -- current portion, less allowance
for doubtful accounts of $51,400 in 1994
(note 4)......................................... 145,756 191,902 182,780
Prepaid and refundable income taxes (note 10)....... -- 316,591 --
---------- ---------- ----------
Total current assets........................ 3,064,846 2,152,649 3,732,383
Videocassette rental inventory, net................... 3,568,049 3,661,368 3,418,786
Property and equipment, net (note 5).................. 1,728,156 1,993,285 1,526,794
Intangible assets, net of amortization of $168,233,
$144,569 and $196,267, respectively (note 2)........ 266,758 231,402 238,724
Other assets.......................................... -- 5,850 19,925
Notes receivable -- less current portion (note 4)..... 136,806 121,791 122,093
Due from affiliated companies......................... 36,189 -- 100,882
Cash surrender value of officers' life insurance,
net................................................. 98,865 142,127 98,865
Security deposits..................................... 301,481 326,703 300,484
---------- ---------- ----------
$9,201,150 $8,635,175 $9,558,936
========== ========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Note payable -- bank (note 7)....................... $ 600,000 $ 600,000 $ --
Accounts payable.................................... 2,747,170 2,682,542 3,898,083
Accrued expenses.................................... 1,354,387 1,412,182 1,171,375
Current installments of long-term debt (note 8)..... 320,770 905,206 52,014
Advances from stockholders (note 9)................. 310,000 523,288 269,500
---------- ---------- ----------
Total current liabilities................... 5,332,327 6,123,218 5,390,972
Long-term debt, less current portion (note 8)......... 192,143 338,099 155,148
Deferred rent......................................... 1,036,399 974,404 1,005,884
---------- ---------- ----------
6,560,869 7,435,721 6,552,004
---------- ---------- ----------
Minority interest..................................... 30,137 30,577 63,765
---------- ---------- ----------
Commitments and contingencies (note 12)
Stockholders' equity (note 11):
Convertible preferred stock, par value $1 per share;
authorized 400,000 shares; issued and outstanding
400,000 shares (note 11)......................... 400,000 400,000 400,000
Common stock, no par value; authorized 100,000,000
shares; issued and outstanding 197,450, 171.703
and 197,450 shares, respectively................. 2,087,842 342,842 2,087,842
Retained earnings................................... 245,455 549,188 603,478
---------- ---------- ----------
2,733,297 1,292,030 3,091,320
Less treasury stock (14.835, 14.835 and 14.835 of
pre-replacement shares and 250 of
post-replacement shares, at cost) (note 11)...... 123,153 123,153 148,153
---------- ---------- ----------
Total stockholders' equity.................. 2,610,144 1,168,877 2,943,167
---------- ---------- ----------
$9,201,150 $8,635,175 $9,558,936
========== ========== ==========
</TABLE>
See accompanying notes to consolidated financial statements.
F-49
<PAGE> 117
PALMER CORPORATION AND SUBSIDIARIES
<TABLE>
CONSOLIDATED STATEMENTS OF OPERATIONS
<CAPTION>
YEAR ENDED NINE MONTHS ENDED
MARCH 31, DECEMBER 31,
--------------------------- ---------------------------
1995 1994 1995 1994
----------- ----------- ----------- -----------
(UNAUDITED)
<S> <C> <C> <C> <C>
Revenues:
Movie and game rentals............ $16,343,066 $16,682,587 $12,945,527 $11,991,381
Merchandise sales................. 4,797,189 4,297,596 3,400,382 3,572,386
Royalties and other revenue....... 1,356,283 1,247,277 1,037,171 936,849
----------- ----------- ----------- -----------
22,496,538 22,227,460 17,383,080 16,500,616
----------- ----------- ----------- -----------
Operating costs and expenses:
Store operating expenses.......... 10,659,393 10,351,566 8,621,867 7,839,105
Amortization of videocassette
rental inventory............... 4,147,925 4,412,558 2,713,971 3,197,580
Cost of sales..................... 4,184,975 4,601,999 3,633,714 2,767,924
General and administrative
expenses....................... 3,289,407 3,705,045 2,409,420 2,321,425
----------- ----------- ----------- -----------
22,281,700 23,071,168 17,378,972 16,126,034
----------- ----------- ----------- -----------
Operating income (loss)... 214,838 (843,708) 4,108 374,582
----------- ----------- ----------- -----------
Minority interest in net income of
subsidiary........................ (64,611) (48,566) (46,224) (55,969)
----------- ----------- ----------- -----------
Other income (expense):
Interest income................... 26,849 7,886 7,177 18,633
Interest expense.................. (160,544) (283,648) (45,879) (131,820)
Settlement of bank debt
(note 7)........................ -- -- 771,000 --
Other............................. (87,652) 53,937 19,000 (112,002)
----------- ----------- ----------- -----------
(221,347) (221,825) 751,298 (225,189)
----------- ----------- ----------- -----------
Income (loss) before
income taxes............ (71,120) (1,114,099) 709,182 93,424
Income tax expense (benefit)
(note 10)......................... 217,613 (287,392) 276,159 82,139
----------- ----------- ----------- -----------
Net income (loss).............. $ (288,733) $ (826,707) $ 433,023 $ 11,285
=========== =========== =========== ===========
</TABLE>
See accompanying notes to consolidated financial statements.
F-50
<PAGE> 118
PALMER CORPORATION AND SUBSIDIARIES
<TABLE>
CONSOLIDATED STATEMENTS OF CASH FLOWS
<CAPTION>
YEAR ENDED NINE MONTHS ENDED
MARCH 31, DECEMBER 31,
--------------------------- ---------------------------
1995 1994 1995 1994
----------- ----------- ----------- -----------
(UNAUDITED)
<S> <C> <C> <C> <C>
Cash flows from operating activities:
Net income (loss)....................................... $ (288,733) $ (826,707) $ 433,023 $ 11,285
Adjustments to reconcile net income (loss) to net cash
provided by operating activities:
Depreciation and amortization......................... 615,055 639,166 410,969 449,008
Amortization of videocassette rental inventory........ 4,147,925 4,412,558 2,713,971 3,197,580
Increase in allowance for doubtful accounts........... 8,440 (78,136) -- --
Bad debt expense related to notes receivable.......... 48,732 51,400 -- --
Loss on disposal of fixed assets...................... 105,187 13,664 -- --
Settlement of bank debt............................... -- -- (771,000) --
Minority interest..................................... (440) (74,707) 33,628 14,320
Changes in assets and liabilities:
Marketable securities............................... -- (5,870) -- --
Accounts receivable................................. (2,528) 329,732 (74,731) (3,788)
Merchandise inventories............................. (746,580) 93,942 (709,340) (663,540)
Prepaid expenses.................................... (136,578) 96,668 116,348 (12,851)
Notes receivable.................................... (17,601) 57,309 (22,311) 26,317
Prepaid and refundable income taxes................. 316,591 (308,679) -- 316,591
Other assets........................................ 5,850 1,800 (19,925) (77,577)
Due from affiliated companies....................... (36,189) -- (64,693) --
Cash surrender value of officers' life insurance.... 43,262 18,226 -- 32,452
Security deposits................................... 25,222 35,260 997 27,012
Accounts payable.................................... 64,628 216,804 1,150,913 223,721
Accrued expenses.................................... (57,795) 653,133 (12,012) (176,068)
Income taxes payable................................ -- (123,649) -- --
Deferred rent....................................... 61,995 70,918 (30,515) 46,550
----------- ----------- ----------- -----------
Net cash provided by operating activities........... 4,156,443 5,272,832 3,155,322 3,411,012
----------- ----------- ----------- -----------
Cash flows from investing activities:
Purchases of videocassette rental inventory, net........ (4,054,606) (4,562,453) (2,564,708) (3,143,923)
Purchase of equipment................................... (431,449) (417,213) (181,573) (197,094)
Purchase of intangible assets........................... (59,020) -- -- --
----------- ----------- ----------- -----------
Net cash used in investing activities............... (4,545,075) (4,979,666) (2,746,281) (3,341,017)
----------- ----------- ----------- -----------
Cash flows from financing activities:
Repayment of notes payable.............................. (737,922) (379,209) (305,751) (477,010)
Proceeds from note payable.............................. 7,530 -- -- --
Proceeds from issuance of common stock.................. 1,745,000 -- -- 1,745,000
Repayment of advances from stockholders................. (213,288) (5,162) (40,500) (258,029)
Partnership capital drawings, net of contributions...... (15,000) (171,933) (75,000) (85,000)
Purchase of treasury stock.............................. -- -- (25,000) --
----------- ----------- ----------- -----------
Net cash provided by (used in) financing
activities....................................... 786,320 (556,304) (446,251) 924,961
----------- ----------- ----------- -----------
Net increase (decrease) in cash and cash equivalents...... 397,688 (263,138) (37,210) 994,956
Cash and cash equivalents, beginning of period............ 68,870 332,008 466,558 68,870
----------- ----------- ----------- -----------
Cash and cash equivalents, end of period.................. $ 466,558 $ 68,870 $ 429,348 $ 1,063,826
=========== =========== =========== ===========
Supplemental disclosure of cash flow information:
Cash paid during the period for:
Interest.............................................. $ 138,738 $ 263,645 $ 34,166 $ 118,591
Income taxes.......................................... 167,540 7,800 -- 90,000
=========== =========== =========== ===========
</TABLE>
Noncash transaction:
During the year ended March 31, 1995, the Company wrote-off notes
receivable of $100,132 that were fully reserved.
See accompanying notes to consolidated financial statements.
F-51
<PAGE> 119
PALMER CORPORATION AND SUBSIDIARIES
<TABLE>
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
<CAPTION>
CONVERTIBLE TOTAL
PREFERRED COMMON RETAINED TREASURY STOCKHOLDERS'
STOCK STOCK EARNINGS STOCK EQUITY
----------- ---------- ---------- --------- -------------
<S> <C> <C> <C> <C> <C>
Balance, March 31, 1993 (unaudited).................. $400,000 $ 342,842 $1,547,828 $(123,153) $2,167,517
Partnership drawings............................... -- -- (171,933) -- (171,933)
Net loss........................................... -- -- (826,707) -- (826,707)
-------- ---------- ---------- --------- ----------
Balance, March 31, 1994.............................. 400,000 342,842 549,188 (123,153) 1,168,877
Issuance of common stock (note 11)................. -- 1,745,000 -- -- 1,745,000
Partnerships drawings, net of capital
contributions................................... -- -- (15,000) -- (15,000)
Net loss........................................... -- -- (288,733) -- (288,733)
-------- ---------- ---------- --------- ----------
Balance, March 31, 1995.............................. 400,000 2,087,842 245,455 (123,153) 2,610,144
Purchase of treasury stock (unaudited)............. -- -- -- (25,000) (25,000)
Partnership drawings, net of capital contributions
(unaudited)..................................... -- -- (75,000) -- (75,000)
Net income (unaudited)............................. -- -- 433,023 -- 433,023
-------- ---------- ---------- --------- ----------
Balance, December 31, 1995 (unaudited)............... $400,000 $2,087,842 $ 603,478 $(148,153) $2,943,167
======== ========== ========== ========= ==========
</TABLE>
See accompanying notes to consolidated financial statements.
F-52
<PAGE> 120
PALMER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 1995 AND 1994
(INFORMATION AS OF DECEMBER 31, 1995 AND FOR THE
NINE-MONTH PERIODS ENDED DECEMBER 31, 1995 AND 1994 IS UNAUDITED)
1. ORGANIZATION
The consolidated financial statements include the accounts of the Company,
Palmer Corporation, its wholly-owned subsidiaries, Palmer Video Corporation,
Casablanca Distributing Corporation, Palmer Investment Corporation, its 51%
owned subsidiary 142nd Retail Associates ("142nd"), 135th Retail Associates
("135th") which was 85% owned by Palmer Video Corporation through March 1, 1995,
at which time the entire interest was purchased by Palmer Investment
Corporation, and its 50% owned subsidiary 38th Retail Associates ("38th")
(together "The Company"). All significant intercompany transactions and balances
have been eliminated in consolidation.
Palmer Video Corporation ("Video") owns and operates all 100% owned company
stores. At March 31, 1995 and 1994, Video owned 40 and 39 such stores,
respectively. During March 31, 1995 and 1994, 2 and 5 new stores were opened, 2
stores were purchased (none in 1994) and 3 and 2 stores were closed,
respectively. In addition, Video also functions as the franchisor company. At
March 31, 1995 and 1994, there were 23 franchised stores in operation, including
certain stores in which the Company owns a majority interest.
Casablanca Distributing Corporation ("Casa") is a wholesaler of video
cassettes and accessories supplying company-owned, franchisees and independent
stores.
Palmer Investment Corporation ("Investment") is the holding company for all
partial equity interests in company-owned stores. At March 31, 1995, Investment
holds a 51% interest in 142nd and a 50% interest in 38th. At March 31, 1994,
Investment held similar interests in 142nd and 38th and an 85% interest in
135th.
142nd, 135th and 38th were organized as partnerships to own and operate
three majority owned stores.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Unaudited interim consolidated financial statements:
The consolidated financial statements as of December 31, 1995, and for the
nine-month periods ended December 31, 1995 and 1994 are unaudited and, in the
opinion of management, include all adjustments (consisting only of normal and
recurring adjustments) necessary for a fair presentation of results for these
interim periods. The results of operations for the nine months ended December
31, 1995 and 1994 are not necessarily indicative of the results to be expected
for the entire year.
Cash equivalents:
Cash equivalents consist of highly liquid investments, such as money market
accounts and a certificate of deposit with an original maturity of three months
or less.
Merchandise inventory:
Merchandise inventory consisting primarily of prerecorded videocassettes
and accessories, are stated at the lower of cost or market. Cost is determined
using the first-in, first-out method and with market defined as the lower of
replacement cost or realizable value.
Videocassette rental inventory:
Videocassette rental inventory, which includes video games, is recorded at
cost, and amortized over their estimated economic life with no provision for
salvage value. For the period from April 1, 1993 through March 31, 1994
videocassettes were amortized over 36 months on an accelerated basis. Effective
April 1,
F-53
<PAGE> 121
PALMER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
1994, the Company changed its method of amortization. Videocassettes which are
considered base stock are amortized over 36 months on a straight-line basis.
Purchases of new release videocassettes are amortized whereby the tenth and any
succeeding copies of each title are amortized over nine months on an accelerated
basis; the fourth through ninth copies of each title per store are amortized
over 36 months on an accelerated basis; and copies one through three of each
title are amortized as base stock. Management is of the opinion that the new
method of amortization is a more appropriate matching of the cost per tape with
its related revenue. The effect of the change in method of amortization caused a
decrease in amortization expense for the year ended March 31, 1995 of $80,305.
The Company believes that its method of amortization results in an appropriate
matching of tape amortization expense with the revenue received from the
associated rental of such tapes.
Amortization expense related to videocassette rental inventory totaled
$4,147,925 and $4,412,558 for the years ended March 31, 1995 and 1994 and
$2,713,971 and $3,197,580 for the nine-month periods ended December 31, 1995 and
1994, respectively. As videocassettes are sold or retired, the applicable cost
and accumulated amortization are eliminated from the accounts, and any gain or
loss is recorded.
Property and equipment:
<TABLE>
Property and equipment are recorded at cost and depreciated primarily using
the straight-line method of depreciation over estimated useful lives as follows:
<CAPTION>
<S> <C>
Furniture and fixtures................... 5 to 7 years
Equipment................................ 3 to 5 years
Leasehold improvements and signs......... Shorter of estimated useful life or lease
term
</TABLE>
Revenue recognition:
Movie rental and merchandise revenue is recognized at the time of rental or
sale. Royalty fees, earned based upon the franchisee's sales, are recorded as
revenue in the period when they are received.
Store opening costs:
Store opening costs, which consist primarily of payroll, advertising and
supplies, are expensed as incurred.
Intangible assets:
Intangible assets consist of the cost of acquired businesses in excess of
the market value of the net tangible assets acquired. The cost in excess of the
market value of the net tangible assets is amortized on a straight-line basis
over 15 years.
Income taxes:
The Company files a consolidated Federal income tax return with its
wholly-owned subsidiaries. Income taxes are not payable or provided for by the
Partnerships. Partners are taxed individually on their share of the partnership
earnings or losses.
Under Statement of Financial Accounting Standards No. 109, "Accounting for
Income Taxes," (Statement 109) deferred income taxes are recognized for the
future tax consequences attributable to differences between the financial
statement carrying amounts of existing assets and liabilities and their
respective tax bases. Deferred tax assets and liabilities are measured using
enacted tax rates expected to apply to taxable income in the years in which
those temporary differences are expected to be recovered or settled. Under
Statement 109, the effect on deferred taxes of a change in tax rates is
recognized in income in the period that includes the enactment date.
F-54
<PAGE> 122
PALMER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Pension plan:
The Company has a 401(k) retirement plan covering all eligible employees.
Employer contributions, if any, are determined by an annual resolution of the
Board of Directors and cannot exceed the maximum amount allowable as a tax
deduction under the Internal Revenue Code and regulations. In addition, each
qualified participant may make voluntary contributions to the plan on a pre-tax
basis by salary reductions which cannot exceed 15% of eligible compensation. In
1995 and 1994, the Company did not contribute to the plan.
3. MERCHANDISE INVENTORIES
<TABLE>
Merchandise inventories are summarized as follows:
<CAPTION>
MARCH 31,
------------------------- DECEMBER 31,
1995 1994 1995
---------- ---------- ------------
<S> <C> <C> <C>
Video cassettes for resale.................... $1,442,947 $ 820,100 $1,860,645
Video accessories/supplies.................... 377,524 232,493 689,344
Blank video tapes............................. 43,633 64,931 23,455
---------- ---------- ----------
$1,864,104 $1,117,524 $2,573,444
========== ========== ==========
</TABLE>
4. NOTES RECEIVABLE
<TABLE>
Notes receivable are summarized as follows:
<CAPTION>
MARCH 31,
------------------- DECEMBER 31,
1995 1994 1995
-------- -------- ------------
<S> <C> <C> <C>
Various installment notes -- receivable in monthly
installments aggregating $1,128 in 1995 and 1994,
including interest at 10% per annum for periods
expiring through July 1998......................... $156,439 $148,832 $227,776
Various installment notes -- receivable in
consecutive monthly installments aggregating $5,934
in 1995 and 1994, respectively, including interest
at 9% per annum through January 1995............... 46,895 90,256 --
Various installment notes -- receivable in
consecutive monthly installments aggregating $595
in 1995 and $595 in 1994, including interest at 8%
per annum through June 1997........................ 79,228 16,137 77,097
Various installment notes -- receivable in monthly
installments aggregating $1,951, including interest
at 11% per annum for periods expiring through July
1994............................................... -- 56,787 --
Various installment notes -- receivable in
consecutive monthly installments aggregating $8,249
in 1995 and 1994, including interest at 12% per
annum for periods expiring through April 1997...... -- 53,081 --
-------- -------- --------
282,562 365,093 304,873
Less allowance for doubtful accounts............... -- 51,400 --
-------- -------- --------
282,562 313,693 304,873
Less current portion............................... 145,756 191,902 182,780
-------- -------- --------
$136,806 $121,791 $122,093
======== ======== ========
</TABLE>
F-55
<PAGE> 123
PALMER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
5. PROPERTY AND EQUIPMENT
<TABLE>
Property and equipment are comprised of the following:
<CAPTION>
MARCH 31,
----------------------- DECEMBER 31,
1995 1994 1995
---------- ---------- ------------
<S> <C> <C> <C>
Furniture and fixtures............................ $2,799,241 $2,560,304 $2,947,130
Machinery and equipment........................... 1,775,835 1,763,385 1,810,317
Leasehold improvements............................ 543,849 592,916 543,850
---------- ---------- ----------
5,118,925 4,916,605 5,301,297
Accumulated depreciation and amortization......... 3,390,769 2,923,320 3,774,503
---------- ---------- ----------
$1,728,156 $1,993,285 $1,526,794
========== ========== ==========
</TABLE>
Depreciation and amortization expense related to property and equipment
amounted to $591,391 and $594,142 for the years ended March 31, 1995 and 1994
and $383,734 and $416,670 for the nine months ended December 31, 1995 and 1994,
respectively.
6. ACQUISITIONS
On March 1, 1995, Video purchased assets with a book value of $178,231,
assumed liabilities with a book value of $204,188 for $35,000 which was paid in
cash at the closing. The transaction resulted in an increase to Video's goodwill
of $59,020. These assets and liabilities were previously owned by 135th Retail
Associates, which was previously a franchise store.
On March 31, 1995, Video acquired the assets (primarily video rental
cassettes) of Legends Inc. for $82,000. In addition, Video assumed the existing
occupancy lease.
7. NOTE PAYABLE -- BANK
The advances from the bank aggregating $600,000 at March 31, 1995 and 1994
were in the form of demand notes payable with interest ranging from 1% to 1 1/2%
above the bank's base rate, as defined. The notes are unsecured.
Demand was made on the note payable -- bank and was referred to legal
counsel. The Company alleges that the bank breached a commitment to advance
additional funds under a line of credit and has filed a lender liability action.
In June 1995, the Company and the bank agreed to settle the aforementioned
dispute. The settlement terms release the Company from all obligations to the
bank, including principal of $600,000 and accrued interest in the amount of
$171,000, and cause no funds to be exchanged between the parties.
F-56
<PAGE> 124
PALMER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
8. LONG-TERM DEBT
<TABLE>
Long-term debt consists of the following components:
<CAPTION>
MARCH 31,
----------------------- DECEMBER 31,
1995 1994 1995
-------- ---------- ------------
<S> <C> <C> <C>
Promissory note -- payable in consecutive
monthly principal installments of $33,333
through November 1995, plus interest at 2%
above the bank's prevailing base rate (as
defined) (9% at March 31, 1995)............... $267,589 $ 850,920 --
Installment loans -- payable in monthly
installments of $3,051 in 1995 and 1994,
including interest at various rates,
collateralized by various company assets, for
periods through November 1997................. 41,407 53,061 $ 23,033
Installment agreement payable in monthly
installments of $3,500 in 1995 and 1994,
including interest at 8%...................... 203,917 228,524 184,129
Partnership loan from partners. No specified
repayment terms or due date................... -- 100,000 --
Other........................................... -- 10,800 --
-------- ---------- --------
512,913 1,243,305 207,162
Less current maturities......................... 320,770 905,206 52,014
-------- ---------- --------
$192,143 $ 338,099 $155,148
======== ========== ========
</TABLE>
<TABLE>
Aggregate maturities of long-term debt are as follows:
<CAPTION>
YEARS ENDING
MARCH 31
------------
<S> <C>
1996...................................................... $320,770
1997...................................................... 43,737
1998...................................................... 31,258
1999...................................................... 33,851
2000...................................................... 38,339
Thereafter................................................ 44,958
--------
$512,913
========
</TABLE>
9. ADVANCES FROM STOCKHOLDERS AND RELATED PARTY TRANSACTIONS
At March 31, 1995 and 1994, the Company has been advanced $310,000 and
$523,288, respectively, from its stockholders, which is payable on demand plus
interest at 10%. At December 31, 1995 $269,500 remains outstanding.
On December 16, 1994, Video entered into an agreement to lease video rental
cassettes from a vendor whose parent became a stockholder in December 1994. The
agreement is effective for the period January 1, 1995 to December 31, 2004. The
agreement stipulates that the Company is required to lease a minimum number of
video rental cassettes from the vendor for the purposes of subsequent rental or
sale. Based on rental and sales volume, the Company is required to remit to the
vendor a stipulated percentage of the volume. Based on the agreement, the
Company paid $503,247 and $917,896 to the vendor during the years ended March
31, 1995 and 1994 and $1,067,144 and $190,386 for the nine-month periods ended
December 31, 1995 and 1994, respectively.
F-57
<PAGE> 125
PALMER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Based on the terms of the agreement, the Company, at its own option, is
able to terminate the agreement if certain revenue percentage increases are not
achieved in the first twelve month period of the agreement. If the Company
elects to terminate the agreement, the parent of the vendor can require the
Company to reacquire the parent's common shares acquired in December, 1994 at
the same price that the shares were originally issued (see note 11).
The Company also has a consulting agreement with a stockholder. The
agreement calls for annual payments of $42,000 through May 2001. Such amounts
have been present valued at a discount rate of 8% and are included in the
long-term debt in the accompanying balance sheet.
10. INCOME TAXES
<TABLE>
As discussed in note 2, the Company adopted Statement 109 effective April
1, 1992. The components of the provision for income tax expense (benefit) for
the years March 31, 1995 and 1994 are as follows:
<CAPTION>
1995 1994
-------- ---------
<S> <C> <C>
Current:
Federal............................................. $205,000 $(291,491)
State............................................... 12,613 4,099
-------- ---------
Total current provision (benefit)........... $217,613 $(287,392)
======== =========
</TABLE>
<TABLE>
A reconciliation of the Federal income tax rate to the Company's effective
income tax rate is as follows:
<CAPTION>
1995 1994
-------- ---------
<S> <C> <C>
Income tax benefit at statutory rate.................. $(24,181) $(378,794)
Amortization of goodwill.............................. 8,046 15,187
Officer's life insurance.............................. 37,400 23,525
Meals and entertainment............................... 5,780 5,768
Increase (decrease) in valuation allowance for Federal
deferred tax assets................................. 229,208 (12,708)
Other................................................. (38,640) 59,630
-------- ---------
$217,613 $(287,392)
======== =========
</TABLE>
F-58
<PAGE> 126
PALMER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
<TABLE>
The tax effect of temporary differences that give rise to significant
portions of the deferred tax assets and deferred tax liabilities at March 31,
1995 and 1994 are presented below:
<CAPTION>
1995 1994
--------- --------
<S> <C> <C>
Deferred tax assets:
Accruals for officers' salaries............................. $ 156,623 $ 71,443
Deferred rent............................................... 413,938 389,177
Net operating loss carryforwards............................ 13,665 81,833
Allowance for doubtful accounts............................. 27,159 23,788
Other....................................................... 17,448 20,078
--------- --------
Total gross deferred tax assets.......................... 628,833 586,319
Less valuation allowance.................................... (252,637) (14,177)
--------- --------
Net deferred tax assets.................................. 376,196 572,142
--------- --------
Deferred tax liabilities:
Videocassette rental inventory, principally due to
differences in amortization.............................. 220,891 397,780
Accumulated depreciation.................................... 118,284 129,468
Other....................................................... 37,021 44,894
--------- --------
Total gross deferred tax liability....................... 376,196 572,142
--------- --------
Net deferred taxes....................................... $ -- $ --
========= ========
</TABLE>
11. PREFERRED STOCK AND STOCKHOLDERS' EQUITY
Convertible Preferred Stock:
In 1988 the Company authorized and issued 400,000 shares of Series A
Convertible Preferred Stock (Preferred Stock). The total proceeds received by
the Company were $400,000. The Preferred Stock does not pay dividends and the
shareholders are not entitled to any voting privileges. The preferred
shareholders have liquidation preferences senior to the common stockholders and
are entitled to $1 per preferred share upon the occurrence of certain defined
events, including, among other things, a voluntary or involuntary dissolution of
the Company through a merger or consolidation with another party. The Preferred
Stock shareholders also have the option to convert their shares into common
stock upon the occurrence of one of the following events: (i) an initial public
offering of the Company's common stock; (ii) the proposed sale of 30%, or more,
of the Company's common stock or assets; or (iii) that date which is two years
from the sale of the Preferred Stock. The Preferred Stock converts into that
number of common stock shares, ranging from 2% to 4% of the common stock
outstanding immediately prior to the conversion, based upon certain defined
criteria. The Company maintains a reserve of such number of common stock shares
necessary to convert the Preferred Stock at all times. As of March 31, 1995 no
conversion options have been exercised.
Common Stock:
In December 1994 the Company issued replacement shares of common stock to
the then current shareholders. The effect of this action caused the 156.868 then
outstanding common stock shares to be replaced with 180,000 shares. All holders
maintained their proportional ownership share.
On December 16, 1994 the Company executed a Stock Purchase Agreement (the
Agreement) with a private investor (the Investor) whereby the Company sold
10,000 shares of its common stock, representing approximately 5% of the then
outstanding shares of common stock, for total proceeds of $1,000,000. The
Agreement includes an anti-dilution provision that mandates if the Preferred
Stock is converted into common stock the Company will issue that number of
shares of common stock to the Investor that would maintain its proportionate
equity ownership that existed immediately prior to the conversion, at no
additional cost to the Investor. The Company and the Investor also entered into
a registration and piggyback registration agreement related to these shares. In
addition, the Company executed a Right of First Refusal and Co-sale Agreement
(the Co-sale Agreement) that is in effect from the aforementioned date until the
date that the common stock
F-59
<PAGE> 127
PALMER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
of the Company is registered under the Securities and Exchange Act of 1934 (the
Option Period). The Co-sale Agreement states that if the Company sells
additional shares of its common stock, the Investor shall have an option to
purchase that number of common stock shares sold during the Option Period that
would allow the Investor to maintain its proportionate equity ownership that
existed immediately prior to the common stock sale, at a per share price equal
to those sold. Furthermore, if certain common stock shareholders propose to
transfer their common stock (Proposed Common Shares) to parties other than the
Company or the Investor, the Investor shall have the option to participate in
the proposed transfer on the same terms and conditions as the certain common
stock shareholders and include in the transfer that number of shares by which
the Co-sale agreement allows the Proposed Common Shares to be reduced.
In December 1994, the Company sold an additional 7,450 shares of its common
stock, representing approximately 4% of the then outstanding shares of common
stock, to individual investors at a price of $100 per share aggregating $745,000
in proceeds to the Company.
12. COMMITMENTS AND CONTINGENCIES
The Company leases their facilities and certain equipment under operating
leases expiring on various dates through 2006. Several of the leases are subject
to schedules rental increases based on a defined formula the effect of which has
been reflected in the accompanying consolidated financial statements. Rental
expense for the years ended March 31, 1995 and 1994 aggregated $4,373,818 and
$4,495,366 and $3,731,326 and $3,307,294 for the nine-month periods ended
December 31, 1995 and 1994, respectively.
<TABLE>
Future minimum rental commitments under noncancelable operating leases
(with terms of one year or more) consisted of the following at March 31, 1995:
<CAPTION>
YEAR ENDING
MARCH 31,
-----------
<S> <C>
1996.................................................... $ 4,001,365
1997.................................................... 3,945,570
1998.................................................... 3,553,548
1999.................................................... 2,796,788
2000.................................................... 1,770,887
Thereafter.............................................. 1,721,132
-----------
$17,789,290
===========
</TABLE>
In addition, the leases provide for escalation clauses for increases in
real estate taxes and building maintenance.
At March 31, 1995 and 1994, the Company was contingently liable under
outstanding letters of credit in the amount of $15,587 and $34,500,
respectively, which were being held as additional security deposits for various
store locations.
13. SUBSEQUENT EVENT (UNAUDITED)
The Company and its stockholders have entered into negotiations with West
Coast Entertainment Corporation to sell all of their shares of outstanding
common stock.
14. SUBSEQUENT EVENT
The Company is a defendant in litigation with a former franchisee. The
litigation, if resolved in a manner adverse to the Company, could result in a
judgment considered material to the Company's financial position or results of
operations. The case is in discovery and the likelihood of an unfavorable or
favorable outcome cannot be determined at this time. Accordingly, no provision
has been made in the accompanying consolidated financial statements related to
this litigation.
F-60
<PAGE> 128
INDEPENDENT AUDITOR'S REPORT
Board of Directors
American Video, Inc. and Red Giraffe Video, Inc.
Louisville, Kentucky
We have audited the accompanying combined balance sheets of American Video,
Inc. and Red Giraffe Video, Inc. as of January 3, 1996, December 28, 1994, and
December 29, 1993, and the related combined statements of income, stockholders'
equity and cash flows for the years then ended. These financial statements are
the responsibility of the Companies' 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 audits 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 combined financial statements referred to above present
fairly, in all material respects, the combined financial position of American
Video, Inc. and Red Giraffe Video, Inc. as of January 3, 1996, December 28,
1994, and December 29, 1993, and the results of their combined operations and
their cash flows for the years then ended in conformity with generally accepted
accounting principles.
CARPENTER & MOUNTJOY, PSC
Louisville, Kentucky
March 4, 1996
F-61
<PAGE> 129
AMERICAN VIDEO, INC. AND RED GIRAFFE VIDEO, INC.
<TABLE>
COMBINED BALANCE SHEETS
<CAPTION>
JANUARY 3, DECEMBER 28, DECEMBER 29,
1996 1994 1993
---------- ------------ ------------
<S> <C> <C> <C>
ASSETS
Current Assets
Cash -- Note J...................................... $ 427,548 $ 56,104 $ 203,676
Accounts receivable -- Note A....................... 58,189 15,662 8,626
Merchandise and supplies inventories --
Notes A and D.................................... 271,201 273,259 217,568
Preopening costs, net -- Note A..................... 44,664 18,846 9,220
Prepaid expenses.................................... 109,586 38,223 19,712
---------- ---------- ----------
Total current assets........................ 911,188 402,094 458,802
Videocassette Rental Inventory, net--
Notes A, D and K.................................... 2,426,242 2,326,304 2,418,550
Furnishings and Equipment, net--
Notes A, B, and D................................... 1,097,457 969,804 1,076,526
Other Assets -- Note C................................ 113,088 112,071 131,907
---------- ---------- ----------
Total....................................... $4,547,975 $3,810,273 $4,085,785
========== ========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities
Current portion of long-term debt -- Note D......... $ 878,064 $ 588,000 $ 588,000
Note payable-stockholders -- Note H................. 113,000 272,961 272,961
Checks written in excess of bank balance............ -- 55,349 --
Accounts payable.................................... 723,416 813,104 457,671
Accrued expenses.................................... 303,397 143,219 205,542
---------- ---------- ----------
Total current liabilities................... 2,017,877 1,872,633 1,524,174
Long-Term Debt--Note D................................ 1,601,144 980,265 1,568,327
Commitments and Contingencies--Notes E and I.......... -- -- --
Stockholders' Equity
Common stock, no par value, 350,000 shares
authorized, 8,398 shares issued and outstanding
4,000 nonvoting shares authorized, 1 share issued
and outstanding.................................. 1,383,459 1,383,459 1,383,459
Common stock, no par value, 350,000 shares
authorized, 8,398 shares issued and
outstanding...................................... 192,000 192,000 192,000
Retained deficit -- Note K.......................... (646,505) (618,084) (582,175)
---------- ---------- ----------
Total stockholders' equity.................. 928,954 957,375 993,284
---------- ---------- ----------
Total....................................... $4,547,975 $3,810,273 $4,085,785
========== ========== ==========
</TABLE>
See notes to combined financial statements
F-62
<PAGE> 130
AMERICAN VIDEO, INC. AND RED GIRAFFE VIDEO, INC.
<TABLE>
COMBINED STATEMENTS OF INCOME
<CAPTION>
JANUARY 3, DECEMBER 28, DECEMBER 29,
1996 1994 1993
---------- ------------ ------------
<S> <C> <C> <C>
Revenues
Video rental......................................... $8,557,200 $7,658,130 $6,993,357
Product sales........................................ 957,639 615,469 444,434
Royalty fees......................................... 28,689 -- --
---------- ---------- ----------
Total revenue................................ 9,543,528 8,273,599 7,437,791
Cost and Expenses
Store operating expenses............................. 5,279,564 4,462,133 4,174,195
Tape amortization -- Notes A and K................... 2,383,667 2,200,000 1,846,039
Cost of product sales................................ 432,361 267,154 216,201
General and administrative........................... 816,950 649,763 665,072
---------- ---------- ----------
Total cost and expenses...................... 8,912,542 7,579,050 6,901,507
---------- ---------- ----------
Income from operations....................... 630,986 694,549 536,284
Interest Expense....................................... (153,757) (144,396) (164,183)
Other, net............................................. 4,350 17,251 --
---------- ---------- ----------
Income before provision for income taxes..... 481,579 567,404 372,101
Provision for Income Taxes -- Note G................... -- -- --
---------- ---------- ----------
Net Income................................... $ 481,579 $ 567,404 $ 372,101
========== ========== ==========
</TABLE>
See notes to combined financial statements
F-63
<PAGE> 131
AMERICAN VIDEO, INC. AND RED GIRAFFE VIDEO, INC.
<TABLE>
COMBINED STATEMENTS OF STOCKHOLDERS' EQUITY
<CAPTION>
COMMON RETAINED STOCKHOLDERS'
STOCK DEFICIT EQUITY
---------- ----------- -------------
<S> <C> <C> <C>
Balance at December 30, 1992......................... $1,631,459 $(1,034,199) $ 597,260
Prior period adjustment -- Note K.................. -- 79,923 79,923
Treasury stock purchase............................ (56,000) -- (56,000)
Net income......................................... -- 372,101 372,101
---------- ----------- ---------
Balance at December 29, 1993......................... 1,575,459 (582,175) 993,284
Distributions paid................................. -- (603,313) (603,313)
Net income......................................... -- 567,404 567,404
---------- ----------- ---------
Balance at December 28, 1994......................... 1,575,459 (618,084) 957,375
Distributions paid................................. -- (510,000) (510,000)
Net income......................................... -- 481,579 481,579
---------- ----------- ---------
Balance at January 3, 1996........................... $1,575,459 $ (646,505) $ 928,954
========== =========== =========
</TABLE>
See notes to combined financial statements
F-64
<PAGE> 132
AMERICAN VIDEO, INC. AND RED GIRAFFE VIDEO, INC.
<TABLE>
COMBINED STATEMENTS OF CASH FLOWS
<CAPTION>
FOR THE YEAR ENDED
---------------------------------------------
JANUARY 3, DECEMBER 28, DECEMBER 29,
1996 1994 1993
----------- ------------ ------------
<S> <C> <C> <C>
Cash Flows From Operating Activities
Net income........................................ $ 481,579 $ 567,404 $ 372,101
Adjustments to reconcile net income to net cash
provided by operating activities:
Amortization of videocassette rental
inventory.................................... 2,383,667 2,200,000 1,846,039
Depreciation and amortization.................. 402,519 501,566 514,222
Loss on write off of assets.................... -- -- 33,261
Change in assets and liabilities
Accounts receivable.......................... (42,527) (7,036) (4,655)
Merchandise and supplies inventories......... 2,058 (55,688) (57,926)
Prepaid expenses and other assets............ (168,758) (28,303) 22,955
Bank overdraft............................... (55,349) 55,349 --
Accounts payable............................. (89,688) 355,432 (156,075)
Accrued expenses............................. 160,178 (62,323) (150,279)
----------- ----------- -----------
Net cash provided by operating
activities.............................. 3,073,679 3,526,401 2,419,643
Cash Flows From Investing Activities
Purchase of property and equipment................ (459,613) (374,843) (165,779)
Purchase of videocassette rental inventory........ (2,483,605) (2,107,755) (1,668,824)
----------- ----------- -----------
Net cash used by investing activities..... (2,943,218) (2,482,598) (1,834,603)
Cash Flows From Financing Activities
Borrowings from bank.............................. 1,450,000 -- --
Repayment of long-term debt....................... (539,056) (588,062) (588,061)
Stockholder loans................................. 113,000 -- 113,000
Repayment of stockholder loans.................... (272,961) -- --
Distributions paid................................ (510,000) (603,313) --
Treasury stock purchase........................... -- -- (56,000)
----------- ----------- -----------
Net cash provided (used) by financing
activities.............................. 240,983 (1,191,375) (531,061)
----------- ----------- -----------
Net Increase (Decrease) in Cash and Cash
Equivalents....................................... 371,444 (147,572) 53,979
Cash and Cash Equivalents, Beginning of the Year.... 56,104 203,676 149,697
----------- ----------- -----------
Cash and Cash Equivalents, End of the Year.......... $ 427,548 $ 56,104 $ 203,676
=========== =========== ===========
Supplemental Disclosure of Cash Flow Information
Cash paid during the period for interest.......... $ 149,947 $ 148,024 $ 231,587
=========== =========== ===========
Supplemental Disclosure of Noncash Investing and
financing activities:
Stockholder notes payable contributed to
capital........................................ $ -- $ -- $ 374,400
=========== =========== ===========
</TABLE>
See notes to combined financial statements
F-65
<PAGE> 133
AMERICAN VIDEO, INC. AND RED GIRAFFE VIDEO, INC.
NOTES TO COMBINED FINANCIAL STATEMENTS
JANUARY 3, 1996, DECEMBER 28, 1994 AND DECEMBER 29, 1993
NOTE A -- DESCRIPTION OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Description of Business: Red Giraffe Video, Inc. an Indiana corporation,
operates as a franchisor of video tape rental and sale superstores. Red Giraffe
Video, Inc. had 28 franchised stores as of January 3, 1996. American Video, Inc.
d/b/a Red Giraffe, a Kentucky corporation, operates as franchisee of Red Giraffe
Video, Inc. American Video, Inc. had 25 stores in operation at January 3, 1996.
Cash and Cash Equivalents: The Company considers all highly liquid
investments with original maturities of three months or less to be cash
equivalents.
Revenue Recognition: Revenue is recognized at the time of rental or sales
of a videocassettes or video games.
Intercompany Accounts and Transactions: All intercompany accounts and
transactions have been eliminated in combination.
Fiscal Year: American Video, Inc. has a fiscal year which ends on the
Wednesday closest to December 31. Red Giraffe Video, Inc. has a fiscal year
which ends on December 31. Red Giraffe Video, Inc. had no financial activity on
December 31 to the Wednesday closest to December 31, therefore, all results
reflect the year-end date of American Video, Inc.
Accounts Receivable: American Video, Inc. and Red Giraffe Video, Inc.
consider accounts receivable to be fully collectible and as such, no allowance
for doubtful accounts has been recorded. Any accounts determined to be
uncollectible will be charged to operations when that determination is made.
Merchandise and Supply Inventories: Merchandise and supply inventories
consist primarily of pre-recorded and blank videocassette tapes held for sale
and are stated at the lower of cost (first-in, first-out method) or market.
Preopening Costs: Preopening costs consist of costs incurred in opening a
store, and are amortized over twelve months from the store opening.
Video Rental Tapes: Videocassette rental inventory, which includes video
games, is stated at cost and is amortized over its estimated economic life with
no provision for salvage value. Videocassettes that are considered base stock
are amortized over 36 months on a straight-line basis. New release
videocassettes are amortized as follows: the first through third copies of each
title maintained in each store are amortized as base stock and the fourth and
succeeding copies of each title maintained in each store are amortized over nine
months on a straight-line basis (see Note K). The Company believes that its
method of amortization results in an appropriate matching of tape amortization
expense with the revenue received from the associated rental of such tapes.
<TABLE>
Videocassette rental inventory and related amortization are as follows:
<CAPTION>
JANUARY 3, DECEMBER 28, DECEMBER 29,
1996 1994 1993
----------- ------------ ------------
<S> <C> <C> <C>
Videocassette rental inventory.............. $ 7,496,600 $ 6,134,935 $ 5,327,648
Accumulated amortization.................... (5,070,358) (3,808,631) (2,909,098)
----------- ----------- -----------
$ 2,426,242 $ 2,326,304 $ 2,418,550
=========== =========== ===========
</TABLE>
Equipment and Improvements: Equipment and improvements are recorded at
cost. Depreciation of equipment is provided using the straight-line depreciation
method over five years. Leasehold improvements are amortized using the
straight-line method over the shorter of the useful lives of the related assets
or lease term, including the option period, if management intends to renew the
lease.
F-66
<PAGE> 134
AMERICAN VIDEO, INC. AND RED GIRAFFE VIDEO, INC.
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE B -- EQUIPMENT AND IMPROVEMENTS
<TABLE>
Equipment and improvements consist of the following:
<CAPTION>
JANUARY 3, DECEMBER 28, DECEMBER 29,
1996 1994 1993
----------- ------------ ------------
<S> <C> <C> <C>
Office and store equipment.................. $ 3,142,993 $ 2,755,209 $ 2,418,402
Leasehold improvements...................... 781,662 722,840 716,625
Rental equipment............................ 70,963 57,997 56,443
----------- ----------- -----------
Total............................. 3,995,618 3,536,046 3,191,470
Less accumulated depreciation and
amortization.............................. (2,898,161) (2,566,242) (2,114,944)
----------- ----------- -----------
Net equipment and improvements.............. $ 1,097,457 $ 969,804 $ 1,076,526
=========== =========== ===========
</TABLE>
NOTE C -- OTHER ASSETS
<TABLE>
Other assets consist of the following:
<CAPTION>
JANUARY 3, DECEMBER 28, DECEMBER 29,
1996 1994 1993
---------- ------------ ------------
<S> <C> <C> <C>
Security deposits............................... $ 62,000 $ 51,277 $ 37,915
Loan fees....................................... 17,852 9,577 22,339
Franchisee organizational materials............. 33,236 51,217 71,653
-------- -------- --------
Total................................. $113,088 $112,071 $131,907
======== ======== ========
</TABLE>
Loan fees are amortized over the life of the loan. Franchisee
organizational materials are amortized over five years.
NOTE D -- NOTES PAYABLE AND LONG-TERM DEBT
Long-term debt is payable to a bank in monthly installments on principal
plus interest through October 30, 2000. Interest is computed at the prime rate
plus 1/2% (effective rate of 9.0% at January 3, 1996). The borrowings are
secured by all video rental tapes, equipment and improvements, merchandise
inventories and the personal guarantees of certain stockholders.
<TABLE>
Aggregate annual principal maturities of long-term debt are as follows:
<CAPTION>
YEAR ENDED
----------
<S> <C>
January 1, 1997........................................................ $ 878,064
December 31, 1997...................................................... 731,144
December 30, 1998...................................................... 290,000
December 29, 1999...................................................... 290,000
January 3, 2001........................................................ 290,000
----------
Total........................................................ $2,479,208
==========
</TABLE>
F-67
<PAGE> 135
AMERICAN VIDEO, INC. AND RED GIRAFFE VIDEO, INC.
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE E -- COMMITMENTS
<TABLE>
The Company occupies stores, warehouse and office facilities under
noncancelable operating leases which expire at various dates through 2000. Many
of the operating lease agreements have options for renewal for terms that range
up to fifteen years. Future annual minimum payments under leases with terms in
excess of one year are:
<CAPTION>
YEAR ENDED
----------
<S> <C>
January 1, 1997........................................................ $1,252,730
December 31, 1997...................................................... 1,060,213
December 30, 1998...................................................... 800,052
December 29, 1999...................................................... 579,885
January 3, 2001........................................................ 316,885
----------
Total........................................................ $4,009,765
==========
</TABLE>
Rent expense under these leases amounted to $1,385,461, $1,190,783 and
$997,495, for the years ending January 3, 1996, December 28, 1994, and December
29, 1993, respectively.
These minimum payments do not include amounts payable for related common
areas, real estate taxes, repairs and maintenance, utilities and other such
charges. Three of the leases provide for additional contingent rentals based
upon sales in excess of a predetermined amount. No such percentage rentals were
paid or accruable for the year ended January 3, 1996.
Substantially all of the leases are renewable at increased rates based upon
the Consumer Price Index. Certain of the leases are guaranteed by certain
stockholders.
NOTE F -- RELATED PARTY TRANSACTIONS
American Video, Inc. and Red Giraffe Video, Inc. are related companies
through common ownership of both companies. Furthermore, American Video, Inc. is
a franchisee of Red Giraffe Video, Inc. Royalties paid by American Video, Inc.
amounted to $285,451, $247,384 and $227,665 for the years ended January 3, 1996,
December 28, 1994 and December 29, 1993, respectively. All of these balances
were eliminated in these combined financial statements.
NOTE G -- INCOME TAXES
The Companies have elected S corporation status under the Internal Revenue
Code of 1986 and as such, no provision has been made for income taxes. Taxes on
the net income of each Company is the responsibility of the stockholders.
Although, local income taxes are payable by the Company, no accrual has been
made as this amount is considered immaterial at January 3, 1996.
NOTE H -- NOTES PAYABLE TO STOCKHOLDERS
At January 3, 1996, American Video, Inc. had notes payable to two
stockholders totaling $113,000. The notes are payable on demand with interest
accruing at 9.5%. At December 29, 1993 and December 28, 1994, American Video,
Inc. had notes payable to two stockholders totaling $272,961. The notes were
payable on demand and had a stated interest at 10% and 8%, respectively.
NOTE I -- SUBSEQUENT EVENT
The stockholders of American Video, Inc. and Red Giraffe Video, Inc. have
entered into an agreement to sell substantially all of the assets and
liabilities of the Companies to an unrelated third party subject to terms
F-68
<PAGE> 136
AMERICAN VIDEO, INC. AND RED GIRAFFE VIDEO, INC.
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
and obligations to perform acts within a specified period of time. Pursuant to
the completion of the sale, the Companies will pay a portion of the proceeds to
certain members of its management. No provision has been made in these financial
statements as a result of the sale or any payments which may be made to
management.
NOTE J -- CONCENTRATION OF CREDIT RISK
The Companies maintain cash at several financial institutions. Balances at
the institutions are insured by the Federal Deposit Insurance Corporation (FDIC)
up to $100,000. At January 3, 1996, the Companies uninsured cash balance was
approximately $250,000.
NOTE K -- CHANGE IN ACCOUNTING FOR VIDEOCASSETTE RENTAL INVENTORY
Related to the initial public offering of West Coast Entertainment
Corporation, the Company has changed its method of videocassette tape
amortization to more closely resemble the methods used by other video store
chains.
<TABLE>
The effect on net income for each of the years presented is as follows:
<CAPTION>
INCREASE
YEAR ENDED (DECREASE)
---------- ----------
<S> <C>
January 3, 1996........................................................ $(450,330)
December 28, 1994...................................................... $(553,186)
December 29, 1993...................................................... $(516,062)
</TABLE>
The cumulative effect on years prior to 1993 was an increase in retained
earnings of $79,923.
F-69
<PAGE> 137
INDEPENDENT AUDITORS' REPORT
The Board of Directors and Shareholders
Lancaster Group, Inc.:
We have audited the accompanying balance sheets of Lancaster Group, Inc. as
of December 31, 1995 and 1994, and the related statements of operations,
stockholders' equity (deficit), and cash flows for each of the years in the
three-year period ended December 31, 1995. 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 Lancaster Group, Inc. as of
December 31, 1995 and 1994, and the results of its operations and its cash flows
for each of the years in the three-year period ended December 31, 1995, in
conformity with generally accepted accounting principles.
As discussed in note 2 to the financial statements, in 1994 the Company
changed its method of accounting for videocassettes and games.
KPMG PEAT MARWICK LLP
Louisville, Kentucky
February 23, 1996
F-70
<PAGE> 138
LANCASTER GROUP, INC.
<TABLE>
BALANCE SHEETS
DECEMBER 31, 1995 AND 1994
<CAPTION>
1995 1994
--------- ---------
<S> <C> <C>
ASSETS
Current assets:
Cash............................................................... $ 81,894 $ 66,896
Merchandise inventories............................................ 10,833 25,632
Other.............................................................. 164 29,999
--------- ---------
Total current assets....................................... 92,891 122,527
Videocassette and game rental inventory, net of amortization
(note 2)........................................................... 142,603 182,455
Property and equipment, net (note 3)................................. 354,295 461,064
--------- ---------
$ 589,789 $ 766,046
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
Current liabilities:
Current installments of long-term debt (note 4).................... $ 134,867 $ 127,607
Accounts payable................................................... 58,542 102,690
Accrued expenses................................................... 48,971 12,127
Liquidating dividends payable...................................... 1,200 --
--------- ---------
Total current liabilities.................................. 243,580 242,424
Long-term debt less current installments (note 4).................... 358,232 493,099
--------- ---------
Total liabilities.......................................... 601,812 735,523
Stockholders' equity (deficit):
Common stock, no par value; 3,000 shares authorized; 2,000 shares
issued and outstanding.......................................... 435,635 435,635
Capital repayment.................................................. (48,869) --
Accumulated deficit................................................ (398,789) (405,112)
--------- ---------
Net stockholders' equity (deficit)......................... (12,023) 30,523
--------- ---------
$ 589,789 $ 766,046
========= =========
</TABLE>
See accompanying notes to financial statements.
F-71
<PAGE> 139
LANCASTER GROUP, INC.
STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 31, 1995, 1994 AND 1993
<TABLE>
<CAPTION>
1995 1994 1993
---------- ---------- ---------
<S> <C> <C> <C>
Revenues:
Rentals revenues..................................... $1,238,809 $1,193,540 $ 523,197
Merchandise sales.................................... 189,018 130,309 65,449
---------- ---------- ---------
1,427,827 1,323,849 588,646
---------- ---------- ---------
Operating costs and expenses:
Store operating expenses............................. 782,957 721,029 419,493
Amortization of videocassette and game rental
inventory......................................... 289,978 298,849 119,046
Cost of sales........................................ 178,529 101,055 69,988
General and administrative expenses.................. 137,734 52,136 62,771
---------- ---------- ---------
1,389,198 1,173,069 671,298
---------- ---------- ---------
Operating income (loss).............................. 38,629 150,780 (82,652)
Other expenses:
Interest............................................. 32,306 25,200 18,827
---------- ---------- ---------
Net income (loss)...................................... $ 6,323 $ 125,580 $(101,479)
========== ========== =========
</TABLE>
See accompanying notes to financial statements.
F-72
<PAGE> 140
LANCASTER GROUP, INC.
<TABLE>
STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
YEARS ENDED DECEMBER 31, 1995, 1994 AND 1993
<CAPTION>
TOTAL
COMMON CAPITAL ACCUMULATED STOCKHOLDERS'
STOCK REPAYMENT DEFICIT EQUITY (DEFICIT)
-------- --------- ----------- ----------------
<S> <C> <C> <C> <C>
Balance at December 31, 1992 (unaudited)... $ 13,101 $ -- $(429,213) $(416,112)
Conversion of debt to equity............. 422,534 -- -- 422,534
Net loss................................. -- -- (101,479) (101,479)
-------- -------- --------- ---------
Balance at December 31, 1993............... 435,635 -- (530,692) (95,057)
Net income............................... -- -- 125,580 125,580
-------- -------- --------- ---------
Balance at December 31, 1994............... 435,635 -- (405,112) 30,523
Net income............................... -- -- 6,323 6,323
Liquidating dividends.................... -- (48,869) -- (48,869)
-------- -------- --------- ---------
Balance at December 31, 1995............... $435,635 $(48,869) $(398,789) $ (12,023)
======== ======== ========= =========
</TABLE>
See accompanying notes to financial statements.
F-73
<PAGE> 141
LANCASTER GROUP, INC.
<TABLE>
STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 1995, 1994 AND 1993
<CAPTION>
1995 1994 1993
--------- -------- ---------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income (loss)...................................... $ 6,323 $ 125,580 $(101,479)
Adjustments to reconcile net income (loss) to net cash
provided by operating activities:
Depreciation and amortization....................... 423,763 412,308 151,790
Loss on sale of equipment........................... 2,073 -- --
Transfer of equipment to officer in lieu of
salary............................................ 14,000 -- --
Change in assets and liabilities:
(Increase) decrease in merchandise inventories.... 14,799 (11,321) (11,218)
(Increase) decrease in other assets............... 29,835 1,376 (30,675)
Increase (decrease) in accounts payable........... (44,148) (1,615) 98,507
Increase in accrued expenses...................... 36,844 3,387 2,241
--------- --------- ---------
Total adjustments.............................. 477,166 404,135 210,645
--------- --------- ---------
Net cash provided by operating activities...... 483,489 529,715 109,166
--------- --------- ---------
Cash flows from investing activities:
Purchases of videocassette rental inventory, net....... (250,126) (405,833) (180,306)
Purchases of equipment................................. (43,089) (240,537) (127,859)
--------- --------- ---------
Net cash used in investing activities.......... (293,215) (646,370) (308,165)
--------- --------- ---------
Cash flows from financing activities:
Repayment of notes payable............................. (127,607) (72,000) --
Liquidating dividends paid............................. (47,669) -- --
Proceeds from note payable............................. -- 224,286 215,233
--------- --------- ---------
Net cash provided by (used in) financing
activities................................... (175,276) 152,286 215,233
--------- --------- ---------
Net increase in cash........................... 14,998 35,631 16,234
Cash at beginning of year................................ 66,896 31,265 15,031
--------- --------- ---------
Cash at end of year...................................... $ 81,894 $ 66,896 $ 31,265
========= ========= =========
Supplementary disclosure of cash flow information:
Cash paid during the year for:
Interest............................................ $ 32,355 $ 22,325 $ --
========= ========= =========
Noncash conversion of debt and accrued interest to
equity................................................. $ -- $ -- $ 422,534
========= ========= =========
</TABLE>
See accompanying notes to financial statements.
F-74
<PAGE> 142
LANCASTER GROUP, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1995 AND 1994
1. THE COMPANY
Lancaster Group, Inc., a Kentucky corporation, owns and operates video
specialty stores located in Southern Indiana and Louisville, Kentucky. As of
December 31, 1995 and 1994, the Company operated three stores.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Merchandise Inventory
Merchandise inventory consisting primarily of prerecorded videocassettes,
video games, and candy, are stated at the lower of cost or market. Cost is
determined by the first-in, first-out method.
Videocassette and Game Rental Inventory
Videocassette and game rental Inventory, which includes video games, is
recorded at cost, and amortized over their estimated economic life with no
provision for salvage value. For the period from January 1, 1993 through
December 31, 1993 videocassettes and games were amortized over 36 months on an
accelerated basis. Effective January 1, 1994, the Company changed its method of
amortization. Videocassettes which are considered base stock are amortized over
36 months on a straight-line basis. Purchases of new release videocassettes and
video games are amortized whereby the tenth and any succeeding copies of each
title per store are amortized over nine months on an accelerated basis; the
fourth through ninth copies of each title per store are amortized over 36 months
on an accelerated basis; and copies one through three of each title per store
are amortized as base stock. The adoption of this change in the method of
amortization decreased net income for the years ended December 31, 1995 and 1994
by approximately $4,200 and $13,500, respectively. The Company believes that its
method of amortization results in an appropriate matching of tape amortization
expense with the revenue received from the associated rental of such tapes.
Amortization expense related to videocassette rental inventory totaled
$289,978, $298,849 and $119,046 and for the years ended December 31, 1995, 1994
and 1993, respectively.
<TABLE>
Property and Equipment
Property and equipment are recorded at cost and depreciated using the
straight-line method over estimated useful lives as follows:
<S> <C>
Furniture and fixtures................... 5 years
Equipment................................ 5 years
Leasehold improvements and signs......... Shorter of estimated useful life or
lease term
</TABLE>
Revenue Recognition
Revenue is recognized at the time of rental or sale.
Income Taxes
The Company's shareholders have elected "S" Corporation status for income
tax purposes. An "S" Corporation is generally not taxed at the federal or state
level on the Company's taxable income. The distributive share of taxable income,
certain gains, losses and other items are passed through to each shareholder.
Accordingly, there is no provision for federal and state income taxes. The
Company does provide for various local municipality income taxes, which are
classified as general and administrative expenses in the accompanying statements
of operations.
F-75
<PAGE> 143
LANCASTER GROUP, INC.
NOTES TO FINANCIAL STATEMENTS -- (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 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.
Reclassifications
Certain prior year amounts have been reclassified to conform with current
year presentation.
3. PROPERTY AND EQUIPMENT
<TABLE>
Property and equipment are comprised of the following:
<CAPTION>
1995 1994
--------- ---------
<S> <C> <C>
Furniture and fixtures....................................... $ 483,826 $ 501,692
Equipment.................................................... 8,315 7,796
Leasehold improvements and signs............................. 169,594 137,820
--------- ---------
661,735 647,308
Accumulated depreciation..................................... (307,440) (186,244)
--------- ---------
$ 354,295 $ 461,064
========= =========
</TABLE>
4. LONG-TERM DEBT
<TABLE>
Long-term debt as of December 31, 1995 is summarized as follows:
<CAPTION>
1995 1993
-------- --------
<S> <C> <C>
Notes payable to former shareholders due 11-1-99, bearing
interest at 4.98% -- 6.87%. Secured by substantially all
assets of the Company........................................ $493,099 $620,706
Less current installments.................................... 134,867 127,607
-------- --------
Long-term debt less current installments............. $358,232 $493,099
======== ========
</TABLE>
<TABLE>
Total maturities of long-term debt for the five years subsequent to
December 31, 1995 are as follows:
<CAPTION>
<S> <C>
1996.............................................. $134,867
1997.............................................. 142,550
1998.............................................. 150,683
1999.............................................. 64,999
--------
$493,099
========
</TABLE>
5. COMMITMENTS AND CONTINGENCIES
The Company leases its facilities and certain equipment under operating
leases expiring on various dates through 1999. Rental expense for the years
ended December 31, 1995, 1994, and 1993, aggregated $165,568, $149,300, and
$112,246, respectively.
F-76
<PAGE> 144
LANCASTER GROUP, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
<TABLE>
Future minimum rental commitments under noncancelable operating leases
(with terms of one year or more) consisted of the following at December 31,
1995:
<CAPTION>
<S> <C>
1996.............................................. $165,927
1997.............................................. 103,509
1998.............................................. 57,175
1999.............................................. 12,000
</TABLE>
6. RELATED PARTY
The Company rents office space and certain office equipment from an officer
and shareholder of the Company. Rent expense paid to this person was $3,600,
$3,600 and $3,400 for the years ended December 31, 1995, 1994 and 1993,
respectively.
7. FAIR VALUE OF FINANCIAL INSTRUMENTS
At December 31, 1995, the carrying amounts of cash, accounts payable and
accrued expenses approximate fair value because of the short-term maturity of
these instruments.
It is not practical to estimate the fair value of the notes payable to
former shareholders as these related party transactions were not made at market
rates.
8. SALE AGREEMENT
On January 10, 1996, the Company's shareholders agreed to sell the Company
to West Coast Entertainment Corporation.
F-77
<PAGE> 145
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and
Stockholders of New Age Entertainment, Inc.
In our opinion, the accompanying balance sheet and the related statements
of operations, of cash flows and of stockholders' equity present fairly, in all
material respects, the financial position of New Age Entertainment, Inc. at
December 31, 1995 and 1994, and the results of its operations and its cash flows
for each of the three years in the period ended December 31, 1995, in conformity
with generally accepted accounting principles. 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 of these statements in accordance with generally accepted auditing
standards which 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, assessing the
accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for the opinion expressed above.
PRICE WATERHOUSE LLP
Boston, Massachusetts
February 2, 1996
F-78
<PAGE> 146
NEW AGE ENTERTAINMENT, INC.
<TABLE>
BALANCE SHEET
<CAPTION>
DECEMBER 31,
-------------------------
1994 1995
---------- ----------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents................................. $ 30,231 $ 79,831
Merchandise inventory..................................... 57,796 78,185
Prepaid expenses and other assets......................... 6,435 4,397
---------- ----------
94,462 162,413
Videocassette rental inventory, net......................... 599,695 822,508
Furnishings and equipment, net.............................. 207,210 564,346
Other assets................................................ 105,971 100,399
---------- ----------
$1,007,338 $1,649,666
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Current portion of long-term debt......................... $ 95,872 $ 114,653
Current portion of obligations under capital leases....... 12,500 28,994
Trade accounts payable.................................... 206,357 490,520
Accruals and other liabilities............................ 179,323 248,408
Advances from stockholders................................ 42,390 38,572
---------- ----------
Total current liabilities......................... 536,442 921,147
---------- ----------
Long-term debt.............................................. 84,120 370,415
Obligations under capital leases............................ 25,000 38,615
---------- ----------
645,562 1,330,177
---------- ----------
Commitments (Note 10)
Stockholders' equity:
Common stock, no par value, 15,000 shares authorized, 600
shares issued and outstanding at December 31, 1993 and
1994, 1,000 shares issued and outstanding at December
31, 1995............................................... -- --
Additional paid-in capital................................ 600 40,600
Loan to stockholder....................................... -- (39,407)
Retained earnings......................................... 361,176 318,296
---------- ----------
Total stockholders' equity........................ 361,776 319,489
---------- ----------
$1,007,338 $1,649,666
========== ==========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-79
<PAGE> 147
NEW AGE ENTERTAINMENT, INC.
<TABLE>
STATEMENT OF OPERATIONS
<CAPTION>
YEARS ENDED DECEMBER 31,
----------------------------------------
1993 1994 1995
---------- ---------- ----------
<S> <C> <C> <C>
Revenues:
Rental revenue............................... $2,533,663 $3,018,277 $3,592,222
Merchandise sales............................ 322,134 384,899 404,909
---------- ---------- ----------
2,855,797 3,403,176 3,997,131
---------- ---------- ----------
Cost and expenses:
Operating expenses........................... 2,501,635 2,978,185 3,539,512
Cost of sales................................ 90,036 95,994 154,959
General and administrative................... 129,019 209,254 290,300
---------- ---------- ----------
2,720,690 3,283,433 3,984,771
---------- ---------- ----------
Income from operations............... 135,107 119,743 12,360
Interest expense............................... 22,980 20,008 55,240
Other, net..................................... 356 2,331 --
---------- ---------- ----------
Net income/(loss).................... $ 111,771 $ 97,404 $ (42,880)
========== ========== ==========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-80
<PAGE> 148
NEW AGE ENTERTAINMENT, INC.
<TABLE>
STATEMENTS OF CASH FLOWS
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
<CAPTION>
YEARS ENDED DECEMBER 31,
-------------------------------------------
1993 1994 1995
----------- ----------- -----------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income (loss)................................. $ 111,771 $ 97,404 $ (42,880)
Adjustments to reconcile net income to cash flows
provided by operating activities:
Amortization of videocassette rental
inventory.................................... 891,813 1,198,881 1,430,131
Amortization of franchise fees................. 4,667 4,667 4,667
Depreciation and amortization of furnishings
and equipment................................ 34,562 50,468 98,664
Loss on disposal of fixed assets............... -- 2,250 --
Changes in assets and liabilities:
Merchandise inventories...................... -- -- (20,389)
Prepaid expenses and other assets............ 54,186 (31,543) 2,943
Accounts payable............................. 71,711 49,685 284,163
Accruals and other liabilities............... 17,531 48,562 69,085
----------- ----------- -----------
Net cash provided by operating
activities.............................. 1,186,241 1,420,374 1,826,384
----------- ----------- -----------
Cash flows from investing activities:
Purchases of property and equipment............... (91,725) (8,800) (406,319)
Purchases of videocassette rental inventory....... (1,017,122) (1,296,378) (1,652,944)
----------- ----------- -----------
Net cash used in investing activities..... (1,108,847) (1,305,178) (2,059,263)
----------- ----------- -----------
Cash flows from financing activities:
Proceeds from long-term debt...................... 33,698 158,309 391,689
Loans from stockholders........................... 10,000 -- 34,500
Repayment of long-term debt....................... (90,739) (126,914) (86,613)
Repayment of stockholder loans.................... (19,573) (69,840) (38,318)
Principal repayments on capital lease
obligations.................................... -- (12,500) (19,372)
Repayment of principal on note receivable......... -- -- 593
Distributions..................................... -- (57,987) --
----------- ----------- -----------
Net cash (used in) provided by financing
activities.............................. (66,614) (108,932) 282,479
----------- ----------- -----------
Net increase in cash and cash equivalents........... 10,780 6,264 49,600
----------- ----------- -----------
Cash and cash equivalents, beginning of period...... 13,187 23,967 30,231
----------- ----------- -----------
Cash and cash equivalents, end of period............ $ 23,967 $ 30,231 $ 79,831
=========== =========== ===========
Supplemental disclosure of cash flow information:
Cash paid during the period for interest.......... $ 19,830 $ 23,158 $ 55,240
=========== =========== ===========
Supplemental disclosure of noncash investing and
financing activities:
Fixed assets purchased under capital leases....... $ 50,000 $ -- $ 49,481
=========== =========== ===========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-81
<PAGE> 149
NEW AGE ENTERTAINMENT, INC.
<TABLE>
STATEMENT OF STOCKHOLDERS' EQUITY
<CAPTION>
ADDITIONAL TOTAL
COMMON PAID-IN RETAINED STOCKHOLDERS'
STOCK CAPITAL EARNINGS EQUITY
------ ---------- -------- -------------
<S> <C> <C> <C> <C>
Balance at January 1, 1993.................... -- $ 600 $209,988 $210,588
Net income.................................... -- -- 111,771 111,771
------ ------- -------- --------
Balance at December 31, 1993.................. -- 600 321,759 322,359
Distributions................................. -- -- (57,987) (57,987)
Net income.................................... -- -- 97,404 97,404
------ ------- -------- --------
Balance at December 31, 1994.................. -- 600 361,176 361,776
Issuance of shares............................ -- 40,000 -- 40,000
Net loss...................................... -- -- (42,880) (42,880)
------ ------- -------- --------
Balance at December 31, 1995.................. -- $40,600 $318,296 $358,896
====== ======= ======== ========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-82
<PAGE> 150
NEW AGE ENTERTAINMENT, INC.
NOTES TO FINANCIAL STATEMENTS
1. DESCRIPTION OF BUSINESS
New Age Entertainment, Inc. (the "Company") owns and operates eight
videocassette rental stores, located in Massachusetts.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
A summary of the Company's significant accounting policies follows:
Pervasiveness 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 these estimates.
Cash and Cash Equivalents
The Company considers all highly liquid investments with original
maturities of three months or less to be cash equivalents.
Revenue Recognition
Revenue is recognized at the time of rental or sale of a videocassette or
video game.
Merchandise Inventory
Merchandise inventory, consisting primarily of videocassettes and video
games, are stated at the lower of cost or market. Cost is determined by the
first-in, first-out method.
Videocassette Rental Inventory
Videocassette rental inventory, which includes video games, is stated at
cost and is amortized over its estimated economic life with no provision for
salvage value. Videocassettes that are considered base stock are amortized over
36 months on a straight-line basis. New release videocassettes are amortized as
follows: the first through third copies of each title per store are amortized as
base stock and the fourth and succeeding copies of each title per store are
amortized over nine months on a straight-line basis. The unamortized cost, if
any, of videocassette rental inventory that is sold is charged to operations at
the time of sale. The Company believes that its method of amortization results
in an appropriate matching of tape amortization expense with the revenue
received from the associated rental of such tapes.
Furnishings and Equipment
Furnishings and equipment are stated at cost. Depreciation and amortization
are provided over the estimated useful lives (5 to 7 years) of furnishings and
equipment and over the lesser of the estimated useful lives or lease terms
(primarily 4 to 10 years) of leased items using the straight-line method. Repair
and maintenance costs are expensed as incurred.
Income Taxes
The Company has elected to be treated as a Subchapter S corporation for
income tax purposes. Accordingly, the income of the Company is taxed at the
shareholder level and no provision for income taxes has been made in the
accompanying financial statements.
F-83
<PAGE> 151
NEW AGE ENTERTAINMENT, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
3. VIDEOCASSETTE RENTAL INVENTORY
<TABLE>
Videocassette rental inventory and related amortization are as follows:
<CAPTION>
DECEMBER 31,
-------------------------
1994 1995
---------- ----------
<S> <C> <C>
Videocassette rental inventory.............................. $1,195,153 $1,663,708
Accumulated amortization.................................... (595,458) (841,200)
---------- ----------
$ 599,695 $ 822,508
========== ==========
</TABLE>
Amortization expense related to videocassette rental inventory totaled
$891,813, $1,198,881, and $1,430,131 for the years ended December 31, 1993,
1994, and 1995, respectively.
4. FURNISHINGS AND EQUIPMENT
<TABLE>
Furnishings and equipment consist of the following:
<CAPTION>
DECEMBER 31,
-----------------------
1994 1995
--------- ---------
<S> <C> <C>
Furniture and fixtures....................................... $ 161,896 $ 289,381
Equipment and vehicles....................................... 101,326 111,180
Leasehold improvements....................................... 45,433 363,894
--------- ---------
308,655 764,455
Accumulated depreciation and amortization.................... (101,445) (200,109)
--------- ---------
$ 207,210 $ 564,346
========= =========
</TABLE>
Depreciation and amortization expense was $34,562, $50,468, and $98,664 for
the years ended December 31, 1993, 1994, and 1995, respectively.
The Company has $37,500 and $67,609 as of December 31, 1994 and 1995,
respectively, of furnishing and equipment under capital leases. Accumulated
amortization on these assets was $12,500 and $31,872 at December 31, 1994 and
1995, respectively. Amortization on the leased assets included in the
depreciation charge was $12,500 and $19,372 in the years ended December 31, 1994
and 1995, respectively.
5. OTHER LONG TERM ASSETS
<TABLE>
Other long term assets consist of the following:
<CAPTION>
DECEMBER 31,
---------------------
1994 1995
-------- --------
<S> <C> <C>
Lease deposits................................................. $ 66,957 $ 68,384
Franchise fees, net............................................ 30,930 26,264
Prepaid software lease deposit, net............................ 8,000 5,667
Other.......................................................... 84 84
-------- --------
$105,971 $100,399
======== ========
</TABLE>
Franchise fees are amortized over the life of the franchise. Amortization
expense was $4,667 in each of the years ended December 31, 1993, 1994, and 1995.
Prepaid software deposit is amortized over the life of the lease.
Amortization expense was $333 for the year ended December 31, 1993 and $2,000
for the years ended December 31, 1994 and 1995, respectively.
F-84
<PAGE> 152
NEW AGE ENTERTAINMENT, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
6. ACCRUALS AND OTHER LIABILITIES
<TABLE>
Accruals and other liabilities consist of the following:
<CAPTION>
DECEMBER 31,
---------------------
1994 1995
-------- --------
<S> <C> <C>
Accrued rent................................................... $ 73,273 $ 99,323
Accrued bonus.................................................. -- 22,658
Accrued payroll................................................ 35,478 19,625
Sales tax payable.............................................. 7,394 13,946
Accrued consultancy fees....................................... 25,000 --
Other.......................................................... 38,178 92,856
-------- --------
$179,323 $248,408
======== ========
</TABLE>
7. ADVANCES FROM STOCKHOLDER
Advances from stockholders are unsecured and have no fixed repayment date
other than those advances governed by agreements. All stockholder notes are due
to be paid in full by the end of 1997. The advances bear interest at rates of
interest ranging from 8.5% to 11.0%.
8. LOAN TO STOCKHOLDER
The loan to stockholder represents a loan for the purchase of shares in the
company. The loan bears interest at 10% and is repayable quarterly with the last
installment due in October 2005.
9. DEBT
<TABLE>
Debt consists of the following:
<CAPTION>
DECEMBER 31,
----------------------
1994 1995
-------- ---------
<S> <C> <C>
Note Payable.................................................. $158,311 $ 467,590
Auto loan..................................................... 21,681 17,478
-------- ---------
179,992 485,068
Less: Current portion......................................... (95,872) (114,653)
-------- ---------
$ 84,120 $ 370,415
======== =========
</TABLE>
<TABLE>
Principal due on long-term debt for each of the years following December
31, 1995 is as follows:
<CAPTION>
<S> <C>
1996...................................................... $114,653
1997...................................................... 122,825
1998...................................................... 110,000
1999...................................................... 110,000
2000...................................................... 27,590
Thereafter................................................ --
--------
$485,068
========
</TABLE>
In November 1994, the Company signed a $158,311 note to finance the opening
of a new store. In February 1995, the Company renegotiated the outstanding note
payable and borrowed an additional $391,689.
F-85
<PAGE> 153
NEW AGE ENTERTAINMENT, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
The note is secured by the company's current assets, and is repayable in equal
monthly installment until March 30, 2000. Interest is calculated on the loan at
2% over the prime rate of interest.
In April 1993, the Company purchased a vehicle under a $27,798 loan
agreement with a bank. The loan is secured by the vehicle purchased and is
repayable in 48 equal monthly installments. Interest on the loan is calculated
at 10.25%.
10. LEASE COMMITMENTS
<TABLE>
The Company leases its facilities under operating leases extending until
2001. In addition, the Company leases computer and office equipment under
capital lease arrangements. Minimum future rental payments under these leases as
of December 31, 1995 are as follows:
<CAPTION>
CAPITAL OPERATING
YEAR ENDING LEASES LEASES
----------- -------- ----------
<S> <C> <C>
1996....................................................... $ 36,159 $ 490,915
1997....................................................... 36,159 462,168
1998....................................................... 12,236 396,048
1999....................................................... -- 304,980
2000....................................................... -- 143,360
Thereafter................................................. -- 432,360
-------- ----------
Future minimum payments...................................... 84,554 $2,229,831
==========
Less amount representing interest............................ (16,945)
--------
Present value of future minimum lease payments, including
current portion of $28,994................................. $ 67,609
========
</TABLE>
Rent expense totalled approximately $397,644, $458,182, and $531,370 for
the years ended December 31, 1993, 1994, and 1995, respectively.
11. SUBSEQUENT EVENT
During 1996, the Company entered into an asset purchase agreement wherein
substantially all of the Company's assets and certain of its liabilities will be
acquired by West Coast Entertainment. The sale is conditioned upon the initial
public offering of West Coast Entertainment's common stock.
F-86
<PAGE> 154
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and
Stockholders of HB Associates, Inc.
In our opinion, the accompanying balance sheet and the related statements
of operations, of cash flows and of stockholders' equity present fairly, in all
material respects, the financial position of HB Associates, Inc. at December 31,
1995 and 1994, and the results of its operations and its cash flows for each of
the three years in the period ended December 31, 1995, in conformity with
generally accepted accounting principles. 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 of these statements in accordance with generally accepted auditing
standards which 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, assessing the
accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for the opinion expressed above.
PRICE WATERHOUSE LLP
Boston, Massachusetts
January 19, 1996
F-87
<PAGE> 155
HB ASSOCIATES, INC.
<TABLE>
BALANCE SHEET
<CAPTION>
DECEMBER 31,
---------------------
1994 1995
-------- --------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents............................................ $ 81,462 $143,958
Merchandise inventory................................................ 43,600 55,880
Prepaid expenses and other current assets............................ 8,379 6,737
-------- --------
Total current assets......................................... 133,441 206,575
Videocassette rental inventory, net.................................... 344,685 390,916
Furnishings, equipment and leasehold improvements, net................. 293,258 267,672
Other assets........................................................... 65,898 56,487
-------- --------
$837,282 $921,650
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Current portion of long-term debt.................................... $ 31,066 $ 36,480
Current portion of obligations under capital leases.................. 32,117 23,626
Accounts payable..................................................... 158,821 370,348
Accrued expenses..................................................... 62,984 67,703
Advances from stockholders........................................... 70,400 70,400
-------- --------
Total current liabilities.................................... 355,388 568,557
Long-term debt....................................................... 48,674 16,520
Obligations under capital leases..................................... 47,938 24,317
-------- --------
Total liabilities............................................ 452,000 609,394
Commitments (Note 10)
Stockholders' equity:
Common stock, no par value, 1,000 shares authorized, 300 shares
issued and outstanding............................................ -- --
Additional paid-in capital........................................... 80,850 80,850
Retained earnings.................................................... 304,432 231,406
-------- --------
Total stockholders' equity................................... 385,282 312,256
-------- --------
$837,282 $921,650
======== ========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-88
<PAGE> 156
HB ASSOCIATES, INC.
<TABLE>
STATEMENT OF OPERATIONS
<CAPTION>
YEARS ENDED DECEMBER 31,
----------------------------------------
1993 1994 1995
---------- ---------- ----------
<S> <C> <C> <C>
Revenue:
Rental revenue....................................... $1,817,359 $2,238,839 $2,381,050
Merchandise sales.................................... 219,811 294,071 374,157
---------- ---------- ----------
2,037,170 2,532,910 2,755,207
---------- ---------- ----------
Costs and expenses:
Operating expenses................................... 1,655,385 1,964,453 2,291,237
Cost of sales........................................ 199,830 250,048 316,126
General and administrative........................... 94,427 104,859 119,169
---------- ---------- ----------
1,949,642 2,319,360 2,726,532
---------- ---------- ----------
Income from operations....................... 87,528 213,550 28,675
Interest expense....................................... 18,783 32,827 33,901
---------- ---------- ----------
Net income (loss)............................ $ 68,745 $ 180,723 $ (5,226)
========== ========== ==========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-89
<PAGE> 157
HB ASSOCIATES, INC.
<TABLE>
STATEMENT OF CASH FLOWS
<CAPTION>
YEARS ENDED DECEMBER 31,
--------------------------------------
1993 1994 1995
--------- --------- ----------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income (deficit).................................. $ 68,745 $ 180,723 $ (5,226)
Adjustments to reconcile net income to cash flows
provided by (used in) operating activities:
Amortization of videocassette rental inventory..... 430,059 594,348 817,621
Depreciation of furnishings, equipment and
leasehold improvements........................... 36,569 57,438 58,015
Amortization of franchise fees..................... 3,251 19,561 7,857
Loss on disposal of fixed assets................... -- 20,620 --
Changes in assets and liabilities:
Merchandise inventory............................ (10,645) (12,997) (12,280)
Prepaid expenses and other assets................ 16,604 6,607 3,196
Accounts payable................................. 70,089 (38,311) 211,527
Accrued expenses................................. 39,235 13,552 4,719
--------- --------- ----------
Net cash provided by operating activities..... 653,907 841,541 1,085,429
Cash flows from investing activities:
Purchases of videocassette rental inventory........... (468,053) (654,060) (863,852)
Purchases of furnishings, equipment and leasehold
improvements....................................... (21,087) (48,879) (32,429)
--------- --------- ----------
Net cash used in investing activities......... (489,140) (702,939) (896,281)
--------- --------- ----------
Cash flows from financing activities:
Proceeds from stockholder loans....................... 39,000 34,000 --
Repayment of long-term debt........................... (30,212) (35,093) (26,740)
Repayment of stockholder loans........................ (10,000) (6,000) --
Principal repayments on capital lease obligations..... (11,998) (27,554) (32,112)
Distributions to shareholders......................... (137,900) (36,150) (67,800)
--------- --------- ----------
Net cash used in financing activities......... (151,110) (70,797) (126,652)
--------- --------- ----------
Net increase in cash and cash equivalents............... 13,657 67,805 62,496
--------- --------- ----------
Cash and cash equivalents, beginning of period.......... -- 13,657 81,462
--------- --------- ----------
Cash and cash equivalents, end of period................ $ 13,657 $ 81,462 $ 143,958
========= ========= ==========
Supplemental disclosure of cash flow information:
Cash paid during the period for interest.............. $ 17,621 $ 28,919 $ 33,901
========= ========= ==========
Supplemental disclosure of noncash investing and
financing activities:
Purchase of fixed assets under capital lease
obligations........................................ $ 73,314 $ 12,000 $ --
========= ========= ==========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-90
<PAGE> 158
HB ASSOCIATES INC.
<TABLE>
STATEMENT OF STOCKHOLDERS' EQUITY
<CAPTION>
ADDITIONAL TOTAL
COMMON PAID-IN RETAINED STOCKHOLDERS'
STOCK CAPITAL EARNINGS EQUITY
------ ---------- --------- -------------
<S> <C> <C> <C> <C>
Balance at January 1, 1993................... -- $80,850 $ 229,014 $ 309,864
Net income................................... -- -- 68,745 68,745
S Corporation distribution................... -- -- (137,900) (137,900)
------ ------- --------- ---------
Balance at December 31, 1993................. -- 80,850 159,859 240,709
Net income................................... -- -- 180,723 180,723
S Corporation distribution................... -- -- (36,150) (36,150)
------ ------- --------- ---------
Balance at December 31, 1994................. -- 80,850 304,432 385,282
Net loss..................................... -- -- (5,226) (5,226)
S Corporate distribution..................... -- -- (67,800) (67,800)
------ ------- --------- ---------
Balance at December 31, 1995................. -- $80,850 $ 231,406 $ 312,256
====== ======= ========= =========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-91
<PAGE> 159
HB ASSOCIATES, INC.
NOTES TO FINANCIAL STATEMENTS
1. DESCRIPTION OF BUSINESS
HB Associates, Inc. (the "Company") owns and operates 5 videocassette
rental stores, located in Massachusetts.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
A summary of the Company's significant accounting policies follows:
Pervasiveness 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 these estimates.
Cash and Cash Equivalents
The Company considers all highly liquid investments with original
maturities of three months or less to be cash equivalents.
Revenue Recognition
Revenue is recognized at the time of rental or sale of a videocassette or
video game.
Merchandise Inventory
Merchandise inventory, consisting primarily of videocassettes and video
games, are stated at the lower of cost or market. Cost is determined by the
first-in, first-out method.
Videocassette Rental Inventory
Videocassette rental inventory, which includes video games, is stated at
cost and is amortized over its estimated economic life with no provision for
salvage value. Videocassettes that are considered base stock are amortized over
36 months on a straight-line basis. New release videocassettes are amortized as
follows: the first through third copies of each title per store are amortized as
base stock and the fourth and succeeding copies of each title per store are
amortized over nine months on a straight-line basis. The unamortized cost, if
any, of videocassette rental inventory that is sold is charged to operations at
the time of sale. The Company believes that its method of amortization results
in an appropriate matching of tape amortization expense with the revenue
received from the associated rental of such tapes.
Furnishings, Equipment and Leasehold Improvements
Furnishings, equipment and leasehold improvements are stated at cost.
Depreciation is provided over the estimated useful lives (5 to 7 years) of
furnishings and equipment and, for leasehold improvements, over the lesser of
the estimated useful lives or lease terms (primarily 4 to 10 years) using the
straight-line method. Repair and maintenance costs are expensed as incurred.
Other Assets
Included in other assets are franchise fees which are stated at cost less
the related accumulated amortization. Franchise fees are amortized on a straight
line basis over the life of the franchise agreement (7 to 10 years).
F-92
<PAGE> 160
HB ASSOCIATES, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
Income Taxes
The Company has elected to be treated as an S corporation for income tax
purposes. Accordingly, the income of the Company is taxed at the shareholder
level and, accordingly, no provision for income taxes has been made in the
accompanying financial statements.
3. PREPAID EXPENSES AND OTHER CURRENT ASSETS
<TABLE>
Prepaid expenses and other current assets comprise the following:
<CAPTION>
DECEMBER 31,
------------------
1994 1995
------ ------
<S> <C> <C>
Prepaid insurance................................................. $6,364 $6,362
Other............................................................. 2,015 375
------ ------
$8,379 $6,737
====== ======
</TABLE>
4. VIDEOCASSETTE RENTAL INVENTORY
<TABLE>
Videocassette rental inventory and related amortization are as follows:
<CAPTION>
DECEMBER 31,
------------------------
1994 1995
--------- ---------
<S> <C> <C>
Videocassette rental inventory.............................. $ 734,730 $ 984,739
Accumulated amortization.................................... (390,045) (593,823)
--------- ---------
$ 344,685 $ 390,916
========= =========
</TABLE>
Amortization expense related to videocassette rental inventory totaled
$430,059, $594,348, and $817,621 for the years ended December 31, 1993, 1994 and
1995, respectively.
5. FURNISHINGS, EQUIPMENT AND LEASEHOLD IMPROVEMENTS
<TABLE>
Furnishings, equipment and leasehold improvements comprise the following:
<CAPTION>
DECEMBER 31,
------------------------
1994 1995
--------- ---------
<S> <C> <C>
Furniture and fixtures...................................... $ 57,489 $ 57,489
Equipment and vehicles...................................... 225,223 251,529
Leasehold improvements...................................... 148,167 154,290
--------- ---------
430,879 463,308
Accumulated depreciation.................................... (137,621) (195,636)
--------- ---------
$ 293,258 $ 267,672
========= =========
</TABLE>
At December 31, 1994 and 1995, the Company had $120,926 and $85,514,
respectively, of fixed assets held under capital leases. Accumulated
depreciation on these assets was $29,327 and $21,660 at December 31, 1994 and
1995, respectively.
Depreciation expense totaled $36,569, $57,438 and $58,015 for the years
ended December 31, 1993, 1994 and 1995, respectively.
F-93
<PAGE> 161
HB ASSOCIATES, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
6. OTHER ASSETS
<TABLE>
Other assets comprise of the following:
<CAPTION>
DECEMBER 31,
--------------------
1994 1995
------- -------
<S> <C> <C>
Franchise fees.................................................. $40,666 $32,809
Lease deposits.................................................. 22,196 18,907
Other........................................................... 3,036 4,771
------- -------
$65,898 $56,487
======= =======
</TABLE>
Accumulated amortization on franchise fees was $29,334 and $37,191 at
December 31, 1994 and 1995, respectively. Amortization expense was $3,251,
$19,561 and $7,857 for the years ended December 31, 1993, 1994 and 1995,
respectively.
7. ACCRUED EXPENSES
<TABLE>
Accrued expenses comprise the following:
<CAPTION>
DECEMBER 31,
-------------------
1994 1995
------- -------
<S> <C> <C>
Accrued salaries................................. $ 8,978 $17,964
Other............................................ 54,006 49,739
------- -------
$62,984 $67,703
======= =======
</TABLE>
8. ADVANCES FROM STOCKHOLDERS
Advances from stockholders are unsecured and have no fixed repayment dates.
Interest on shareholder loans is calculated at 6.7%.
9. LONG-TERM DEBT
Long-term debt comprises a note payable which is repayable in equal monthly
installments of principal and interest with payments applied first to accrued
interest. Any amounts not paid in accordance with the above repayment schedule
are due in full in May 1997. Interest on the note is prime plus two and three-
quarters of a percent (11.25% at December 31, 1995). The note is secured by a
first security interest in substantially all of the Company's fixed assets.
<TABLE>
The schedule repayments of long-term debt using the interest rate in effect
(10.75%) at December 31, 1995, is as follows:
<CAPTION>
<S> <C>
1996....................................... $36,480
1997....................................... 16,520
-------
$53,000
=======
</TABLE>
F-94
<PAGE> 162
HB ASSOCIATES, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
10. LEASE COMMITMENTS
<TABLE>
The Company leases its facilities and certain equipment under operating
leases extending until 2001. In addition, the Company leases computer and office
equipment under capital lease arrangements. Minimum future rental payments under
these leases as of December 31, 1995 is as follows:
<CAPTION>
CAPITAL OPERATING
YEAR ENDING LEASES LEASES
----------- -------- ----------
<S> <C> <C>
1996....................................................... $ 30,344 $ 368,153
1997....................................................... 19,960 346,802
1998....................................................... 5,791 252,100
1999....................................................... 2,104 226,100
2000....................................................... -- 163,498
Thereafter................................................. -- 36,875
-------- ----------
Future minimum payments...................................... 58,199 $1,393,528
==========
Less amount representing interest............................ (10,260)
--------
Present value of future minimum lease payments, including
current portion of $23,626................................. $ 47,939
========
</TABLE>
Rent expense totalled approximately $242,892, $340,974 and $356,119 for the
years ended December 31, 1993, 1994, and 1995, respectively.
11. PENSION AND PROFIT SHARING PLANS
In 1993, the Company adopted a non-contributory, defined contribution
retirement plan for eligible employees. Contributions to the plan are based on a
fixed percentage of employees' annual compensation. Expense related to this plan
totalled $15,000, $15,000 and $25,000 for the years ended December 31, 1993,
1994 and 1995, respectively. Benefits under this plan vest in annual increments
of 20%.
In 1993, the Company initiated a profit sharing plan for eligible
employees. Contributions to the plan are determined solely at management's
discretion, and were $15,000, $6,000 and $5,000 for the years ended December 31,
1993, 1994 and 1995, respectively.
12. SUBSEQUENT EVENT
During 1996, the Company entered into an asset purchase agreement wherein
substantially all of the Company's assets and certain of its liabilities will be
acquired by West Coast Entertainment. The sale is conditioned upon the initial
public offering of West Coast Entertainment's common stock.
F-95
<PAGE> 163
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and
Stockholders of Best Entertainment, Inc.
In our opinion, the accompanying balance sheet and the related statements
of operations, of cash flows and of stockholders' equity present fairly, in all
material respects, the financial position of Best Entertainment Inc. at December
31, 1995 and 1994, and the results of its operations and its cash flows for each
of the three years in the period ended December 31, 1995, in conformity with
generally accepted accounting principles. 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 of these statements in accordance with generally accepted auditing
standards which 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, assessing the
accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for the opinion expressed above.
PRICE WATERHOUSE LLP
Boston, Massachusetts
January 29, 1996
F-96
<PAGE> 164
BEST ENTERTAINMENT, INC.
<TABLE>
BALANCE SHEET
<CAPTION>
DECEMBER 31,
---------------------
1994 1995
-------- --------
<S> <C> <C>
ASSETS
Current assets
Cash and cash equivalents............................................ $ 23,675 $ 55,083
Merchandise inventory................................................ 57,350 28,237
-------- --------
Total current assets......................................... 81,025 83,320
Videocassette rental inventory, net.................................. 375,571 384,945
Furnishings, equipment and leasehold improvements, net............... 47,175 32,649
Other assets......................................................... 62,667 23,054
-------- --------
$566,438 $523,968
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities
Current portion of long-term debt.................................... $ 25,304 $ --
Current portion of obligations under capital leases.................. 5,434 --
Accounts payable..................................................... 54,290 111,655
Accrued expenses..................................................... 21,012 24,698
Payroll and sales tax payable........................................ 8,526 5,154
-------- --------
Total current liabilities.................................... 114,566 141,507
Long-term debt......................................................... 18,239 --
Commitments (Note 8)
Stockholders' Equity
Common stock, no par value, 15,000 shares authorized, 100 shares
issued and outstanding............................................ -- --
Additional paid-in capital........................................... 63,000 63,000
Retained earnings.................................................... 370,633 319,461
-------- --------
Total stockholders' equity................................... 433,633 382,461
-------- --------
$566,438 $523,968
======== ========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-97
<PAGE> 165
BEST ENTERTAINMENT, INC.
<TABLE>
STATEMENT OF OPERATIONS
<CAPTION>
YEARS ENDED DECEMBER 31,
----------------------------------------
1993 1994 1995
---------- ---------- ----------
<S> <C> <C> <C>
Revenue:
Rental............................................... $1,173,865 $1,310,309 $1,327,301
Merchandise.......................................... 160,073 184,965 225,098
---------- ---------- ----------
1,333,938 1,495,274 1,552,399
---------- ---------- ----------
Cost and expenses:
Store operating expenses............................. 993,058 1,071,024 1,018,714
Cost of goods sold................................... 105,648 101,731 171,074
General and administrative........................... 101,649 107,898 91,396
---------- ---------- ----------
1,200,355 1,280,653 1,281,184
---------- ---------- ----------
Income from operations....................... 133,583 214,621 271,215
---------- ---------- ----------
Interest expense....................................... 10,367 6,216 1,305
---------- ---------- ----------
Net income................................... $ 123,216 $ 208,405 $ 269,910
========== ========== ==========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-98
<PAGE> 166
BEST ENTERTAINMENT, INC.
<TABLE>
STATEMENT OF CASH FLOWS
<CAPTION>
YEARS ENDED DECEMBER 31,
-------------------------------------
1993 1994 1995
--------- --------- ---------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income............................................ $ 123,216 $ 208,405 $ 269,910
Adjustments to reconcile net income to cash flows
provided by (used in) operating activities:
Amortization of videocassette rental inventory..... 300,690 402,333 453,400
Depreciation of furnishings, equipment and
leasehold improvements........................... 28,644 26,073 24,723
Amortization of franchise fees..................... 7,000 7,000 7,000
Changes in assets and liabilities:
Merchandise inventory............................ 191 (634) 29,113
Other assets..................................... 1,188 (1,170) --
Accounts payable................................. 19,924 7,295 57,365
Accrued expenses................................. 17,537 (19,286) 3,686
Payroll and sales tax payables................... (4,141) 265 (3,372)
--------- --------- ---------
Net cash provided by operating activities..... 494,249 630,281 841,825
--------- --------- ---------
Cash flows from investing activities:
Purchases of furnishings, equipment and leasehold
improvements....................................... (5,820) (6,566) (5,819)
Purchases of videocassette rental inventory........... (377,176) (439,755) (466,939)
--------- --------- ---------
Net cash used in investing activities......... (382,996) (446,321) (472,758)
--------- --------- ---------
Cash flows from financing activities:
Proceeds (repayments) from advances from
stockholders....................................... 12,019 (12,019) --
Repayment of long-term debt........................... (50,003) (64,557) (29,199)
Principal repayments on capital lease obligations..... (8,937) (9,997) (5,434)
Shareholder distributions............................. (37,725) (128,050) (303,026)
--------- --------- ---------
Net cash used in financing activities......... (84,646) (214,623) (337,659)
--------- --------- ---------
Net increase (decrease) in cash and cash equivalents.... 26,607 (30,663) 31,408
--------- --------- ---------
Cash and cash equivalents, beginning of period.......... 27,731 54,338 23,675
--------- --------- ---------
Cash and cash equivalents, end of period................ $ 54,338 $ 23,675 $ 55,083
========= ========= =========
Supplemental disclosure of cash flow information:
Cash paid during the period for interest.............. $ 10,367 $ 6,644 $ 1,305
========= ========= =========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-99
<PAGE> 167
BEST ENTERTAINMENT, INC.
<TABLE>
STATEMENT OF STOCKHOLDERS' EQUITY
<CAPTION>
ADDITIONAL TOTAL
COMMON PAID-IN RETAINED STOCKHOLDERS'
STOCK CAPITAL EARNINGS EQUITY
------ ---------- --------- -------------
<S> <C> <C> <C> <C>
Balance at January 1, 1993............. -- $63,000 $ 204,787 $ 267,787
S Corporation distribution............. (37,725) (37,725)
Net income............................. 123,216 123,216
---- ------- --------- ---------
Balance at December 31, 1993........... -- 63,000 290,278 353,278
S Corporation distribution............. (128,050) (128,050)
Net income............................. 208,405 208,405
---- ------- --------- ---------
Balance at December 31, 1994........... -- 63,000 370,633 433,633
S Corporation distribution............. (321,082) (321,082)
Net income............................. 269,910 269,910
---- ------- --------- ---------
Balance at December 31, 1995........... -- $63,000 $ 319,461 $ 382,461
==== ======= ========= =========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-100
<PAGE> 168
BEST ENTERTAINMENT, INC.
NOTES TO FINANCIAL STATEMENTS
1. DESCRIPTION OF BUSINESS
Best Entertainment Inc. (the "Company") owns and operates 2 videocassette
rental stores under franchise agreements with West Coast Video Corporation. The
stores are located in Somerville and Revere, Massachusetts.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
A summary of the Company's significant accounting policies follows:
Pervasiveness 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 these estimates.
Cash and Cash Equivalents
The Company considers all highly liquid investments with original
maturities of three months or less to be cash equivalents.
Revenue Recognition
Revenue is recognized at the time of rental or sale of a videocassette or
video game.
Merchandise Inventory
Merchandise inventory, consisting primarily of videocassettes and video
games, is stated at the lower of cost or market. Cost is determined by the
first-in, first-out method.
Videocassette Rental Inventory
Videocassette rental inventory, which includes video games, is stated at
cost and is amortized over its estimated economic life with no provision for
salvage value. Videocassettes that are considered base stock are amortized over
36 months on a straight-line basis. New release videocassettes are amortized as
follows: the first through third copies of each title per store are amortized as
base stock and the fourth and succeeding copies of each title per store are
amortized over nine months on a straight-line basis. The unamortized cost, if
any, of videocassette rental inventory that is sold is charged to operations at
the time of sale. The Company believes that its method of amortization results
in an appropriate matching of tape amortization expense with the revenue
received from the associated rental of such tapes.
Furnishings, Equipment and Leasehold Improvements
Furnishings, equipment and leasehold improvements are stated at cost.
Depreciation is provided over the estimated useful lives (5 to 7 years) of
furnishings and equipment and, for leasehold improvements, over the lesser of
the estimated useful lives or lease terms (primarily 5-10 years), using the
straight-line method. Repair and maintenance costs are expensed as incurred.
Other Assets
Included in other assets are franchise fees, which are stated at cost less
the related accumulated amortization. Franchise fees are amortized using the
straight line method over the life of the franchise agreements (7-10 years).
F-101
<PAGE> 169
BEST ENTERTAINMENT, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
Income Taxes
The Company has elected to be treated as an S corporation for income tax
purposes. Accordingly, the income of the Company is taxed at the shareholder
level and, accordingly, no provision for income taxes has been made in the
accompanying financial statements.
3. VIDEOCASSETTE RENTAL INVENTORY
<TABLE>
Videocassette rental inventory and related amortization are as follows:
<CAPTION>
DECEMBER 31,
-----------------------
1994 1995
--------- ---------
<S> <C> <C>
Videocassette rental inventory............................... $ 833,265 $ 898,075
Accumulated amortization..................................... (457,694) (513,130)
--------- ---------
$ 375,571 $ 384,945
========= =========
</TABLE>
Amortization expense related to videocassette rental inventory totaled
$300,690, $402,333 and $453,400 for the years ended December 31, 1993, 1994, and
1995, respectively.
4. FURNISHINGS, EQUIPMENT AND LEASEHOLD IMPROVEMENTS
<TABLE>
Furnishings, equipment and leasehold improvements comprise the following:
<CAPTION>
DECEMBER 31,
-----------------------
1994 1995
--------- ---------
<S> <C> <C>
Furniture and fixtures....................................... $ 51,260 $ 51,713
Equipment and vehicles....................................... 103,411 108,777
Leasehold improvements....................................... 22,893 22,893
--------- ---------
177,564 183,383
Accumulated depreciation..................................... (130,389) (150,734)
--------- ---------
$ 47,175 $ 32,649
========= =========
</TABLE>
Depreciation expense totaled $28,644, $26,073, and $24,723 for the years
ended December 31, 1993, December 31, 1994 and December 31, 1995, respectively.
5. OTHER ASSETS
<TABLE>
Other assets comprise the following:
<CAPTION>
DECEMBER 31,
---------------------
1994 1995
-------- --------
<S> <C> <C>
Franchise fees................................................. $ 70,000 $ 65,000
Less: accumulated amortization................................. (35,000) (42,000)
-------- --------
35,000 23,000
Key-person life insurance policy -- cash surrender value....... 27,400 --
Other assets................................................... 267 54
-------- --------
$ 62,667 $ 23,054
======== ========
</TABLE>
On December 28, 1995, title to the life insurance policy was transferred to
the stockholders of the Company for no consideration.
F-102
<PAGE> 170
BEST ENTERTAINMENT, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
6. LONG-TERM DEBT
<TABLE>
Long-term debt comprises the following:
<CAPTION>
DECEMBER 31,
-----------------
1994 1995
-------- ----
<S> <C> <C>
Note payable -- Allied Lending Corporation........................ $ 26,804 $ --
Note payable -- Metropolitan Bank and Trust Company............... 2,395 --
Phoenix Home Life Mutual Insurance Company........................ 9,344 --
Loan from West Coast Corporation.................................. 5,000 --
-------- ----
Total debt.............................................. 43,543 --
Less: current portion............................................. (25,304) --
-------- ----
Total long term debt.................................... $ 18,239 $ --
======== ====
</TABLE>
Borrowings from the Allied Lending Corporation comprised a note payable
which was secured by the tangible assets of the Revere store and was due in
monthly installments through May 2, 1997. The Company accelerated payments due
on the note resulting in full settlement of the obligation during the year ended
December 31, 1995. Interest was paid at a variable rate based on one of several
prime rates (10.50% at December 31, 1994.)
Borrowings from the Metropolitan Bank and Trust Company were secured by the
tangible assets of the Somerville store and were due in monthly installments
through April 5, 1995. Interest was paid at a variable rate based on 2% plus the
bank's prime rate.
Borrowings with Phoenix Mutual Life Insurance Corporation comprised a loan
against a life insurance policy on one of the stockholders. Interest was accrued
at a fixed rate of 8%. On December 28, 1995, title to the life insurance policy
was transferred to the stockholders of the Company, together with all
obligations under this loan agreement.
The loan from West Coast Corporation for $5,000 related to unpaid franchise
fees outstanding since April 1991. The loan was interest free and was forgiven
by West Coast Corporation during the year ended December 31, 1995. As a result,
the loan and the franchise fee asset were both reduced by this amount at
December 31, 1995.
7. RELATED PARTY TRANSACTIONS
The Company leases retail space for one of its stores from a realty trust
in which the principal trustees are relatives of the Company's shareholders.
Rent expense related to this lease totaled $74,208, $84,715, and $78,698 for the
years ended December 31, 1993, 1994 and 1995, respectively.
F-103
<PAGE> 171
BEST ENTERTAINMENT, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
8. LEASE COMMITMENTS
<TABLE>
The Company leases its retail space under operating leases extending until
the year 2000. Both store leases contain renewal options ranging up to 15 years
and generally require the Company to pay utilities, insurance, taxes and common
area maintenance costs. Minimum future rental payments under these leases as of
December 31, 1995 are as follows:
<CAPTION>
OPERATING
LEASES
--------
<S> <C>
1996.................................................... $106,086
1997.................................................... 110,653
1998.................................................... 115,420
1999.................................................... 94,997
2000.................................................... 86,218
</TABLE>
Rent expense totalled $107,449, $121,159, and $117,662 for the years ended
December 31, 1993, 1994, and 1995, respectively.
9. SUBSEQUENT EVENT
During 1996, the Company entered into an asset purchase agreement wherein
substantially all of the Company's assets and certain of its liabilities will be
acquired by West Coast Entertainment. The sale is conditioned upon the initial
public offering of West Coast Entertainment's common stock.
F-104
<PAGE> 172
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and
Stockholders of Video Innovators, Inc.
In our opinion, the accompanying balance sheet and the related statements
of operations, of cash flows and of stockholders' equity present fairly, in all
material respects, the financial position of Video Innovators, Inc. at December
31, 1995 and 1994 and the results of its operations and its cash flows for each
of the three years in the period ended December 31, 1995, in conformity with
generally accepted accounting principles. 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 of these statements in accordance with generally accepted auditing
standards which 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, assessing the
accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for the opinion expressed above.
PRICE WATERHOUSE LLP
Boston, Massachusetts
February 20, 1996
F-105
<PAGE> 173
VIDEO INNOVATORS, INC.
<TABLE>
BALANCE SHEET
<CAPTION>
DECEMBER 31,
---------------------
1994 1995
-------- --------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents............................................ $ 49,147 $ 59,903
Accounts receivable.................................................. 1,733 3,124
Merchandise inventories.............................................. 28,837 31,847
Other current assets................................................. 50,000 --
Due from stockholders................................................ 10,412 46,486
-------- --------
Total current assets......................................... 140,129 141,360
-------- --------
Videocassette rental inventory, net.................................... 89,603 139,771
Furnishings and equipment, net......................................... 100,754 199,155
Deferred tax asset..................................................... 18,940 48,816
Other assets........................................................... 27,475 39,443
-------- --------
$376,901 $568,545
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable..................................................... $ 25,224 $101,809
Accrued expenses and other liabilities............................... 50,311 83,904
Accrued rent......................................................... -- 24,287
Current portion of obligations under capital leases.................. -- 1,975
Dividends payable.................................................... -- 30,770
Income tax payable................................................... 86,620 164,767
Deferred tax liabilities............................................. 9,499 --
Due to stockholders.................................................. 20,719 8,244
-------- --------
Total current liabilities.................................... 192,373 415,756
-------- --------
Accrued rent........................................................... 79,250 75,771
Obligations under capital leases....................................... -- 7,677
Commitments (Note 6)
Stockholders' equity:
Common stock, $.01 par value, 2,400 shares authorized, 2,400 shares
issued and outstanding............................................ 24 24
Additional paid-in capital........................................... 19,976 19,976
Retained earnings.................................................... 85,278 49,341
-------- --------
Total stockholders' equity................................... 105,278 69,341
-------- --------
$376,901 $568,545
======== ========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-106
<PAGE> 174
VIDEO INNOVATORS, INC.
<TABLE>
STATEMENT OF OPERATIONS
<CAPTION>
YEARS ENDED DECEMBER 31,
----------------------------------
1993 1994 1995
-------- -------- --------
<S> <C> <C> <C>
Revenues:
Rental revenue........................................... $601,436 $744,138 $774,229
Merchandise sales........................................ 46,424 66,388 72,932
-------- -------- --------
647,860 810,526 847,161
-------- -------- --------
Costs and expenses:
Operating expenses....................................... 348,995 433,852 429,596
Cost of sales............................................ 36,342 51,971 57,122
General and administrative............................... 205,980 258,333 291,409
-------- -------- --------
591,317 744,156 778,127
-------- -------- --------
Income from operations........................... 56,543 66,370 69,034
Other (income) expense, net................................ 5,155 (16,466) 859
-------- -------- --------
Income before provision for income tax........... 51,388 82,836 68,175
Provision for income taxes................................. 24,073 30,665 38,772
-------- -------- --------
Net income....................................... $ 27,315 $ 52,171 $ 29,403
======== ======== ========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-107
<PAGE> 175
VIDEO INNOVATORS, INC.
<TABLE>
STATEMENT OF CASH FLOWS
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
<CAPTION>
YEARS ENDED DECEMBER 31,
-------------------------------------
1993 1994 1995
--------- --------- ---------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income............................................ $ 27,315 $ 52,171 $ 29,403
Adjustments to reconcile net income to cash flows
provided by operating activities:
Amortization of organizational costs............... 5,320 5,320 5,320
Amortization of videocassette rental inventory..... 190,314 242,457 240,978
Depreciation and amortization of furnishings and
equipment........................................ 16,210 24,599 27,045
Deferred tax provision (benefit)................... (10,461) (6,860) (39,375)
Changes in assets and liabilities:
Accounts receivable.............................. (1,184) (549) (1,391)
Merchandise inventories.......................... (4,132) (10,459) (3,010)
Other current assets............................. 1,756 (50,000) 50,000
Other assets..................................... (4,138) (6,000) (17,288)
Accounts payable................................. 7,375 (3,904) 76,585
Accrued expenses................................. (30,534) 14,361 33,593
Income tax payable............................... 34,534 37,525 78,147
Accrued rent..................................... 30,630 24,310 20,808
--------- --------- ---------
Net cash provided by operating activities..... 263,005 322,971 500,815
--------- --------- ---------
Cash flows from investing activities:
Loan to stockholders.................................. -- (10,412) (36,074)
Purchases of property and equipment................... (11,364) (13,311) (114,446)
Purchases of videocassette rental inventory........... (205,733) (241,653) (291,146)
--------- --------- ---------
Net cash used in investing activities......... (217,097) (265,376) (441,666)
--------- --------- ---------
Cash flows from financing activities:
Repayment of capital lease obligation................. -- -- (1,348)
Repayment of stockholder debt......................... (13,299) (35,982) (12,475)
Dividends paid........................................ -- (43,272) (34,570)
--------- --------- ---------
Net cash used in financing activities......... (13,299) (79,254) (48,393)
--------- --------- ---------
Net increase (decrease) in cash and cash equivalents.... 32,609 (21,659) 10,756
--------- --------- ---------
Cash and cash equivalents, beginning of period.......... 38,197 70,806 49,147
--------- --------- ---------
Cash and cash equivalents, end of period................ $ 70,806 $ 49,147 $ 59,903
========= ========= =========
Cash paid for interest.................................. -- -- $ 859
Non-cash transactions:
Dividend payable...................................... -- -- $ 30,770
Obligation under capital lease........................ -- -- $ 11,000
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-108
<PAGE> 176
VIDEO INNOVATORS, INC.
<TABLE>
STATEMENT OF STOCKHOLDERS' EQUITY
<CAPTION>
ADDITIONAL TOTAL
COMMON PAID-IN RETAINED STOCKHOLDERS'
STOCK CAPITAL EARNINGS EQUITY
------ ---------- -------- -------------
<S> <C> <C> <C> <C>
Balance at January 1, 1993...................... $24 $19,976 $ 49,064 $ 69,064
Net income...................................... 27,315 27,315
--- ------- -------- --------
Balance at December 31, 1993.................... 24 19,976 76,379 96,379
Net income...................................... 52,171 52,171
Dividends....................................... (43,272) (43,272)
--- ------- -------- --------
Balance at December 31, 1994.................... 24 19,976 85,278 105,278
Net income...................................... 29,403 29,403
Dividends....................................... (65,340) (65,340)
--- ------- -------- --------
Balance at December 31, 1995.................... $24 $19,976 $ 49,341 $ 69,341
=== ======= ======== ========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-109
<PAGE> 177
VIDEO INNOVATORS, INC.
NOTES TO FINANCIAL STATEMENTS
1. DESCRIPTION OF BUSINESS
Video Innovators, Inc. (the "Company") owns and operates one videocassette
rental store, located in Brookline, MA. During 1995 the Company was preparing
for the opening of its second store in January 1996.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
A summary of the Company's significant accounting policies follows:
Pervasiveness 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 these estimates.
Cash and Cash Equivalents
The Company considers all highly liquid investments with original
maturities of three months or less to be cash equivalents.
Revenue Recognition
Revenue is recognized at the time of rental or sale of a videocassette or
video game.
Merchandise Inventory
Merchandise inventory, consisting primarily of videocassettes and video
games, are stated at the lower of cost or market. Cost is determined by the
first-in, first-out method.
Videocassette Rental Inventory
Videocassette rental inventory, which includes video games, is stated at
cost and is amortized over its estimated economic life with no provision for
salvage value. Videocassettes that are considered base stock are amortized over
36 months on a straight-line basis. New release videocassettes are amortized as
follows: the first through third copies of each title per store are amortized as
base stock and the fourth and any succeeding copies of each title per store are
amortized over nine months on a straight-line basis. The unamortized cost, if
any, of videocassette rental inventory that is sold is charged to operations at
the time of sale. The Company believes that its method of amortization results
in an appropriate matching of tape amortization expense with the revenue
received from the associated rental of such tapes.
<TABLE>
Videocassette rental inventory and related amortization are as follows:
<CAPTION>
DECEMBER 31,
-----------------------
1994 1995
--------- ---------
<S> <C> <C>
Videocassette rental inventory............................... $ 305,121 $ 461,137
Accumulated amortization..................................... (215,518) (321,366)
--------- ---------
$ 89,603 $ 139,771
========= =========
</TABLE>
Amortization expense related to videocassette rental inventory totaled
$190,314, $242,457 and $240,978 for the years ended December 31, 1993, 1994 and
1995, respectively.
F-110
<PAGE> 178
VIDEO INNOVATORS, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
Furnishings, Equipment and Leasehold Improvements
Furnishings, equipment and leasehold improvements are stated at cost.
Depreciation and amortization are provided over the estimated useful lives (five
to seven years) of furnishings and equipment and over the lesser of the
estimated useful lives or lease terms (five to ten years) of leased items and
leasehold improvements using the straight-line method. Repair and maintenance
costs are expensed as incurred.
Income Taxes
The Company accounts for income taxes in accordance with Financial
Accounting Standards No. 109, "Accounting for Income Taxes" ("SFAS 109"). SFAS
109 is an asset and liability approach that requires the recognition of deferred
tax assets and liabilities for the expected future tax consequences of temporary
differences between the carrying amounts and the tax bases of other assets and
liabilities. Deferred tax assets are recognized, net of any valuation allowance,
for deductible temporary differences and net operating loss and tax credit
carryforwards. Deferred tax expense represents the change in the deferred tax
asset or liability balances.
Organizational Costs
Included in other assets at December 31, 1994 and 1995 are $9,751 and
$4,431 of organizational costs, net of accumulated amortization of $16,847 and
$22,167, respectively. This asset is being amortized on a straight-line basis
over 5 years. Amortization of $5,320 was charged to expense in each of the years
ended December 31, 1993, 1994, and 1995, respectively.
3. FURNISHINGS AND EQUIPMENT
<TABLE>
Furnishings and equipment consist of the following:
<CAPTION>
DECEMBER 31,
---------------------
1994 1995
-------- --------
<S> <C> <C>
Furniture and fixtures......................................... $ 57,832 $ 91,817
Equipment and vehicles......................................... 20,607 39,189
Leasehold improvements......................................... 71,906 144,785
-------- --------
150,345 275,791
Accumulated depreciation and amortization...................... (49,591) (76,636)
-------- --------
$100,754 $199,155
======== ========
</TABLE>
Depreciation and amortization expenses were $16,210, $24,599, and $27,045
for the years ended December 31, 1993, 1994, 1995, respectively.
4. SHORT-TERM BORROWINGS
The Company has available unsecured lines of credit from a domestic bank
approximating $25,000 at December 31, 1994 and December 31, 1995.
F-111
<PAGE> 179
VIDEO INNOVATORS, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
5. INCOME TAXES
<TABLE>
The components of the provision for income taxes are as follows:
<CAPTION>
YEARS ENDED DECEMBER 31,
---------------------------------
1993 1994 1995
-------- ------- --------
<S> <C> <C> <C>
Current
Federal........................................... $ 24,769 $26,639 $ 56,551
State............................................. 9,765 10,886 21,596
34,534 37,525 78,147
-------- ------- --------
Deferred
Federal........................................... (8,182) (5,365) (31,537)
State............................................. (2,279) (1,495) (7,838)
-------- ------- --------
(10,461) (6,860) (39,375)
-------- ------- --------
$ 24,073 $30,665 $ 38,772
======== ======= ========
</TABLE>
<TABLE>
The components of the net deferred tax asset (liability) are as follows:
<CAPTION>
DECEMBER 31,
-------------------
1994 1995
------- -------
<S> <C> <C>
Deferred tax assets:
Videocassette rental library................................... $ -- $ 9,529
Rent........................................................... 18,940 34,469
Depreciation................................................... -- 2,797
Other temporary differences.................................... -- 2,021
------- -------
$18,940 $48,816
======= =======
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31,
-------------------
1994 1995
------- -------
<S> <C> <C>
Deferred tax liabilities:
Videocassette rental library................................... $9,499 $ --
------ -------
9,499 --
------ -------
Net deferred tax asset......................................... $9,441 $48,816
====== =======
</TABLE>
F-112
<PAGE> 180
VIDEO INNOVATORS, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
<TABLE>
A reconciliation between the provision for income taxes and the amount
determined by applying the U.S. federal statutory rate to income before income
taxes is as follows:
<CAPTION>
1993 1994 1995
------- ------- -------
<S> <C> <C> <C>
Income tax at statutory rate.......................... $17,472 $28,165 $23,180
State tax expense, net of federal income tax
benefit............................................. 5,778 7,644 6,838
Provision for contingencies........................... 5,077 6,567 13,951
Benefit of graduated rates............................ (6,616) (7,779) (5,607)
Other items........................................... 2,362 (3,932) 410
------- ------- -------
$24,073 $30,665 $38,772
======= ======= =======
</TABLE>
6. RELATED PARTY TRANSACTIONS
Under the terms of an Investors Agreement with the stockholders, each
stockholder of the Company agreed to make interest-free loans to the Company.
The notes payable to stockholders are due on demand and totaled $20,719 and
$8,244 at December 31, 1994 and 1995, respectively.
The Company leases a store facility from a stockholder in connection with
the operations of the West Coast Video business located in Brookline, MA. Rent
expense charged to operations for these facilities totaled $100,150 for each of
the three years in the period ended for December 31, 1995.
The amounts due from stockholders are payable on demand and bear no
interest.
7. LEASE COMMITMENTS
<TABLE>
The Company leases its facilities and certain equipment under operating
leases extending until October 31, 2005. In addition, the Company leases
computer equipment under capital lease arrangements. Minimum future rental
payments under these leases as of December 31, 1995 are as follows:
<CAPTION>
CAPITAL OPERATING
YEAR ENDING LEASES LEASES
----------- ------- ----------
<S> <C> <C>
1996.......................................................... $ 2,940 $ 197,725
1997.......................................................... 2,940 204,525
1998.......................................................... 2,940 176,250
1999.......................................................... 2,940 97,875
Thereafter.................................................... 737 644,343
------- ----------
Future minimum payments....................................... 12,497 $1,320,718
==========
Less amounts representing interest............................ 2,845
-------
Present value of future minimum lease payments, including
current portion of $1,975................................... $ 9,652
=======
</TABLE>
Rent expense totalled approximately $100,150, $100,150, and $116,705 for
the years ended December 31, 1993, 1994, and 1995, respectively.
8. SUBSEQUENT EVENT
During 1996, the Company entered into an asset purchase agreement wherein
substantially all of the Company's assets and certain of its liabilities will be
acquired by West Coast Entertainment. The sale is conditioned upon the initial
public offering of West Coast Entertainment's common stock.
F-113
<PAGE> 181
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and
Stockholder of Showtime, Inc.
In our opinion, the accompanying balance sheet and the related statements
of operations, of cash flows and of stockholder's equity present fairly, in all
material respects, the financial position of Showtime, Inc. at December 31, 1995
and 1994, and the results of its operations and its cash flows for each of the
three years in the period ended December 31, 1995, in conformity with generally
accepted accounting principles. 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 of these statements in accordance with generally accepted auditing
standards which 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, assessing the
accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for the opinion expressed above.
PRICE WATERHOUSE LLP
Boston, Massachusetts
February 22, 1996
F-114
<PAGE> 182
SHOWTIME, INC.
<TABLE>
BALANCE SHEET
<CAPTION>
DECEMBER 31,
-------------------------
1994 1995
---------- ----------
<S> <C> <C>
ASSETS
Current assets:
Cash.............................................................. $ 145,019 $ 164,377
Merchandise inventories........................................... 299,600 221,374
Prepaid expenses and other assets................................. 1,201 1,732
---------- ----------
Total current assets...................................... 445,820 387,483
Videocassette rental inventory, net................................. 818,989 766,200
Furnishings and equipment, net...................................... 105,174 233,185
Other assets........................................................ 35,636 59,801
Deferred income taxes............................................... 57,372 20,161
---------- ----------
$1,462,991 $1,466,830
========== ==========
LIABILITIES AND STOCKHOLDER'S EQUITY
Current liabilities:
Current obligation under capital leases........................... $ -- $ 11,340
Accounts payable.................................................. 235,993 303,684
Accrued expenses and other liabilities............................ 71,918 78,400
Income tax payable................................................ 60,665 820
Amounts due to shareholder........................................ 346,357 379,466
---------- ----------
Total current liabilities................................. 714,933 773,710
---------- ----------
Obligations under capital leases.................................. -- 7,639
---------- ----------
Total liabilities......................................... 714,933 781,349
Commitments (Note 7)
Stockholder's equity:
Class A, common stock, $.10 par value, 10,000 shares authorized,
4,000 shares issued and outstanding............................ 400 400
Class B, common stock, $.10 par value, 2,000 shares authorized,
1,000 shares issued............................................ 100 100
Additional paid-in capital........................................ 566,624 566,624
Retained earnings................................................. 242,934 180,357
---------- ----------
Less: Treasury stock at cost -- 1,000 Class B common
shares.................................................. 62,000 62,000
---------- ----------
Total stockholder's equity................................ 748,058 685,481
---------- ----------
$1,462,991 $1,466,830
========== ==========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-115
<PAGE> 183
SHOWTIME, INC.
<TABLE>
STATEMENT OF OPERATIONS
<CAPTION>
YEARS ENDED DECEMBER 31,
----------------------------------------
1993 1994 1995
---------- ---------- ----------
<S> <C> <C> <C>
Revenues:
Rental............................................... $2,942,287 $3,330,078 $3,474,569
Merchandise.......................................... 711,820 602,001 436,032
---------- ---------- ----------
3,654,107 3,932,079 3,910,601
---------- ---------- ----------
Cost and expenses:
Store operating expenses............................. 2,576,184 3,006,288 3,040,000
Cost of goods sold................................... 569,456 589,637 348,826
General and administrative........................... 212,783 380,752 578,190
---------- ---------- ----------
3,358,423 3,976,677 3,967,016
---------- ---------- ----------
Income (loss) from operations..................... 295,684 (44,598) (56,415)
---------- ---------- ----------
Interest expense....................................... 25,802 23,924 21,871
---------- ---------- ----------
Income (loss) before provision for income taxes... 269,882 (68,522) (78,286)
Provision/(benefit) for income taxes................... 95,428 (35,952) (15,709)
---------- ---------- ----------
Net income (loss)................................. $ 174,454 $ (32,570) $ (62,577)
========== ========== ==========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-116
<PAGE> 184
SHOWTIME, INC.
<TABLE>
STATEMENT OF CASH FLOWS
<CAPTION>
YEARS ENDED DECEMBER 31,
------------------------------------------
1993 1994 1995
---------- ----------- -----------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income (loss).................................. $ 174,454 $ (32,570) $ (62,577)
Adjustments to reconcile net income (loss) to cash
flows provided by operating activities:
Deferred income taxes........................... 25,778 (48,437) 37,211
Amortization of videocassette rental
inventory..................................... 812,976 1,063,070 1,098,413
Depreciation and amortization of furnishings and
equipment..................................... 62,554 64,931 90,517
Loss on disposal of furnishings and equipment... 450 7,600 --
Changes in assets and liabilities:
Prepaid expenses and other assets............. 20,470 (617) (1,154)
Merchandise inventories....................... 19,010 49,802 78,226
Other assets.................................. (7,740) 1,517 (24,165)
Accounts payable.............................. 38,527 (36,393) 67,691
Income tax payable............................ 49,216 11,449 (59,845)
Accrued expenses and other liabilities........ (16,272) 1,930 6,482
---------- ----------- -----------
Net cash provided by operating
activities............................... 1,179,423 1,082,282 1,230,799
---------- ----------- -----------
Cash flows from investing activities:
Purchases of property and equipment................ (60,407) (46,156) (196,650)
Purchases of videocassette rental inventory........ (868,219) (1,070,039) (1,045,624)
---------- ----------- -----------
Net cash (used in) investing activities.... (928,626) (1,116,195) (1,242,274)
---------- ----------- -----------
Cash flows from financing activities:
Loan from shareholder.............................. -- 5,533 33,109
Repayment of long-term debt........................ (119,001) (5,000) (2,276)
---------- ----------- -----------
Net cash provided by (used in) financing
activities............................... (119,001) 533 30,833
---------- ----------- -----------
Net increase (decrease) in cash and cash
equivalents........................................ 131,796 (33,380) 19,358
---------- ----------- -----------
Cash and cash equivalents, beginning of period....... 46,603 178,399 145,019
---------- ----------- -----------
Cash and cash equivalents, end of period............. $ 178,399 $ 145,019 $ 164,377
========== =========== ===========
Supplemental disclosure of cash flow information:
Cash paid during the period for interest........... $ 25,802 $ 20,210 $ 21,925
========== =========== ===========
Cash paid during the period for income taxes....... $ 27,836 $ 1,036 $ 6,928
========== =========== ===========
Supplemental disclosure of noncash financing
activities:
</TABLE>
During 1995, capital lease obligations of $21,878 were incurred in
connection with lease agreements for office equipment.
The accompanying notes are an integral
part of the financial statements.
F-117
<PAGE> 185
SHOWTIME, INC.
<TABLE>
STATEMENT OF STOCKHOLDER'S EQUITY
<CAPTION>
ADDITIONAL TOTAL
COMMON PAID-IN RETAINED TREASURY STOCKHOLDER'S
STOCK CAPITAL EARNINGS STOCK EQUITY
------ ---------- -------- -------- -------------
<S> <C> <C> <C> <C> <C>
Balance at January 1, 1993........ $500 $566,624 $101,050 $(62,000) $606,174
Net income........................ 174,454 174,454
---- -------- -------- -------- --------
Balance at December 31, 1993...... 500 566,624 275,504 (62,000) 780,628
Net loss.......................... (32,570) (32,570)
---- -------- -------- -------- --------
Balance at December 31, 1994...... 500 566,624 242,934 (62,000) 748,058
Net loss.......................... (62,577) (62,577)
---- -------- -------- -------- --------
Balance at December 31, 1995...... $500 $566,624 $180,357 $(62,000) $685,481
==== ======== ======== ======== ========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-118
<PAGE> 186
SHOWTIME, INC.
NOTES TO FINANCIAL STATEMENTS
1. DESCRIPTION OF BUSINESS
Showtime, Inc. (the "Company"), owns and operates 12 videocassette rental
stores, located primarily in Virginia.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
A summary of the Company's significant accounting policies follows:
Pervasiveness 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 these estimates.
Cash Equivalents
The Company considers all highly liquid investments with original
maturities of three months or less to be cash equivalents.
Revenue Recognition
Revenue is recognized at the time of rental or sale of a videocassette or
video game.
Videocassette Rental Inventory
Videocassette rental inventory, which includes video games, is stated at
cost and is amortized over its estimated economic life with no provision for
salvage value. Videocassettes that are considered base stock are amortized over
36 months on a straight-line basis. New release videocassettes are amortized as
follows: the first through third copies of each title per store are amortized as
base stock and the fourth and succeeding copies of each title per store are
amortized over nine months on a straight-line basis. The unamortized cost, if
any, of videocassette rental inventory that is sold is charged to operations at
the time of sale. The Company believes that its method of amortization results
in an appropriate matching of tape amortization expense with the revenue
received from the associated rental of such tapes.
Merchandise Inventory
Merchandise inventory, consisting primarily of videocassettes and video
games, are stated at the lower of cost or market. Cost is determined by the
first-in, first-out method.
Furnishings and Equipment
Furnishings and equipment are stated at cost. Depreciation and amortization
are provided over the estimated useful lives (5 to 7 years) of furnishings and
equipment and over the lesser of the estimated useful lives or lease terms
(primarily 5 to 7 years) of leased items using the straight-line method. Repair
and maintenance costs are expensed as incurred.
Income Taxes
The Company accounts for income taxes in accordance with Financial
Accounting Standards No. 109, "Accounting for Income Taxes" ("SFAS 109"). SFAS
109 is an asset and liability approach that requires the recognition of deferred
tax assets and liabilities for the expected future tax consequences of temporary
differences between the carrying amounts and the tax bases of other assets and
liabilities. Deferred tax assets are recognized, net of any valuation allowance,
for deductible temporary differences and net operating loss and
F-119
<PAGE> 187
SHOWTIME, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
tax credit carryforwards. Deferred tax expense represents the change in the
deferred tax asset or liability balances.
<TABLE>
3. VIDEOCASSETTE RENTAL INVENTORY AND RELATED AMORTIZATION ARE AS FOLLOWS:
<CAPTION>
DECEMBER 31,
---------------------------
1994 1995
----------- -----------
<S> <C> <C>
Videocassette rental inventory............................ $ 4,800,115 $ 5,285,391
Accumulated amortization.................................. (3,981,126) (4,519,191)
----------- -----------
$ 818,989 $ 766,200
=========== ===========
</TABLE>
Amortization expense related to videocassette rental inventory totaled
$812,976, $1,063,070, and $1,098,413 for the years ended December 31, 1993,
1994, and 1995, respectively.
4. FURNISHINGS AND EQUIPMENT
<TABLE>
Furnishings and equipment consist of the following:
<CAPTION>
DECEMBER 31,
-----------------------
1994 1995
--------- ---------
<S> <C> <C>
Furniture and fixtures....................................... $ 502,023 $ 502,674
Equipment and vehicles....................................... 135,660 330,101
Leasehold improvements....................................... 21,559 44,995
--------- ---------
659,242 877,770
Accumulated depreciation and amortization.................... (554,068) (644,585)
--------- ---------
$ 105,174 $ 233,185
========= =========
</TABLE>
Depreciation and amortization expense were $62,554, $64,931, and $90,517
for the years ended December 31, 1993, 1994, and 1995, respectively.
5. INCOME TAXES
<TABLE>
The components of the provision for income taxes are as follows:
<CAPTION>
YEARS ENDED DECEMBER 31,
---------------------------------
1993 1994 1995
------- -------- --------
<S> <C> <C> <C>
Current
Federal........................................... $57,498 $ 8,928 $(42,133)
State............................................. 12,152 3,557 (10,787)
------- -------- --------
69,650 12,485 (52,920)
------- -------- --------
Deferred
Federal........................................... 23,064 (43,338) 31,088
State............................................. 2,714 (5,099) 6,123
------- -------- --------
25,778 (48,437) 37,211
------- -------- --------
$95,428 $(35,952) $(15,709)
======= ======== ========
</TABLE>
F-120
<PAGE> 188
SHOWTIME, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
<TABLE>
The components of the net deferred tax asset are as follows:
<CAPTION>
DECEMBER 31,
-------------------
1994 1995
------- -------
<S> <C> <C>
Deferred tax asset:
Amortization on rental inventory................................. $57,372 $20,161
======= =======
</TABLE>
<TABLE>
A reconciliation between the provision for income taxes and the amount
determined by applying the U.S. federal statutory rate to income before income
taxes is as follows:
<CAPTION>
YEARS ENDED DECEMBER 31,
---------------------------------
1993 1994 1995
------- -------- --------
<S> <C> <C> <C>
Income tax at statutory rate -- 34%................. $91,760 $(23,297) $(26,617)
State tax expense, net of federal income tax
benefit........................................... 10,734 (2,753) (3,731)
Impact of graduated rates........................... (7,066) (9,902) 14,639
------- -------- --------
$95,428 $(35,952) $(15,709)
======= ======== ========
</TABLE>
6. AMOUNTS DUE TO SHAREHOLDER
Amounts due to shareholder represent demand loans made by the sole
shareholder to the Company. The loan bears interest at 7%, which is payable on
August 31 each year.
7. LEASE COMMITMENTS
<TABLE>
The Company leases its facilities and certain equipment under operating
leases extending until 2003. Minimum future rental payments under these leases
as of December 31, 1995 are as follows:
<CAPTION>
YEAR ENDING
DECEMBER 31
-----------
<S> <C>
1996............................................ $ 422,520
1997............................................ 362,800
1998............................................ 233,040
1999............................................ 227,520
2000............................................ 227,520
Thereafter...................................... 536,554
----------
Future minimum payments.............................. $2,009,954
==========
</TABLE>
During the year ended December 31, 1995, the Company incurred capital lease
obligations of $21,878 in connection with a lease agreement for office
equipment.
Rent expense totalled approximately $607,119, $687,442, and $705,295 for
the years ended December 31, 1993, 1994, and 1995, respectively.
8. SUBSEQUENT EVENTS
In 1996, the Company has negotiated the sale of its business to West Coast
Entertainment. The sale is contingent upon the completion of the initial public
offering of West Coast Entertainment's common stock.
F-121
<PAGE> 189
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and
Stockholders of Video Giant, Inc.
In our opinion, the accompanying balance sheet and the related statements
of operations, of cash flows and of stockholders' equity present fairly, in all
material respects, the financial position of Video Giant, Inc. at December 31,
1995 and 1994, and the results of its operations and its cash flows for each of
the three years in the period ended December 31, 1995, in conformity with
generally accepted accounting principles. 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 of these statements in accordance with generally accepted auditing
standards which 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, assessing the
accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for the opinion expressed above.
PRICE WATERHOUSE LLP
Boston, Massachusetts
January 19, 1996
F-122
<PAGE> 190
VIDEO GIANT, INC.
<TABLE>
BALANCE SHEET
<CAPTION>
DECEMBER 31,
-------------------------
1994 1995
---------- ----------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents......................................... $ 571,783 $ 695,994
Merchandise inventories........................................... 72,094 13,536
Prepaid expenses and other current assets......................... 59,330 20,958
---------- ----------
Total current assets...................................... 703,207 730,488
Videocassette rental inventory, net................................. 1,309,239 1,210,228
Furnishings, equipment and leasehold improvements, net.............. 365,482 395,533
Other assets........................................................ 29,507 29,367
---------- ----------
$2,407,435 $2,365,616
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable.................................................. $ 101,777 $ 140,920
Accrued expenses.................................................. 134,173 42,428
Current income taxes payable...................................... 211,135 132,033
---------- ----------
Total current liabilities................................. 447,085 315,381
Deferred tax liability............................................ 505,573 486,011
---------- ----------
Total liabilities......................................... 952,658 801,392
Commitments (Note 7)
Stockholders' equity:
Common stock, $0.01 par value, 500,000 shares authorized, 125,000
shares issued and outstanding.................................. 1,250 1,250
Additional paid-in capital........................................ 48,750 48,750
Retained earnings................................................. 1,404,777 1,514,224
---------- ----------
Total stockholders' equity................................ 1,454,777 1,564,224
---------- ----------
$2,407,435 $2,365,616
========== ==========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-123
<PAGE> 191
VIDEO GIANT, INC.
<TABLE>
STATEMENT OF OPERATIONS
<CAPTION>
YEARS ENDED DECEMBER 31,
----------------------------------------
1993 1994 1995
---------- ---------- ----------
<S> <C> <C> <C>
Revenues:
Rental............................................... $3,033,117 $4,516,812 $4,906,137
Merchandise.......................................... 160,983 162,852 304,842
---------- ---------- ----------
3,194,100 4,679,664 5,210,979
---------- ---------- ----------
Costs and expenses:
Store operating expenses............................. 2,264,304 3,029,200 4,432,799
Cost of goods sold................................... 110,982 143,863 248,873
General and administrative........................... 293,663 320,336 340,617
---------- ---------- ----------
2,668,949 3,493,399 5,022,289
---------- ---------- ----------
Income from operations............................ 525,151 1,186,265 188,690
---------- ---------- ----------
Interest expense....................................... 47,423 25,228 2,907
---------- ---------- ----------
Income before provision for income taxes.......... 477,728 1,161,037 185,783
Provision for income taxes............................. 192,851 467,230 76,336
---------- ---------- ----------
Net income........................................ $ 284,877 $ 693,807 $ 109,447
========== ========== ==========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-124
<PAGE> 192
VIDEO GIANT, INC.
<TABLE>
STATEMENT OF CASH FLOWS
<CAPTION>
YEARS ENDED DECEMBER 31,
----------------------------------------
1993 1994 1995
---------- ---------- ----------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income........................................... $ 284,877 $ 693,807 $ 109,447
Adjustments to reconcile net income to cash flows
provided by (used in) operating activities:
Amortization of videocassette rental inventory.... 562,174 866,762 1,588,788
Depreciation and amortization of furnishings,
equipment and leasehold improvements............ 87,676 123,543 155,901
Changes in assets and liabilities:
Merchandise inventories......................... (19,302) (792) 58,558
Prepaid expenses and other assets............... (28,973) 38,503 38,512
Accounts payable................................ 99,343 (14,187) 39,143
Accrued expenses................................ (2,143) 111,166 (91,745)
Current taxes................................... 98,468 112,667 (79,102)
Deferred taxes.................................. 94,383 354,563 (19,562)
---------- ---------- ----------
Net cash provided by operating activities.... 1,176,503 2,286,032 1,799,940
---------- ---------- ----------
Cash flows from investing activities:
Purchases of furnishings, equipment and leasehold
improvements...................................... (107,998) (216,999) (185,952)
Purchases of videocassette rental inventory.......... (638,950) (1,673,174) (1,489,777)
---------- ---------- ----------
Net cash used in investing activities........ (746,948) (1,890,173) (1,675,729)
---------- ---------- ----------
Cash flows from financing activities:
Repayment of stockholder loans.................... (338,640) (322,667) --
---------- ---------- ----------
Net increase in cash and cash equivalents.............. 90,915 73,192 124,211
---------- ---------- ----------
Cash and cash equivalents, beginning of period......... 407,676 498,591 571,783
---------- ---------- ----------
Cash and cash equivalents, end of period............... $ 498,591 $ 571,783 $ 695,994
========== ========== ==========
Supplemental disclosure of cash flow information:
Cash paid during the period for interest............. $ 47,423 $ 25,228 $ 2,907
========== ========== ==========
Cash paid during the period for income taxes......... $ -- $ -- $ 175,000
========== ========== ==========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-125
<PAGE> 193
VIDEO GIANT, INC.
<TABLE>
STATEMENT OF STOCKHOLDERS' EQUITY
<CAPTION>
ADDITIONAL TOTAL
COMMON PAID-IN RETAINED STOCKHOLDERS'
STOCK CAPITAL EARNINGS EQUITY
------ ---------- ---------- ----------
<S> <C> <C> <C> <C>
Balance at January 1, 1993.................... $1,250 $48,750 $ 426,093 $ 476,093
Net income.................................... -- -- 284,877 284,877
------ ------- ---------- ----------
Balance at December 31, 1993.................. 1,250 48,750 710,970 760,970
Net income.................................... -- -- 693,807 693,807
------ ------- ---------- ----------
Balance at December 31, 1994.................. 1,250 48,750 1,404,777 1,454,777
Net income.................................... -- -- 109,447 109,447
------ ------- ---------- ----------
Balance at December 31, 1995.................. $1,250 $48,750 $1,514,224 $1,564,224
====== ======= ========== ==========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-126
<PAGE> 194
VIDEO GIANT, INC.
NOTES TO FINANCIAL STATEMENTS
1. DESCRIPTION OF BUSINESS
Video Giant, Inc. (the "Company") owns and operates twelve videocassette
rental stores, located primarily in the southern regions of the USA.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
A summary of the Company's significant accounting policies follows:
Pervasiveness 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 these estimates.
Cash and Cash Equivalents
The Company considers all highly liquid investments with original
maturities of three months or less to be cash equivalents.
Revenue Recognition
Revenue is recognized at the time of rental or sale of a videocassette or
video game.
Merchandise Inventory
Merchandise inventory, consisting primarily of videocassettes and video
games, is stated at the lower of cost or market. Cost is determined by the
first-in, first-out method.
Videocassette Rental Inventory
Videocassette rental inventory, which includes video games, is stated at
cost determined by the first-in, first-out method, and is amortized over its
estimated economic life with no provision for salvage value. Videocassettes that
are considered base stock are amortized over 36 months on a straight-line basis.
New release videocassettes are amortized as follows: the first through third
copies of each title per store are amortized as base stock and the fourth and
succeeding copies of each title per store are amortized over nine months on a
straight-line basis. The unamortized cost, if any, of videocassette rental
inventory that is sold is charged to operations at the time of sale. The Company
believes that its method of amortization results in an appropriate matching of
tape amortization expense with the revenue received from the associated rental
of such tapes.
Furnishings, Equipment and Leasehold Improvements
Furnishings, equipment and leasehold improvements are stated at cost.
Depreciation and amortization are provided on a straight-line basis over the
estimated useful lives (5 to 7 years) of furnishings and equipment and, for
leasehold improvements, over the lesser of the estimated useful lives or lease
terms (primarily 5 to 10 years). Repair and maintenance costs are expensed as
incurred.
Income Taxes
The Company accounts for income taxes in accordance with Financial
Accounting Standards No. 109, "Accounting for Income Taxes" ("SFAS 109"). SFAS
109 is an asset and liability approach that requires the recognition of deferred
tax assets and liabilities for the expected future tax consequences of temporary
F-127
<PAGE> 195
VIDEO GIANT, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
differences between the carrying amounts and the tax bases of other assets and
liabilities. Deferred tax assets are recognized, net of any valuation allowance,
for deductible temporary differences and net operating loss and tax credit
carryforwards. Deferred tax expense represents the change in the deferred tax
asset or liability balances.
3. VIDEOCASSETTE RENTAL INVENTORY
<TABLE>
Videocassette rental inventory and related amortization are as follows:
<CAPTION>
DECEMBER 31,
---------------------------
1994 1995
----------- -----------
<S> <C> <C>
Videocassette rental inventory............................ $ 2,562,293 $ 3,127,557
Accumulated amortization.................................. (1,253,054) (1,917,329)
----------- -----------
$ 1,309,239 $ 1,210,228
=========== ===========
</TABLE>
Amortization expense related to videocassette rental inventory totaled
$562,174, $866,762, and $1,588,788 for the years ended December 31, 1993, 1994,
and 1995, respectively.
4. FURNISHINGS, EQUIPMENT AND LEASEHOLD IMPROVEMENTS
<TABLE>
Furnishings, equipment and leasehold improvements comprise the following:
<CAPTION>
DECEMBER 31,
------------------------
1994 1995
--------- ----------
<S> <C> <C>
Furniture and fixtures...................................... $ 379,156 $ 455,721
Equipment and vehicles...................................... 422,069 531,256
Leasehold improvements...................................... 42,109 42,309
--------- ----------
843,334 1,029,286
Accumulated depreciation.................................... (477,852) (633,753)
--------- ----------
$ 365,482 $ 395,533
========= ==========
</TABLE>
Depreciation expense totaled $87,676, $123,543, and $155,901 for the years
ended December 31, 1993, 1994, and 1995, respectively.
5. INCOME TAXES
<TABLE>
The components of the provision for income taxes are as follows:
<CAPTION>
YEARS ENDED DECEMBER 31,
----------------------------------
1993 1994 1995
-------- -------- --------
<S> <C> <C> <C>
Current:
Federal.......................................... $ 78,872 $ 90,246 $ 76,814
State............................................ 19,596 22,421 19,084
-------- -------- --------
98,468 112,667 95,898
-------- -------- --------
Deferred:
Federal.......................................... 82,175 308,700 (17,031)
State............................................ 12,208 45,863 (2,531)
-------- -------- --------
94,383 354,563 (19,562)
-------- -------- --------
$192,851 $467,230 $ 76,336
======== ======== ========
</TABLE>
F-128
<PAGE> 196
VIDEO GIANT, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
<TABLE>
Deferred income taxes as of December 31, 1994 and 1995 reflect the impact
of "temporary differences" between amounts of assets and liabilities for
financial reporting purposes and such amounts as measured by tax laws. The
temporary differences which give rise to the deferred tax assets and liabilities
are as follows:
<CAPTION>
DECEMBER 31,
-----------------------
1994 1995
--------- ---------
<S> <C> <C>
Deferred tax asset:
Bonus accrual.............................................. $ 40,200 $ --
--------- ---------
40,200 --
--------- ---------
Deferred tax liabilities:
Videocassette rental amortization.......................... (525,816) (486,011)
Other...................................................... (19,957) --
--------- ---------
(545,773) (486,011)
--------- ---------
$(505,573) $(486,011)
========= =========
</TABLE>
<TABLE>
A reconciliation between the provision for income taxes and the amount
determined by applying the U.S. federal statutory rate to income before income
taxes is as follows:
<CAPTION>
YEARS ENDED DECEMBER 31,
---------------------------------
1993 1994 1995
-------- -------- -------
<S> <C> <C> <C>
Income tax at statutory rate of 35%................. $167,205 $406,363 $65,024
State tax expense, net of federal income tax
benefit........................................ 20,673 44,385 10,759
Other............................................... 4,973 16,482 553
-------- -------- -------
$192,851 $467,230 $76,336
======== ======== =======
</TABLE>
6. RELATED PARTY TRANSACTIONS
The principal stockholder has from time to time loaned the Company funds
for working capital purposes and to fund new store opening costs. Interest on
these short term loans was charged at a rate of 10%.
7. LEASE COMMITMENTS
<TABLE>
The Company leases its facilities and equipment under operating leases
extending until 2001. Minimum future rental payments under these leases as of
December 31, 1995 are as follows:
<CAPTION>
OPERATING
YEAR ENDING LEASES
----------- ---------
<S> <C>
1996..................................... $406,420
1997..................................... 321,810
1998..................................... 239,495
1999..................................... 206,850
2000..................................... 170,280
Thereafter............................... 23,100
</TABLE>
Rent expense totalled $423,392, $460,346, and $506,510 for the years ended
December 31, 1993, 1994, and 1995, respectively.
8. SUBSEQUENT EVENT
In 1996, the Company has negotiated the sale of its business to West Coast
Entertainment. The sale is contingent upon the completion of the initial public
offering of West Coast Entertainment's common stock.
F-129
<PAGE> 197
REPORT OF INDEPENDENT ACCOUNTANTS
To the Stockholder of Anthony Cocca's Videoland, Inc.
In our opinion, the accompanying balance sheet and the related statements
of operations, of cash flows and of stockholder's equity present fairly, in all
material respects, the financial position of Anthony Cocca's Videoland, Inc. at
December 31, 1995 and 1994, and the results of its operations and its cash flows
for each of the three years in the period ended December 31, 1995, in conformity
with generally accepted accounting principles. 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 of these statements in accordance with generally accepted auditing
standards which 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, assessing the
accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for the opinion expressed above.
PRICE WATERHOUSE LLP
Boston, Massachusetts
February 16, 1996
F-130
<PAGE> 198
ANTHONY COCCA'S VIDEOLAND, INC.
<TABLE>
BALANCE SHEET
<CAPTION>
DECEMBER 31,
-------------------------
1994 1995
---------- ----------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents......................................... $ 90,428 $ 161,211
Accounts receivable............................................... 24,364 51,607
Merchandise inventories........................................... 125,952 174,304
---------- ----------
Total current assets...................................... 240,744 387,122
Videocassette rental inventory, net................................. 981,732 1,414,650
Furnishings and equipment, net...................................... 370,927 473,473
Other assets........................................................ 22,367 24,117
---------- ----------
$1,615,770 $2,299,362
========== ==========
LIABILITIES AND STOCKHOLDER'S EQUITY
Current liabilities:
Short-term debt................................................... $ 60,958 $ 51,958
Lines of credit................................................... 8,690 3,862
Current portion of long-term debt................................. 111,837 82,261
Accounts payable.................................................. 600,470 903,655
Accrued expenses and other liabilities............................ 153,578 164,748
Amounts due to shareholder........................................ 71,326 99,927
---------- ----------
Total current liabilities................................. 1,006,859 1,306,411
---------- ----------
Long-term debt...................................................... 144,882 62,418
---------- ----------
Commitments (Note 8)
Stockholder's equity:
Common stock, $10 par value, 100 shares authorized,
100 shares issued and outstanding.............................. 1,000 1,000
Additional paid-in capital........................................ 217,697 217,697
Retained earnings (deficit)....................................... 245,332 711,836
---------- ----------
Total stockholder's equity................................ 464,029 930,533
---------- ----------
$1,615,770 $2,299,362
========== ==========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-131
<PAGE> 199
ANTHONY COCCA'S VIDEOLAND, INC.
<TABLE>
STATEMENT OF OPERATIONS
<CAPTION>
YEARS ENDED DECEMBER 31,
----------------------------------------
1993 1994 1995
---------- ---------- ----------
<S> <C> <C> <C>
Revenues:
Rental............................................... $2,125,496 $3,026,048 $3,999,302
Merchandise.......................................... 166,148 313,835 483,598
---------- ---------- ----------
2,291,644 3,339,883 4,482,900
---------- ---------- ----------
Costs and expenses:
Operating expenses................................... 2,099,106 2,311,335 3,231,676
Cost of goods sold................................... 117,747 222,190 295,555
General and administrative........................... 389,623 354,997 420,858
---------- ---------- ----------
2,606,476 2,888,522 3,948,089
---------- ---------- ----------
(Loss)/income from operations................ (314,832) 451,361 534,811
---------- ---------- ----------
Interest expense....................................... 24,201 33,280 20,827
---------- ---------- ----------
Net income (loss)............................ $ (339,033) $ 418,081 $ 513,984
========== ========== ==========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-132
<PAGE> 200
ANTHONY COCCA'S VIDEOLAND, INC.
<TABLE>
STATEMENT OF CASH FLOWS
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
<CAPTION>
YEARS ENDED DECEMBER 31,
-------------------------------------------
1993 1994 1995
----------- ----------- -----------
<S> <C> <C> <C>
Cash flows from operating activities:
Net (loss)/income................................. $ (339,033) $ 418,081 $ 513,984
Adjustments to reconcile net income to cash flows
provided by operating activities:
Amortization of videocassette rental
inventory.................................... 957,617 1,339,747 1,811,846
Depreciation and amortization of furnishings
and equipment................................ 55,773 75,445 97,178
Changes in assets and liabilities:
Accounts receivable.......................... (7,327) (4,346) (27,243)
Merchandise inventories...................... (52,418) (43,685) (48,352)
Other assets................................. 10,108 (22,367) (1,750)
Accounts payable............................. 414,422 (17,623) 303,185
Accrued expenses............................. 94,448 2,849 11,170
----------- ----------- -----------
Net cash provided by operating
activities.............................. 1,133,590 1,748,101 2,660,018
----------- ----------- -----------
Cash flows from investing activities:
Purchases of videocassette rental inventory....... (1,101,677) (1,583,881) (2,244,764)
Purchases of property and equipment............... (181,888) (111,601) (199,724)
----------- ----------- -----------
Net cash used in investing activities..... (1,283,565) (1,695,482) (2,444,488)
----------- ----------- -----------
Cash flows from financing activities:
Repayment of long-term debt....................... (39,856) (96,703) (112,040)
Borrowings under lines of credit.................. 191,269 69,284 --
Repayment of lines of credit...................... (3,251) (6,556) (4,828)
Repayment of short-term debt...................... -- -- (9,000)
Amounts due to shareholder........................ -- -- 28,601
Distributions..................................... -- -- (47,480)
----------- ----------- -----------
Net cash provided by (used in) financing
activities.............................. 148,162 (33,975) (144,747)
----------- ----------- -----------
Net increase (decrease) in cash and cash
equivalents....................................... (1,813) 18,644 70,783
----------- ----------- -----------
Cash and cash equivalents, beginning of period...... 73,597 71,784 90,428
----------- ----------- -----------
Cash and cash equivalents, end of period............ $ 71,784 $ 90,428 $ 161,211
=========== =========== ===========
Supplemental disclosure of cash flow information:
Cash paid during the period for interest.......... $ 24,201 $ 33,280 $ 20,827
=========== =========== ===========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-133
<PAGE> 201
ANTHONY COCCA'S VIDEOLAND, INC.
<TABLE>
STATEMENT OF STOCKHOLDER'S EQUITY
<CAPTION>
ADDITIONAL TOTAL
COMMON PAID-IN RETAINED STOCKHOLDER'S
STOCK CAPITAL EARNINGS EQUITY
------ ---------- --------- -------------
<S> <C> <C> <C> <C>
Balance at January 1, 1993.................... $1,000 $217,697 $ 166,284 $ 384,981
Net loss...................................... -- -- (339,033) (339,033)
------ -------- --------- ---------
Balance at December 31, 1993.................. 1,000 217,697 (172,749) 45,948
Net income.................................... -- -- 418,081 418,081
------ -------- --------- ---------
Balance at December 31, 1994.................. 1,000 217,697 245,332 464,029
Net income.................................... -- -- 513,984 513,984
Distributions................................. -- -- (47,480) (47,480)
------ -------- --------- ---------
Balance at December 31, 1995.................. $1,000 $217,697 $ 711,836 $ 930,533
====== ======== ========= =========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-134
<PAGE> 202
ANTHONY COCCA'S VIDEOLAND, INC.
NOTES TO FINANCIAL STATEMENTS
1. DESCRIPTION OF BUSINESS
Anthony Cocca's Videoland, Inc. (the "Company") owns and operates 22
videocassette rental stores as of December 1995, located primarily in Ohio.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
A summary of the Company's significant accounting policies follows:
Pervasiveness 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 these estimates.
Cash and Cash Equivalents
The Company considers all highly liquid investments with original
maturities of three months or less to be cash equivalents.
Revenue Recognition
Revenue is recognized at the time of rental or sale of a videocassette or
video game.
Merchandise Inventory
Merchandise inventory, consisting primarily of videocassettes and video
games, are stated at the lower of cost or market. Cost is determined by the
first-in, first-out method.
Videocassette Rental Inventory
Videocassette rental inventory, which includes video games, is stated at
cost and is amortized over its estimated economic life with no provision for
salvage value. Videocassettes that are considered base stock are amortized over
36 months on a straight-line basis. New release videocassettes are amortized as
follows: the first through third copies of each title per store are amortized as
base stock and the fourth and succeeding copies of each title per store are
amortized over nine months on a straight-line basis. The unamortized cost, if
any, of videocassette rental inventory that is sold is charged to operations at
the time of sale. The Company believes that its method of amortization results
in an appropriate matching of tape amortization expense with the revenue
received from the associated rental of such tapes.
Furnishings and Equipment
Furnishings and equipment are stated at cost. Depreciation and amortization
are provided over the estimated useful lives (5 to 7 years) of furnishings and
equipment and over the lessor of the estimated useful lives or lease terms of
leased items using the straight-line method. Repair and maintenance costs are
expensed as incurred.
Income Taxes
The Company has elected to be treated as a Subchapter S corporation for
income tax purposes. Accordingly, the income of the Company is taxed at the
shareholder level and no provision for income taxes has been made in the
accompanying financial statements.
F-135
<PAGE> 203
ANTHONY COCCA'S VIDEOLAND, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
3. VIDEOCASSETTE RENTAL INVENTORY
<TABLE>
Videocassette rental inventory and related amortization are as follows:
<CAPTION>
DECEMBER 31,
---------------------------
1994 1995
----------- -----------
<S> <C> <C>
Videocassette rental inventory............................ $ 4,461,618 $ 6,106,097
Accumulated amortization.................................. (3,479,886) (4,691,447)
----------- -----------
$ 981,732 $ 1,414,650
=========== ===========
</TABLE>
Amortization expense related to videocassette rental inventory totaled
$957,617, $1,339,747, and $1,811,846 for the years ended December 31, 1993,
1994, and 1995, respectively.
4. FURNISHINGS AND EQUIPMENT
<TABLE>
Furnishings and equipment consist of the following:
<CAPTION>
DECEMBER 31,
-----------------------
1994 1995
--------- ---------
<S> <C> <C>
Furniture and fixtures....................................... $ 470,300 $ 624,024
Equipment and vehicles....................................... 104,830 150,830
--------- ---------
575,130 774,854
Accumulated depreciation and amortization.................... (204,203) (301,381)
--------- ---------
$ 370,927 $ 473,473
========= =========
</TABLE>
Depreciation and amortization expense were $55,773, $75,445, and $97,178
for the years ended December 31, 1993, 1994 and 1995, respectively.
5. BORROWINGS
<TABLE>
Borrowings consists of the following:
<CAPTION>
DECEMBER 31,
---------------------
1994 1995
-------- --------
<S> <C> <C>
SHORT-TERM DEBT
In 1993 the Company had a commitment from a bank for a $100,000 line of
credit bearing interest at prime plus 1.5% (10% at December 31,
1995). The line of credit was available through May 30, 1994 at which
time any amounts borrowed became payable upon demand. The line of
credit is secured by inventory, equipment, accounts receivable, and a
second mortgage on personal property of the stockholder. The Company
is making monthly principal payments of $1,000 plus interest. ....... $ 60,958 $51,958
======== =======
LINES OF CREDIT
The Company has a line of credit agreement with a bank that allows for
borrowings up to $20,000. Borrowings under the agreement bear
interest at the 91 day T-bill rate plus 4.5% (9.41% at December 31,
1995) and are secured by an equity mortgage. ........................ $ 8,690 $ 3,862
======== =======
LONG-TERM DEBT
On May 30, 1994, the borrowings of $197,760 under a $200,000 line of
credit agreement with a bank became a note payable due in monthly
principal installments of $5,556 plus interest at prime plus 1.5%
(10% at December 31, 1995), due in June, 1997, secured by inventory,
equipment, accounts receivable, and a second mortgage on personal
property of the stockholder. ........................................ $164,425 $97,549
</TABLE>
F-136
<PAGE> 204
ANTHONY COCCA'S VIDEOLAND, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
<TABLE>
<CAPTION>
DECEMBER 31,
1994 1995
-------- --------
<S> <C> <C>
Mortgage payable to a bank due in equal monthly installments of $574
including interest at 13.7%, due in October 2003, secured by the
building used as the Company's warehouse. ........................... 37,007 34,437
Note payable to a bank in monthly principal installments of $1,283,
plus interest at prime plus 3% (11.5% at December 31, 1995), due in
March 1996, secured by a mortgage on personal property of the
stockholder. ........................................................ 17,846 2,450
Note payable to a bank in monthly installments of $1,182 including
interest at 10.5%, due in September 1996, secured by a mortgage on
the Company's corporate headquarters. ............................... 22,616 10,243
Note payable to a bank, in monthly installments of $1,507 including
interest at prime plus 1% (9.5% at December 31, 1994), due in
November 1995, secured by certain fixed assets, accounts receivables
and certain personal assets of the stockholder. ..................... 8,775 --
Note payable to a bank in monthly installments of $775 including
interest at 11.75%, due in February 1995, secured by a personal asset
of the stockholder................................................... 1,497 --
Note payable to a bank in monthly installments of $650 including
interest at the banks base rate plus 1% (9% at December 31, 1994),
due in June 1995, secured by computer equipment. .................... 3,311 --
Note payable to a bank in monthly installments of $316 including
interest at 8.25%, due in April 1995, secured by a vehicle. ......... 1,242 --
-------- --------
Total long-term debt......................................... 256,719 144,679
Less: Current portion of long-term debt...................... 111,837 82,261
-------- --------
$144,882 $ 62,418
======== ========
</TABLE>
<TABLE>
Principal due on long-term debt for each of the years following December
31, 1995 is as follows:
<CAPTION>
<S> <C>
1996............................................................... $82,261
1997............................................................... 34,139
1998............................................................... 3,677
1999............................................................... 4,144
2000............................................................... 4,671
Thereafter......................................................... 15,787
</TABLE>
6. RELATED PARTY TRANSACTIONS
Leases
The Company leased its administrative headquarters and warehouse facility
from the sole stockholder of the Company. Rent expense for these locations was
approximately $21,000, $25,800 and $30,600 for the years ended December 31,
1993, 1994, and 1995, respectively.
The Company leased a store location from the sole stockholder of the
Company for two months ended February 28, 1993. Rent expense for this location
was approximately $800. Since March 1993, the Company has leased this store
location from a partnership, 50% of which is owned by the sole stockholder of
the Company. Rent expense for this location was approximately $21,500, $25,800
and $25,800 for the ten months ended December 31, 1993, and for the years ended
December 31, 1994 and 1995, respectively.
The Company leases two store locations from the sole stockholder of the
Company. Rent expense for these locations was approximately $32,436, $53,886 and
$55,836 for the years ended December 31, 1993, 1994, and 1995, respectively.
F-137
<PAGE> 205
ANTHONY COCCA'S VIDEOLAND, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
The Company leases one store location from a partnership, 50% of which is
owned by the sole stockholder of the Company. Rent expense for this location was
approximately $4,000 and $6,000 for the nine months ended December 31, 1994 and
the year ended December 31, 1995, respectively.
7. DUE TO STOCKHOLDER
In 1992, the sole stockholder loaned the Company approximately $71,000 for
operating purposes. The balance increased by $28,601 in 1995 due to an
additional loan to the Company from the sole stockholder in connection with the
purchase of four new stores. The loan is non-interest bearing.
8. LEASE COMMITMENTS
<TABLE>
The Company leases its facilities under operating leases extending until
2001. Minimum future rental payments under these leases as of December 31, 1995
is as follows:
<CAPTION>
OPERATING
YEAR ENDING LEASES
----------- ----------
<S> <C>
1996........................................................... $ 668,131
1997........................................................... 640,086
1998........................................................... 560,445
1999........................................................... 484,925
2000........................................................... 221,536
Thereafter..................................................... 10,659
----------
Future minimum payments........................................ $2,585,782
==========
</TABLE>
Rent expense totalled approximately $274,408, $391,846 and $606,246 for the
years ended December 31, 1993, 1994, and 1995, respectively.
9. SUBSEQUENT EVENT
During 1996, the Company entered into an asset purchase agreement wherein
substantially all of the Company's assets and certain of its liabilities will be
acquired by West Coast Entertainment. The sale is conditioned upon the initial
public offering of West Coast Entertainment's common stock.
F-138
<PAGE> 206
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and
Stockholders of Vidko, Inc.
In our opinion, the accompanying balance sheet and the related statements
of operations, of cash flows and of stockholders' equity present fairly, in all
material respects, the financial position of Vidko, Inc. at December 31, 1994
and the results of its operations and its cash flows for each of the two years
in the period ended December 31, 1994, in conformity with generally accepted
accounting principles. 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 of these
statements in accordance with generally accepted auditing standards which
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, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for the opinion expressed above.
PRICE WATERHOUSE LLP
Boston, Massachusetts
December 8, 1995
F-139
<PAGE> 207
VIDKO, INC.
<TABLE>
BALANCE SHEET
<CAPTION>
DECEMBER 31,
---------------------
1994 1995
-------- --------
(UNAUDITED)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents.............................................. $ 69,351 $ 75,452
Merchandise inventories.............................................. 10,619 12,189
Due from affiliates.................................................. 3,676 25,000
-------- --------
Total current assets.............................................. 83,646 112,641
Videocassette rental inventory, net.................................... 78,871 136,936
Furnishings and equipment, net......................................... 29,184 21,522
Other assets........................................................... 3,900 3,900
-------- --------
$195,601 $274,999
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable..................................................... $ 24,195 $ 24,740
Accrued expenses and other liabilities............................... 16,515 35,607
Distributions payable................................................ -- 60,000
Due to affiliates...................................................... -- 547
-------- --------
Total current liabilities......................................... 40,710 120,894
-------- --------
Commitments (Note 5)................................................... -- --
Stockholders' equity:
Common stock, no par value, 750 shares authorized,
100 shares issued and outstanding................................. -- --
Additional paid-in capital........................................... 45,849 45,849
Retained earnings.................................................... 109,042 108,256
-------- --------
Total stockholders' equity........................................ 154,891 154,105
-------- --------
$195,601 $274,999
======== ========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-140
<PAGE> 208
VIDKO, INC.
<TABLE>
STATEMENT OF OPERATIONS
<CAPTION>
YEARS ENDED DECEMBER 31,
-------------------------------------
1993 1994 1995
-------- -------- -----------
(UNAUDITED)
<S> <C> <C> <C>
Revenues:
Rental.................................................. $179,656 $390,517 $521,930
Merchandise............................................. 3,476 5,903 27,461
-------- -------- --------
183,132 396,420 549,391
-------- -------- --------
Costs and expenses:
Store operating expenses................................ 99,161 197,096 243,323
Cost of goods sold...................................... 2,746 4,663 21,694
General and administrative.............................. 58,508 121,440 149,028
-------- -------- --------
160,415 323,199 414,045
-------- -------- --------
Net income........................................... $ 22,717 $ 73,221 $135,346
======== ======== ========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-141
<PAGE> 209
VIDKO, INC.
<TABLE>
STATEMENT OF CASH FLOWS
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
<CAPTION>
YEARS ENDED DECEMBER 31,
--------------------------------------
1993 1994 1995
-------- --------- -----------
(UNAUDITED)
<S> <C> <C> <C>
Cash flows from operating activities:
Net income............................................. $ 22,717 $ 73,221 $ 135,346
Amortization of videocassette rental inventory......... 38,376 84,060 115,398
Depreciation and amortization of furnishings and
equipment........................................... 6,429 10,310 11,797
Changes in assets and liabilities:
Merchandise inventories............................. (10,852) 2,012 (1,570)
Accounts payable.................................... 16,367 3,785 545
Accrued expenses.................................... 6,454 2,854 19,092
Other assets........................................ -- (1,100) --
-------- --------- ---------
79,491 175,142 280,608
-------- --------- ---------
Cash flows from investing activities:
Amounts due from affiliates, net....................... 2,000 2,324 (21,324)
Purchases of property and equipment.................... (15,101) (10,432) (4,135)
Purchases of videocassette rental inventory............ (56,340) (124,638) (173,463)
-------- --------- ---------
Net cash used in investing activities.......... (69,441) (132,746) (198,922)
Cash flows from financing activities:
Proceeds from affiliate borrowings, net................ (5,055) (2,948) 547
Stockholder distribution............................... -- -- (76,132)
Stockholder contributions.............................. -- 5,830 --
Proceeds from issuance of common stock................. -- -- --
-------- --------- ---------
Net cash used in financing activities.......... (5,055) 2,882 (75,585)
-------- --------- ---------
Net increase in cash and cash equivalents................ 4,995 45,278 6,101
-------- --------- ---------
Cash and cash equivalents, beginning of period........... 19,078 24,073 69,351
-------- --------- ---------
Cash and cash equivalents, end of period................. $ 24,073 $ 69,351 $ 75,452
======== ========= =========
Supplemental disclosure of noncash investing and
financing activities:
Fair value of fixed assets contributed from
stockholders........................................ $ 18,610 -- --
Fair value of inventory contributed from
stockholders........................................ $ 12,409 -- --
Shareholder's distributions declared but not paid...... -- -- $ 60,000
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-142
<PAGE> 210
VIDKO, INC.
<TABLE>
STATEMENT OF STOCKHOLDERS' EQUITY
<CAPTION>
ADDITIONAL TOTAL
PAID-IN RETAINED STOCKHOLDERS'
CAPITAL EARNINGS EQUITY
---------- --------- -------------
<S> <C> <C> <C>
Balance at January 1, 1993............................. $40,019 $ 13,104 $ 53,123
Net income............................................. -- 22,717 22,717
------- --------- ---------
Balance at December 31, 1993........................... 40,019 35,821 75,840
Contributions from stockholders........................ 5,830 -- 5,830
Net income............................................. -- 73,221 73,221
------- --------- ---------
Balance at December 31, 1994........................... 45,849 109,042 154,891
Distributions (unaudited).............................. -- (136,132) (136,132)
Net income (unaudited)................................. -- 135,346 135,346
------- --------- ---------
Balance at December 31, 1995 (unaudited)............... $45,849 $ 108,256 $ 154,105
======= ========= =========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-143
<PAGE> 211
VIDKO, INC.
NOTES TO FINANCIAL STATEMENTS
(UNAUDITED WITH RESPECT TO DECEMBER 31, 1995)
1. DESCRIPTION OF BUSINESS
Vidko, Inc. (the "Company") owns and operates three videocassette rental
stores, located primarily in Central Pennsylvania.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
A summary of the Company's significant accounting policies follows:
Pervasiveness 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 these estimates.
Cash and Cash Equivalents
The Company considers all highly liquid investments with original
maturities of three months or less to be cash equivalents.
Revenue Recognition
Revenue is recognized at the time of rental or sale of a videocassette or
video game.
Merchandise Inventory
Merchandise inventory, consisting primarily of videocassettes and video
games, are stated at the lower of cost or market. Cost is determined by the
first-in, first-out method.
Videocassette Rental Inventory
Videocassette rental inventory, which includes video games, is stated at
cost and is amortized over its estimated economic life with no provision for
salvage value. Videocassettes that are considered base stock are amortized over
36 months on a straight-line basis. New release videocassettes are amortized as
follows: the first through third copies of each title per store are amortized as
base stock and the fourth and succeeding copies of each title per store are
amortized over nine months on a straight-line basis. The unamortized cost, if
any, of videocassette rental inventory that is sold is charged to operations at
the time of sale. The Company believes that its method of amortization results
in an appropriate matching of tape amortization expense with the revenue
received from the associated rental of such tapes.
<TABLE>
Videocassette rental inventory and related amortization are as follows:
<CAPTION>
DECEMBER 31,
----------------------
1994 1995
-------- ---------
(UNAUDITED)
<S> <C> <C>
Videocassette rental inventory................................ $141,820 $ 253,666
Accumulated amortization...................................... (62,949) (116,730)
-------- ---------
$ 78,871 $ 136,936
======== =========
</TABLE>
Amortization expense related to videocassette rental inventory totaled
$38,376, $84,060 and $115,398 for the years ended December 31, 1993, 1994 and
1995, respectively.
F-144
<PAGE> 212
VIDKO, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
Furnishings and Equipment
Furnishings and equipment are stated at cost. Depreciation and amortization
are provided over the estimated useful lives (5 years) of furnishings and
equipment and over the lesser of the estimated useful lives or lease terms
(primarily 3 years) of leased items using the straight-line method. Repair and
maintenance costs are expensed as incurred.
Income Taxes
The Company has elected to be treated as a Subchapter S corporation for
income tax purposes. Accordingly, the income of the Company is taxed at the
shareholder level and, accordingly, no provision for income taxes has been made
in the accompanying financial statements.
Unaudited Interim Financial Information
The balance sheet as of December 31, 1995, and the statements of
operations, of stockholders' equity and of cash flows for the year ended
December 31, 1995 are unaudited. In the opinion of management, all adjustments
necessary for a fair presentation of these financial statements have been
included. Such adjustments consisted only of normal recurring items.
3. FURNISHINGS AND EQUIPMENT
<TABLE>
Furnishings and equipment consist of the following:
<CAPTION>
DECEMBER 31,
----------------------
1994 1995
-------- ----------
(UNAUDITED)
<S> <C> <C>
Furniture and fixtures......................................... $ 5,134 $ 8,934
Equipment and vehicles......................................... 31,714 32,049
Leasehold improvements......................................... 12,485 12,485
-------- --------
49,333 53,468
Accumulated depreciation and amortization...................... (20,149) (31,946)
-------- --------
$ 29,184 $ 21,522
======== ========
</TABLE>
Depreciation and amortization expense were $6,429, $10,310 and $11,797 for
the years ended December 31, 1993, 1994 and 1995, respectively.
4. RELATED PARTY TRANSACTIONS
The Company has entered into several agreements and transactions with
affiliate parties which may have resulted in different financial results had
they been with unrelated parties. It is the opinion of management that any
economic differences resulting from these transactions would be immaterial.
5. LEASE COMMITMENTS
The Company leases its facilities under operating leases, including one
contingent rental lease, extending through January 31, 1997. Future minimum
payments for 1996 total $15,325.
Rent expense totalled approximately $32,600, $53,609, and $79,240 for the
years ended December 31, 1993, 1994 and 1995, respectively.
F-145
<PAGE> 213
VIDKO, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
6. SUBSEQUENT EVENT
During 1996, the Company entered into an asset purchase agreement wherein
substantially all of the Company's assets and certain of its liabilities will be
acquired by West Coast Entertainment. The sale is conditioned upon the initial
public offering of West Coast Entertainment's common stock.
F-146
<PAGE> 214
REPORT OF INDEPENDENT ACCOUNTANTS
To the Partners of Kobie-Co Movie Outlet
In our opinion, the accompanying balance sheet and the related statements
of operations, of cash flows and of owner's equity present fairly, in all
material respects, the financial position of Kobie-Co Movie Outlet, at December
31, 1995 and 1994, and the results of its operations and its cash flows for each
of the three years in the period ended December 31, 1995, in conformity with
generally accepted accounting principles. 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 of these statements in accordance with generally accepted auditing
standards which 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, assessing the
accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for the opinion expressed above.
PRICE WATERHOUSE LLP
Boston, Massachusetts
February 7, 1996
F-147
<PAGE> 215
KOBIE-CO MOVIE OUTLET
<TABLE>
BALANCE SHEET
<CAPTION>
DECEMBER 31,
-----------------------
1994 1995
-------- ----------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents.......................................... $114,847 $ 210,120
Accounts receivable................................................ 1,766 1,856
Merchandise inventories............................................ 54,303 82,654
Prepaid expenses and other current assets.......................... 2,417 6,934
Due from affiliates................................................ 63,172 12,231
-------- ----------
236,505 313,795
Videocassette rental inventory, net.................................. 267,503 482,921
Furnishings and equipment, net....................................... 82,378 184,871
Other assets......................................................... -- 75,022
-------- ----------
$586,386 $1,056,609
======== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable................................................... $116,399 $ 156,680
Accrued expenses and other current liabilities..................... 62,202 81,905
Due to affiliates.................................................. 5,264 25,000
Short-term borrowings.............................................. 75,000 5,000
Current portion of obligations under capital leases................ 2,607 --
Current portion of long-term debt.................................. -- 109,909
-------- ----------
Total current liabilities.................................. 261,472 378,494
-------- ----------
Long-term debt....................................................... -- 142,150
Commitments (Note 7)
Partnership capital:
Owner's equity..................................................... 103,936 122,267
Retained earnings.................................................. 220,978 413,698
-------- ----------
Total partnership capital.................................. 324,914 535,965
-------- ----------
$586,386 $1,056,609
======== ==========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-148
<PAGE> 216
KOBIE-CO MOVIE OUTLET
<TABLE>
STATEMENT OF OPERATIONS
<CAPTION>
YEARS ENDED DECEMBER 31,
----------------------------------------
1993 1994 1995
---------- ---------- ----------
<S> <C> <C> <C>
Revenues:
Rental............................................... $1,159,633 $1,354,010 $2,637,361
Merchandise.......................................... 136,963 142,797 305,932
---------- ---------- ----------
1,296,596 1,496,807 2,943,293
---------- ---------- ----------
Costs and expenses:
Operating expenses................................... 526,628 490,183 1,294,226
Cost of goods sold................................... 107,545 121,699 221,314
General and administrative........................... 501,595 473,572 928,632
---------- ---------- ----------
1,135,768 1,085,454 2,444,172
---------- ---------- ----------
Income from operations............................ 160,828 411,353 499,121
---------- ---------- ----------
Interest income........................................ (780) (695) (1,867)
Interest expense....................................... 4,855 8,044 22,449
Other expense (income), net............................ (1,480) 4,224 (2,533)
---------- ---------- ----------
Net income........................................ $ 158,233 $ 399,780 $ 481,072
========== ========== ==========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-149
<PAGE> 217
KOBIE-CO MOVIE OUTLET
<TABLE>
STATEMENT OF CASH FLOWS
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
<CAPTION>
YEARS ENDED DECEMBER 31,
-------------------------------------
1993 1994 1995
--------- --------- ---------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income............................................ $ 158,233 $ 399,780 $ 481,072
Amortization of videocassette rental inventory........ 340,024 312,654 849,705
Depreciation and amortization of furnishings and
equipment.......................................... 24,297 33,746 55,460
Amortization of covenant not to compete............... -- -- 2,000
Loss on asset disposal................................ -- 114 --
Changes in assets and liabilities:
Account receivable................................. 504 405 (90)
Merchandise inventories............................ (20,493) (13,703) (28,351)
Prepaid expenses and other current assets.......... 134 3,273 (4,517)
Other assets....................................... -- -- 24,655
Accounts payable................................... 81,843 25,366 40,281
Accrued expenses................................... (12,128) (18,355) 19,460
--------- --------- ---------
Net cash provided by operating activities..... 572,414 743,280 1,439,675
--------- --------- ---------
Cash flows from investing activities:
Due from affiliates, net.............................. (11,862) (33,859) 23,441
Purchases of property and equipment................... (53,705) (26,758) (71,703)
Purchases of videocassette rental inventory........... (350,343) (410,684) (879,301)
Acquisition of stores................................. -- -- (25,000)
--------- --------- ---------
Net cash used in investing activities......... (415,910) (471,301) (952,563)
--------- --------- ---------
Cash flows from financing activities:
Due to affiliates, net................................ (337) (2,399) 19,736
Net borrowings under line-of credit agreement......... 1,170 19,500 (42,500)
Distributions......................................... (142,315) (248,758) (288,352)
Principal repayments on capital lease obligations..... (15,205) (6,844) (6,107)
Proceeds from long-term debt.......................... 12,852 -- 17,500
Repayment of long-term debt........................... (17,696) (13,814) (92,116)
--------- --------- ---------
Net cash used in financing activities......... (161,531) (252,315) (391,839)
--------- --------- ---------
Net increase (decrease) in cash and cash equivalents.... (5,027) 19,664 95,273
--------- --------- ---------
Cash and cash equivalents, beginning of period.......... 100,210 95,183 114,847
--------- --------- ---------
Cash and cash equivalents, end of period................ $ 95,183 $ 114,847 $ 210,120
========= ========= =========
Supplemental disclosure of cash flow information:
Cash paid during the period for interest.............. $ 4,855 $ 8,044 $ 22,449
Supplemental disclosure of noncash investing and
financing activities:
Net assets contributed by owner....................... $ -- $ -- $ 18,331
Net assets and liabilities assumed in store
acquisition........................................ $ -- $ -- $ 305,126
Net assets and liabilities offset with affiliate...... $ -- $ -- $ 27,500
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-150
<PAGE> 218
KOBIE-CO MOVIE OUTLET
<TABLE>
STATEMENT OF OWNER'S EQUITY
<CAPTION>
TOTAL
OWNER'S RETAINED STOCKHOLDERS'
EQUITY EARNINGS EQUITY
-------- --------- -------------
<S> <C> <C> <C>
Balance at January 1, 1993............................. $ 97,273 $ 54,041 $ 151,314
Contributions.......................................... 6,663 -- 6,663
Net income............................................. -- 158,233 158,233
Distributions.......................................... -- (142,318) (142,318)
-------- --------- ---------
Balance at December 31, 1993........................... 103,936 69,956 173,892
Net income............................................. -- 399,780 399,780
Distributions.......................................... -- (248,758) (248,758)
-------- --------- ---------
Balance at December 31, 1994........................... 103,936 220,978 324,914
Contributions.......................................... 18,331 -- 18,331
Net income............................................. -- 481,072 481,072
Distributions.......................................... -- (288,352) (288,352)
-------- --------- ---------
Balance at December 31, 1995........................... $122,267 $ 413,698 $ 535,965
======== ========= =========
</TABLE>
The accompanying notes are an integral
part of the financial statements.
F-151
<PAGE> 219
KOBIE-CO MOVIE OUTLET
NOTES TO FINANCIAL STATEMENTS
1. DESCRIPTION OF BUSINESS
Kobie-Co Movie Outlet (the "Company") owns and operates ten videocassette
rental stores, located primarily in Northeast Pennsylvania.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
A summary of the Company's significant accounting policies follows:
Pervasiveness 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 these estimates.
Cash and Cash Equivalents
The Company considers all highly liquid investments with original
maturities of three months or less to be cash equivalents.
Revenue Recognition
Revenue is recognized at the time of rental or sale of a videocassette or
video game.
Merchandise Inventory
Merchandise inventory, consisting primarily of videocassettes and video
games, are stated at the lower of cost or market. Cost is determined by the
first-in, first-out method.
Videocassette Rental Inventory
Videocassette rental inventory, which includes video games, is stated at
cost and is amortized over its estimated economic life with no provision for
salvage value. Videocassettes that are considered base stock are amortized over
36 months on a straight-line basis. New release Videocassettes are amortized as
follows: the first through third copies of each title per store are amortized as
base stock and the fourth and succeeding copies of each title per store are
amortized over nine months on a straight-line basis. The unamortized cost, if
any, of videocassette rental inventory is charged to operations at the time of
sale. The Company believes that its method of amortization results in an
appropriate matching of tape amortization expense with the revenue received from
the associated rental of such tape.
<TABLE>
Videocassette rental inventory and related amortization are as follows:
<CAPTION>
DECEMBER 31,
-----------------------
1994 1995
--------- ---------
<S> <C> <C>
Videocassette rental inventory............................... $ 546,723 $ 985,031
Accumulated amortization..................................... (279,220) (502,110)
--------- ---------
$ 267,503 $ 482,921
========= =========
</TABLE>
Amortization expense related to videocassette rental inventory totaled
$340,024, $312,654 and $849,705 for the years ended December 31, 1993, 1994 and
1995, respectively.
F-152
<PAGE> 220
KOBIE-CO MOVIE OUTLET
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
Furnishings and Equipment
Furnishings and equipment are stated at cost. Depreciation and amortization
are provided over the estimated useful lives (five to seven years) of
furnishings and equipment and over the lesser of the estimated useful lives or
lease terms (primarily three years) of leased items using the straight-line
method. Repair and maintenance costs are expensed as incurred.
Upon sale or retirement, the costs and related accumulated depreciation or
amortization are eliminated from the respective accounts and any resulting gain
or loss is included in income.
Income Taxes
The Company has elected to be treated as a general partnership for income
tax purposes for the three years ended December 31, 1995. Accordingly, the
income of the Company is taxed at the partnership level for those years, and no
provision for income tax has been made in the accompanying financial statements.
3. FURNISHINGS AND EQUIPMENT
<TABLE>
Furnishings and equipment consist of the following:
<CAPTION>
DECEMBER 31,
-----------------------
1994 1995
--------- ---------
<S> <C> <C>
Furniture and fixtures....................................... $ 87,909 $ 91,968
Equipment and vehicles....................................... 51,668 165,998
Leasehold improvements....................................... 63,866 103,430
--------- ---------
203,443 361,396
Accumulated depreciation and amortization.................... (121,065) (176,525)
--------- ---------
$ 82,378 $ 184,871
========= =========
</TABLE>
Depreciation and amortization expense were $24,297, $33,746 and $55,460 for
the years ended December 31, 1993, 1994 and 1995, respectively.
4. SHORT-TERM BORROWINGS
The Company has available additional unsecured lines of credit from various
domestic banks approximating $25,000 and $45,000 for the years ended December
31, 1994 and December 31, 1995, respectively. The short-term borrowings
outstanding at the end of December 31, 1994 and 1995 represent bank borrowings
under these lines of credit. The Company's working capital needs were fulfilled
by borrowing under these lines of credit, which were on terms and at interest
rates generally extended to companies of comparable credit worthiness.
F-153
<PAGE> 221
KOBIE-CO MOVIE OUTLET
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
<TABLE>
5. LONG-TERM DEBT
<CAPTION>
DECEMBER 31,
---------------------
1994 1995
-------- --------
<S> <C> <C>
Long-term debt consists of the following:
10.00% note payable to bank, payable in monthly
installments of $242 commencing September of 1995................. $ -- $ 6,531
10.00% note payable to bank, payable in monthly installments of
$381.62 commencing November of 1995............................... -- 9,417
10% note payable to former owners of Mortgage I in monthly
installments of $7,260.12 commencing February of 1995............. -- 163,232
10% note payable to former owners of Montage II in monthly
installments of $564.68 commencing February of 1995............... -- 12,696
Consulting fee payable to former owners of Montage I and Montage II
in monthly installments of $2,610.26 commencing February of
1995.............................................................. -- 60,183
-------- --------
-- 252,059
Less: current portion................................................ -- 109,909
-------- --------
$ -- $142,150
======== ========
</TABLE>
6. RELATED PARTY TRANSACTIONS
The Company leases various store facilities from an affiliate company
through common ownership. Rent expense charged to operations for these
facilities totaled $24,100, $58,200 and $78,600 for December 31, 1993, 1994 and
1995, respectively.
In 1994, an owner of the company assumed both the ownership of a vehicle
previously owned by the Company and its related debt. The net book value and
outstanding debt, at the date of transfer, of this assumed asset were $15,394
and $15,280, respectively.
Amounts due to affiliates and amounts due from affiliates are due on
demand, bearing no interest.
The Company has entered into several other agreements and transactions with
affiliate parties which may have resulted in different financial results. It is
the opinion of management that any economic differences resulting from these
transactions would be immaterial.
On January 1, 1995, one of the two partners of the Company purchased the
remaining partnership interest in the Company from the other partner.
Effective January 1, 1995, the Company acquired substantially all of the
net assets of Montage I, a company 50% owned by a previous partner in the
Company. Refer to Note 7 for further information regarding this transaction.
The owner of the Company had a 50% ownership in Montage II, a company
consisting of two stores. Effective January 1, 1995, the owner of the Company
purchased the remaining ownership interest in Montage II. The owner contributed
the net assets of Montage II in exchange for $25,000 in cash.
7. ACQUISITION
On January 1, 1995, the Company acquired substantially all of the net
assets and entered into a five-year non-competition agreement with the owner of
Montage I, a company consisting of four stores, in exchange for a note payable
to the previous owners in the amount of $225,000. The acquisition was accounted
for as a
F-154
<PAGE> 222
KOBIE-CO MOVIE OUTLET
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
purchase, and Montage I was merged into the Company. Operations of Montage I
have been included in the accompanying financial statements from the date of
acquisition.
<TABLE>
The allocation of the purchase price associated with the above acquisition
is summarized as follows:
<CAPTION>
MONTAGE I
---------
<S> <C>
Videocassette rental inventory.................................... $125,000
Furnishings, equipment and leasehold improvements................. 75,000
Intangibles....................................................... 25,000
--------
$225,000
========
</TABLE>
8. LEASE COMMITMENTS
<TABLE>
The Company leases its facilities under operating leases extending until
December 31, 1999. Minimum future rental payments under these leases as of
December 31, 1995 is as follows:
<CAPTION>
<S> <C>
1996.............................................................. $271,493
1997.............................................................. 217,029
1998.............................................................. 109,400
1999.............................................................. 78,600
Thereafter........................................................ --
--------
Future minimum payments........................................... $676,522
========
</TABLE>
Rent expense totalled approximately $132,868, $152,199 and $334,570 for the
years ended December 31, 1993, 1994 and 1995, respectively.
9. DISTRIBUTIONS
The Company is a partnership. Current year distributions were made to one
of the two partners. If the Company is sold, the proceeds of such sale are to be
distributed equally between the two partners.
10. SUBSEQUENT EVENTS
During 1996, the Company entered into an asset purchase agreement wherein
substantially all of the Company's assets and certain of its liabilities will be
acquired by West Coast Entertainment. The sale is conditioned upon the initial
public offering of West Coast Entertainment's common stock.
F-155
<PAGE> 223
[Inside Back Cover:
Videocassette cases imprinted with the West Coast logo with background photos
of motion picture actors.]
<PAGE> 224
NO PERSON HAS BEEN AUTHORIZED IN CONNECTION WITH THE OFFERING MADE HEREBY TO
GIVE ANY INFORMATION OR TO MAKE ANY REPRESENTATION NOT CONTAINED IN THIS
PROSPECTUS AND, IF GIVEN OR MADE, SUCH INFORMATION OR REPRESENTATION MUST NOT BE
RELIED UPON AS HAVING BEEN AUTHORIZED BY THE COMPANY OR ANY UNDERWRITER. THIS
PROSPECTUS DOES NOT CONSTITUTE AN OFFER TO SELL OR A SOLICITATION OF AN OFFER TO
BUY ANY OF THE SECURITIES OFFERED HEREBY TO ANY PERSON OR BY ANYONE IN ANY
JURISDICTION IN WHICH IT IS UNLAWFUL TO MAKE SUCH OFFER OR SOLICITATION. NEITHER
THE DELIVERY OF THIS PROSPECTUS NOR ANY SALE MADE HEREUNDER SHALL, UNDER ANY
CIRCUMSTANCES, CREATE ANY IMPLICATION THAT THE INFORMATION CONTAINED HEREIN IS
CORRECT AS OF ANY DATE SUBSEQUENT TO THE DATE HEREOF.
------------------------
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
-----
<S> <C>
Prospectus Summary..................... 1
Risk Factors........................... 4
Concurrent Transactions................ 9
Use of Proceeds........................ 11
Dividend Policy........................ 11
Dilution............................... 12
Capitalization......................... 13
Unaudited Pro Forma Combined Condensed
Financial Statements................. 14
Selected Historical and Pro Forma Com-
bined Financial Data................. 25
Management's Discussion and Analysis of
Financial Condition and Results of
Operations........................... 27
Video Industry Overview................ 39
Business............................... 40
Management............................. 49
Certain Transactions................... 54
Principal Stockholders................. 56
Description of Capital Stock........... 58
Shares Eligible for Future Sale........ 61
Underwriting........................... 63
Legal Matters.......................... 64
Experts................................ 64
Additional Information................. 65
Index to Consolidated Financial
Statements........................... F-1
- ------------------------
UNTIL JUNE 8, 1996 (25 DAYS AFTER THE DATE OF
THIS PROSPECTUS), ALL DEALERS EFFECTING
TRANSACTIONS IN THE COMMON STOCK OFFERED
HEREBY, WHETHER OR NOT PARTICIPATING IN THIS
DISTRIBUTION, MAY BE REQUIRED TO DELIVER A
PROSPECTUS. THIS IS IN ADDITION TO THE
OBLIGATION OF DEALERS TO DELIVER A PROSPECTUS
WHEN ACTING AS UNDERWRITERS AND WITH RESPECT
TO THEIR UNSOLD ALLOTMENTS OR SUBSCRIPTIONS.
</TABLE>
5,400,000 SHARES
WEST COAST
ENTERTAINMENT CORPORATION
COMMON STOCK
PROSPECTUS
JEFFERIES & COMPANY, INC.
MCDONALD & COMPANY
SECURITIES, INC.
SUTRO & CO. INCORPORATED
MAY 14, 1996
