<PAGE> 1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended July 31, 1997
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
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Commission file number 0-28072
West Coast Entertainment Corporation
(Exact name of registrant as specified in its charter)
Delaware 04-3278751
(State or other jurisdiction of (I.R.S. Employer I.D. No.)
incorporation or organization)
One Summit Square, Suite 200,
Rte. 413 & Doublewoods Rd.
P. O. Box 1400
Newtown, Pennsylvania 18940
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (215)968-4318
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act
of 1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) had been subject to
such filing requirements for the past 90 days.
Yes X No
---- ----
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date.
<TABLE>
<CAPTION>
Class Outstanding at September 8, 1997
----- --------------------------------
<S> <C>
Common Stock, $.01 13,196,344
par value per share
</TABLE>
<PAGE> 2
INDEX
<TABLE>
<CAPTION>
Page No.
<S> <C> <C>
Part I. - Financial Information
Item 1. - Financial Statements
Consolidated Balance Sheets -
As of July 31, 1997 and January 31, 1997........... 3
Consolidated Statements of Operations -
Three and Six Months Ended July 31, 1997 and 1996.. 4
Consolidated Statements of Cash Flows -
Six Months Ended July 31, 1997 and 1996............ 5
Notes to Consolidated Financial Statements............... 6
Item 2. - Management's Discussion and Analysis of Financial
Condition and Results of Operations................... 10
Part II. - Other Information..................................... 19
Item 1. - Legal Proceedings
Item 2. - Changes in Securities
Item 3. - Defaults Upon Senior Securities
Item 4. - Submission of Matters to a Vote of the Security Holders
Item 5. - Other Information
Item 6. - Exhibits and Reports on Form 8-K
</TABLE>
<PAGE> 3
WEST COAST ENTERTAINMENT CORPORATION
CONSOLIDATED BALANCE SHEET
(in thousands, except for par value)
<TABLE>
<CAPTION>
July 31, January 31,
1997 1997
--------- --------
(unaudited)
<S> <C> <C>
Assets:
Current assets:
Cash and cash equivalents $ 3,644 $ 1,311
Accounts receivable 1,481 1,899
Merchandise inventory 9,225 6,333
Prepaid expenses and other current assets 4,099 2,046
Receivable from officers 226 141
Income tax benefit 1,885 --
--------- --------
Total current assets 20,560 11,730
Videocassette rental inventory, net of amortization (Note 2) 30,525 24,598
Furnishings, equipment and leasehold improvements, net 18,058 11,285
Other assets 2,183 2,998
Intangible assets, net of accumulated amortization 120,095 109,193
Deferred tax asset 160 160
--------- --------
Total assets $ 191,581 $159,964
========= ========
Liabilities and Stockholders' Equity:
Current liabilities:
Current portion of long-term debt (Note 4) $ 15,590 $ 19
Accounts payable 19,397 12,941
Accrued expenses and other liabilities 5,334 4,647
Income taxes -- 1,555
Deferred tax liability 566 566
--------- --------
Total current liabilities 40,887 19,728
Long-term debt (net of current portion) (Note 4) 46,727 32,802
Other long-term liabilities 299 299
--------- --------
Total liabilities 87,913 52,829
Stockholders' equity:
Common stock ($0.01 par value; 13,826 shares
as of July 31, 1997, of which 13,196 shares were
outstanding and 630 shares are to be issued; and
13,770 shares outstanding at January 31, 1997) 138 138
Preferred stock ($0.01 par value, 2,000 shares
authorized, no shares issued) 0 0
Additional paid in capital 104,027 103,947
Accumulated surplus/(deficit) (497) 3,050
--------- --------
Total stockholders' equity 103,668 107,135
--------- --------
Total liabilities and stockholders' equity $ 191,581 $159,964
========= ========
</TABLE>
See accompanying notes to financial statements
-3-
<PAGE> 4
WEST COAST ENTERTAINMENT CORPORATION
CONSOLIDATED STATEMENT OF OPERATIONS
(in thousands, except per share data)
(unaudited)
<TABLE>
<CAPTION>
Three months ended Six months ended
July 31, July 31,
------------------------ ------------------------
1997 1996 1997 1996
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Revenues:
Rental revenue $ 24,930 $ 14,957 $ 47,368 $ 17,371
Merchandise and other sales 4,025 1,787 8,149 2,718
Franchise fees 510 933 1,339 2,310
-------- -------- -------- --------
Total revenues 29,465 17,677 56,856 22,399
-------- -------- -------- --------
Operating costs and expenses:
Store operating expenses 14,858 7,531 27,258 9,004
Cost of goods sold 2,725 1,094 5,606 1,787
Amortization of videocassette and video game rental
inventory 6,106 2,818 11,459 3,204
General and administrative 3,854 3,102 7,490 4,688
Intangible amortization 1,573 856 3,000 989
Debt offering write offs (Note 6) 5,125 -- 5,125 --
-------- -------- -------- --------
Total operating costs and expenses 34,241 15,401 59,938 19,672
-------- -------- -------- --------
Income (loss) from operations (4,776) 2,276 (3,082) 2,727
-------- -------- -------- --------
Interest expense 1,188 223 1,944 508
Other, net (29) (59) (64) (68)
-------- -------- -------- --------
Income (loss) before provision for income taxes and
extraordinary item (5,935) 2,112 (4,962) 2,287
Provision for income taxes (1,853) 929 (1,415) 1,003
-------- -------- -------- --------
Income (loss) before extraordinary item (4,082) 1,183 (3,547) 1,284
Extraordinary item (net of
income tax benefit of $156) -- (244) -- (244)
-------- -------- -------- --------
Net income (loss) ($ 4,082) $ 939 ($ 3,547) $ 1,040
======== ======== ======== ========
Income (loss) per common share data (Note 5):
Income (loss) before extraordinary item ($ 0.30) $ 0.11 ($ 0.26) $ 0.16
======== ======== ======== ========
Extraordinary item -- ($ 0.02) -- ($ 0.03)
======== ======== ======== ========
Net income (loss) ($ 0.30) $ 0.09 ($ 0.26) $ 0.13
======== ======== ======== ========
Weighted average shares outstanding 13,826 11,089 13,806 7,957
======== ======== ======== ========
</TABLE>
See accompanying notes to financial statements
-4-
<PAGE> 5
WEST COAST ENTERTAINMENT CORPORATION
CONSOLIDATED STATEMENT OF CASH FLOWS
(in thousands)
(unaudited)
<TABLE>
<CAPTION>
Six months ended
July 31,
------------------------
1997 1996
-------- --------
<S> <C> <C>
Cash flows from operating activities:
Net income (loss) $ (3,547) $ 1,040
Adjustments to reconcile net income to cash
flows provided by (used in) operating activities:
Amortization of debt financing costs 91 --
Amortization of videocassette rental inventory 11,459 3,204
Depreciation and amortization of furnishings,
equipment and leasehold improvements 970 370
Amortization of intangible assets 2,999 989
Changes in assets and liabilities:
Accounts receivable 418 131
Merchandise inventories (2,892) 135
Prepaid expenses and other assets (2,138) (486)
Accounts payable 6,456 534
Accrued expenses and other liabilities 687 (1,991)
Income taxes (3,440) 554
-------- --------
Net cash provided by operating activities 11,063 4,480
-------- --------
Cash flows from investing activities:
Acquisition of businesses, net of cash acquired (18,897) (54,932)
Purchases of property and equipment (4,910) (141)
Purchases of videocassette rental inventory (14,499) (5,395)
-------- --------
Net cash used in investing activities (38,306) (60,468)
-------- --------
Cash flows from financing activities:
Proceeds from long-term debt 29,500 5,600
Repayment of long-term debt (4) (10,267)
Employee stock purchase plan distributions 80 --
Proceeds from issuance of common stock, net -- 63,079
Changes in other assets related to financing -- (700)
-------- --------
Net cash provided by financing activities 29,576 57,712
-------- --------
Net increase in cash and cash equivalents 2,333 1,724
Cash and cash equivalents, beginning of period 1,311 611
-------- --------
Cash and cash equivalents, end of period $ 3,644 $ 2,335
======== ========
Supplemental cash flow data:
Interest paid $ 1,688 $ 508
======== ========
Income taxes paid $ 2,199 $ 293
======== ========
</TABLE>
See accompanying notes to financial statements
-5-
<PAGE> 6
WEST COAST ENTERTAINMENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
July 31, 1997 (unaudited)
1 Basis of Presentation
The accompanying unaudited consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for
interim financial information and pursuant to the rules and regulations of
the Securities and Exchange Commission ("SEC"). Accordingly, they do not
include all of the information and footnotes required by generally
accepted accounting principles for complete financial statements. For
further information, refer to the consolidated financial statements and
footnotes included in West Coast Entertainment Corporation's (the
"Company's") Form 10-K filed with the SEC on May 1, 1997.
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 revenue and expenses
during the reported period. Actual results could differ from these
estimates.
In the opinion of management, all adjustments necessary for a fair
presentation of this interim financial information have been included.
Such adjustments consisted only of normal recurring items. The results of
operations for the three and six months ended July 31, 1997 are not
necessarily indicative of the results to be expected for the year ending
January 31, 1998.
Income per common share data has been calculated utilizing the weighted
average number of common shares outstanding after giving effect to the
0.340-for-1 reverse stock split, which was approved by the Board of
Directors on May 14, 1996, as if it had occurred as of February 1, 1996.
In addition, shares to be issued as contingent consideration in
conjunction with the May and Early Fall Acquisitions (Note 3) have been
considered outstanding since May 17, 1996.
2 Videocassette Rental Inventory
Videocassette rental inventory and related amortization are as follows (in
thousands):
<TABLE>
<CAPTION>
July 31, 1997 January 31, 1997
------------- ----------------
<S> <C> <C>
Videocassette rental inventory $ 53,277 $ 35,891
Accumulated amortization (22,752) (11,293)
-------- --------
$ 30,525 $ 24,598
======== ========
</TABLE>
Amortization expense related to video cassette rental inventory totaled
$6,106,000, $11,459,000, $2,818,000 and $3,204,000 for the three months
and six months ended July 31, 1997 and July 31, 1996, respectively.
Videocassette rental inventory amortization expense resulting from the
allocation of purchase price to videocassette rental tapes of the acquired
entities is 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. The favorable effects
resulting from purchase accounting will diminish with the passage of time
and will not
<PAGE> 7
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
July 31, 1997 (unaudited)
extend beyond the three year period subsequent to acquisition which is the
period over which these tapes will be amortized.
3 Acquisitions
May Acquisitions
On May 17, 1996, the Company acquired 172 video specialty stores (the "May
Acquisitions"), including 13 stores owned by franchisees of the Company.
Taking into account certain adjustments and calculation of certain
contingent payments, the aggregate consideration of $83.9 million was paid
consisting of the following: $53.0 million in cash, approximately $26.2
million in shares of common stock (2.1 million shares), and approximately
$4.7 million of acquisition costs. Of these amounts, approximately $0.4
million represents remaining minimum contingent consideration (of which
approximately $0.1 million and $0.3 million (19,734 shares) is to be paid
in cash and stock, respectively).
Early Fall Acquisitions
Between August 26 and October 25, 1996, the Company acquired the assets of
21 video specialty stores (the "Early Fall Acquisitions"). Aggregate
consideration of $13.6 million was paid, consisting of the following: $8.2
million in cash, $4.9 million in shares of common stock (0.5 million
shares), and approximately $0.5 million of acquisition costs. The shares
(0.4 million) associated with one of these acquisitions are to be issued
in three equal installments (six, twelve and eighteen months from the
acquisition date) and the number of shares issuable will be increased in
certain cases by the difference between the share price at issuance date
and a formulaic common share price calculated as of the date of
acquisition. Additionally, 0.1 million shares associated with another
Early Fall Acquisition are to be issued. In both instances these
common shares and other common shares to be issued in installments have
been considered outstanding as of the beginning of the periods presented.
Late Fall Acquisitions
Between November 15 and December 3, 1996, the Company acquired the assets
of 47 video specialty stores (the "Late Fall Acquisitions"), including 19
stores owned by franchises of the Company for aggregate consideration of
$27.7 million consisting of the following: $14.4 million in cash, $11.0
million in shares of common stock (1.0 million shares) and approximately
$2.3 million of acquisition costs.
June, 1997 Acquisitions
On June 16, 1997, and June 24, 1997 the Company acquired a total of 38
video specialty stores (the "June, 1997 Acquisitions"), including 5 stores
owned by a franchisee of the Company for aggregate consideration of
$17.9 million consisting of $17.2 million in cash and approximately
$0.7 million of acquisition costs.
The excess of the cost over the fair value of the assets acquired is being
amortized over 20 years on a straight line basis. The results of
operations of the acquired stores have been included in operations of the
Company since the date of acquisition. The purchase method of accounting
was used to account for the acquisitions.
<PAGE> 8
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
July 31, 1997 (unaudited)
The following unaudited pro forma information presents the results of
operations as though (i) the May Acquisitions, Early Fall Acquisitions,
Late Fall Acquisitions and June, 1997 Acquisitions had occurred as of the
beginning of the periods presented, (ii) 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, and (iii) the borrowings
under the Credit Facility had occurred as of the beginning of the periods
presented. The following unaudited pro forma net income per share for the
three months and six months ended July 31, 1996 and 1997 was calculated by
dividing the respective unaudited pro forma net income by the pro forma
weighted average number of shares of Common Stock outstanding after giving
effect to (i) the 0.340-for-1 reverse stock split approved by the Board of
Directors on May 14, 1996, and the shares issued in conjunction with the
Initial Public Offering on May 17, 1996 ("the Offering"), (ii) issuance of
shares in connection with the May, Early Fall and Late Fall Acquisitions,
(iii) repayment of outstanding debt at the date of the Offering, and (iv)
the impact of a detachable warrant with a primary supplier of
videocassettes and a portion of a convertible note which was converted
into shares of the Company's common stock as if the transactions had
occurred on the first day of the periods presented. The pro forma weighted
average number of common shares used to calculate pro forma net income per
share was 14,017,840.
<TABLE>
<CAPTION>
Unaudited
Pro Forma
--------------------------------------------------------------------
Three Months Ended Six Months Ended
July 31, July 31,
-------------------------- ----------------------------
1997 1996 1997 1996
-------- ------- -------- -------
(in thousands, except per share data)
<S> <C> <C> <C> <C>
Pro Forma revenues $ 31,562 $32,725 $ 63,147 $64,924
Pro forma net income (3,971) 2,167 (3,196) 3,922
Pro forma net income per share $ (0.28) $ 0.15 $ (0.23) $ 0.28
</TABLE>
4 Long Term Debt
On May 17, 1996 the Company obtained a $60,000,000 Credit Facility ("the
Facility") from a bank which consists of a 17 month revolving credit
facility followed by a three year term loan. In association with the
borrowing the Company paid a fee of $700,000 on May 17, 1996 which has
been recorded in other long term assets and will be amortized over the
term of the Credit Facility. Borrowings under the Facility are available
for working capital, capital expenditures, refinancing of existing
indebtedness, and for certain permitted acquisition financing.
On October 31, 1996 the Company received a commitment from the Bank to
increase the Credit Facility to $65,000,000 effective August 5, 1996. As
of July 31, 1997 the Company had $62,300,000 outstanding under the
Facility.
Effective October 15, 1997 the revolving credit line portion of the
Facility terminates and converts to a three year term loan. Starting
January 15, 1998 payments under the term loan commence over twelve equal
quarterly payments.
Borrowings are limited to 2.75 times the Company's operating cash flow, as
defined, during the previous four quarters. At the Company's option,
interest rates vary from either the Bank's base
<PAGE> 9
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
July 31, 1997 (unaudited)
rate, as defined, to 1% above such base rate, or from the Eurodollar Rate,
as defined, to 2.5% above such Eurodollar Rate. The Company's weighted
average borrowing rate was 8.21% at July 31, 1997. Additionally, the
Facility provides for a commitment fee payable quarterly, computed at 0.5%
of the unused portion of the available Facility during the previous
quarter.
The Facility is secured by a first security interest in substantially all
of the Company's assets, including the stock of its subsidiaries, and
provides for certain restrictive covenants, including among others
compliance with certain financial tests and ratios and dividend
restrictions.
5 Earnings Per Share
In February 1997, Statements of Financial Accounting Standards (SFAS) No.
128, "Earnings Per Share", was issued. This pronouncement will be
effective for the Company's year ending January 31, 1998 financial
statements. SFAS No. 128 supersedes the pronouncement of the Accounting
Principles Board (APB) No. 15. The statement eliminates the calculation of
primary earnings per share and requires the disclosure of Basic Earnings
Per Share and Diluted Earnings Per Share (formerly referred to as fully
diluted earnings per share). SFAS No. 128 would not have had a material
impact on the Company's calculation of earnings per share for the three
and six months ended July 31, 1997. Basic Earnings Per Share and Diluted
Earnings Per Share would be the same for the three and six months ended
July 31, 1997.
6 Debt Offering Write Offs
On July 1, 1997 the Company's private placement of debt securities (the
"Proposed Private Placement") and related acquisitions were indefinitely
delayed due to market conditions. The Company has written off $5.1 million
in costs during the three months ended July 31, 1997 that were incurred in
connection with the Proposed Private Placement and related acquisitions.
<PAGE> 10
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
RESULTS OF OPERATIONS
Three Months ended July 31, 1997 compared to Three Months ended July 31,
1996
Revenues
Revenues increased $11.8 million, or 66.7%, from $17.7 million for the
three months ended July 31, 1996 to $29.5 million for the three months
ended July 31, 1997. This change reflected an increase of $10.0 million in
rental revenues, an increase of $2.2 million in merchandise sales and a
decrease of $0.4 million in franchise fee revenue. The increases in rental
and merchandise sales revenues are attributable to the acquisition of a
total of 280 video specialty stores, consisting of 172 stores which were
acquired on May 17, 1996, which were owned for only 11 weeks of the three
months ended July 31, 1996, and an additional 108 stores which were
acquired after the end of such three-month period on the following dates:
5 on August 26, 1996; 14 on September 30, 1996; 1 on October 1, 1996; 1 on
October 25, 1996; 45 on November 15, 1996; 1 on December 1, 1996; 1 on
December 3, 1996; 1 on March 21, 1997; 1 on April 10, 1997; 37 on June 16,
1997; and 1 on June 24, 1997.
Rental revenues increased $10.0 million, or 66.7%, from $15.0 million for
the three months ended July 31, 1996 to $25.0 million for the three months
ended July 31, 1997. This change is solely attributable to the inclusion
of $10.1 million of rental revenues from the 280 video specialty stores
acquired since May 17, 1996 as described above. Rental revenues for the
Company and the industry during the three months ended July 31, 1997 were
adversely impacted by weather and by the release of titles that had not
performed strongly at the box office.
Merchandise sales increased $2.2 million, or 122.2%, from $1.8 million for
the three months ended July 31, 1996 to $4.0 million for the three months
ended July 31, 1997, reflecting $2.3 million of merchandise sales
contributed by the 280 video specialty stores purchased since May 17, 1996
as described above. Merchandise sales to franchisees also decreased by
$0.1 million during the period as a result of the purchase of 38
franchised stores as described below.
Franchise fee revenues decreased $0.4 million, or 44.4%, from $0.9 million
for the three months ended July 31, 1996 to $0.5 million for the three
months ended July 31, 1997. Approximately $0.1 million of this decrease is
due to the acquisition of 38 franchised stores (which is included in the
total 280 purchased) by the Company since May 17, 1996. The remaining $0.3
million decrease is attributable to a decline in the number of royalty
payments received from franchisees due to a decline in their business.
As a result of the Company's acquisition activities and other developments
described above the mix of revenue sources changed to approximately 84.7%
rental, 13.6% merchandising, and 1.7% franchising during the three months
ended July 31, 1997 from approximately 84.7%, 10.2%, and 5.1%,
respectively, during the three months ended July 31, 1996.
Store Operating Expenses
Store operating expenses increased $7.4 million, or 98.7%, from $7.5
million for the three months ended July 31, 1996 to $14.9 million for the
three months ended July 31, 1997. As a percentage of total revenues, store
operating expenses increased 8.1 percentage points from 42.4% for the
three months ended July 31, 1996 to 50.5% for the three months ended July
31, 1997. Approximately 1.3% of the increase was caused primarily by the
reduction from 1996 to 1997 in the relative significance of the Company's
franchise operations (as measured by the decrease in franchise revenues as
a percentage of total revenues), since the franchise business involves
virtually no store operating expenses. The remaining 6.8 percentage point
increase is primarily due to higher rent (1.2%), store salaries (3.7%),
and
<PAGE> 11
RESULTS OF OPERATIONS (continued)
depreciation (0.8%). Since the initial acquisition of 172 stores on May
17, 1996 most of the additional 108 stores acquired are located in large
metropolitan areas which generally have higher occupancy costs. Store
salaries increased partly due to the increase in the minimum wage on
October 1, 1996, partly due to higher wages paid to employees in the 108
stores acquired in large metropolitan areas and finally due to higher
average man hours per store. Management has begun to implement steps to
reverse this trend in man hours. The effects of these changes should be
partially realized in the third quarter and fully realized in the fourth
quarter. Higher depreciation expense is a result of the purchase of the
280 video specialty stores since May 17, 1996.
Cost of Goods Sold
Cost of goods sold increased $1.6 million, or 145.5%, from $1.1 million
for the three months ended July 31, 1996 to $2.7 million for the three
months ended July 31, 1997, primarily as a result of an increase in
merchandise sales volume due to the acquisition of the 280 video specialty
stores since May 17, 1996. As a percentage of merchandise sales, cost of
goods sold increased by 6.4 percentage points from 61.1% for the three
months ended July 31, 1996 to 67.5% for the three months ended July 31,
1997. This increase was primarily due to a change in sales mix caused by
the acquisition of the 280 video specialty stores and the impact of "Jerry
Maguire," a major title released in May 1997 which was sold at a lower
margin.
Amortization of Videocassette and Video Game Rental Inventory
Amortization of rental inventory increased $3.3 million, or 117.9%, from
$2.8 million for the three months ended July 31, 1996 to $6.1 million for
the three months ended July 31, 1997 primarily as a result of the
acquisition of the 280 video specialty stores since May 17, 1996. As a
percentage of rental revenues this amortization increased 5.7 percentage
points from 18.7% for the three months ended July 31, 1996 to 24.4% for
the three months ended July 31, 1997. This is primarily due to the
purchase of the 280 video specialty stores since May 17, 1996.
General and Administrative Expense
General and administrative expenses increased $0.7 million, or 22.6%, from
$3.1 million for the three months ended July 31, 1996 to $3.8 million for
the three months ended July 31, 1997. The increase is primarily related to
the additional personnel and non-store operating costs which were absorbed
from the acquisition of the 280 video specialty stores in addition to an
increase in Corporate personnel hired in anticipation of the Proposed
Private Placement and related acquisitions. As a percentage of total
revenues, however, general and administrative expenses decreased 4.6
percentage points from 17.5% for the three months ended July 31, 1996 to
12.9% for the three months ended July 31, 1997 primarily reflecting the
ability of the Company's administrative staff to operate an increasing
number of corporate stores and, to a lesser extent, the change in the mix
of rental revenues, merchandise sales and franchise fees. Franchising has
higher associated general and administrative costs than rental revenues
and merchandise sales.
Because of the indefinite delay in the Company's Proposed Private
Placement of debt securities and related acquisitions (Note 6), the
Company has begun to reduce its general and administrative costs from the
levels reached in contemplation of expansion. The effects of these changes
should begin to be reflected in third quarter financial results and should
be fully realized in fourth quarter financial results.
Intangible Amortization
Intangible amortization expense increased $0.7 million, or 77.8%, from
$0.9 million for the three months ended July 31, 1996 to $1.6 million for
the three months ended July 31, 1997. As a percentage of total
<PAGE> 12
RESULTS OF OPERATIONS (continued)
revenues, intangible amortization increased 0.3 percentage points from
5.1% for the three months ended July 31, 1996 to 5.4% for the three months
ended July 31, 1997. These increases are entirely related to amortization
of goodwill associated with the acquisition of 280 video specialty stores
since May 17, 1996.
Debt Offering Write-Offs
During the three months ended July 31, 1997 the Company has written-off
$5.1 million in Debt Offering expense associated with the Proposed Private
Placement and related acquisitions due to the Company's decision to
indefinitely delay such offering.
Interest Expense and Other
Net interest expense and other increased $1.0 million, or 500.0%, from
$0.2 million for the three months ended July 31, 1996 to $1.2 million for
the three months ended July 31, 1997. Interest expense comprises almost
all of this net amount. The increase in dollars is attributable to
additional interest expense incurred in connection with the acquisition of
the 280 video specialty stores. As a percentage of total revenues,
interest expense increased 3.0 percentage points from 1.1% for the three
months ended July 31, 1996 to 4.1% for the three months ended July 31,
1997.
Extraordinary Item
For the three months ended July 31, 1997 there was no extraordinary item.
For the three months ended July 31, 1996, the Company reported an
extraordinary item of $0.3 million net of taxes. In conjunction with the
early extinguishment of a portion of the previously outstanding
subordinated debt the Company was required by terms of the note upon
completion of the Offering to pay a prepayment penalty of $400,000.
Net Income
As a result of the foregoing, net income decreased $5.0 million from $0.9
million of net income for the three months ended July 31, 1996 to a $4.1
million net loss for the three months ended July 31, 1997.
Six Months ended July 31, 1997 compared to Six Months ended July 31, 1996
Revenues
Revenue increased $34.5 million or 154.0% from $22.4 million for the six
months ended July 31, 1996 to $56.9 million for the six months ended July
31, 1997. This change reflected an increase of $30.0 million in rental
revenues, an increase of $5.5 million in merchandise sales and a decrease
of $1.0 million in franchise fee revenue. The increases in rental and
merchandise sales revenues are attributable to the acquisition of a total
of 280 video specialty stores, consisting of 172 stores which were
acquired on May 17, 1996, which were owned for only 11 weeks of the six
months ended July 31, 1996, and an additional 108 stores which were
acquired after the end of such six-month period on the following dates: 5
on August 26, 1996; 14 on September 30, 1996; 1 on October 1, 1996; 1 on
October 25, 1996; 45 on November 15, 1996; 1 on December 1, 1996; 1 on
December 3, 1996; 1 on March 21, 1997; 1 on April 10, 1997; 37 on June
16, 1997; and 1 on June 24, 1997.
Rental revenues increased $30.0 million or 172.4% from $17.4 million for
the six months ended July 31, 1996 to $47.4 million for the six months
ended July 31, 1997. This change is attributable to the inclusion of $30.2
million of rental revenues from the 280 video specialty stores acquired
since May 17, 1996 as described above. Rental revenues for the company and
the industry during the six month period ended July 31, 1997 were
adversely impacted by weather and the release of titles that had not
performed strongly at the box office.
Merchandise sales increased $5.5 million or 203.7% from $2.7 million for
the six months ended July 31, 1996 to $8.2 million for the six months
ended July 31, 1997 attributable to the inclusion of $5.8 million of
merchandise sales contributed by the 280 video specialty stores purchased
since May 17, 1996
<PAGE> 13
RESULTS OF OPERATIONS (continued)
as described above. Merchandise sales to franchisees also decreased by
$0.3 million during the period as a result of the purchase of 38 franchise
stores as described below.
Franchise fee revenue decreased $1.0 million, or 43.5% from $2.3 million
for the six months ended July 31, 1996 to $1.3 million for the six months
ended July 31, 1997. Approximately $0.4 million of this decrease is due to
the acquisition of 38 franchised stores which is included in the total 280
purchased by the Company since May 17, 1996. The remaining $0.6 million
decrease is attributable to a decline in the number of royalty payments
received from franchisees due to a decline in their business.
As a result of the Company's acquisition activities the mix of revenue
sources changed to approximately 83.3% rental, 14.4% merchandising and
2.3% franchising during the six months period ended July 31, 1997 from
approximately 77.7%, 12.0%, and 10.3%, respectively, during the six month
period ended July 31, 1996.
Store Operating Expenses
Store operating expenses increased $18.3 million, or 203.3%, from $9.0
million for the six months ended July 31, 1996 to $27.3 million for the
six months ended July 31, 1997. As a percentage of total revenues, store
operating expenses increased 7.8 percentage points from 40.2% for the six
months ended July 31, 1996 to 48.0% for the six months ended July 31,
1997. Except as discussed below this increase was caused by the decrease
from 1996 to 1997 in the relative significance of the Company's franchise
operations (as measured by the decrease in franchise revenues as a
percentage of total revenues), since the franchise business involves
virtually no store operating expenses. As a percentage of rental revenues
and merchandise sales, store operating costs increased 4.3 percentage
points from 44.8% for the six months ended July 31, 1996 to 49.1% for the
six months ended July 31, 1997. This 4.3 percentage point increase is
primarily due to higher rent (1.4%), store salaries (1.9%), and
depreciation (0.5%). Since the initial acquisition of 172 stores on May
17, 1996, most of the additional 108 stores acquired are located in large
metropolitan areas which generally have higher occupancy costs. Store
salaries increased partly due to the increase in the minimum wage on
October 1, 1996, partly due to higher wages paid to employees in the 108
stores acquired in large metropolitan areas and finally due to higher
average man hours per store during the quarter ended July 31, 1997.
Management has begun to implement steps to reverse this trend in man
hours. The effects of these changes should be partially realized in the
third quarter and fully realized in the fourth quarter. Higher
depreciation expense is a result of purchase accounting for the 280
acquired video specialty stores.
Cost of Sales
Cost of goods sold increased $3.8 million, or 211.1%, from $1.8 million
for the six months ended July 31, 1996 to $5.6 million for the six months
ended July 31, 1997, primarily as a result of an increase in merchandise
sales volume due to the acquisition of the 280 video specialty stores
since May 17, 1996. As a percentage of merchandise sales, cost of goods
sold increased by 1.6 percentage points from 66.7% for the six months
ended July 31, 1996 to 68.3% for the six months ended July 31, 1997. This
increase was primarily due to a change in sales caused by the acquisition
of the 280 video specialty stores.
Amortization of Videocassette and Video Game Rental Inventory
Amortization of Rental Inventory increased $8.2 million, or 256.3%, from
$3.2 million for the six months ended July 31, 1996 to $11.4 million for
the six months ended July 31, 1997, primarily as a result of the
acquisition of the 280 video specialty stores since May 17, 1996. As a
percentage of rental revenues this amortization increased 5.7 percentage
points from 18.4% for the six months ended July 31, 1996 to 24.1% for the
six months ended July 31, 1997. This is primarily due to the purchase of
the 280 video specialty stores since May 17, 1996.
<PAGE> 14
RESULTS OF OPERATIONS (continued)
General and Administrative Expense
General and administrative expenses increased $2.8 million, or 59.6%, from
$4.7 million for the six months ended July 31, 1996 to $7.5 million for
the six months ended July 31, 1997. The increase is primarily related to
the additional personnel and non-store operating costs which were absorbed
from the acquisition of the 280 video specialty stores and the franchise
business in addition to an increase in Corporate personnel hired in
anticipation of the Proposed Private Placement and related acquisitions.
As a percentage of total revenues, however, general and administrative
expenses decreased 7.8 percentage points from 21.0% for the six months
ended July 31, 1996 to 13.2% for the six months ended July 31, 1997
primarily reflecting the ability of the Company's administrative staff to
operate an increasing number of corporate stores and, to a lesser extent,
the change in the mix of rental revenues, merchandise sales and franchise
fees. Franchising has higher associated general and administrative costs
than rental revenues and merchandise sales.
Because of the indefinite delay in the Company's Proposed Private
Placement of debt securities and related acquisitions (Note 6), the
Company has begun to reduce its general and administrative costs from the
levels reached in contemplation of expansion. The effects of these changes
should begin to be reflected in third quarter financial results and should
be fully realized in fourth quarter financial results.
Intangible Amortization
Intangible amortization expense increased $2.0 million, or 200%, from $1.0
million for the six months ended July 31, 1996 to $3.0 million for the six
months ended July 31, 1997. As a percentage of total revenues, intangible
amortization increased 0.8 percentage points from 4.5% for the six months
ended July 31, 1996 to 5.3% for the six months ended July 31, 1997. These
increases are entirely related to amortization of goodwill associated with
the acquisition of 280 video specialty stores since May 17, 1996.
Debt Offering Write-Offs
During the six months ended July 31, 1997 the Company has written-off $5.1
million in Debt Offering expense associated with the Proposed Private
Placement and related acquisitions due to the Company's decision to
indefinitely delay such offering.
Interest Expense and Other
Net interest expense and other increased 1.5 million or 375% from $0.4
million for the six months ended July 31, 1996 to $1.9 million for the six
months ended July 31, 1997. Interest expense comprises almost all this net
amount. The increase in dollars is attributable to additional interest
expense incurred in connection with the acquisition of the 280 video
specialty stores. However, as a percentage of total revenues, interest
expense increased 1.1 percentage points from 2.2% for the six months ended
July 31, 1996 to 3.3% for the six months ended July 31, 1997.
Extraordinary Item
For the six months ended July 31, 1997 there was no extraordinary item.
For the six months ended July 31, 1996, the Company reported an
extraordinary item of $0.3 million net of taxes. In conjunction with the
early extinguishment of a portion of the previously outstanding
subordinated debt the Company was required by terms of the note upon
completion of the Offering to pay a prepayment penalty of $400,000.
Net Income
As a result of the foregoing, net income decreased $4.5 million, from $1.0
million of net income for the six months ended July 31, 1996 to a $3.5
million net loss for the six months ended July 31, 1997.
<PAGE> 15
RESULTS OF OPERATIONS (continued)
Certain Factors That May Affect Future Results:
The following important factors, among others, could cause actual results
of operations to differ materially from any forward-looking statements
made in this Quarterly Report on Form 10-Q or any forward-looking
statements made elsewhere by management of the Company from time to time.
The Company's rapid growth, particularly its acquisition of 280 video
specialty stores since May of 1996 and franchising an additional
20 stores, could strain the Company's ability to manage operations,
integrate newly acquired stores into its systems, and effectively pursue
its growth strategy. The Company competes with many others, including
Blockbuster Entertainment, having significantly greater financial and
marketing resources, market share, and name recognition than the Company.
Further developments in competing technologies could have a material
adverse effect upon the video retail industry and the Company. Industry
and Company revenues are somewhat seasonal and may be affected by many
factors, including variation in the acceptance of new release titles
available for rental and sale, the extent of competition, marketing
programs, weather, the timing of any holiday weekends, special or unusual
events, and other factors that may affect retailers in general. There can
be no assurance that stores already acquired or acquired in future will
perform as expected or that the prices paid for such stores will prove to
be advantageous. The costs of integrating newly acquired stores into the
Company's systems may vary significantly from the amounts assumed for
purposes of the Company's pro forma financial statements. Acquisitions of
stores within the exclusive territories of existing West Coast Video(R)
franchised stores may require the Company to relocate or sell such
acquired stores, assist the franchisee to relocate, grant the franchisee
additional franchises or territorial or other rights, or include the
franchisee's stores in the Company's intended program of acquisitions. The
Company's management does not have significant experience in operating a
company as large as the Company now is. The Company's Common Stock has
traded publicly only since May 14, 1996 and no prediction can be made as
to future price levels for such stock.
PRO FORMA RESULTS OF OPERATIONS (Note 3)
Three Months ended July 31, 1997 compared to Three Months ended July 31,
1996
Revenues
Pro forma revenues decreased by $1.1 million or 3.4% from $32.7 million
for the three months ended July 31, 1996 to $31.6 million for the three
months ended July 31, 1997. This decrease in revenues was mainly due to a
decline in same store sales of 1.4%, (primarily caused by the impact of
weather and the release of titles that had not performed strongly at the
box office) the closing of 13 stores (net of new store openings) and a
reduction in franchise revenues.
Net Income
Pro forma net income decreased by $6.2 million, from $2.2 million of net
income for the three months ended July 31, 1996 to a $4.0 million net loss
for the three months ended July 31, 1997. This decrease in net income was
primarily attributable to a $1.1 million decrease in revenues in 1997 as
compared to the three months ended July 31, 1996 and a $5.1 million write
off of costs relating to the Proposed Private Placement and related
acquisitions. In addition, total costs and expenses (excluding interest
and other expenses and the debt offering write-offs) increased as a
percentage of revenues by 11.3 percentage points from 86.2% for the three
months ended July 31, 1996 to 97.5% for the three months ended July 31,
1997. This was mainly due to an increase in store man hours resulting in
increased store operating costs, as well as an increase in Corporate
general and administrative personnel hired in anticipation of the
Proposed Private Placement and related acquisitions.
<PAGE> 16
PRO FORMA RESULTS OF OPERATIONS (continued)
Six Months ended July 31, 1997 compared to Six Months ended July 31, 1996
Revenues
Pro forma revenues decreased by $1.8 million, or 2.8%, from $64.9 million
for the six months ended July 31, 1996 to $63.1 for the six months ended
July 31, 1997. This is mainly due to a same store revenues decrease of
3.4% (primarily caused by the impact of weather and the release of titles
that had not performed strongly at the box office) for the six months
ended July 31, 1997 compared to the six months ended July 31, 1996 and the
closing of 13 stores (net of new store openings).
Net Income
Pro forma net Income decreased by $7.1 million, from $3.9 million of net
income for the six months ended July 31, 1996 to a $3.2 million net loss
for the six months ended July 31, 1997. This decrease was primarily due to
the $5.1 million write off of costs relating to the debt offering taken
during the three months ended July 31, 1997 and the decrease in revenues
of $1.8 million mentioned above. Another factor in the decreased net
income was an increase in total costs and expenses (excluding interest and
other expenses and the debt offering costs) as a percent of revenues by
8.3 percentage points from 86.8% for the six months ended July 31, 1996 to
95.1% for the six months ended July 31, 1997. This was mainly due to an
increase in store operating costs as a result of increases in store man
hours and payroll.
LIQUIDITY AND CAPITAL RESOURCES
For the six months ended July 31, 1997, the Company had net cash provided
by operating activities of $11.1 million, net cash used in investing
activities of $38.3 million (consisting primarily of cash used to purchase
videocassette rental inventory of $14.5 million and $18.9 million of net
cash paid for the acquisitions of new video specialty stores acquired in
such period) and net cash provided by financing activities of $29.6
million consisting of $29.5 million of net borrowings from the Credit
Facility (as described below), resulting in a net increase in cash and
cash equivalents of $2.3 million.
During the current fiscal year, the Company has financed its operations
primarily through available operating cash flow and has financed
acquisitions and other capital expenditures through a portion of such
operating cash flow and borrowings under the Credit Facility described
below.
The Credit Facility, which is provided by a syndicate of banks for which
PNC Bank, National Association ("PNC Bank") serves as agent, consists of a
revolving credit facility through October, 1997 followed by a three-year
term loan. Borrowings under the facility are available for working
capital, capital expenditures, refinancing of existing indebtedness and
certain permitted acquisition financing. 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 Credit Facility) during the
previous four quarters. At the Company's option, interest rates will vary
from either PNC Bank's Base Rate (as defined) at 1% above such Base Rate,
or from the Eurodollar Rate, as defined, to 2.5% above the Eurodollar
Rate. At July 31, 1997 the Company's weighted average borrowing rate was
8.21%. Borrowings are secured by a first security interest in
substantially all of the Company's assets, including the stock of its
subsidiaries. Borrowings are subject to various conditions including
compliance with certain financial tests and ratios.
In June 1997 the Company negotiated an amendment to the Credit Facility to
increase the amount available under such Facility by an amount sufficient
to pay the purchase price of 38 stores acquired in four separate
acquisitions. The financial tests and ratios contained in the Credit
Facility have since been amended. The Company's decision to indefinitely
delay its Proposed Private Placement of debt securities (Note 6) caused
certain of the associated costs of such offering to remain unpaid as of
the
<PAGE> 17
LIQUIDITY AND CAPITAL RESOURCES (continued)
filing date. The Company has instituted cost-cutting measures, which
include downsizing its general and administrative costs from the levels
reached in contemplation of expansion along with cost reductions at the
regional and store levels. The effects of these changes should begin to be
reflected in third quarter financial results and should be fully realized
in fourth quarter financial results. The Company is also currently seeking
to increase the amount of borrowings available under the Credit Facility
by a limited amount, in order to improve its working capital position,
bring its payables more current, upgrade management information systems,
continue the conversion of acquired stores to West Coast Video(R) signage
and fixtures, relocate existing stores and build new stores. While there
can be no assurance, the Company expects these modifications, together
with its current operating cash flow, to be sufficient to support its
current operations over the next year.
In the future, the Company may also seek additional debt refinancing or
equity capital through additional private or public offerings of
securities. The availability of debt refinancing or equity capital will
depend upon prevailing market conditions, the market price of the
Company's Common Stock and other factors over which the Company has no
control, as well as the Company's financial condition and results of
operations. The number of shares of Common Stock, if any, to be issued to
sellers in connection with future acquisitions will also be affected by
such factors, since such number will be determined in accordance with a
formula based on trading prices of the Common Stock. It is not expected
that funds will be available in sufficient amounts to finance the
acquisitions or opening of video specialty stores at rates comparable to
the Company's recent rates of growth.
Capital Commitments. The remaining aggregate costs of upgrading West
Coast's management information systems and integrating stores acquired in
prior acquisitions onto such systems are expected to be approximately $1.8
million over the next 12 months. Over the next 12 months the Company will
make additional payments of cash and Common Stock, currently estimated for
the purpose of the Company's pro forma financial statements at $0.4
million in the aggregate, to the sellers of six stores purchased in prior
acquisitions at formulaic purchase prices based on certain financial
measurements for such stores in future periods. The Company has
commitments or options to purchase an additional 17 stores at similar
formulaic prices (which cannot yet be estimated), payable in cash.
Subject to the availability of sufficient funds under the Credit Facility,
the Company's capital expenditure plan provides for continuing to convert
the stores acquired in various prior acquisitions to West Coast Video(R)
signage and format and installing certain West Coast layout and features
at a rate of up to 100 stores per year at an estimated cost of $32,000 per
store; the Company also has immediate plans to open 5 new stores and
relocate up to 3 existing stores. Build-out costs for new stores are
expected to range from $325,000 to $375,000 per store and build-out costs
for relocated stores are expected to range from $175,000 to $225,000 per
store.
The Company's expansion plans are subject to the availability of
sufficient funds under the Credit Agreement. If the Company's banks were
not to agree to provide funds beyond the amounts which they are required
to provide under the current terms of the Credit Facility, the Company
would curtail the conversion of existing stores and curtail or eliminate
the build-out of new stores.
Under certain cross-purchase and area development agreements, the Company
will be entitled to acquire (and, subject to certain conditions, will be
required to acquire, if the owners so elect) all of the assets of up to 55
stores operated or to be operated by such owners at specified times
between 1998 and 2002. In conjunction with such agreements, the Company is
subject to puts during the next 12 months; however there can be no
assurance that the puts will be consummated. The purchase prices will be
equal to specified multiples of the stores' net operating cash flow; the
purchase prices of 24 such stores will be payable in cash or in shares of
Common Stock, at the Company's election.
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
<PAGE> 18
LIQUIDITY AND CAPITAL RESOURCES (continued)
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, 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 rental inventory as a noncurrent asset, the
Company had a working capital deficit at July 31, 1997.
<PAGE> 19
PART II
OTHER INFORMATION
Item 1. Legal Proceedings
The Company was a defendant in a lawsuit brought in the United
States District Court for the Eastern District of Pennsylvania on
July 3, 1995 entitled Salvador V. R.K.T. Acquisitions, Inc. (No.
95-6241). The plaintiff claimed that he was offered employment by
the Company and was entitled to a salary and various types of
finder's fees and other incentives. The suit sought to recover
employee compensation in excess of $750,000 and finder's fees in
excess of $1,250,000. In July, 1997, a judgment was entered in
favor of the plaintiff, awarding the plaintiff the sum of $200,000.
Item 2. Changes in Securities
None
Item 3. Defaults Upon Senior Securities
Not Applicable
Item 4. Submission of Matters to a Vote of the Security Holders
At the Company's Annual Meeting of Stockholders held on June 16,
1997, (a) the vote with respect to the election of seven directors
was as follows: Peter Balner, 9,326,859 shares FOR and 77,656 shares
WITHHELD; C. Stewart Forbes, 9,303,243 shares FOR and 101,272 shares
WITHHELD; Wesley F. Hoag, 9,303,243 shares FOR and 101,272 shares
WITHHELD; Ralph W. Standley III, 9,336,859 shares FOR and 67,656
shares WITHHELD; T. Kyle Standley, 9,326,559 shares FOR and 77,959
shares WITHHELD; M. Trent Standley, 9,287,643 shares FOR and 116,872
shares WITHHELD; and Donald R. Thomas, 9,336,559 shares FOR and
67,956 shares WITHHELD, (b) the vote with respect to the approval of
an amendment to the Company's 1995 Equity Incentive Plan, providing
for an increase of 500,000 in the number of shares of Common Stock
available for issuance thereunder was 7,805,966 shares FOR,
1,515,318 shares AGAINST and 2,831 shares ABSTAINING, and (c) the
vote with respect to the ratification of Price Waterhouse LLP as the
Company's independent auditors for the current fiscal year was
9,358,835 shares FOR, 44,480 shares AGAINST and 1,200 shares
ABSTAINING. All of the directors elected at the Annual Meeting were
incumbent directors of the Company.
Item 5. Other Information
None
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
27.0 - Financial Data Schedule
<PAGE> 20
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
WEST COAST ENTERTAINMENT
CORPORATION
Date: September 15, 1997 By: /s/ T. Kyle Standley
--------------------
T. Kyle Standley, President and
Chief Executive Officer
(Principal Executive Officer)
Date: September 15, 1997 By: /s/ Richard G. Kelly
--------------------
Richard G. Kelly, Chief Financial Officer
(Principal Financial Officer)
Date: September 15, 1997 By: /s/ Jerry L. Misterman
----------------------
Jerry L. Misterman, Chief Accounting Officer
(Principal Accounting Officer)
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