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 June 30, 1999
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
============
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
============
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 July 31, 1999, Registrant had outstanding
5,500,000 shares of Common Stock.
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<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;
increases in federal and state taxes on tobacco products that have the effect of
increasing the prices of such 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.
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Page
PART I - FINANCIAL INFORMATION
<S> <C>
Item 1: Financial Statements
Condensed Consolidated Balance Sheets as of December 31, 1998 and
June 30, 1999............................ ............................. 3
Condensed Consolidated Statements of Income for the three and six
months ended June 30, 1998 and 1999...... ............................ 4
Condensed Consolidated Statements of Cash Flows for the six months
ended June 30, 1998 and 1999............ ........................... 5
Notes to Condensed Consolidated Financial Statements................ 6
Item 2: Management's Discussion and Analysis of Financial Condition and
Results of Operations ............... ........................... 8
Item 3: Quantitative and Qualitative Disclosures About Market
Risk................................................................ 13
PART II - OTHER INFORMATION
Item 1: Legal Proceedings............................................. 14
Item 2: Changes in Securities and Use of Proceeds..................... 15
Item 3: Defaults Upon Senior Securities............................... 15
Item 4: Submission of Matters to a Vote of Security Holders........... 15
Item 5: Other Information............................................. 15
Item 6: Exhibits and Reports on Form 8-K.............................. 15
Signature .............................................................. 16
</TABLE>
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CORE-MARK INTERNATIONAL, INC. AND SUBSIDIARIES
Condensed Consolidated Balance Sheets
(In Thousands of Dollars)
<TABLE>
<CAPTION>
December 31, June 30,
1998 1999
-------- --------
Assets (Unaudited)
<S> <C> <C>
Current assets:
Cash ...................................................................... $ 24,586 $ 13,877
Receivables:
Trade accounts, less allowance for doubtful accounts of $2,761 and
$2,727, respectively.............................................. 103,412 108,976
Other ................................................................. 12,578 13,495
Inventories, net of LIFO allowance of $34,332 and $34,557, respectively.... 112,481 74,284
Prepaid expenses and other................................................. 6,576 6,018
-------- --------
Total current assets .................................................. 259,633 216,650
Property and equipment ......................................................... 61,332 63,631
Less accumulated depreciation ............................................. (33,283) (35,436)
-------- --------
Net property and equipment ................................................ 28,049 28,195
Other assets .................................................................. 7,227 6,528
Goodwill, net of accumulated amortization of $19,375 and $20,416,
respectively .............................................................. 64,481 63,440
-------- --------
$359,390 $314,813
======== ========
Liabilities and Shareholders' Equity Current liabilities:
Trade accounts payable..................................................... $ 48,867 $ 55,998
Cigarette and tobacco taxes payable........................................ 45,073 54,077
Income taxes payable....................................................... 2,698 3,483
Deferred income taxes...................................................... 6,992 6,833
Other accrued liabilities.................................................. 34,514 30,027
-------- --------
Total current liabilities.............................................. 138,144 150,418
Long-term debt.................................................................. 208,124 142,100
Other accrued liabilities and deferred income taxes............................. 9,260 10,339
-------- --------
Total liabilities.......................................................... 355,528 302,857
Commitments and contingencies
Shareholders' equity:
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........................................................ (15,077) (8,037)
Accumulated other comprehensive loss:
Foreign currency translation adjustments............................... (4,225) (3,171)
Minimum pension liability adjustment............................................ (3,012) (3,012)
-------- --------
Total shareholders' equity............................................. 3,862 11,956
-------- --------
$359,390 $314,813
======== ========
</TABLE>
See Notes to Condensed Consolidated Financial Statements.
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CORE-MARK INTERNATIONAL, INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Income
(In Thousands of Dollars)
(Unaudited)
<TABLE>
<CAPTION>
Three Months Six Months
Ended June 30, Ended June 30,
----------------------------- -----------------------------
1998 1999 1998 1999
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Net sales............................................ $ 609,051 $ 707,406 $1,172,271 $1,336,858
Cost of goods sold................................... 564,627 656,734 1,087,160 1,240,616
-------- -------- -------- --------
Gross profit..................................... 44,424 50,672 85,111 96,242
Operating and administrative expenses................ 37,013 39,101 73,050 76,972
-------- -------- -------- --------
Operating income................................. 7,411 11,571 12,061 19,270
Interest expense, net................................ 3,692 3,100 7,988 6,495
Debt refinancing costs............................... 1,199 319 1,573 637
-------- -------- -------- --------
Income before income taxes....................... 2,520 8,152 2,500 12,138
Income tax expense................................... 1,158 3,424 1,149 5,098
-------- -------- -------- --------
Net income....................................... $ 1,362 $ 4,728 $ 1,351 $ 7,040
======== ======== ======== ========
</TABLE>
See Notes to Condensed Consolidated Financial Statements.
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CORE-MARK INTERNATIONAL, INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Cash Flows
(In Thousands of Dollars)
(Unaudited)
<TABLE>
<CAPTION>
Six Months
Ended June 30,
----------------------------------------
1998 1999
-------- --------
CASH PROVIDED BY OPERATING ACTIVITIES:
<S> <C> <C>
Net income .................................................................. $ 1,351 $ 7,040
Adjustments to reconcile net income to net cash provided by operating
activities:
LIFO expense............................................................... 4,051 225
Depreciation and amortization.............................................. 3,211 3,178
Amortization of goodwill................................................... 1,041 1,041
Amortization of debt refinancing fees...................................... 1,573 637
Deferred income taxes...................................................... 64 965
Changes in operating assets and liabilities................................ 25,068 44,270
-------- --------
Net cash provided by operating activities ...................................... 36,359 57,356
-------- --------
INVESTING ACTIVITIES:
Additions to property and equipment ....................................... (2,699) (3,095)
-------- --------
Net cash used in investing activities .......................................... (2,699) (3,095)
-------- --------
FINANCING ACTIVITIES:
Net borrowings (payments) under accounts receivable securitization......... 70,000 (6,900)
Net payments under revolving credit agreement ............................. (104,387) (59,124)
Debt refinancing fees...................................................... (1,273) --
-------- --------
Net cash used in financing activities .......................................... (35,660) (66,024)
-------- --------
Effects of changes in foreign exchange rates.................................... (310) 1,054
-------- --------
Decrease in cash ............................................................... (2,310) (10,709)
Cash, beginning of period ...................................................... 15,281 24,586
-------- --------
CASH, END OF PERIOD............................................................. $ 12,971 $ 13,877
======== ========
SUPPLEMENTAL CASH FLOW INFORMATION:
Cash payments during the period for:
Interest .................................................................. $7,868 $6,466
Income taxes .............................................................. 1,110 3,325
</TABLE>
See Notes to Condensed Consolidated Financial Statements.
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Notes to Condensed Consolidated Financial Statements
Six Months Ended June 30, 1999
(Unaudited)
1. Basis of Presentation
The condensed consolidated balance sheet as of June 30, 1999, the condensed
consolidated statements of income for the three-month and six-month periods
ended June 30, 1998 and 1999, and the condensed consolidated statements of cash
flows for the six-month periods ended June 30, 1998 and 1999, 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 June 30, 1999 with
respect to the interim financial statements, and the results of its operations
and cash flows for the interim periods ended June 30, 1998 and 1999, 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, 1998, 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, 1998
("1998 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, 1998 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 $3.3 million and $0.1 million for the three months ended June 30,
1998 and 1999, respectively, and $4.1 million and $0.2 million for the six
months ended June 30, 1998 and 1999, 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 on cigarettes included in the Company's
net sales and cost of goods sold were $116.4 million and $146.3 million for the
three months ended June 30, 1998 and 1999, respectively and $228.6 million and
$275.1 million for the six months ended June 30, 1998 and 1999, respectively.
4. Comprehensive Income
The Company's total comprehensive income was $578,000 and $5,425,000 for
the three months ended June 30, 1998 and 1999, respectively, and $1,041,000 and
$8,094,000 for the six months ended June 30, 1998 and 1999, respectively, which
reflects net income and foreign currency translation adjustments.
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Notes to Condensed Consolidated Financial Statements (cont.)
5. Segment Information
Management has determined that the only reportable segment of the Company
is its wholesale distribution segment, based on the level at which executive
management reviews the results of operations in order to make decisions
regarding performance assessment and resource allocation. There has been no
change in the segment reported or the basis of measurement of segment profit or
loss from that which was reported in the Company's 1998 Form 10-K. Wholesale
distribution segment information for the three-month and six-month periods ended
June 30, and segment assets as of December 31, 1998 and June 30, 1999 are set
forth below (dollars in thousands):
<TABLE>
<CAPTION>
Three Months Six Months
Ended June 30 Ended June 30
------------- ------------
1998 1999 1998 1999
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Net sales from external customers ............................. $ 609,051 $ 707,406 $1,172,271 $1,336,858
Segment pretax operating income (1) ........................... $ 4,917 $ 9,078 $ 6,970 $ 13,962
Less: Goodwill and other unallocated amortization ............. 658 565 1,312 1,126
Interest expense: unallocated and other ............... 540 43 1,585 61
Amortization of debt refinancing costs ................ 1,199 318 1,573 637
-------- -------- -------- --------
Consolidated income before income taxes ....................... $ 2,520 $ 8,152 $ 2,500 $ 12,138
======== ======== ======== ========
</TABLE>
<TABLE>
<CAPTION>
Assets December 31, June 30,
1998 1999
-------- --------
<S> <C> <C>
Segment assets................................................ $ 341,583 $ 304,050
Add: Corporate and other...................................... 17,807 10,763
-------- --------
Consolidated assets........................................... $ 359,390 $ 314,813
======== ========
</TABLE>
---------------------
(1) Represents operating income, including allocated interest expense,
but excluding amortization of goodwill and debt refinancing costs,
and income taxes.
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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 and the discussion under the heading "Legal Proceeding -
Regulatory and Legislative Matters" included in the Company's 1998 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. For the six months ended June 30, 1999, approximately 69%, 21% and
10% 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
face a number of significant issues that affect the business environment in
which they operate including proposed additional governmental regulation; actual
and proposed excise tax increases (see "Impact of Tobacco Taxes" below);
increased litigation involving health and other effects of cigarette smoking and
other uses of tobacco; and potential litigation by the U.S. Department of
Justice to recover federal Medicare costs allegedly connected to smoking.
In August 1996, the United States Food and Drug Administration (the "FDA")
determined that it had jurisdiction over cigarettes and smokeless tobacco
products and issued regulations restricting the sale, distribution and
advertising of cigarette and smokeless tobacco products, especially to minors.
The FDA regulations are significant not only because of their substance, but
also because the FDA determined that it has jurisdiction over cigarettes and
smokeless tobacco as "combination products having both a drug component,
including nicotine, and device components." The regulations regulate such
products as "devices." In April 1997, the U.S. District Court for the Middle
District of North Carolina held that the FDA could impose restrictions on access
to and labeling of tobacco products, but did not have authority to restrict the
promotion and advertisement of such products. The court stayed implementation of
the FDA regulations except for those establishing a federal minimum age of 18
for the sale of tobacco products and requiring proof of age for anyone under the
age of 27. On August 14, 1998, however, the United States Court of Appeals for
the Fourth Circuit reversed the decision of the District Court, finding that the
FDA lacked statutory authority to regulate tobacco products altogether. The
FDA's petitions for rehearing and rehearing en banc by the Fourth Circuit were
denied, but, on April 26, 1999, the Supreme Court granted certiorari to review
the decision of the Court of Appeals. A date for arguments on the case has not
yet been set.
In June 1997, a so called "national settlement" of many of these issues was
proposed 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 national
settlement required implementation by federal legislation, however, and such
legislation was considered but not passed by the Congress in 1998. Similar
federal legislation has not been introduced to date in 1999.
In light of failure of the national settlement legislation, in November
1998, the four largest U.S. cigarette manufacturers and the attorneys general of
46 states, five territories, and the District of Columbia agreed to a settlement
of approximately $400 billion for public health-care costs allegedly connected
to smoking. The settlement - which takes effect in each settling jurisdiction
when the courts in each such jurisdiction enter a final consent decree and any
appeals of such decree are disposed of or become time-barred - allows for
payment of the agreed sum by the cigarette manufacturers over 25 years, settles
the state and territory health-care claims against the tobacco industry and
imposes a number of new marketing, advertising, sales and other restrictions on
tobacco products. As a direct result of this settlement, the major cigarette
manufacturers raised the wholesale price of cigarettes by $4.50 per carton,
effective November 24, 1998, bringing the total per-carton price increase in the
United States in 1998 to $6.35.
Included in the terms of the settlement are conditions that tobacco
companies participating in the settlement may not: target youth in the
advertising, promotion or marketing of tobacco products; use tobacco brand names
to sponsor concerts, athletics events or other events in which a significant
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percentage of the audience is under 18 years of age; advertise products in
conspicuous places outdoors (such as billboards) or on transit vehicles;
merchandise a tobacco brand name through the marketing, distribution or sale of
apparel or other merchandise; provide free samples of tobacco products in any
area except an adults-only facility; distribute or sell cigarettes in pack sizes
of less than 20; or lobby state legislatures on certain anti-tobacco initiatives
(such as limitations on youth access to vending machines). Many of these
provisions took effect in November 1998 and most of the remaining provisions
took effect by April 23, 1999. The Company is unable to assess the effects that
this agreement will have on the sale of the Company's products; there can be no
assurance that these new restrictions will not result in a material reduction of
the consumption of tobacco products in the United States and thus will 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
significant regulatory restrictions on tobacco products, including sampling and
advertising bans or restrictions, packaging regulations and prohibitions on
smoking in restaurants, office buildings and public places. With a limited
number of exceptions, the state Medicaid litigation settlement prohibits the
participating tobacco manufacturers from challenging any restriction relating to
tobacco control enacted prior to June 1, 1998. Additional state and local
legislative and regulatory actions are being considered and are likely to be
promulgated in the future. The Company is unable to assess the future effects
that these various proposals may have on the sale of the Company's products.
In early 1999, the President of the United States requested the Department
of Justice to review whether the United States can recover various expenditures
for medical costs incurred by smokers or former smokers which were paid or
reimbursed by the federal government. To date, the Justice Department has not
taken any such action, but there can be no assurance that the federal government
will not commence litigation against the tobacco manufacturers or as to the
outcome of any such litigation.
Effective January 1, 1999, the State of California increased the state
excise tax on cigarettes by $5.00 per carton. California is the Company's
largest market, representing approximately 37% of carton sales during the six
months ended June 30, 1999.
The Company believes that price and tax increases of the magnitude recently
experienced will have a negative impact on overall industry unit sales and will
negatively affect the Company's sales of tobacco products. The Company does not
believe that it is able to quantify the impact of these higher prices and taxes
on future sales of cigarettes and other tobacco products. Manufacturer price
increases will also increase the Company's debt and interest expense levels. The
Company believes that it has adequate financing arrangements in place at the
present time to finance the additional working capital requirements of the most
recent manufacturer price increases. However, depending upon future levels of
manufacturer price increases, or if the terms or amounts of state and provincial
excise taxes were adversely changed, the Company may be required to seek
additional financing in order to meet future higher working capital
requirements.
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.
Three Months Ended June 30, 1999 Compared to Three Months Ended June 30, 1998
NET SALES. Net sales for the three months ended June 30, 1999 were $707.4
million, an increase of $98.4 million or 16.2% over the same period in 1998. The
increase in net sales was primarily due to an increase in net sales of
cigarettes, as well as increased sales of food and non-food products in 1999
compared to 1998.
Net sales of cigarettes for the three months ended June 30, 1999 were
$489.5 million, an increase of $81.4 million or 19.9% over the same period in
1998. The increase in net sales of cigarettes was principally due to increases
in manufacturers' list prices as well as the $5.00 per carton increase in
California state excise taxes which became effective January 1, 1999, all of
which have been passed on to the Company's customers in the form of higher
prices. The Company's total cigarette unit sales for the three months ended June
30, 1999 were 19.9 million cartons, a decrease of 2.0 million cartons or 9.2%
from the same period of 1998. The decrease in the Company's carton sales
occurred primarily in California, and was due to a number of factors. The
competition from so called "grey market" cigarettes also continued to be intense
in California. Grey market cigarettes are cigarettes produced by the major
tobacco companies, and intended for export only, but which are reintroduced into
the domestic market by unauthorized distributors at prices substantially lower
then domestic cigarettes. For the three months ended June 30, 1999, cigarette
carton sales in the United States, outside of California, were substantially the
same in 1999 as in the comparable period of 1998.
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Net sales of food and non-food products for the three months ended June 30,
1999 were $217.9 million, an increase of $17.0 million or 8.4% over the same
period in 1998.
GROSS PROFIT. Gross profit for the three months ended June 30, 1999 was
$50.7 million, an increase of $6.2 million or 14.1% over the same period in
1998. The increase was primarily due to the higher level of sales in both the
cigarette and food and non-food categories. The gross profit margin for the
three months ended June 30, 1999 decreased to 7.16% of net sales as compared to
7.29% of net sales for the comparable period in 1998. The decrease in overall
gross profit margin was primarily due to the greater increase in cigarette sales
as compared to sales of food and non-food products, because the margin on
cigarette sales is lower than on food and non-food products. During the period,
both cigarette gross profit margin and gross profit per carton increased, while
gross profit margins on food and non-food products remained virtually unchanged.
OPERATING AND ADMINISTRATIVE EXPENSES. Operating and administrative
expenses for the three months ended June 30, 1999 were $39.1 million, an
increase of $2.1 million or 5.6% over the same period in 1998. However, such
expenses for the three months ended June 30, 1999 decreased to 5.5% of net sales
as compared to 6.1% of net sales for the same period in 1998. The decline in
operating expenses as a percent of net sales is primarily due to the higher
level of cigarette net sales resulting from cigarette price increases, which
occurred primarily in the last quarter of 1998.
OPERATING INCOME. As a result of the foregoing factors, operating income
for the three months ended June 30, 1999 was $11.6 million, an increase of $4.2
million or 56.1% compared to the same period in 1998. As a percentage of net
sales, operating income for the three months ended June 30, 1999 was 1.6%, as
compared to 1.2% for the same period in 1998.
NET INTEREST EXPENSE. Net interest expense for the three months ended June
30, 1999 was $3.1 million, a decrease of $0.6 million or 16.0% compared to 1998.
The net decrease resulted from a decrease in the Company's average debt levels
and a decline in the average borrowing rate.
DEBT REFINANCING COSTS. Debt refinancing costs for the three months ended
June 30, 1999 were $0.3 million, a decrease of $0.9 million or 73.4% compared to
the same period in 1998. The decrease is a result of the write-off of a portion
of unamortized costs relating to the modification of the revolving credit
facility, which occurred in 1998.
Six Months Ended June 30, 1999 Compared to Six Months Ended June 30, 1998
NET SALES. Net sales for the six months ended June 30, 1999 were $1,336.9
million, an increase of $164.6 million or 14.0% over the comparable period in
1998. The increase in net sales was due to an increase in net sales of
cigarettes and food and non-food products in 1999 compared to 1998.
Net sales of cigarettes for the six months ended June 30, 1999 were $924.8
million, an increase of $141.6 million or 18.1% over the prior year. The
increase in net sales of cigarettes was principally due to increases in
manufacturers' list prices as well as the $5.00 per carton increase in
California state excise taxes which became effective January 1, 1999, all of
which have been passed along to the Company's customers. The Company's total
cigarette unit sales for the six months ended June 30, 1999 were 37.6 million
cartons, a decrease of 5.3 million cartons or 12.3% from the comparable period
in 1998. The decrease in the Company's carton sales occurred primarily in
California, and was due to a number of factors. The competition from so called
"grey market" cigarettes also continued to be intense in California. For the six
months ended June 30, 1999, cigarette carton sales in the United States, outside
of California, were substantially the same in 1999 as in the comparable period
of 1998.
Net sales of food and non-food products for the six months ended June 30,
1999 were $412.0 million, an increase of $23.0 million or 5.9% over the
comparable period in 1998.
GROSS PROFIT. Gross profit for the six months ended June 30, 1999 was $96.2
million, an increase of $11.1 million or 13.1% from the comparable period in
1998. The increase was primarily due to sales increases in the cigarette and
food and non-food categories. The gross profit margin for the six months ended
June 30, 1999 decreased slightly to 7.20% of net sales as compared to 7.26% of
net sales for the first six months of 1998. The decrease in overall gross profit
margin was primarily due to the greater increase in cigarette sales as compared
to sales of food and non-food products, because the margin on cigarette sales is
lower than on food and non-food products. During the period, both cigarette
gross profit margin and gross profit per carton increased, while gross profit
margins on food and non-food products remained virtually unchanged.
OPERATING AND ADMINISTRATIVE EXPENSES. Operating and administrative
expenses for the six months ended June 30, 1999 were $77.0 million, an increase
of $3.9 million or 5.4% over the comparable period in 1998. However, such
expenses for the six months ended June 30, 1999 decreased to 5.8% of net sales
as compared to 6.2% for the comparable period in 1998. The decline in operating
expenses as a percent of net sales is primarily due to the higher level of
cigarette net sales resulting from cigarette price increases which occurred
primarily in the last quarter of 1998.
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OPERATING INCOME. As a result of the foregoing factors, operating income
for the six months ended June 30, 1999 was $19.3 million, an increase of $7.2
million or 59.8% compared to the comparable period in 1998. As a percentage of
net sales, operating income for the six months ended June 30, 1999 was 1.4%, as
compared to 1.0% for the comparable period in 1998.
NET INTEREST EXPENSE. Net interest expense for the six months ended June
30, 1999 was $6.5 million, a decrease of $1.5 million or 18.7% compared to 1998.
The net decrease resulted from a decrease in the Company's average debt levels
and a decline in the average borrowing rates primarily as a result of the
accounts receivable securitization program, which was effective April 1, 1998.
DEBT REFINANCING COSTS. Debt refinancing costs for the six months ended
June 30, 1999 were $0.6 million, a decrease of $0.9 million or 59.5% over the
comparable period in 1998. The decrease is a result of the write-off of a
portion of unamortized costs relating to the modification of the revolving
credit facility, which occurred in 1998.
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 its credit facilities. The Company has no mandatory
reductions of principal on its Revolving Credit Facility, its Accounts
Receivable Facility or its $75 million Senior Subordinated Notes prior to their
final maturities in 2003. The Company has historically financed its operations
through internally generated funds and borrowings under its credit facilities.
The Company's debt obligations totaled $142.1 million at June 30, 1999, a
decrease of $66.0 million or 31.7% from $208.1 million at December 31, 1998. 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 credit facilities. 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
higher at interim periods than at the end of any fiscal year.
The Company made capital expenditures of $3.1 million for the six months
ended June 30, 1999. For the remainder of 1999, the Company estimates it will
spend approximately $4 to $5 million for capital requirements, principally
consisting of warehouse and other equipment.
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. For the six months ended June 30, 1999, such taxes on
cigarettes represented approximately 26% of cigarette net sales in the U.S. and
45% in Canada. In general, such taxes have been increasing, and many states and
Canadian provinces are currently weighing proposals for higher excise taxes on
cigarettes and other tobacco products.
Effective January 1, 1999, the State of California increased excise taxes
on cigarettes by $5.00 per carton and also increased taxes on cigars 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 and provinces
requiring such a surety (a majority of states in the Company's operating areas).
-11-
<PAGE>
The U.S. federal excise tax on cigarettes is currently $2.40 per carton of
cigarettes. The federal excise tax is scheduled to increase 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 will increase the Company's working capital
requirements by increasing the balances of its inventories and accounts
receivable.
In 1997 and 1999, the President and various members of Congress have
suggested additional excise taxes on cigarette and tobacco products, either as
part of the proposed legislative resolution of various issues affecting the U.S.
tobacco industry discussed above or to finance unrelated federal spending. The
Company is not aware of any significant proposals for excise tax increases in
the current Congress.
Impact of Year 2000 Compliance Issues
In accordance with the safe harbor provisions of the Private Securities Act
of 1995, the Company notes that certain statements contained in the following
discussion concerning year 2000 compliance issues are forward-looking in nature
and are subject to many risks and uncertainties. These forward-looking
statements include such matters as the Company's projected state of readiness,
the Company's projected cost of remediation, the expected date or state of
completion of each phase and the expected date or state of completion of
contingency plans. Such statements also constitute "year 2000 readiness
disclosure" within the meaning of the year 2000 Information and Readiness
Disclosure Act.
The Company relies upon various information technology and non-information
technology systems that are required to be year 2000 compliant. Year 2000
compliance indicates that computer software, hardware and embedded processors
are able to correctly process the year 2000 date parameter. The Company has
completed the assessment, modification or conversion and testing of the
Company's systems for year 2000 compliance as of June 30, 1999. The systems that
were assessed, modified or converted for year 2000 compliance included the
Company's computer programs, certain building infrastructure components
(including elevators, alarm systems and certain HVAC systems), and certain data
collection and transmission devices. Additionally, the systems of customers,
vendors and other constituents with whom the Company has material relationships
that could have an impact on the Company's operations were assessed for year
2000 compliance. The third party assessment process was complete as of June 30,
1999. Procedures have been undertaken by third parties to remediate their
non-compliant systems, however there can be no assurance that the systems of
other companies will be modified or converted on time, which could have an
adverse effect on the Company's operations. Non-compliance could result in a
disruption of the business, which could have a material impact on the Company's
results of operations, financial position and/or cash flows.
The most reasonable and likely result of non-compliance would be the
Company's inability to utilize its computer systems to process daily
transactions, which could result in increased operating costs and delayed
shipments to customers and, as a result, possible monetary losses from canceled
future business and lawsuits for breach of contract with these customers. The
Company has developed contingency plans for various business disruptions, which
will include procedures to mitigate the effect of year 2000 non-compliance
issues. The contingency plans include procedures for alternate processing of
daily transactions in the event of an inability to use the Company's computer
systems, as well as procedures for transmitting and receiving data from third
parties with non-compliant systems.
The Company utilized internal resources to assess, modify or convert and
test for year 2000 compliance. The total cost for the assessment, modification
or conversion and testing of the Company's systems is approximately $1.1
million, all of which were incurred as of June 30, 1999. These costs represent
approximately 44% of the fiscal 1999 information technology department budgeted
expenses and are comprised of $0.1 million for assessment and $1.0 million for
software modification or conversion. As a result of the year 2000 compliance
effort, the Company believes that no information technology projects have been
deferred that will have a material impact on the Company's operations. All of
the costs related to year 2000 compliance have been expensed as incurred and
have been funded through operating cash flows. The costs associated with year
2000 compliance are based on management's estimates, which were derived using
numerous assumptions of resources, and other factors.
-12-
<PAGE>
New Accounting Standards
In 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, "Accounting for Derivative Instruments
and Hedging Activities," which standardizes the accounting for derivatives,
requiring recognition as either assets or liabilities on the balance sheet and
measurement at fair value. The Company plans to adopt this statement for fiscal
2001. The Company has not yet determined the effect adoption of this statement
will have on the Company's consolidated financial position, results of
operations or cash flows.
In 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.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company believes there has been no material change in its exposure to
market risk from that discussed in the Company's 1998 Consolidated Financial
Statements.
-13-
<PAGE>
PART II - OTHER INFORMATION
ITEM 1. Legal Proceedings
As of the beginning of the second quarter, the Company had previously been
named in three tobacco-related lawsuits. During the second quarter, the Company
was dismissed from each of those lawsuits, as detailed below:
In May 1998, a division of the Company was named a defendant in an
individual litigation complaint filed in a state court in Broward County, FL.
The Company was dismissed from this case in March 1999.
From January 1998 through the early part of 1999, the Company was named in
25 legal actions brought by various union health and welfare trusts, which were
consolidated into a single proceeding in the Superior Court for San Diego
County. The Company was dismissed from these cases in June 1999.
In November 1998, the Company was served with a summons and complaint in an
action brought by the Pechanga Band of Luiseno Mission Indians. This case was
terminated in a voluntary dismissal filed by the plaintiff in June 1999.
The Company is not currently named as a defendant in any tobacco-related
litigation.
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.
-14-
<PAGE>
Item 2: Changes in Securities and Use of Proceeds
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:
None.
-15-
<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 August 12, 1999.
CORE-MARK INTERNATIONAL, INC.
By /s/ Leo F. Korman
-----------------------------------
Leo F. Korman, Senior Vice President and
Chief Financial Officer
-16-
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