<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, 2000
( ) 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. 000 - 22207
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 X No
-------- --------
As of November 10, 2000, 22,081,589 shares of our Common Stock, $.01 par
value, were outstanding.
<PAGE>
GUITAR CENTER, INC. AND SUBSIDIARIES
INDEX
<TABLE>
<S> <C>
Part I. Financial Information
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
Consolidated Balance Sheets - September 30, 2000 and December 31, 1999 ....................3
Consolidated Statements of Income - Three months ended
September 30, 2000 and 1999................................................................4
Consolidated Statements of Income - Nine months ended
September 30, 2000 and 1999................................................................5
Consolidated Statements of Cash Flows - Nine months ended
September 30, 2000 and 1999 ...............................................................6
Notes to Consolidated Financial Statements ...............................................7
ITEM 2 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS ............................................................9
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK ......................14
Part II. Other Information
Item 1. Not Applicable
Item 2. Not Applicable
Item 3. Not Applicable
Item 4. Not Applicable
Item 5. Not Applicable
Item 6. Exhibits.........................................................................16
</TABLE>
2
<PAGE>
GUITAR CENTER, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands)
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
2000 1999
------------------- --------------------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 11,918 $ 6,773
Merchandise inventory, net 192,657 160,571
Accounts receivable, net 15,710 14,127
Prepaid expenses and deposits 4,544 3,388
Deferred income taxes 11,918 11,918
-------------- ---------------
Total current assets 236,747 196,777
Property and equipment, net 62,765 58,174
Deferred income taxes 555 555
Goodwill, net 5,164 4,448
Other assets 9,934 6,897
-------------- ---------------
$ 315,165 $ 266,851
============== ===============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 60,724 $ 41,133
Accrued expenses and other current liabilities 26,210 23,446
Merchandise advances 8,629 8,455
Revolving line of credit 55,756 42,770
Current portion of long-term debt 495 437
-------------- ---------------
Total current liabilities 151,814 116,241
Other long-term liabilities 2,622 2,070
Long-term debt 67,612 68,221
-------------- ---------------
Total liabilities 222,048 186,532
Stockholders' equity:
Preferred stock; authorized 5,000 shares at
September 30, 2000 and December 31, 1999,
none issued and outstanding
Common stock, $0.01 par value, authorized
55,000 shares, issued and outstanding
22,076 at September 30, 2000 and 22,023 at
December 31, 1999, respectively 221 221
Additional paid in capital 244,362 244,003
Accumulated deficit (151,466) (163,905)
-------------- ---------------
Total stockholders' equity 93,117 80,319
-------------- ---------------
$ 315,165 $ 266,851
============== ===============
</TABLE>
See accompanying notes to consolidated financial statements.
3
<PAGE>
GUITAR CENTER, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(in thousands)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
SEPTEMBER 30, 2000 SEPTEMBER 30, 1999
------------------- -------------------
<S> <C> <C>
Net sales $ 191,001 $ 152,523
Cost of goods sold, buying and occupancy 142,811 113,539
------------------- -------------------
Gross profit 48,190 38,984
Selling, general and administrative expenses 38,076 32,200
Transaction and conversion costs - 543
------------------- -------------------
Operating income 10,114 6,241
Interest expense, net 3,225 2,848
------------------- -------------------
Income before income taxes 6,889 3,393
Income taxes 2,614 -
------------------- -------------------
Net income $ 4,275 $ 3,393
=================== ===================
Net income per share
Basic $ 0.19 $ 0.15
=================== ===================
Diluted $ 0.19 $ 0.15
=================== ===================
Weighted average shares outstanding
Basic 22,055 22,072
=================== ===================
Diluted 22,544 22,072
=================== ===================
</TABLE>
See accompanying notes to consolidated financial statements.
4
<PAGE>
GUITAR CENTER, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(in thousands)
<TABLE>
<CAPTION>
NINE MONTHS ENDED
SEPTEMBER 30, 2000 SEPTEMBER 30, 1999
------------------- -------------------
<S> <C> <C>
Net sales $ 545,399 $ 427,140
Cost of goods sold, buying and occupancy 405,906 316,080
------------------- -------------------
Gross profit 139,493 111,060
Selling, general and administrative expenses 110,237 91,522
Transaction and conversion costs - 4,170
------------------- -------------------
Operating income 29,256 15,368
Interest expense, net 9,190 7,877
Interest expense to related parties - 501
------------------- -------------------
Income before income taxes and cumulative effect
of a change in accounting principle 20,066 6,990
Income taxes 7,627 2,099
------------------- -------------------
Income before cumulative effect of a change in
accounting principle 12,439 4,891
Cumulative effect of change in accounting principle
to write-off pre-opening costs, net of tax of - 1,074
$578
------------------- -------------------
Net income $ 12,439 $ 3,817
=================== ===================
Net income per share
Basic
Income before cumulative effect of a change
in accounting principle $ 0.56 $ 0.22
Cumulative effect of change in accounting
principle to write-off pre-opening
costs, net of tax - (0.05)
------------------- -------------------
Net income $ 0.56 $ 0.17
=================== ===================
Diluted
Income before cumulative effect of a change
in accounting principle $ 0.56 $ 0.22
Cumulative effect of change in accounting
principle to write-off pre-opening costs
- (0.05)
------------------- -------------------
Net income $ 0.56 $ 0.17
=================== ===================
Weighted average shares outstanding
Basic 22,037 22,069
=================== ===================
Diluted 22,237 22,462
=================== ===================
</TABLE>
See accompanying notes to consolidated financial statements.
5
<PAGE>
GUITAR CENTER, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
<TABLE>
<CAPTION>
NINE MONTHS ENDED SEPTEMBER 30,
2000 1999
---------------- ----------------
<S> <C> <C>
OPERATING ACTIVITIES
Net income $ 12,439 $ 3,817
Adjustments to reconcile net income to net cash
provided by (used in) operating activities:
Depreciation and amortization 8,080 5,866
Amortization of deferred financing fees 303 180
Cumulative effect of change in accounting principle to
write-off pre-opening costs - 1,652
Changes in operating assets and liabilities:
Accounts receivable (1,583) (1,115)
Merchandise inventories (30,827) (20,812)
Prepaid expenses (1,156) (354)
Other assets (769) (1,696)
Accounts payable 19,591 (5,834)
Accrued expenses and other current liabilities 2,415 1,418
Other long term liabilities 552 306
Merchandise advances 174 (641)
---------------- ----------------
Net cash provided by (used in) operating activities 9,219 (17,213)
INVESTING ACTIVITIES
Purchase of property and equipment (12,081) (13,681)
Investment in non-consolidated entity (3,000) -
Purchase of Veneman Music, net of cash acquired (1,787) -
---------------- ----------------
Net cash used in investing activities (16,868) (13,681)
FINANCING ACTIVITIES
Net change in revolving debt facility 12,986 30,664
Proceeds from exercise of stock options 359 208
Payments under capital lease (551) (50)
---------------- ----------------
Net cash provided by financing activities 12,794 30,822
Net increase in cash and cash equivalents 5,145 (72)
Cash and cash equivalents at beginning of year 6,773 472
---------------- ----------------
Cash and cash equivalents at end of period $ 11,918 $ 400
================ ================
NON-CASH ACTIVITIES
Contribution of land and building 1,750
Borrowings under capital lease 890
Related party debt converted to common stock 13,870
Guitar Center purchased all of the assets of Veneman Music
Company. In conjunction with the acquisition, liabilities
were assumed or liquidated as follows:
Fair value of assets acquired 2,391
Cash paid (1,787)
----------------
Liabilities assumed 604
================
</TABLE>
See accompanying notes to consolidated financial statements.
6
<PAGE>
GUITAR CENTER, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. General
In the opinion of management, the accompanying unaudited consolidated
financial statements contain all adjustments necessary to present
fairly the financial position of Guitar Center, Inc. and subsidiaries
("Guitar Center"), as of September 30, 2000 and December 31, 1999, and
the results of operations and cash flows for the three and nine months
ended September 30, 2000 and 1999. The accompanying consolidated
financial statements should be read in conjunction with the audited
consolidated financial statements and notes thereto contained in the
Company's Annual Report on Form 10-K for the year ended December 31,
1999.
The results of operations for the three and nine months ended September
30, 2000 are not necessarily indicative of the results to be expected
for the full year.
2. Merger
On May 28, 1999, we acquired all of the stock of Musician's Friend,
Inc., a Delaware corporation ("Musician's Friend"), pursuant to a
merger agreement. The merger was accounted for under the pooling of
interests method. Accordingly, the financial statements of Guitar
Center have been restated for all periods to include the results of
Musician's Friend.
In May 2000, we acquired Veneman Music Company, Inc., a musical
instrument retailer based in Rockville, Maryland. The acquisition was
accounted for using the purchase method and we will amortize the
resulting goodwill over twenty years. All of the debt and other
liabilities of Veneman's were either repaid or assumed by us in
connection with the closing.
3. Segment Information
In accordance with the requirements of Statement of Financial
Accounting Standards No. 131, "Disclosures about Segments of an
Enterprise and Related Information," our reportable business segments
are retail (stores) and direct response (catalog and Internet).
Management evaluates segment performance based primarily on revenue and
income before income taxes.
Net sales, income before income taxes and cumulative effect of a change
in accounting principle, and total assets are summarized as follows for
the quarterly and nine month periods ended September 30, 2000 and
September 30, 1999 (in thousands):
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, 2000 SEPTEMBER 30, 2000
------------------ ------------------
RETAIL DIRECT RESPONSE TOTAL RETAIL DIRECT RESPONSE TOTAL
------------------------------------------------ ------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Sales $ 159,862 $ 31,139 $ 191,001 $ 454,788 $ 90,611 $545,399
Income before income
taxes and cumulative
effect of change in
accounting principle 5,510 1,379 6,889 16,195 3,871 20,066
Total Assets 288,125 27,040 315,165 288,125 27,040 315,165
</TABLE>
7
<PAGE>
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, 1999 SEPTEMBER 30, 1999
------------------ ------------------
RETAIL DIRECT RESPONSE TOTAL RETAIL DIRECT RESPONSE TOTAL
------------------------------------------------ ---------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Sales $ 132,590 19,933 152,523 $ 373,082 54,058 427,140
Income (loss) before
income taxes and
cumulative effect of
change in accounting
principle 4,028 (635) 3,393 11,434 (4,444) 6,990
Total Assets 220,810 19,776 240,586 220,810 19,776 240,586
</TABLE>
4. Change in Accounting for Store Pre-Opening Costs
Effective January 1, 1999, we adopted AICPA Statement of Position 98-5,
"Reporting on the Costs of Start-up Activities" (SOP 98-5), which
requires all store pre-opening costs to be expensed as incurred. As a
result of this adoption, we recorded a charge for the cumulative effect
of this change in accounting principle, of $1,074,000 (net of taxes of
$578,000), in the Statement of Operations for the period ending
September 30, 1999.
5. Investment in Non-Consolidated Entity
During 2000, we have invested through a wholly owned subsidiary,
Musician's Choice, Inc. approximately $3.0 million in a
non-consolidated entity, Musician.com Internet Network, Inc.
("Musician.com"). As of September 30, 2000, we owned approximately
14.2% of the voting common stock of Musician.com. As of that date we
also owned additional shares of non-voting common stock and
non-voting preferred stock with a liquidation preference of $2.7
million. Musician.com operates community based musician websites
offering a wide range of services to empower amateur and
professional musicians.
We will account for this investment under the cost method and
recognize permanent impairments in value, if any, periodically.
8
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
OVERVIEW
We operated 76 retail locations in 39 major markets and four stores in
secondary markets as of September 30, 2000. We also operate the largest direct
response channel (Musician's Friend catalog and Internet) in the musical
instruments industry in the United States. From 1995 to 1999, our net sales grew
at an annual compound rate of 31.2%, principally due to the comparable store
sales growth of our Guitar Center stores averaging 14% per year, the opening of
new stores, and a 21% per year increase in the direct response channel. We
believe such volume increases are the result of the continued success of the
implementation of our business strategy, continued growth in the music products
industry and increasing consumer awareness of the Guitar Center and Musician's
Friend brand names. As indicated below, we do not expect comparable store sales
to continue to increase at historical rates.
We opened (including stores originally opened under Musician's Friend
brand) thirteen Guitar Center stores in 1999 and, as of September 30, 2000, had
opened eleven additional Guitar Center stores this year, of which one was
acquired from Veneman Music in May 2000. Presently, we expect to open two
additional large format Guitar Center stores during the remainder of 2000 and
one smaller format Guitar Center store in a secondary market. We will continue
to pursue our 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 some markets this clustering strategy results in
some transfer of sales from existing stores to new locations, thereby adversely
affecting comparable store sales statistics.
As we enter new markets, we expect that we will initially incur higher
administrative and promotional costs per store than is currently experienced in
established markets. We also expect competition to continue to increase over
time as other music products retailers attempt to execute national growth
strategies. Our business strategy will also emphasize opportunities to grow our
direct response business, particularly opportunities to increase our Internet
activities. We expect to continue to make significant investments in the
e-commerce and related business activities of Guitar Center and Musician's
Friend.
The following table sets forth historical income statement data as a
percentage of net sales:
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
2000 1999 2000 1999
------------ ------------ ------------ -------------
<S> <C> <C> <C> <C>
Net sales 100.0% 100.0% 100.0% 100.0%
Gross profit 25.2 25.6 25.6 26.0
Selling, general, and administrative expenses 19.9 21.1 20.2 21.4
Transaction and conversion costs - 0.4 - 1.0
------------ ------------ ------------ -------------
Operating income 5.3 4.1 5.4 3.6
Interest expense, net 1.7 1.9 1.7 1.8
Interest expense to related parties - - - 0.1
Income before income taxes and cumulative
effect of a change in accounting principle 3.6 2.2 3.7 1.6
Income taxes 1.4 - 1.4 0.5
------------ ------------ ------------ -------------
Income before cumulative effect of a
change in accounting principle 2.2 2.2 2.3 1.1
Cumulative effect of a change in accounting
principle to write-off pre-opening costs, net of tax - - - 0.2
------------ ------------ ------------ -------------
Net income 2.2 2.2 2.3 0.9
------------ ------------ ------------ -------------
</TABLE>
9
<PAGE>
RESULTS OF OPERATIONS
THREE MONTHS ENDED SEPTEMBER 30, 2000 COMPARED TO THE THREE MONTHS
ENDED SEPTEMBER 30, 1999.
Net sales increased to $191.0 million for the three months ended
September 30, 2000, from $152.5 million for the comparable prior period, a 25.2%
increase. Net sales from retail stores totaled $159.9 million, an increase of
$27.3 million, or 20.6%. Sales from new stores contributed $19.0 million, or 70%
of the increase. Comparable store sales increased 6%. The increase in comparable
store sales was due to aggressive pricing on certain elements of inventory and
good store sales performance due to the effect of successful promotions. Our
management is presently anticipating comparable store sales growth of 5 to 7
percent for the immediate future, although fluctuations will undoubtedly take
place from period to period. The foregoing statement is a forward-looking
statement and is subject to the qualifications set forth below under "Forward
Looking Statements; Business Risks." Net sales from the direct response channel
totaled $31.1 million, an $11.2 million increase from the third quarter of 1999.
Catalog sales for the three months ended September 30, 2000 compared to 1999
increased 24.7% to $19.6 million from $15.7 million and Internet sales increased
174% to $11.5 million from $4.2 for the same period last year. Direct response
results reflect the increase in average order size, an increase to $239 this
year compared to $201 in the third quarter of 1999, sales facilitated by the
third-party credit card introduced in the third quarter of 1999, and the impact
of the Net Perceptions selling software installed in first quarter of this year.
Revenues in the 1999 period also reflect inventory shortages prior to the
acquisition of Musician's Friend by Guitar Center on May 28, 1999.
Although we are not as affected by lower consumer spending as most
other retailers, we have experienced some impact during the third quarter of
2000. We plan to continue to address current economic conditions through
promotional activities in our retail stores, catalog and at musiciansfriend.com.
The level of promotional activity affects retail selling prices (gross margin)
and advertising and other media costs (selling, general and administrative
expenses).
Gross profit dollars for the three months ended September 30, 2000
compared to 1999 increased 23.6% to $48.2 million from $39.0 million. Gross
profit as a percentage of net sales for the three months ended September 30,
2000 compared to 1999 decreased to 25.2% from 25.6%. Gross profit margin
percentage for the retail stores after buying and occupancy costs was 24.6%
compared to 25.3% in the third quarter of 1999. The reduction in gross profit
margin relates to increased occupancy costs caused by the number of stores less
than two years old (33 stores out of 80 stores), increased freight expense as a
result of opening new stores further from some of our key vendors and higher
shrink losses. The gross profit margin for the direct response division was
28.7% for the quarter compared to 27.6% in the third quarter of 1999. The
increase is principally due to improved selling margin.
Selling, general and administrative expenses for the three months
ended September 30, 2000 compared to 1999 increased 18.3% to $38.1 million
from $32.2 million. Selling, general and administrative expenses for the
three months ended September 30, 2000 compared to 1999 decreased to 19.9%, as
a percentage of sales, from 21.1%. Selling, general and administrative
expenses for the retail stores in the third quarter, inclusive of pre-opening
costs and corporate general and administrative expenses, was 19.4% as a
percentage of sales compared to 20.1% in last year's third quarter. These
results reflect the leveraging of corporate expenses, partially offset by
higher store level selling, general and administrative expenses due to the
number of stores that are less than two years old. Selling, general and
administrative expenses for the direct response division were 22.6% as a
percentage of sales in the third quarter compared to 28.1% in the same period
last year. The improvement largely reflects the leveraging of corporate
overhead and marketing expenses as a result of the 56.2% increase in sales
compared to 1999.
Transaction and store conversion costs totaled $0.5 million, or 0.4% of
sales, during the three months ended September 30, 1999. These costs relate to
the merger of Musician's Friend during the second quarter of 1999 and
principally include costs associated with the conversion of Musician's Friend
stores to Guitar Center stores. No similar costs were incurred in 2000.
Operating income for the three months ended September 30, 2000 was
$10.1 million compared to $6.2 million for the same three months of 1999, an
increase of 62.1%. The increase is principally due to
10
<PAGE>
the increase in the operating income from the direct response unit and the
absence of transaction expenses compared to the prior period. As a percentage of
sales, operating income was 5.3% and 4.1% in the three months ended September
30, 2000 and 1999, respectively.
Interest expense, net for the three months ended September 30, 2000
increased to $3.2 million from $2.8 million in the same period of 1999. The
increase reflects increased borrowings under our credit facility.
In the three months ended September 30, 2000, a $2.6 million provision
for income taxes was recorded. As the majority of the tax benefit related to the
net operating loss carryforward had been recognized as of December 31, 1999, our
effective tax rate for the three months ended September 30, 2000 represents the
combined federal and state rates expected to be realized for the full year.
Net income for the three months ended September 30, 2000 was $4.3
million compared to $3.4 million in the third quarter of 1999, principally as a
result of the improvement of results of operations of our direct response unit,
the recording of a full tax accrual in 2000, and of the effect of the
transaction and conversion costs on the prior year as discussed above.
NINE MONTHS ENDED SEPTEMBER 30, 2000 COMPARED TO THE NINE MONTHS ENDED
SEPTEMBER 30, 1999.
Net sales increased to $545.4 million for the nine months ended
September 30, 2000, from $427.1 million for the comparable prior period, a 27.7%
increase. Net sales from retail stores totaled $454.8 million, an increase of
$81.7 million, or 21.9%. Sales from new stores contributed $55.4 million, or 68%
of the increase. Comparable store sales increased 7%. Net sales from the direct
response channel totaled $90.6 million, a $36.6 million increase from the nine
months ended September 30, 1999.
Gross profit dollars for the nine months ended September 30, 2000
compared to 1999 increased 25.6% to $139.5 million from $111.1 million. Gross
profit as a percentage of net sales for the nine months ended September 30, 2000
compared to 1999 decreased to 25.6% from 26.0%. Gross profit margin percentage
for the retail stores after buying and occupancy costs was 25.0% compared to
25.7% in the nine months ended September 30, 1999. The reduction in gross profit
margin relates to increased occupancy costs caused by the number of stores less
than two years old (33 stores out of 80 stores), increased freight expense as a
result of opening new stores further from some of our key vendors and higher
shrink losses. The gross profit margin for the direct response division was
28.5% for the nine months ended September 30, 2000 compared to 28.4% in the nine
months ended September 30, 1999.
Selling, general and administrative expenses for the nine months
ended September 30, 2000 compared to 1999 increased 20.5% to $110.2 million
from $91.5 million. Selling, general and administrative expenses, for the
nine months ended September 30, 2000 compared to 1999 decreased to 20.2%, as
a percentage of sales, from 21.4%. Selling, general and administrative
expenses for the retail stores in the nine months ended September 30, 2000,
inclusive of pre-opening costs and corporate general and administrative
expenses, was 19.8% as a percentage of sales compared to 20.0% in the same
period last year. Selling, general and administrative expenses for the direct
response division were 22.4% in the nine months ended September 30, 2000
compared to 31.1% in the same period last year. The improvement for the
direct response division largely reflects the leveraging of corporate
overhead and marketing expenses as a result of the 68% increase in sales for
the nine months ended September 30, 2000 compared to the same period last
year.
Transaction and store conversion costs totaled $4.2 million, or 1.0% of
sales during the nine months ended September 30, 1999. These costs relate to the
merger of Musician's Friend during the second quarter of 1999 and principally
include financial advisory fees, legal and accounting fees, and severance costs
for a Musician's Friend executive. No similar costs were incurred in 2000.
Operating income for the nine months ended September 30, 2000 was $29.3
million compared to $15.4 million for the same nine months of 1999. The increase
is principally due to increase in the operating income from the direct response
unit and the absence of transaction expenses compared to the prior period.
11
<PAGE>
As a percentage of sales, operating income was 5.4% and 3.6% in the nine months
ended September 30, 2000 and 1999, respectively.
Interest expense, net for the nine months ended September 30, 2000
increased to $9.2 million from $8.4 million in the same period of 1999. The
increase reflects increased borrowings under our credit facility.
In the nine months ended September 30, 2000, a $7.6 million provision
for income taxes was recorded. As the majority of the tax benefit related to the
net operating loss carryforward had been recognized as of December 31, 1999, our
effective tax rate for the nine months ended September 30, 2000 represents the
combined federal and state rates expected to be realized for the full year.
In the first quarter of 1999, a charge to operations of $1.7 million,
net of tax of $0.6 million, was incurred for the cumulative effect of a change
in accounting principle to expense pre-opening costs as incurred.
Net income for the nine months ended September 30, 2000 was $12.4
million, compared to $3.8 million in the same period of 1999. The increase was
principally due to an increase in operating income from the direct response
unit, the recording of a full tax accrual in 2000, the absence of transaction
expenses compared to the prior period, and the effect of the cumulative change
in accounting principle as discussed above.
LIQUIDITY AND CAPITAL RESOURCES
Our need for liquidity will arise primarily from interest payable on
indebtedness and the funding of capital expenditures and working capital
requirements, as well as investments and possible acquisitions. We have
historically financed our operations through internally generated funds and
borrowings under our credit facilities. We have no mandatory payments of
principal on the $66.7 million of Senior Notes outstanding prior to their final
maturity in 2006. As of September 30, 2000, we had $55.8 million outstanding
under our credit facility excluding $857,000 outstanding on standby letters of
credit, and had available borrowings of approximately $38.3 million.
For the nine months ended September 30, 2000, cash provided by
operating activities was $9.2 million. Cash used in investing activities totaled
$16.9 million, which principally consisted of capital expenditures under our
store expansion program and the remaining balance represents the acquisition of
Veneman Music Company ($1.8 million) and investment in non-consolidated entity
($3.0 million). Cash provided by financing activities totaled $12.8 million,
which principally consisted of borrowings under the credit facility.
We intend to pursue an aggressive growth strategy by opening additional
stores in new and existing markets. During the nine months ended September 30
2000, we opened eleven new stores, of which one was acquired from Veneman Music
Company in the second quarter of 2000. Each new large format Guitar Center store
typically has required approximately $1.8 million for gross inventory.
Historically, our cost of capital improvements for an average large format
Guitar Center new store has been approximately $850,000, consisting of leasehold
improvements, fixtures and equipment. We incur higher costs in some geographic
areas, particularly the Northeast. We have developed a smaller format Guitar
Center store to build in secondary markets or sites that we do not believe will
support our large format unit. The first of these stores will be located in
Bakersfield, California and is scheduled to hold its grand opening on December
7, 2000. We will not be able to evaluate whether or not the small format is
effective until several units have been open for a meaningful period of time.
We are also currently evaluating additional capital and strategic
requirements related to improving our fulfillment facilities and technology and
pursuing new opportunities in the e-commerce activities of Guitar Center and
Musician's Friend, and related businesses. The initiatives related to
fulfillment include the construction of a new facility for Musician's Friend in
Kansas City which is operational and our plan to construct a distribution
facility to support the retail business. The construction and operation of the
retail distribution facility will require the expenditure of significant capital
as well as the development of a team of key employees to manage this new
function. We also continue to make significant investments in
12
<PAGE>
information technology across our businesses which will continue in 2001 and
to incur costs and make investments designed to expand the reach of the
Guitar Center and Musician's Friend brands on the Internet. The costs of
these initiatives and other investments related to our businesses will
continue to be significant.
Our expansion strategy is to continue to increase our market share in
existing markets and to penetrate strategically selected new markets. We opened
a total of 13 stores in 1999 and 16 stores in 1998, and currently anticipate
opening approximately three additional stores in 2000 and approximately 11 to 14
stores in 2001. Some of these stores will be new smaller format units designed
for secondary markets. We also believe there may be attractive opportunities to
expand by selectively acquiring existing music products retailers. However, in
the music industry there are only a small number of companies that would
strategically and financially be a beneficial opportunity for us to acquire. Our
"average" store is 15,000 square feet, carrying 7,000 SKUs and generating first
year sales of $5.5 million, whereas the "average" industry store is 3,200 square
feet, carrying 2,500 SKUs and generating sales of $1.0 million. We may also
consider acquisitions which are complementary to other parts of our business,
such as our direct response division, if attractive opportunities can be
identified.
NEWLY ISSUED ACCOUNTING PRONOUNCEMENTS
In March 2000, the Financial Accounting Standards Board (FASB) issued
FASB Interpretation No. 44 (Interpretation 44), ACCOUNTING FOR CERTAIN
TRANSACTIONS INVOLVING STOCK COMPENSATION. Interpretation 44 provides criteria
for the recognition of compensation expense in certain stock-based compensation
arrangements that are accounted for under Accounting Principles Board Opinion
No. 25, ACCOUNTING FOR STOCK-BASED COMPENSATION. Interpretation 44 is effective
July 1, 2000, with certain provisions that are effective retroactively to
December 15,1998 and January 12, 2000. Interpretation 44 is not expected to have
an impact on our financial statements.
SEASONALITY
Our operating results are not highly seasonal, except for the effect of
the holiday selling season in November and December. Sales in the fourth quarter
are typically significantly higher on a per store basis and through the direct
response unit than any other quarter.
INFLATION
We believe that the relatively moderate rates of inflation experienced
in recent years have not had a significant impact on our net sales or
profitability.
13
<PAGE>
FORWARD LOOKING STATEMENTS; BUSINESS RISKS
This Report contains forward-looking statements relating to, among
other things, future results of operations, growth and investment plans, sales,
trends in gross margin and average order size, growth in the Internet business
and other factors affecting growth in sales and earnings. Specific
forward-looking statements are provided regarding our management's current views
regarding comparable store sales and new store openings. Statements regarding
new store opening are based largely on the Company's current expectations and
are necessarily subject to associated business risks related to, among other
things, the timely construction, staffing and merchandising of those stores and
other matters, some of which are outside of the Company's control. Comparative
store sales growth is highly dependent upon the effectiveness of our sales and
promotion strategies and the effect of competition, including other national
operators of music products stores attempting to implement national growth
strategies. The catalog and Internet businesses were only recently acquired by
Guitar Center and continue to be subject to significant fluctuations due to the
growth of both businesses and the adaptation of new selling techniques,
including third-party credit.
Sales and earnings trends are also affected by many other factors
including, among others, general economic conditions and the effectiveness of
our merchandising strategies, changes in the music products industry, retail
sales trends and the emergence of new or growing specialty retailers of music
products. In light of these risks, there can be no assurance that the
forward-looking statements contained in this press release will in fact be
realized. The statements made by our management above represent their views as
of the date of this Report, and it should not be assumed that the statements
made herein remain accurate as of any future date. Guitar Center does not
presently intend to update these statements and undertakes no duty to any person
to effect any such update under any circumstances.
For a further discussion of risks associated with the our business,
please see the discussion under the caption "Risks Related to the Business" at
pages 13 through 16 of our Annual Report on Form 10-K for the year ended
December 31, 1999 which has been filed with the Securities and Exchange
Commission and may be accessed through the EDGAR database maintained by the SEC
at www.sec.gov.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Guitar Center does not have any assets or liabilities which in its view
impose upon it significant market risk except that it has outstanding $66.7
million in aggregate principal amount of 11% Senior Notes due 2006. These senior
notes constitute long-term, fixed interest rate obligations for which market
quotations are available.
Part II. OTHER INFORMATION
Item 6. Exhibits
Exhibit 27 Financial Data Schedule
14
<PAGE>
Pursuant to the requirements of the Securities and Exchange Act of
1934, the registrant has duly caused this report to be signed on its behalf by
the undersigned thereunto duly authorized as of the 10th day of November 2000.
Guitar Center, Inc.
/s/ Bruce L. Ross
Bruce L. Ross, Executive Vice President,
Chief Financial Officer and Secretary
(Duly Authorized Officer and Principal
Financial and Accounting Officer)
15
<PAGE>
Exhibit Index
EXHIBIT NO. DESCRIPTION
----------- -----------
27 Financial Data Schedule.
16
