<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1996
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ___________________ to ____________________
Commission File No. 333-10491
GUITAR CENTER, INC.
- --------------------------------------------------------------------------------
(Exact Name of Registrant as Specified in its Charter)
DELAWARE 95-4600862
- --------------------------------------------------------------------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
5155 CLARETON DRIVE
AGOURA HILLS, CALIFORNIA 91301
- --------------------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
(818) 735-8800
- --------------------------------------------------------------------------------
Registrant's telephone number, including area code
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes No X
--------- ---------
As of November 11, 1996, 1,400,000 shares of the registrant's Common Stock, $.01
par value, were outstanding.
<PAGE>
GUITAR CENTER, INC.
INDEX
Page
Number
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited)
Condensed Balance Sheets - September 30, 1996 and
December 31, 1995...............................................1
Condensed Statements of Operations - Three months
ended September 30, 1996 and September 30, 1995.................2
Condensed Statements of Operations - Nine months
ended September 30, 1996 and September 30, 1995.................3
Condensed Statement of Stockholders' Equity.....................4
Condensed Statements of Cash Flows - Nine months
ended September 30, 1996 and September 30, 1995.................5
Notes to Condensed Financial Statements......................6-11
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations.........................12-17
PART II. OTHER INFORMATION
Items 1 - 5. Not Applicable
Item 6. Exhibits and Reports on Form 8-K................................18
Signatures...................................................................19
<PAGE>
GUITAR CENTER, INC.
BALANCE SHEET
<TABLE>
<CAPTION>
SEPTEMBER 30 DECEMBER 31
1996 1995
(UNAUDITED) (AUDITED)
------------ -----------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents 52 1,338
Accounts receivable, less allowance for doubtful accounts of $100
(1996) and $200 (1995) 3,228 2,203
Inventories 48,465 31,282
Prepaid expenses and other current assets 1,709 772
------------ -----------
Total current assets 53,514 35,595
Property and equipment, net 15,262 13,276
Goodwill, net of accumulated amortization of $163 (1996) and $152 (1995) 436 447
Other assets 4,333 300
------------ -----------
$73,545 $49,618
------------ -----------
------------ -----------
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
Current liabilities:
Accounts payable 9,754 12,613
Accrued expenses and other current liabilities 10,512 16,979
Current portion of long-term debt 9,930 -
------------ -----------
Total current liabilities 30,196 29,592
Other long-term liabilities 564 263
Long-term debt 100,000 -
Senior preferred stock, aggregate liquidating preference of $20,895;
authorized 4,250,000 shares, issued and outstanding 800,000 shares 14,442 -
Stockholders' equity (deficit):
Junior preferred stock 138,600 -
Warrants 6,500 -
Common stock, no par value; authorized 2,500,000 shares issued and
outstanding 1,400,000 at December 31, 1995; authorized 10,000,000 shares,
issued and outstanding 1,400,000 at September 30, 1996 1,400 4,987
Additional paid in capital (10,249) -
Retained earnings (deficit) (207,908) 14,776
------------ -----------
Total stockholders' equity (deficit) (71,657) 19,763
------------ -----------
$73,545 $49,618
------------ -----------
------------ -----------
</TABLE>
See accompanying notes
<PAGE>
GUITAR CENTER, INC.
CONDENSED STATEMENTS OF OPERATIONS
(UNAUDITED)
Three months ended
September 30
1996 1995
(in thousands)
Net sales 54,361 43,062
Cost of goods sold, buying and occupancy 39,088 31,207
-----------------------
Gross profit 15,273 11,855
Selling, general and administrative expenses 11,203 8,339
Deferred compensation expense -- 1,020
-----------------------
Operating income 4,070 2,496
Interest expense, net 3,059 172
Transaction expenses 305 --
-----------------------
Income before income taxes 706 2,324
Income taxes 8 35
-----------------------
Net income 698 2,289
-----------------------
-----------------------
Pro forma data:
Income before taxes 706 2,324
Pro forma tax provision -- 1,438
-----------------------
Pro forma net income 706 886
-----------
-----------
Senior and junior preferred stock dividends (3,537)
------------
Pro forma net loss applicable to common stockholders (2,831)
------------
------------
See accompanying notes.
<PAGE>
GUITAR CENTER, INC.
CONDENSED STATEMENTS OF OPERATIONS
(unaudited)
Nine months ended
September 30
1996 1995
(in thousands)
Net sales 145,409 119,950
Cost of goods sold, buying and occupancy 104,337 86,949
-----------------------
Gross profit 41,072 33,001
Selling, general and administrative expenses 29,521 23,439
Deferred compensation expense 69,892 2,060
-----------------------
Operating income (loss) (58,341) 7,502
Interest expense, net 9,105 259
Transaction expenses 6,481 --
-----------------------
Income (loss) before income taxes (73,927) 7,243
Income taxes 139 109
-----------------------
Net income (loss) (74,066) 7,134
-----------------------
-----------------------
Pro forma data:
Income (loss) before taxes (73,927) 7,243
Pro forma tax provision -- 4,000
-----------------------
Pro forma net income (loss) (73,927) 3,243
-----------
-----------
Senior and junior preferred stock dividends (4,499)
------------
Pro forma net loss applicable to common stockholders (78,426)
------------
------------
See accompanying notes.
<PAGE>
GUITAR CENTER, INC.
CONDENSED STATEMENT OF STOCKHOLDERS' EQUITY (DEFICIT)
(UNAUDITED)
<TABLE>
<CAPTION>
Additional Junior Retained
Common Paid in Preffered Earnings
Stock Capital Warrants Stock (Deficit) Total
---------- ---------- ---------- ---------- ---------- ----------
(in thousands)
<S> <C> <C> <C> <C> <C> <C>
Balance at December 31, 1995 . . . . . $4,987 $ -- $ -- $ -- $14,776 $19,763
S Corporation cash distributions . . . -- -- -- -- (28,057) (28,057)
S Corporation non-cash distributions . -- -- -- -- (1,753) (1,753)
Redemption of prior sale stockholder
interest . . . . . . . . . . . . . . (4,787) -- -- 19,800 (128,115) (113,102)
Reclassification of prior S Corporation
deficit. . . . . . . . . . . . . . . -- (10,249) -- -- 10,249 --
Issuance of equity to management . . . 500 -- -- 49,500 -- 50,000
Issuance of equity to new investors. . 700 -- -- 69,300 -- 70,000
Issuance of warrants . . . . . . . . . -- -- 6,500 -- -- 6,500
Net Losses . . . . . . . . . . . . . . -- -- -- -- (74,066) (74,066)
Undeclared dividend on senior preferred
stock. . . . . . . . . . . . . . . . -- -- -- -- (895) (895)
Accretion of senior preferred stock. . -- -- -- -- (47) (47)
---------- ---------- ---------- ---------- ---------- ----------
Balance at September 30, 1996. . . . . $1,400 ($10,249) $6,500 $138,600 ($207,908) ($71,657)
---------- ---------- ---------- ---------- ---------- ----------
---------- ---------- ---------- ---------- ---------- ----------
</TABLE>
See accompanying notes.
<PAGE>
GUITAR CENTER, INC.
CONDENSED STATEMENTS OF CASH FLOWS
(Unaudited)
<TABLE>
<CAPTION>
Nine months ended
September 30
1996 1995
---------- ----------
(in thousands)
<S> <C> <C>
OPERATING ACTIVITIES
Net income (loss) (74,066) 7,134
Adjustments to reconcile net income (loss) to net cash provided by
operating activities:
Depreciation and amortization 1,551 1,342
Deferred compensation-repurchase of options 49,500 --
Amortization of deferred financing fees 108 --
Change in assets and liabilities:
Inventories (17,183) (2,372)
Accounts receivable (1,085) (539)
Prepaid expenses (937) (584)
Other assets (556) (104)
Accounts payable (2,859) (2,837)
Accrured expenses and other curent liabilities (6,467) 1,541
Other long-term liabilities 301 51
---------- ----------
Net cash provided by (used in) operating activities (51,693) 3,632
---------- ----------
INVESTING ACTIVITIES
Purchases of property and equipment (5,279) (1,521)
---------- ----------
Net cash used in investing activities (5,279) (1,521)
---------- ----------
FINANCING ACTIVITIES
Deferred financing fees (3,585) --
Principal repayment of note payable -- (825)
Net proceeds from revolving line of credit 9,930 7,052
Proceeds from issuance of long-term debt 100,000 --
Distribution of prior stockholder interests (113,102) --
Issuance of common stock 1,200 --
Issuance of senior preferred stock 13,500 --
Issuance of junior preferred stock 69,300 --
Issuance of warrants 6,500 --
Distributions to stockholder (28,057) (12,365)
---------- ----------
Net cash provided by (used in) financing activities 55,686 (6,138)
---------- ----------
Net increase (decrease) in cash and cash equivalents (1,286) (4,027)
Cash and cash equivalents at beginning of period 1,338 4,059
---------- ----------
Cash and cash equivalents at end of period 52 32
---------- ----------
---------- ----------
</TABLE>
SUPPLEMENTAL SCHEDULE OF NONCASH ACTIVITES
In 1996, the Company entered two sale leaseback transactions with its former
sole stockholder aggregating $1,753,000
See accompanying notes.
<PAGE>
GUITAR CENTER, INC.
NOTES TO CONDENSED FINANCIAL STATEMENTS
1. GENERAL
In the opinion of management, the accompanying condensed financial
statements contain all adjustments (consisting of only normal recurring
accruals) necessary to present fairly the financial position of Guitar Center,
Inc., a Delaware corporation ("Guitar Center" or the "Company"), as of
September 30, 1996, and the results of operations and cash flows for the nine
months and three months ended September 30, 1996 and 1995. On November 6, 1996,
the Company reincorporated from California to Delaware and changed its name to
Guitar Center, Inc. The Company was formerly known as Guitar Center Management
Company, Inc.
The results of operations for the first nine months of 1996 are not
necessarily indicative of the results to be expected for the full year.
2. NEW ACCOUNTING POLICIES
Effective January 1, 1996 the Company elected to change certain accounting
policies. The changes include the capitalization of certain pre-opening costs,
management information systems development costs, and lease negotiation costs.
Such amounts will be amortized over twelve months for the pre-opening costs,
three years for the management information systems development costs and over
the life of the lease for lease negotiation costs. The Company believes that
these policy changes will more accurately match costs with their related
revenues.
The amounts capitalized during the nine months ended September 30, 1996
were not material to the financial statements. The effect on all prior periods
presented is not material.
Statement of Financial Accounting Standards No. 121, "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed of,"
issued in March 1995 and effective for fiscal years beginning after December 15,
1995 (SFAS 121), establishes accounting standards for the recognition and
measurement of impairment of long-lived assets, certain identifiable intangibles
and goodwill. The adoption of SFAS 121 did not have a material impact on the
Company's financial position or results of operations. The Company assesses the
recoverability of its intangible assets by determining whether the amortization
of those balances can be recovered through projected undiscounted future cash
flows. The amount of the impairment, if any, is measured based on projected
discounted future cash flows using a discount rate reflecting the Company's
average cost of capital.
In October 1995, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 123, "Accounting for Stock-Based
Compensation" (SFAS 123). SFAS 123 established a fair value-based method of
accounting for compensation cost related to stock options and other forms of
stock-based compensation plans. However, SFAS 123 allows an entity to continue
to measure compensation costs using the principles of APB 25 if certain PRO
FORMA disclosures are made. SFAS 123 is effective for fiscal years beginning
after December 15, 1995.
<PAGE>
2. NEW ACCOUNTING POLICIES (CONTINUED)
The Company will adopt the provisions for PRO FORMA disclosure requirements
of SFAS 123 in Fiscal 1996. The implementation of SFAS 123 will not have a
material impact on the Company's 1996 Financial Statements.
3. PRO FORMA DATA
Prior to June 5, 1996, the Company elected to be treated as an S
Corporation for federal and state income tax purposes. PRO FORMA information has
been provided to reflect the estimated statutory provision for income taxes
assuming the Company had been taxed as a C Corporation. See Note 7.
4. RECAPITALIZATION
On June 5, 1996, a series of transactions to effect the recapitalization of
the Company (the "Recapitalization") were consummated. Members of management
purchased 500,000 shares of the Company's Common Stock for $0.5 million cash and
received 495,000 shares of 8% Junior Preferred Stock in exchange for the
cancellation of outstanding options exercisable for Common Stock. The Company's
former sole shareholder received 198,000 shares of Junior Preferred Stock in
exchange for Common Stock. New investors purchased 700,000 shares of Common
Stock and 693,000 shares of Junior Preferred Stock for $70.0 million cash, and
800,000 shares of 14% Senior Preferred Stock and Warrants for an aggregate
$20.0 million cash. The Warrants are exchangeable for 73,684 shares of Common
Stock and 72,947 shares of Junior Preferred Stock. The Company repurchased
shares of Common Stock from the former sole shareholder for $113.1 million cash
and canceled certain options for Common Stock held by management in exchange for
$27.9 million cash. For financial statement purposes, the Company recorded a
charge to operations in the amount of $69.9 million (net of $7.9 million which
the Company had previously accrued) related to the cancellation and exchange of
the management stock options.
To fund the Recapitalization transaction in part and to repay the $35.9
million outstanding under its Old Credit Facility, the Company borrowed $100
million under an increasing rate Bridge Facility. The Bridge Facility was repaid
on July 2, 1996 with the proceeds of the 11% Senior Notes due 2006 (the "Senior
Notes") and cash on hand.
In connection with the Recapitalization, the Company incurred transaction
costs of approximately $11.2 million, which consists of $6.5 million of
sellers transaction costs and $4.7 million in fees paid to finance the Bridge
Facility. These amounts have been charged to transaction expense and interest
expense, net, respectively, in the condensed statement of operations for the
three and nine months ended September 30, 1996. In addition, on July 2, 1996,
in connection with the sale of the Senior Notes, approximately $3.6 million
in fees and expenses were incurred which have been recorded as other assets
and are being amortized over the term of the related debt.
5. STOCK OPTION PLANS
In connection with the Recapitalization, the Company granted to certain
employees options to purchase 146,562 units consisting of 146,562 shares of
Common Stock and 145,096 shares of Junior Preferred Stock at an exercise price
of $100 per unit. The Company has an additional 113,796 units remaining
available for grant.
<PAGE>
5. STOCK OPTION PLANS (CONTINUED)
The option agreements of Larry Thomas and Marty Albertson contain a
provision whereby in the event of certain initial public offering
transactions, the options held by them will immediately vest.
6. DEBT
In connection with the Recapitalization, the Company borrowed $100 million
under the Bridge Facility. Financing fees of $4.7 million were paid and charged
to the statement of operations during June 1996. On July 2, 1996, the Bridge
Facility was repaid with the proceeds from the sale of the Senior Notes and cash
on hand. The Senior Notes are unsecured and pay interest in cash on a
semi-annual basis.
In addition, the Company entered into a $25 million unsecured revolving
line of credit (the "New Credit Facility"). The line expires in June 2001. The
revolving line of credit bears interest at various rates based on the lender's
prime lending rate (8.25% at September 30, 1996) plus 1.5% or the Eurodollar
rate (5.4% at September 30, 1996) plus 3.0%. A fee of 0.375% is assessed on the
unused portion of the facility with interest due monthly. At September 30, 1996,
the Company had $9.9 million outstanding under the revolving line of credit.
7. INCOME TAXES
In connection with the Recapitalization, the Company terminated its S
Corporation election and converted to a C Corporation for income tax purposes.
The Company accounts for income taxes under Statement of Financial Accounting
Standards No. 109, "Accounting for Income Taxes" (SFAS 109). Under the assets
and liability method of SFAS 109, deferred income tax assets and liabilities are
recognized for the future tax consequences attributable to differences between
financial statement carrying amounts of existing assets and liabilities and
their respective tax bases. Deferred tax assets and liabilities are measured
using tax rates expected to apply to taxable income in the years in which those
temporary differences are expected to be recovered or settled. Under SFAS 109,
the effect on deferred tax assets and liabilities of a change in tax rates is
recognized in income in the period that includes the enactment date.
In assessing the realizability of deferred tax assets, Management considers
whether it is more likely than not some portion or all of the deferred tax
assets will not be realized. The ultimate realization of deferred tax assets is
dependent upon the generation of future taxable income during the periods in
which those temporary differences become deductible. Management considers the
scheduled reversals of deferred tax liabilities, projected future taxable
income, and tax planning strategies in making this assessment. Management
determined that a substantial valuation allowance was necessary due to the
increased leverage of the Company and its effect on future taxable income.
<PAGE>
8. PREFERRED STOCK
REDEEMABLE SENIOR PREFERRED STOCK AND WARRANTS
In connection with the Recapitalization, the Company issued 800,000 shares
of Senior Preferred Stock with an initial aggregate liquidation value of $20.0
million. Dividends on the Senior Preferred Stock accrue at a rate of 14%. Such
dividends are payable quarterly on each of March 15, June 15, September 15, and
December 15, beginning June 15, 1996. On or prior to June 15, 2002, dividends
shall not be payable in cash to holders, but shall, whether or not declared,
accrete to the liquidation value of the Senior Preferred Stock compounded on
each dividend payment date. Under certain circumstances the holders can elect to
receive additional shares of the Senior Preferred Stock in lieu of accretion to
the liquidation value.
The Company may, at its option, to the extent that funds are legally
available for such payment, redeem, prior to June 15, 1999, in whole or in
apart, shares of Senior Preferred Stock at a redemption price equal to 103% of
the Liquidation Value if such redemption shall occur before June 15, 1997, or
106% of the Liquidation Value if the redemption occurs on or after June 15, 1997
to and including June 15, 1999, without interest, provided that an initial
public offering shall have occurred and the aggregate redemption price of the
Senior Preferred Stock does not exceed the net proceeds received by the Company
in the initial public offering.
The Company may, at its option, on or after June 15, 1999, to the extent
the Company shall have funds legally available for such payment, redeem shares
of Senior Preferred Stock at any time in whole, or from time to time in part,
at redemption prices per share in cash equal to the aggregate liquidation
preference thereof plus a premium. The Senior Preferred Stock is mandatorially
redeemable on June 15, 2008 at a redemption price equal to the aggregate
liquidation value plus accrued and unpaid cash dividends.
Holders of the Senior Preferred Stock have no voting rights with respect to
any matters except as provided by law or as set forth in the Company's
Certificate of Incorporation. Such Certificate of Incorporation provides that
in the event that (i) dividends on the Senior Preferred Stock are in arrears and
unpaid for six consecutive quarterly periods after June 15, 2002; (ii) for any
reason (including the reason that funds are not legally available for
redemption), the Company shall have failed to discharge any mandatory redemption
obligation; or (iii) the Company shall have failed to provide a notice within
the time period required by a redemption pursuant to a Change of Control (each
of the foregoing, a "Voting Trigger"), the Board will be increased by two
directors and the holders of the Senior Preferred Stock, together with the
holders of shares of every other series of preferred stock of the Company with
like rights to vote for the election of two additional directors, voting as a
class, will be entitled to elect two directors to the expanded Board of
Directors. Such voting rights will continue until the Company shall have
fulfilled its obligations that gave rise to a Voting Trigger.
The Senior Preferred Stock with respect to dividend rights on liquidation,
winding up and dissolution, ranks senior to Junior Preferred Stock and the
Common Stock.
<PAGE>
8. PREFERRED STOCK (CONTINUED)
In connection with the issuance of the Senior Preferred Stock the holders
received detachable warrants (in addition to the Senior Preferred Stock) for the
aggregate $20.0 million paid. The warrants are exchangeable for 73,684 shares of
Common Stock and 72,947 shares of Junior Preferred Stock.
The market value of the warrants at issuance was deemed to be $6.5 million
with the Senior Preferred Stock valued at $13.5 million. The Senior Preferred
Stock will accrete to its redemption value ($20.0 million) using the effective
interest method through its mandatory redemption date of June 15, 2008. The
carrying amount of the Senior Preferred Stock will be adjusted periodically for
both the above noted accretion as well as by amounts representing dividends not
currently declared or paid, but which will be payable under the mandatory
redemption features.
JUNIOR PREFERRED STOCK
The Company has authorized the issuance of up to 1,765,000 shares of
Junior Preferred Stock. In connection with the Recapitalization 1,386,000
shares of Junior Preferred Stock were issued. Each outstanding share of
Junior Preferred Stock has a liquidation preference of $100.00. Dividends
accrue at a rate of 8% per annum on the sum of the liquidation preference
plus accumulated but unpaid dividends thereon. The Junior Preferred Stock
ranks junior to the Senior Preferred Stock and senior to the Common Stock,
with respect to dividend rights and rights on liquidation.
The Company may be required to mandatorially redeem all or a portion of the
Junior Preferred Stock under certain conditions. Specifically, the Company would
be required to redeem within 45 days of an initial public offering (IPO)
resulting in a market capitalization of more than $500 million, at a redemption
price per share equal to 100% of the liquidation value plus all accrued and
unpaid cash dividends as follows:
(i) If the IPO results in a market capitalization of the Company of
less than $750 million but more than or equal to $500 million,
the Company shall redeem up to 25% of the outstanding shares of
Junior Preferred Stock held by each holder of such shares who
requests redemption;
(ii) If the IPO results in a market capitalization of the Company of
less than $1 billion but more than or equal to $750 million, the
Company shall redeem up to 50% of the outstanding shares of Junior
Preferred Stock held by each holder of such shares who request
redemption; and
(iii) If the IPO results in a market capitalization of the Company of
more than or equal to $1 billion, the Company shall redeem up to
100% of the outstanding shares of Junior Preferred Stock held by
each holder of such shares who requests redemption.
<PAGE>
8. PREFERRED STOCK (CONTINUED)
In the event the Company intends to consummate an IPO, the holders of
sixty percent (60%) of the outstanding Junior Preferred Stock may require
the Company to convert on a PRO RATA basis all or any portion of the
outstanding Junior Preferred Stock into shares of Common Stock, such
conversion to occur automatically upon the closing of an IPO. Each share of
Junior Preferred Stock shall be converted into a number of shares of Common
Stock equal to (x) the Liquidation Value per share plus accrued and unpaid
dividends thereon to the date of conversion, without interest, divided by (y)
the offering price per share of Common Stock in such IPO, with any fractional
shares redeemed by the Company for cash.
Accumulated but unpaid dividends on the Junior and Senior Preferred Stock
aggregated $4.5 million as of September 30, 1996.
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
OVERVIEW
Guitar Center is the nation's leading retailer of guitars, amplifiers,
percussion instruments, keyboards and pro audio and recording equipment with 28
stores operating in 14 major markets as of September 30, 1996. From 1993 to
1995, Guitar Center's net sales have grown at a compound annual growth rate of
32.4%, principally due to comparable store sales growth averaging 17.3% per year
and the opening of six new stores. Guitar Center achieved comparable store net
sales growth of 11.4%, 17.3%, 23.4% and 10.3% for the fiscal years ended
December 31, 1993, 1994, 1995 and the nine months ended September 30, 1996,
respectively. Theses increases were primarily attributable to increases in unit
sales rather than increases in prices or changes in product mix. Management
believes such volume increases are the result of the continued success of the
Company's implementation of its business strategy, continued strong growth in
the music products industry and increasing consumer awareness of the Guitar
Center name.
The Company opened seven stores in fiscal 1996 and expects to open eight
stores in each of fiscal 1997 and 1998. In preparation for these additional
stores, management had dedicated a substantial amount of resources over the past
several years to build the infrastructure necessary to support a large, national
chain. For example, the Company has spent $2.9 million during the past three
years on system upgrades to support the storewide integration of a
state-of-the-art management information system. The Company has also established
centralized operating and financial controls and has implemented an extensive
training program to ensure a high level of customer service in its stores.
Management believes that the infrastructure is in place to support its needs for
the foreseeable future, including its expansion plans as described herein.
Guitar Center's expansion strategy includes opening additional stores in
certain of its existing markets and entering new markets. As part of its store
expansion strategy, the Company opened five stores during a 14-month period from
October 1993 through November 1994. Additionally, the Company opened one store
in December 1995 and seven stores in the nine months ended September 30, 1996.
The Company will continue to pursue its strategy of clustering stores in major
markets to take advantage of operating and advertising efficiencies and to build
awareness of the Guitar Center name in new markets. In markets where the Company
has pursued its clustering strategy, mature stores have historically
demonstrated net sales growth rates consistent with the Company average. As the
Company enters new markets, management expects that it will initially incur
higher administrative and advertising costs per store than it currently
experiences in established markets.
<PAGE>
The following table sets forth certain historical income statement data as
a percentage of net sales:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------ ------------------
1996 1995 1996 1995
---- ---- ---- ----
Net sales............................... 100.0% 100.0% 100.00% 100.00%
Gross profit............................ 28.1 27.5 28.2 27.5
Selling, general and administrative
expenses........................... 20.6 19.4 20.3 19.5
------ ------ ------- ----
Operating income before deferred
compensation expenses.............. 7.5 8.1 7.9 8.0
Deferred compensation expense........... - 2.8 48.2 1.7
------ ------ ------- ----
Operating income (loss)................. 7.5 5.8 (40.1) 6.3
Interest expense, net................... 5.6 0.4 6.2 0.3
Transaction expenses................... 0.6 _ 4.5 _
------ ------ ------- ----
Income (loss) before income taxes....... 1.3 5.4 (50.8) 6.0
Income taxes............................ - 0.1 0.1 0.1
------ ------ ------- ----
Net Income (loss)....................... 1.3% 5.3% (50.9)% 5.9%
------ ------ ------- ----
RESULTS OF OPERATIONS
THREE MONTHS ENDED SEPTEMBER 30, 1996 COMPARED TO THE THREE MONTHS ENDED
SEPTEMBER 30, 1995.
Net sales of the Company increased to $54.4 million for the three months
ended September 30,1996, from $43.1 million for the same three months in 1995, a
26.2% increase. This growth was attributable to an increase of 7.6% in
comparable store net sales which contributed $3.3 million, or 29.2%, of the
increase. New store net sales of $8.0 million accounted for the balance of the
increase in net sales. The increase in comparable store net sales was primarily
attributable to increases in unit sales rather than increases in prices or
changes in the mix of sales between product categories. Such volume increases
were primarily the result of the continued success of the Company's
implementation of its business strategy, continued strong growth in the music
product industry and increasing consumer awareness of Guitar Center stores.
Gross profit for the three months ended September 30, 1996 increased to
$15.3 million from $11.9 million for the same three months in 1995, a 28.6%
increase. Gross profit as a percentage of net sales ("gross margin") for the
three months ended September 30, 1996 increased to 28.1% from 27.5% in the three
months ended September 30, 1995. This increase in gross margin was primarily the
result of the introduction and sales of higher margin high-technology pro audio
and recording equipment.
<PAGE>
Selling, general and administrative expenses for the three months ended
September 30, 1996 increased to $11.2 million from $8.3 million for the same
three months in 1995, a 33.7% increase. As a percentage of net sales,
selling, general and administrative expenses for the three months ended
September 30, 1996 increased to 20.6% from 19.4% for the three months ended
September 30, 1995. This change reflects the incremental cost of staffing
newly opened stores prior to stores operating at full volume. During the
three months ended September 30, 1996, four new stores commenced operation
and were open an average of seven weeks. In addition, the increase reflects
increases in Corporate personnel and management information systems expenses
associated with the Company's planned expansion.
There was no deferred compensation expense in the three months ended
September 30, 1996 as the deferred compensation plan was terminated at the time
of the Recapitalization.
Operating income for the three months ended September 30, 1996 was $4.1
million compared to operating income of $2.5 million for the same three months
in 1995, an increase of 64.0%. Operating income before deferred compensation
increased 15.8% to $4.1 million from $3.5 million over the comparable period. As
a percentage of net sales, operating income before deferred compensation for the
three month ended September 30, 1996 decreased to 7.5% from 8.2% in the three
months ended September 30, 1995. This decrease was primarily attributable to the
increase in selling, general and administrative expenses partially offset by the
increase in gross margin.
Interest expense, net for three months ended September 30, 1996 increased
to $3.1 million from $0.2 million for the three months ended September 30, 1995.
This increase is primarily attributable to interest expense on the Senior Notes.
Non-recurring transaction costs of $0.3 million related to the
Recapitalization were expensed in the three months ended September 30, 1996.
Net income for the three months ended September 30, 1996 decreased to $0.7
million from $2.3 million for the three months ended September 30, 1995.
NINE MONTHS ENDED SEPTEMBER 30, 1996 COMPARED TO THE NINE MONTHS ENDED
SEPTEMBER 30, 1995.
Net sales of the Company increased to $145.4 million for the nine months
ended September 30, 1996 from $120.0 million for the same nine months in 1995, a
21.2% increase. This growth was attributable to an increase of 10.3% in
comparable store net sales which contributed $12.3 million, or 48.4% of the
increase. In addition, $13.1 million was contributed from new store net sales
which accounted for 51.6% of the increase. The increase in comparable store net
sales was primarily attributable to increases in unit sales rather than
increases in prices or changes in the mix of sales between product categories.
Such volume increases were primarily the result of the continued success of the
Company's implementation of its business strategy, continued strong growth in
the music products industry and increasing consumer awareness of Guitar Center
stores.
<PAGE>
Gross profit for the nine months ended September 30, 1996 increased to
$41.1 million from $33.0 million for the same nine months in 1995, a 24.5%
increase. Gross Margin for the nine months ended September 30, 1996 increased
to 28.2% per table from 27.5% in the nine months ended September 30, 1995.
This increase in gross margin was primarily the result of the introduction
and sales of higher margin high-technology pro audio and recording equipment.
Selling, general and administrative expenses for the nine months ended
September 30, 1996 increased to $29.5 million from $23.4 million for the same
nine months in 1995, a 25.9% increase. As a percentage of net sales, selling,
general and administrative expenses for the nine months ended September 30, 1996
increased to 20.3% from 19.5% for the nine months ended September 30, 1995. This
change reflects an increase in the number of store employees in anticipation of
the continued comparable store sales growth, as well as the incremented cost of
staffing newly opened stores prior to stores operating at full volume. During
the nine months ended September 30, 1996 seven new stores commenced operation
and were open an average of three and a half months. In addition, the increase
reflects increases in corporate personnel and management information systems
expenses associated with the Company's planned expansion.
Deferred compensation expense for the nine months ended September 30, 1996
increased to $69.9 million from $2.1 million for the nine months ended September
30, 1995. The deferred compensation expense resulted from the purchase and
exchange of management stock options and the cancellation of the Company's prior
stock option program. These expenses are nonrecurring as the deferred
compensation plan was terminated at the time of the Recapitalization.
The operating loss for the nine months ended September 30, 1996 was $58.3
million compared to operating income of $7.5 million for the nine months ended
September 30, 1995. Operating income before deferred compensation increased
20.8% to $11.6 million from $9.6 million over the comparable period. As a
percentage of net sales, operating income before deferred compensation for the
nine months ended September 30, 1996 decreased to 7.9% from 8.0% in the nine
months ended September 30, 1995. This decrease was primarily attributable to the
increase in selling, general and administrative expenses partially offset by the
increase in gross margin.
Interest expense, net for the nine months ended September 30, 1996
increased to $9.1 million from $0.3 million for the nine months ended September
30, 1995. This increase was attributable to the write-off of financing fees of
$4.7 million and interest expense of $0.9 million on the Bridge Facility and
interest expense on the Senior Notes for three months.
Non-recurring transaction costs of $6.5 million related to the
Recapitalization were expensed in the nine months ended September 30, 1996.
Net income (loss) for nine months ended September 30, 1996 decreased to
($74.1) million from $7.1 million for the nine months ended September 30, 1995.
<PAGE>
LIQUIDITY AND CAPITAL RESOURCES
Guitar Center's need for liquidity will arise primarily from interest
payable on the indebtedness incurred in connection with the Recapitalization and
the funding of the Company's capital expenditure and working capital
requirements. The Company has no mandatory payments of principal on the Senior
Notes prior to their final maturity in 2006 and has no mandatory payments of
principal scheduled under the New Credit Facility for five years. The Company
has historically financed its operations through internally generated funds and
borrowings under its credit facilities.
As of November 6, 1996, the Company had $8.8 million outstanding and
approximately $15 million available for additional borrowing under the New
Credit Facility. The interest rate as of such date was 9.75% on prime rate based
borrowings and 8.40% on Eurodollar rate based borrowings. The agreement
underlying the New Credit Facility expires June 1, 2001 and includes certain
restrictive covenants which, among other things, require the Company to maintain
certain financial tests. The Company was in compliance with all such
requirements as of September 30, 1996.
For the nine months ended September 30, 1996, cash used in operating
activities was $52.2 million. During the nine months ended September 30, 1995,
cash provided by operating activities was $3.6 million. Cash provided by
financing activities was $55.7 million for the nine months ended September 30,
1996, which includes the effects of the Recapitalization. Cash used in financing
activities during the nine months ended September 30, 1995 was $6.1 million
which consisted primarily of distributions to the Company's sole stockholder of
$12.4 million.
Capital expenditures totaled $5.3 million for the nine months ended
September 30, 1996. The Company's capital expenditures related to the opening of
new stores, management information systems and store remodels.
Management believes that the Company has adequate capital resources and
liquidity to meet its borrowing obligations, fund all required capital
expenditures and pursue its business strategy for the next twelve months
including its plans to open approximately eight stores in fiscal 1997. The
Company's capital resources and liquidity are expected to be provided by the
Company's cash flow from operations and borrowings under the New Credit
Facility. Depending on market conditions, the Company may also incur additional
indebtedness or issue equity securities. There can be no assurance that such
additional capital, if and when required, will be available on terms acceptable
to the Company.
SEASONALITY
The Company's results are not highly seasonal, although, as with most
retailers, sales in the quarter ending December 31, are typically higher than
in any other quarter.
OTHER
The Company believes that the relatively moderate rates of inflation
experienced in recent years have not had a significant impact on its net sales
or profitability.
<PAGE>
FORWARD LOOKING STATEMENTS
This report includes certain forward looking statements regarding, among
other things, future results of operations, growth plans, gross margin and
expense trends, capital requirements, and general industry and business
conditions applicable to Guitar Center. Such forward looking statements involve
risks and uncertainties including, but not limited to, potential consequences of
the Company's significant leverage and aggressive growth strategy, dependence on
key personnel, the present concentration of the Company's operations in
California, competition, and the impact of economic conditions on industry
results and changing consumer preferences. In addition to the information
provided herein, reference is made to the material contained under the caption
"Risk Factors" in the Company's Registration Statement on Form S-1 filed with
the Securities and Exchange Commission (File No. 333-10491) for additional
information regarding such matters and the effect thereof on the Company's
business.
<PAGE>
PART II. OTHER INFORMATION
Items 1 - 5. Not Applicable
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits.
(1) 27.1 Financial Data Schedule
(b) Reports on Form 8-K. None.
<PAGE>
GUITAR CENTER, INC.
SIGNATURE
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.
Guitar Center, Inc.
/s/ Bruce L. Ross.
Date: November 11, 1996 Bruce L. Ross, Vice President,
Chief Financial Officer and Secretary
(Duly Authorized Officer and Principal
Financial and Accounting Officer)
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-START> JAN-01-1996
<PERIOD-END> SEP-30-1996
<CASH> 52
<SECURITIES> 0
<RECEIVABLES> 3388
<ALLOWANCES> 100
<INVENTORY> 48465
<CURRENT-ASSETS> 53514
<PP&E> 24910
<DEPRECIATION> 9648
<TOTAL-ASSETS> 73545
<CURRENT-LIABILITIES> 30196
<BONDS> 100000
0
159542
<COMMON> 1400
<OTHER-SE> (218157)
<TOTAL-LIABILITY-AND-EQUITY> 73545
<SALES> 145409
<TOTAL-REVENUES> 145409
<CGS> 104337
<TOTAL-COSTS> 99413<F1>
<OTHER-EXPENSES> 6481<F2>
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 9105
<INCOME-PRETAX> (73927)
<INCOME-TAX> 139
<INCOME-CONTINUING> (74066)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (74066)
<EPS-PRIMARY> 0
<EPS-DILUTED> 0
<FN>
<F1>INCLUDES DEFERRED COMPENSATION OF $69,892
<F2>REPRESENTS TRANSACTION EXPENSES RELATED TO THE RECAPITALIZATION
</FN>
</TABLE>
