<PAGE>
FORM 10-Q
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from ______________ to ______________
Commission file number 333-14217
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CORE-MARK INTERNATIONAL, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 91-1295550
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
395 OYSTER POINT BOULEVARD, SUITE 415
SOUTH SAN FRANCISCO, CA 94080
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (650) 589-9445
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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.
X Yes No
--- ---
At April 30, 1998, Registrant had outstanding 5,500,000 shares of Common Stock.
-----------------------------------------------
<PAGE>
CORE-MARK INTERNATIONAL, INC. AND SUBSIDIARIES
FORWARD-LOOKING STATEMENTS OR INFORMATION
Certain statements contained in this quarterly report on Form 10-Q under
the caption "Management's Discussion and Analysis of Financial Condition and
Results of Operations," and elsewhere herein and in the documents
incorporated herein by reference are not statements of historical fact but
are future-looking or forward-looking statements that may constitute
"forward-looking statements" within the meaning of Section 21E of the
Securities Exchange Act of 1934, as amended. Certain, but not necessarily
all, of such forward-looking statements can be identified by the use of such
forward-looking terminology as the words "believes," "expects," "may,"
"will," "should," or "anticipates" (or the negative of such terms) or other
variations thereon or comparable terminology, or because they involve
discussions of Core-Mark International, Inc.'s (the "Company's") strategy.
Such forward-looking statements are based upon a number of assumptions
concerning future conditions that may ultimately prove to be inaccurate. The
ability of the Company to achieve the results anticipated in such statements
is subject to various risks and uncertainties and other factors which may
cause the actual results, level of activity, performance or achievements of
the Company or the industry in which it operates to be materially different
from any future results, level of activity, performance or achievements
expressed or implied by such forward-looking statements. Such factors
include, among others, the general state of the economy and business
conditions in the United States and Canada; adverse changes in consumer
spending; the ability of the Company to implement its business strategy,
including the ability to integrate recently acquired businesses into the
Company; the ability of the Company to obtain financing; competition; the
level of retail sales of cigarettes and other tobacco products; possible
effects of legal proceedings against manufacturers and sellers of tobacco
products and the effect of government regulations affecting such products.
As a result of the foregoing and other factors affecting the Company's
business beyond the Company's control, no assurance can be given as to future
results, levels of activity, performance or achievements and neither the
Company nor any other person assumes responsibility for the accuracy and
completeness of these statements.
<TABLE>
<CAPTION>
PAGE
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<S> <C>
PART I - FINANCIAL INFORMATION
ITEM 1: FINANCIAL STATEMENTS
Condensed Consolidated Balance Sheets as of
December 31, 1997 and March 31, 1998 3
Condensed Consolidated Statements of Income for the
three months ended March 31, 1997 and 1998 4
Condensed Consolidated Statements of Cash Flows for the
three months ended March 31, 1997 and 1998 5
Notes to Condensed Consolidated Financial Statements 6
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS 8
PART II - OTHER INFORMATION
Item 1: Legal Proceedings 13
Item 2: Changes in Securities 14
Item 3: Defaults upon Senior Securities 14
Item 4: Submission of Matters to a Vote of Security Holders 14
Item 5: Other Information 14
Item 6: Exhibits and Reports on Form 8-K 14
Signature 15
</TABLE>
2
<PAGE>
CORE-MARK INTERNATIONAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS OF DOLLARS)
<TABLE>
<CAPTION>
DECEMBER 31, MARCH 31,
1997 1998
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ASSETS (UNAUDITED)
<S> <C> <C>
Current assets:
Cash...................................................................... $ 15,281 $ 13,764
Receivables:
Trade accounts, less allowance for doubtful accounts of $2,950 and
$2,751, respectively.................................................. 96,610 91,007
Other................................................................... 12,806 8,801
Inventories, net of LIFO allowance of $15,718 and $16,518, respectively 103,246 80,316
Prepaid expenses and other................................................ 5,847 6,323
------------- -------------
Total current assets.................................................... 233,790 200,211
Property and equipment...................................................... 56,633 58,021
Less accumulated depreciation............................................. (28,633) (29,960)
------------- -------------
Net property and equipment................................................ 28,000 28,061
Other assets................................................................ 8,277 8,126
Goodwill, net of accumulated amortization of $17,293 and $17,813,
respectively........................................................... 66,513 65,993
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$ 336,580 $ 302,391
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------------- -------------
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Trade accounts payable.................................................... $ 50,737 $ 46,182
Cigarette and tobacco taxes payable....................................... 43,506 46,308
Income taxes payable...................................................... 1,085 2,786
Deferred income taxes..................................................... 7,599 7,606
Other accrued liabilities................................................. 28,647 26,176
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Total current liabilities............................................... 131,574 129,058
Long-term debt.............................................................. 197,012 164,818
Other accrued liabilities and deferred income taxes......................... 9,030 9,088
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Total liabilities......................................................... 337,616 302,964
Commitments and contingencies:
Shareholders' deficit:
Common stock; $.01 par value; 10,000,000 shares authorized;
5,500,000 shares issued and outstanding................................. 55 55
Additional paid-in capital................................................ 26,121 26,121
Accumulated deficit....................................................... (22,286) (22,297)
Accumulated other comprehensive income:
Foreign currency translation adjustments................................ (2,879) (2,405)
Minimum pension liability adjustment.................................... (2,047) (2,047)
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Total shareholders' deficit............................................. (1,036) (573)
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$ 336,580 $ 302,391
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</TABLE>
See Notes to Condensed Consolidated Financial Statements.
3
<PAGE>
CORE-MARK INTERNATIONAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS OF DOLLARS)
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS
ENDED MARCH 31,
---------------------------
1997 1998
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<S> <C> <C>
Net sales......................................... $527,866 $563,220
Cost of goods sold................................ 487,756 522,533
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Gross profit................................. 40,110 40,687
Operating and administrative expenses............. 35,223 36,037
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Operating income............................. 4,887 4,650
Interest expense, net............................. 4,391 4,296
Debt refinancing costs............................ 392 374
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Income (loss) before income taxes........... 104 (20)
Income tax expense (benefit)...................... 42 (9)
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Net income (loss)............................ $ 62 $ (11)
------------ ---------
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</TABLE>
See Notes to Condensed Consolidated Financial Statements.
4
<PAGE>
CORE-MARK INTERNATIONAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS OF DOLLARS)
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS
ENDED MARCH 31,
----------------------------
1997 1998
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<S> <C> <C>
CASH PROVIDED BY OPERATING ACTIVITIES:
Net income (loss) $ 62 $ (11)
Adjustments to reconcile net income (loss) to
net cash provided by operating activities:
LIFO expense................................................................... 396 800
Amortization of goodwill....................................................... 506 520
Depreciation and amortization.................................................. 1,358 1,573
Amortization of debt refinancing fees ......................................... 392 374
Deferred income taxes.......................................................... 4 13
Other adjustments for non-cash and non-operating activities.................... 236 (125)
Changes in operating assets and liabilities, net of acquisitions............... 13,132 28,532
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Net cash provided by operating activities........................................ 16,086 31,676
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INVESTING ACTIVITIES:
Net assets of acquired businesses.............................................. (19,680) --
Additions to property and equipment............................................ (1,736) (1,402)
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Net cash used in investing activities............................................ (21,416) (1,402)
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FINANCING ACTIVITIES:
Net payments under revolving credit agreement.................................. (6,990) (32,194)
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Net cash used in financing activities............................................ (6,990) (32,194)
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Effects of changes in foreign exchange rates..................................... (69) 403
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Decrease in cash................................................................. (12,389) (1,517)
Cash, beginning of period........................................................ 25,769 15,281
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CASH, END OF PERIOD.............................................................. $ 13,380 $ 13,764
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------------- -----------
SUPPLEMENTAL CASH FLOW INFORMATION:
Cash payments (refunds) during the period for:
Interest....................................................................... $6,694 $6,243
Income taxes................................................................... 2 (1,712)
</TABLE>
See Notes to Condensed Consolidated Financial Statements.
5
<PAGE>
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED MARCH 31, 1998
(UNAUDITED)
1. BASIS OF PRESENTATION
The condensed consolidated balance sheet as of March 31, 1998, the
condensed consolidated statements of income for the three-month periods ended
March 31, 1997 and 1998, and the condensed consolidated statements of cash
flows for the three-month periods ended March 31, 1997 and 1998, have been
prepared by Core-Mark International, Inc. (the "Company"). In the opinion of
management, all adjustments, consisting only of normal recurring adjustments,
necessary to present fairly the financial position of the Company at March
31, 1998 (subject to year-end adjustments) with respect to the interim
financial statements, and of the results of its operations and cash flows for
the interim periods then ended, have been included. The results of operations
for the interim periods are not necessarily indicative of the operating
results for the full year.
The condensed consolidated balance sheet as of December 31, 1997, is
derived from the audited financial statements but does not include all
disclosures required by generally accepted accounting principles. The notes
accompanying the consolidated financial statements of the Company included in
the Company's Annual Report on Form 10-K for the year ended December 31, 1997
("1997 Form 10-K") include a description of the Company's significant
accounting policies and additional information pertinent to an understanding
of both the December 31, 1997 balance sheet and the interim financial
statements included herein.
2. INVENTORIES
The condensed consolidated financial statements have been prepared using
the LIFO method of accounting for inventories. The use of the LIFO method
resulted in an increase in cost of goods sold and a corresponding decrease in
inventories of $396,000 and $800,000 for the three months ended March 31,
1997 and 1998, respectively. Interim LIFO calculations are based on
management's estimates of year-end inventory levels and inflation rates for
the year.
3. EXCISE TAXES
State and provincial excise taxes paid by the Company on cigarettes were
$113.9 million and $112.2 million for the three months ended March 31, 1997
and 1998, respectively. These amounts are included in net sales and cost of
goods sold for the periods indicated.
4. ACQUISITION OF THE SOSNICK COMPANIES
On February 3, 1997, the Company consummated a transaction, pursuant to
a Purchase Agreement dated January 31, 1997, to acquire certain assets and
the business of two related companies, Melvin Sosnick Company and Capital
Cigar Company (collectively "Sosnick" or the "Sosnick Companies"), a
wholesale distributor to the convenience retail market in northern California
and northern Nevada. Sosnick operated in the same geographic marketplace as
the Company and provided similar products and services.
The Company's net sales for the three months ended March 31, 1997 would
have been $542.5 million if the acquisition had occurred as of January 1, 1997.
The impact of the acquisition on net income would not have been material for the
three-month period ended March 31, 1997.
6
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5. NEW ACCOUNTING PRONOUNCEMENT
Effective January 1, 1998, the Company adopted Statement of Financial
Accounting Standards No. 130, "Reporting Comprehensive Income." This
Statement requires that all items recognized under accounting standards as
components of comprehensive earnings be reported in an annual financial
statement that is displayed with the same prominence as other annual
financial statements. This Statement also requires that an entity classify
items of other comprehensive earnings by their nature in an annual financial
statement. Other comprehensive income (loss) represents foreign currency
translation adjustments made during the respective quarters. Comprehensive
income will be presented in the Company's annual financial statements for
prior periods and will be reclassified, as required. The Company's total
comprehensive earnings were as follows:
<TABLE>
<CAPTION>
Three Months Ended
March 31,
--------------------------------
1997 1998
------------ ------------
<S> <C> <C>
Net income (loss) $ 62 $ (11)
Other comprehensive income (loss) (48) 474
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Total comprehensive income $ 14 $ 463
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</TABLE>
6. SUBSEQUENT EVENT
On April 1, 1998, the Company entered into a transaction to securitize
its U.S. trade accounts receivable portfolio. In connection with this
transaction, the Company formed a wholly-owned special purpose,
bankruptcy-remote subsidiary (the "Special Purpose Company", or "SPC"), to
which the U.S. trade accounts receivable originated by the Company are sold
or contributed, without recourse, pursuant to a receivables sale agreement.
The receivables have been assigned, with a call option by the SPC, to a trust
formed pursuant to a pooling agreement; the SPC will issue two classes of
term certificates with an aggregate principal value of $55 million, and
variable certificates of up to $30 million representing fractional undivided
interests in the receivables and the proceeds thereof.
On a daily basis, collections related to sold receivables are
administered by the Company acting as servicer, pursuant to a servicing
agreement. Pursuant to supplements to the pooling agreement, certificate
holders' accrued interest expense and other securitization expenses are
reserved out of daily collections, before such remaining collections are
returned to the Company by the SPC to pay for the SPC's purchase of newly
originated receivables from the Company. The revolving period of the
securitization expires in January 2003, or earlier if an early amortization
event, as defined in the pooling agreement, occurs.
The interest rate on the fixed term certificates is 0.28% (Class A) and
0.65% (Class B) above the Eurodollar Rate which was 5.6875% as of April 1,
1998. The interest rate on the variable certificates is 0.50% above the
commercial paper rate (as defined in the securitization agreement), which was
5.55% as of April 1, 1998.
In connection with the securitization of accounts receivable, the
Company modified its Revolving Credit Facility. The modification reduced the
available credit facility from $175 million to $120 million, reduced its
interest rates from 1.5% to 1.0% above the Prime Rate, and from 2.5% to 2.0%
above the Eurodollar Rate, as defined in the amendment, and extended the
maturity through April, 2003. As a result of this modification, the Company
will write off approximately $0.8 million of unamortized refinancing costs
related to the Revolving Credit Facility in the second quarter of 1998.
The net result of the (i) securitization of the Company's U.S. trade
accounts receivable portfolio and (ii) the modification of the Revolving
Credit Facility was to lower the Company's cost of borrowings, and to
increase its variable-rate borrowing capacity from $175 million to $205
million.
7
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
The following discussion should be read in conjunction with Management's
Discussion and Analysis included in the Company's 1997 Form 10-K.
GENERAL
The Company is one of the largest broad-line, full-service wholesale
distributors of packaged consumer products to the convenience retail industry
in western North America. The products distributed by the Company include
cigarettes, food products such as candy, fast food, snacks, groceries and
non-alcoholic beverages, and non-food products such as film, batteries and
other sundries, health and beauty care products and tobacco products other
than cigarettes. In the quarter ended March 31, 1998, approximately 66%, 23%
and 11% of the Company's net sales were derived from cigarettes, food
products and non-food products, respectively.
TOBACCO INDUSTRY BUSINESS ENVIRONMENT
Manufacturers and distributors of cigarettes and other tobacco products
in the United States are currently facing a number of significant issues that
affect the business environment in which they operate including proposed
additional governmental regulation (see Part II, Item 1. "Legal Proceedings
- -Regulatory Matters"); actual and proposed excise tax increases (see "Impact
of Tobacco Taxes"); increased litigation involving health and other effects
of cigarette smoking and other uses of tobacco (see Part II, Item 1. "Legal
Proceedings - Legal Matters"); and proposed legislative action to resolve
certain regulatory and litigation issues affecting the U.S. tobacco industry
described below.
In June 1997, a so called "national settlement" of many of these issues
was proposed (referred to herein as the "Proposed Settlement") following
negotiations among major U.S. tobacco manufacturers, state attorneys general,
representatives of the public health community and attorneys representing
plaintiffs in certain smoking and health litigation. The Proposed Settlement
can be implemented only by federal legislation. In April 1998, the Senate
Commerce Committee overwhelmingly approved a Bill sponsored by Senator McCain
(the "McCain Bill"), which would, if passed by a Congressional vote, replace
the Proposed Settlement. The McCain Bill would substantially change the
Proposed Settlement by, among other things, enacting substantial increases to
federal excise taxes on tobacco products without affording the tobacco
manufacturers and other industry participants protection from private
litigation, which is a significant aspect of the Proposed Settlement. The
tobacco manufacturers have publicly announced that they will oppose the
McCain Bill and not provide certain industry consents required by the bill.
At the present time, the Company cannot predict whether federal legislation
reflecting the Proposed Settlement will be enacted or if other legislation,
similar to the McCain Bill, would be enacted. The major U.S. cigarette
manufacturers have disclosed in a report dated October 8, 1997 to a U.S.
Senate task force that, if the Proposed Settlement were enacted in its
current form, among other things, prices of cigarettes would increase
significantly and cigarette consumption would decline, although it is not
possible to forecast, with any degree of confidence, the magnitude of the
decline in consumption.
The Company believes that, if the Proposed Settlement or the McCain Bill
were enacted in their current forms, the Company's business of distributing
tobacco products would be negatively affected by decreases in the volume of
sales of tobacco products and by the impact of increases in cigarette prices
on its working capital (see "Liquidity and Capital Resources"). The Company
does not believe it is able to quantify the impact that the proposed
legislation or other future legislation or governmental regulation affecting
cigarettes and other tobacco products will have on future sales of cigarettes
and other tobacco products. However, based upon current industry estimates of
wholesale price increases (including enacted federal excise tax increases
(see "Impact of Tobacco Taxes")) ranging from $4.00 to $8.00 per carton of
cigarettes over the next two to three years as a result of the Proposed
Settlement, the Company believes that it would be able to adequately finance
the corresponding increase in its working capital requirements relating to
its existing business under its existing credit facilities. If such price
increases were to occur, the Company's debt levels and interest expense would
significantly increase. However, if the actual level of wholesale price
increases (including enacted federal excise tax increases) exceeds $8 per
carton; federal excise taxes were increased to levels beyond those which have
already been enacted; payment terms for state and provincial excise taxes
were adversely changed (see "Impact of Tobacco Taxes"); or the volume of
cigarettes sold by the Company declines significantly as a result of higher
prices or taxes, or both, the Company may be required to seek additional
financing in order to meet such higher working capital requirements.
8
<PAGE>
The Company's business strategy has included and continues to include
increasing sales of higher margin, non-tobacco products, a strategy which is
intended to lessen the impact of potential future declines in unit sales and
profitability of its tobacco distribution business.
RESULTS OF OPERATIONS
The following table sets forth certain operating results as a percentage
of net sales for the periods indicated:
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
--------------------
1997 1998
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<S> <C> <C>
Net sales 100.0% 100.0%
Cost of goods sold 92.4 92.8
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Gross profit 7.6 7.2
Operating & administrative expenses 6.7 6.4
------------ ------------
Operating income 0.9% 0.8%
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</TABLE>
THREE MONTHS ENDED MARCH 31, 1998 COMPARED TO THREE MONTHS ENDED MARCH 31, 1997
NET SALES. Net sales for the three months ended March 31, 1998 were
$563.2 million, an increase of $35.4 million or 6.7% over the same period in
1997. The increase in net sales was due to an increase in net sales of
cigarettes and food and non-food products in 1998 compared to 1997, and also
partially due to the 1997 Sosnick acquisition, which impacted three-months in
the 1998 period compared to only two months in the 1997 period.
Net sales of cigarettes for the three months ended March 31, 1998 were
$375.1 million, an increase of $19.4 million or 5.5% over the same period in
1997. The increase in net sales of cigarettes was principally due to
inflation from increases in manufacturers' list prices. The Company's total
cigarette unit sales for the three months ended March 31, 1998 were 21.0
million cartons, which approximates carton sales in the same period of 1997.
Net sales of food and non-food products for the three months ended March
31, 1998 were $188.1 million, an increase of $16.0 million or 9.3% over the
same period in 1997. The increase was due to the Company's continued focus on
increasing food and non-food product sales. The increase occurred primarily
in fast food sales, which increased $4.6 million or 25.4%, snack sales, which
increased $2.7 million or 25.1%, and candy sales, which increased $2.6
million or 4.5%.
GROSS PROFIT. Gross profit for the three months ended March 31, 1998
was $40.7 million, an increase of $0.6 million or 1.4% over the same period
in 1997. The increase was primarily due to increased gross profits from
continued sales growth in the food and non-food product categories. The gross
profit margin for the three months ended March 31, 1998 decreased to 7.2% of
net sales as compared to 7.6% of net sales for the same period in 1997
reflecting lower margins earned on net sales of food and non-food and
cigarettes compared to 1997. For the three months ended March 31, 1998, the
Company recognized LIFO expense of $0.8 million compared to $0.4 million for
the same period in 1997.
OPERATING AND ADMINISTRATIVE EXPENSES. Operating and administrative
expenses for the three months ended March 31, 1998 were $36.0 million, an
increase of $0.8 million or 2.3% over the same period in 1997. However, such
expenses for the three months ended March 31, 1998 decreased to 6.4% of net
sales as compared to 6.7% for the same period in 1997. The higher expenses in
the 1997 period reflect approximately $1.4 million (0.3% of 1997 net sales)
of one-time duplicative facility costs as a result of the Sosnick acquisition.
9
<PAGE>
OPERATING INCOME. As a result of the foregoing factors, operating
income for the three months ended March 31, 1998 was $4.7 million, a decrease
of $0.2 million or 4.8% compared to the same period in 1997. As a percentage
of net sales, operating income for the three months ended March 31, 1998 was
0.8%, as compared to 0.9% for the same period in 1997.
NET INTEREST EXPENSE. Net interest expense for the three months ended
March 31, 1998 was $4.3 million, a slight decrease of $0.1 million or 2.2%
compared to 1997. The net decrease resulted from a decrease in the Company's
average debt obligations and a slight decline in the average borrowing rate
as compared to 1997.
LIQUIDITY AND CAPITAL RESOURCES
The Company's liquidity requirements arise primarily from the funding of
its working capital needs, capital expenditure programs and debt service
requirements with respect to the Revolving Credit Facility and the Notes. The
Company has no mandatory payments of principal on the Notes scheduled prior
to their final maturity on September 15, 2003, and has no mandatory payments
of principal scheduled under the Revolving Credit Facility, which matures
April 1, 2003. The Company has historically financed its operations through
internally generated funds and borrowings under its credit facilities.
Significant increases in the cost of cigarettes to the Company would
occur if legislation were approved to enact the Proposed Settlement or the
McCain Bill (See "Tobacco Industry Business Environment"). Based upon current
industry estimates of wholesale price increases (including enacted federal
excise tax increases (see "Impact of Tobacco Taxes")) ranging from $4.00 to
$8.00 per carton of cigarettes over the next two to three years as a result
of the Proposed Settlement, the Company believes that it will be able to
adequately finance the corresponding increase in its working capital
requirements relating to its existing business under its existing credit
facilities. If such price increases were to occur, the Company's debt levels
and interest expense would significantly increase. However, if the actual
level of wholesale price increases (including enacted federal excise tax
increases) exceeds $8 per carton; federal excise taxes were increased to
levels beyond those which have already been enacted; payment terms for state
and provincial excise taxes were adversely changed (see "Impact of Tobacco
Taxes"); or the volume of cigarettes sold by the Company declines
significantly as a result of higher prices or taxes, or both, the Company may
be required to seek additional financing in order to meet such higher working
capital requirements.
The Company's debt obligations totaled $164.8 million at March 31, 1998,
a decrease of $32.2 million from $197.0 million at December 31, 1997. The net
decrease in outstanding debt is primarily due to decreased borrowings needed
to finance working capital funding requirements. Debt requirements are
generally the highest at December 31, when the Company historically carries
higher inventory.
The Company's principal sources of liquidity are net cash provided by
operating activities and its revolving credit facility. At year end, the
Company typically carries higher inventories which are then liquidated in
future periods. Therefore, net cash provided by operating activities is
typically lower at the end of any fiscal year compared to interim periods.
However, at March 31, 1997, the Company's inventory levels were higher than
at March 31, 1998 due to higher cigarette inventory resulting from
manufacturers' price increases that occurred in March of 1997. As a result,
net cash provided by operating activities was significantly lower for the
three months ended March 31, 1997 compared to the three months ended March
31, 1998.
The Company made capital expenditures of $1.4 million for the three
months ended March 31, 1998. For the remainder of 1998, the Company estimates
it will spend approximately $6 million for capital requirements, principally
consisting of warehouse facilities and other equipment. These expenditures
are expected to be funded out of net cash provided by operating activities
and its revolving credit facility.
On April 1, 1998, the Company entered into a transaction to securitize
its U.S. trade accounts receivable portfolio. In connection with this
transaction, the Company formed a wholly-owned special purpose,
bankruptcy-remote subsidiary (the "Special Purpose Company", or "SPC"), to
which the U.S. trade accounts receivable originated by the Company are sold
or contributed, without recourse, pursuant to a receivables sale agreement.
The receivables have been assigned, with a call option by the SPC, to a trust
formed pursuant to a pooling agreement; the SPC will issue two classes of
term certificates with an aggregate principal value of $55 million, and
variable certificates of up to $30 million representing fractional undivided
interests in the receivables and the proceeds thereof. The revolving period
of the securitization expires in January 2003, or earlier if an early
amortization event, as defined in the pooling agreement, occurs.
The interest rate on the fixed term certificates is 0.28% (Class A) and
0.65% (Class B) above the Eurodollar Rate which was 5.6875% as of April 1,
1998. The interest rate on the variable certificates is 0.50% above the
commercial paper rate (as defined in the securitization agreement), which was
5.55% as of April 1, 1998.
10
<PAGE>
In connection with the securitization of accounts receivable, the
Company modified its Revolving Credit Facility. The modification reduced the
available credit facility from $175 million to $120 million, reduced its
interest rates from 1.5% to 1.0% above the Prime Rate, and from 2.5% to 2.0%
above the Eurodollar Rate, as defined in the amendment, and extended the
maturity through April, 2003. As a result of this modification, the Company
will write off approximately $0.8 million of unamortized refinancing costs
related to the Revolving Credit Facility in the second quarter of 1998.
The net result of the (i) securitization of the Company's U.S. trade
accounts receivable portfolio and (ii) the modification of the Revolving
Credit Facility was to lower the Company's cost of borrowings, and to
increase its variable-rate borrowing capacity from $175 million to $205
million.
The Company is currently in the process of modifying or replacing its
computer systems for the year 2000 compliance. This activity is expected to
continue through 1999, and is not expected to have a material impact on the
financial position or results of operations of the Company in any given year.
However, due to the interrelated nature of computer systems, the Company may
be impacted in the year 2000 depending on whether entities not affiliated
with the Company have addressed this issue successfully. Expenses related to
this process are being expensed as incurred.
IMPACT OF TOBACCO TAXES
State and Canadian provincial tobacco taxes represent a significant
portion of the Company's net sales and cost of goods sold attributable to
cigarettes and other tobacco products. In general, such taxes have been
increasing, and several states and Canadian provinces are currently weighing
proposals for higher excise taxes on cigarettes and other tobacco products.
Under current law, almost all state and Canadian provincial taxes are
payable by the Company under credit terms which, on the average, exceed the
credit terms the Company has approved for its customers to pay for products
which include such taxes. This practice has benefited the Company's cash
flow. If the Company were required to pay such taxes at the time such
obligation was incurred without the benefit of credit terms, the Company
would incur a substantial permanent increase in its working capital
requirements and might be required to seek additional financing in order to
meet such higher working capital requirements. Consistent with industry
practices, the Company has secured a bond to guarantee its tax obligations to
those states requiring such a surety (a majority of states in the Company's
operating areas).
The U.S. federal excise tax on cigarettes is currently $2.40 per carton
of cigarettes. In August 1997, legislation was enacted that will raise the
federal excise tax by $1.00 per carton of cigarettes starting in the year
2000 and by an additional $.50 per carton of cigarettes in 2002. Unlike the
state and provincial taxes described above, U.S. federal excise taxes on
cigarettes are paid by the cigarette manufacturers and passed through to the
Company as a component of the cost of cigarettes. Such increases in U.S.
federal taxes increase the Company's working capital requirements by
increasing the balances of its inventories and accounts receivable. The
President as well as various members of Congress have suggested additional
excise taxes on cigarette and tobacco products, either as part of the
Proposed Settlement discussed above or to finance unrelated federal spending.
If the actual level of wholesale cigarette price increases (including enacted
federal excise taxes) exceeds $8.00 per carton over the next two to three
years or if federal excise taxes were increased to levels beyond those which
have already been enacted, the Company may be required to seek additional
financing in order to meet its higher working capital requirements.
NEW ACCOUNTING STANDARDS
In February 1998, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 132, "Employers' Disclosures
about Pensions and Other Postretirement Benefits." This Statement revises
employers' disclosures about pension and other postretirement benefit plans.
It does not change the measurement or recognition of those plans. This
Statement standardizes the disclosure requirements for pensions and other
postretirement benefits to the extent practicable, requires additional
information on changes in the benefit obligations and fair values of plan
assets that will facilitate financial analysis, and eliminates certain
disclosures. Restatement of disclosures for earlier periods is required. This
Statement is effective for the Company's financial statements for the year
ended December 31, 1998.
11
<PAGE>
In March 1998, the American Institute of Certified Public Accountants
issued Statement of Opinion ("SOP") 98-1, "Accounting for the Costs of
Computer Software Developed or Obtained for Internal Use." This SOP provides
guidance on accounting for the costs of computer software developed or
obtained for internal use. This SOP requires that entities capitalize certain
internal-use software costs once certain criteria are met. Currently, the
Company generally expenses the costs of developing or obtaining internal-use
software as incurred. The Company is currently evaluating SOP 98-1, but does
not expect it to have a material impact on its consolidated financial
statements. This SOP is effective for the Company's financial statements for
the year ended December 31, 1999. Earlier application is encouraged in fiscal
years for which annual financial statements have not been issued.
12
<PAGE>
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
REGULATORY MATTERS
The tobacco industry is currently subject to significant regulatory
restrictions, such as the requirement that product packages display warning
labels, a prohibition on television and radio advertising and the
establishment of a federal minimum age of 18 for the sale of tobacco products
with proof of age for anyone under the age of 27. The status of U.S. Food
and Drug Administration (the "FDA") regulation is described in more detail in
the Company's 1997 Annual Report on Form 10-K. While neither the FDA
regulations nor the pending legislation would impose restrictions on the sale
of cigarettes and smokeless tobacco products to adults, there can be no
assurance such restrictions will not be proposed in the future or that any
such proposed legislation or regulations would not result in a material
reduction of the consumption of tobacco products in the United States or
would not have a material adverse effect on the Company's business and
financial position.
Over the past decade, various state and local governments have imposed
or are considering future significant regulatory restrictions on tobacco
products which are more fully described in the Company's 1997 Annual Report
on Form 10-K. The Company is unable to assess the future effects that these
various proposals may have on the sale of the Company's products.
The Company is subject to various federal, state and local
environmental, health and safety laws and regulations. Generally, these laws
impose limitations on the discharge of pollutants and the presence of
hazardous substances in the workplace and establish standards for vehicle and
employee safety and for the handling of solid and hazardous wastes. These
laws include the Resource Conservation and Recovery Act, the Comprehensive
Environmental Response, Compensation and Liability Act, the Clean Air Act,
the Hazardous Materials Transportation Act and the Occupational Safety and
Health Act. Future developments, such as stricter environmental or employee
health and safety laws and regulations thereunder, could affect the Company's
operations. The Company does not currently anticipate that the cost of its
compliance with or of any foreseeable liabilities under environmental and
employee health and safety laws and regulations will have a material adverse
affect on its business and financial condition.
LEGAL MATTERS
In May 1996, the Court of Appeals for the Fifth Circuit decertified a
federal class action purportedly brought on behalf of all cigarette smokers
in the United States. Following the decertification, lawyers for the class
brought state class action lawsuits in a number of states, with the objective
of filing such lawsuits in all fifty states, the District of Columbia and
Puerto Rico. Several of these state lawsuits name cigarette distributors such
as the Company as defendants.
In October 1996, a subsidiary of the Company was named as a defendant in
a class action lawsuit filed in State Court in New Mexico. The other
defendants include the principal U.S. tobacco manufacturers as well as other
distributors. The case is brought on behalf of a putative class of smokers
who reside in New Mexico, each of whom is allegedly nicotine dependent. The
suit seeks, on behalf of the class, compensatory damages, punitive damages
and equitable relief, including medical monitoring of the class members.
In May 1997, a subsidiary of the Company was named as a defendant in an
action brought by the Attorney General of New Mexico in an action filed in
State Court in Santa Fe, New Mexico. The other defendants include the
principal U.S. tobacco manufacturers as well as other distributors. The
Attorney General alleges, among other things, that the defendants realized
significant profits from the manufacture, distribution, and sale of tobacco
products, and that these activities have caused residents of New Mexico to
suffer illnesses and diseases. The State of New Mexico seeks both monetary
damages and a permanent injunction to require defendants to fund public
education and smoking cessation programs. In April 1998, the plaintiff in
this case agreed to release the Company from litigation; formal action by the
Court is pending.
In January 1998, the Company was served with a summons and First Amended
Complaint in an action brought by Operating Engineers Local 12 Health and
Welfare Trust (on behalf of itself and all others similarly situated), in the
United States District Court for the Central District of California, against
major tobacco manufacturers, the Company, and other distributors and
retailers of tobacco products. The complaint seeks, inter alia, compensatory
and punitive damages, restitution for monies expended by the Trust for health
care of its members who have used tobacco products, and forms of injunctive
relief.
13
<PAGE>
In March 1998, the Company was named as a defendant in a class action
complaint filed in a state court in Salt Lake City, Utah. The other
defendants include the principal U.S. tobacco manufacturers as well as
several other distributors. The case is brought on behalf of a class of
smokers who reside in Utah and who have purchased cigarette products
distributed by the Company, and alleges, among other things, the members of
the class have suffered personal injuries and economic losses from the use of
such cigarettes. The suit seeks, on behalf of the class, compensatory
damages, punitive damages, equitable relief including the establishment of a
medical monitoring fund and return of monies spent to purchase cigarette
products.
In April and May 1998, the Company was named as a defendant in 9 actions
brought by various union health and welfare trusts, filed in state courts of
several counties in Northern California against major tobacco manufacturers
as well as other distributors. The complaints seek, inter alia, compensatory
and punitive damages, restitution for monies expended by the trusts for
health care of its members who have used tobacco products, and forms of
injunctive relief.
The Company does not believe that these actions will have a material
adverse effect on the Company's financial condition. The Company has been
indemnified with respect to certain claims alleged in each of the above
actions.
In addition, the Company is a party to other lawsuits incurred in the
ordinary course of its business. The Company believes it is adequately
insured with respect to such lawsuits or that such lawsuits will not result
in losses material to its consolidated financial position or results of
operations.
Item 2: Changes in Securities
Not applicable
Item 3: Defaults Upon Senior Securities
Not applicable
Item 4: Submission of Matters to a Vote of Security Holders
Not applicable
Item 5: Other Information
Not applicable
Item 6: Exhibits and Reports on Form 8-K
(a) Exhibits
27 Financial Data Schedule
(b) Reports on Form 8-K:
During the first quarter of 1998, the Registrant filed a Current
Report on Form 8-K for the following event:
1. January 27, 1998
Item 4. Changes in Registrant's Certifying Accountant
On January 27, 1998, the Registrant determined not to engage KPMG
Peat Marwick LLP as the independent public accountants for its 1998 fiscal
year and has appointed Deloitte & Touche LLP as its independent public
accountants for its 1998 fiscal year.
14
<PAGE>
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 in the City of South San Francisco,
California, on May 14, 1998.
CORE-MARK INTERNATIONAL, INC.
By /s/ Leo F. Korman
-----------------------------------------
Leo F. Korman, Senior Vice President and
Chief Financial Officer
15
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