<PAGE>
U. S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-KSB
(Mark One)
[X] ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
Note: The registrant's Registration Statement on Form SB-2 (File No. 333-
15139) became effective January 22, 1997 and did not contain certified financial
statements for the fiscal year of the registrant ended December 31, 1996, the
registrant's last full fiscal year. This report is filed pursuant to Rule 15d-2
and contains only financial statements for the fiscal year ended December 31,
1996.
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from _______________ to ________________.
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1996 COMMISSION FILE NUMBER 000-21887
CD WAREHOUSE, INC.
------------------
(Exact name of registrant as specified in its charter)
DELAWARE 73-1504999
-------- ----------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
722 NORTH BROADWAY, OKLAHOMA CITY, OKLAHOMA 73102
- - -------------------------------------------- -------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (405) 232-2797
Securities registered pursuant to Section 12(b) of the Act: NONE
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: COMMON STOCK, $.01
PAR VALUE PER SHARE (TITLE OF CLASS)
CHECK WHETHER THE REGISTRANT (1) HAS FILED ALL REPORTS REQUIRED BY SECTION 13 OR
15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 DURING THE PRECEDING 12 MONTHS (OR
FOR SUCH SHORTER PERIOD THAT THE REGISTRANT WAS REQUIRED TO FILE SUCH REPORTS),
AND (2) HAS BEEN SUBJECT TO SUCH FILING REQUIREMENTS FOR THE PAST 90 DAYS.
YES NO X (NOT SUBJECT TO FILING REQUIREMENTS FOR THE PAST 90 DAYS)
--- ---
Check if disclosure of delinquent filers pursuant to Item 405 of Regulation S-B
is not contained in this form, and will not be contained, to the best of
registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-KSB or any amendment to
this Form 10-KSB. X
---
Registrant's revenues for its most recent fiscal year were None.
--------
As of March 14, 1997, the aggregate market value of the voting stock held by
non-affiliates computed by reference to the price at which the stock was sold,
or the average bid and asked prices of such stock, was $4,095,000.
As of March 14, 1997, there were 1,820,000 shares of Common Stock outstanding.
Transitional Small Business Disclosure Format (check one): YES NO X
--- ---
<PAGE>
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.
(a) The following documents are filed as part of this report:
(1) Financial Statements:
Pursuant to Rule 15d-2 of the Securities Exchange Act of 1934 (the
"Exchange Act"), this annual report contains only financial statements
for the fiscal year ended December 31, 1996, as the certified
financial reports for the year ended December 31, 1996 were not yet
available when the Registration Statement on Form SB-2 (File 333-
15139) became effective on January 22, 1997.
The above described financial statements are included herein on pages
F-7 through F-50, which follow the signature page.
(2) All other schedules are omitted because they are not applicable or the
required information is shown in the financial statements or notes
thereto.
2
<PAGE>
In accordance with Section 13 or 15(d) of the Exchange Act, the registrant
has duly caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
March 14, 1997 CD WAREHOUSE, INC.,
a Delaware corporation
/s/ Jerry W. Grizzle
-------------------------------------
Jerry W. Grizzle
Chairman of the Board of Directors;
President and Chief Executive Officer
In accordance with the Exchange Act, this report has been signed below by
the following persons on behalf of the registrant and in the capacities and on
the dates indicated.
NAME AND TITLE DATE
-------------- ----
/s/ Jerry W. Grizzle March 14, 1997
--------------------------------------
Jerry W. Grizzle
Chairman of the Board of Directors;
President and Chief Executive Officer
/s/ Gary D. Johnson March 14, 1997
--------------------------------------
Gary D. Johnson
Executive Vice President; Chief
Operating Officer; Director
/s/ Doyle E. Motley March 14, 1997
--------------------------------------
Doyle E. Motley
Sr. Vice President, Chief
Financial Officer
/s/ Christopher Salyer March 14, 1997
--------------------------------------
Christopher Salyer
Director
/s/ Ronald V. Perry March 14, 1997
--------------------------------------
Ronald V. Perry
Director
3
<PAGE>
INDEX TO FINANCIAL STATEMENTS
<TABLE>
PAGE
----
<S> <C>
Pro Forma Combined Condensed Financial Statements:
Pro Forma Combined Condensed Balance Sheet at December 31, 1996. . . . . F- 3
Pro Forma Combined Condensed Statement of Operations for the year
ended December 31, 1996. . . . . . . . . . . . . . . . . . . . . . . . F- 5
Historical Financial Statements:
Financial Statements of C D Warehouse, Inc.
Report of Independent Auditors . . . . . . . . . . . . . . . . . . . . . F- 8
Consolidated Balance Sheet at December 31, 1996. . . . . . . . . . . . . F- 9
Consolidated Statement of Operations for the period from
September 5, 1996 (inception) to December 31, 1996 . . . . . . . . . . F-10
Consolidated Statement of Stockholders' Equity for the period from
September 5, 1996 (inception) to December 31, 1996 . . . . . . . . . . F-11
Consolidated Statement of Cash Flows for the period from
September 5, 1996 (inception) to December 31, 1996 . . . . . . . . . . F-12
Notes to Consolidated Financial Statements . . . . . . . . . . . . . . . F-13
Financial Statements of Compact Discs International, Ltd.
Independent Auditors' Report . . . . . . . . . . . . . . . . . . . . . . F-17
Balance Sheet at December 31, 1996 . . . . . . . . . . . . . . . . . . . F-18
Statement of Income for the year ended December 31, 1996 . . . . . . . . F-20
Statement of Partners' Capital for the year ended December 31, 1996. . . F-22
Statement of Cash Flows for the year ended December 31, 1996 . . . . . . F-23
Notes to Financial Statements. . . . . . . . . . . . . . . . . . . . . . F-25
Financial Statements of Compact Discs International, Ltd. and Subsidiary
Independent Auditors' Report . . . . . . . . . . . . . . . . . . . . . . F-32
Consolidated Balance Sheet at December 31, 1995. . . . . . . . . . . . . F-33
Consolidated Statement of Income for the year ended
December 31, 1995. . . . . . . . . . . . . . . . . . . . . . . . . . . F-35
Consolidated Statement of Partners' Capital for the year ended
December 31, 1995. . . . . . . . . . . . . . . . . . . . . . . . . . . F-37
Consolidated Statement of Cash Flows for the year ended
December 31, 1995. . . . . . . . . . . . . . . . . . . . . . . . . . . F-38
Notes to Consolidated Financial Statements . . . . . . . . . . . . . . . F-39
Financial Statements of C D Acquisitions
Independent Auditors' Report . . . . . . . . . . . . . . . . . . . . . . F-45
Balance Sheet at December 31, 1995 . . . . . . . . . . . . . . . . . . . F-46
Statement of Income and Venturers' Capital for the year ended
December 31, 1995. . . . . . . . . . . . . . . . . . . . . . . . . . . F-47
Statement of Cash Flows for the year ended December 31, 1995 . . . . . . F-48
Notes to Financial Statements. . . . . . . . . . . . . . . . . . . . . . F-49
</TABLE>
F-1
<PAGE>
PRO FORMA COMBINED CONDENSED FINANCIAL STATEMENTS
The accompanying Pro Forma Combined Condensed Financial Statements reflect the
historical financial position and results of operations of the Company adjusted
for the business acquisitions in January 1997, using the purchase method of
accounting, and the successful completion of an initial public offering
("Offering") in January 1997.
The Pro Forma Combined Condensed Balance Sheet as of December 31, 1996 assumes
completion of the Offering and resulting acquisition of the CDIL Assets and the
MacDonald Assets by such date. The Pro Forma Combined Condensed Statement of
Operations for the year ended December 31, 1996 has been prepared assuming the
Offering and resulting acquisition of the CDIL Assets and the MacDonald Assets
were completed on January 1, 1996.
The pro forma adjustments are based upon available information and assumptions
that management of the Company believes are reasonable. The Pro Forma Combined
Condensed Financial Statements do not purport to represent the financial
position or results of operations which would have occurred had such
transactions been consummated on the dates indicated or the Company's financial
position or results of operations for any future date or period. These Pro Forma
Combined Condensed Financial Statements and notes thereto should be read in
conjunction with the historical financial statements and notes included
elsewhere herein.
F-2
<PAGE>
CD WAREHOUSE, INC.
PRO FORMA COMBINED CONDENSED BALANCE SHEET
December 31, 1996
(unaudited)
ASSETS
<TABLE>
Historical
---------------------------------------
Compact
CD Discs
Warehouse, International, MacDonald Pro Forma
Inc. Ltd. Assets Adjustments Pro Forma
-------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Current assets:
Cash and cash equivalents $ 15,431 $ 525,523 $ 4,125 $4,306,995 (1)
(323,076)(2)
(3,100,000)(2)
(80,000)(3)
350,000 (5) $1,698,998
Accounts receivable, net - 341,414 - (237,272)(2) 104,142
Merchandise inventory - 326,561 40,737 - 367,298
Prepaid expenses and other - 100,215 - (82,764)(2) 17,451
-------------------------------------------------------------------
Total current assets 15,431 1,293,713 44,862 833,883 2,187,889
Furniture, fixtures and
equipment, net - 32,615 507 - 33,122
Investment in partnerships - 61,992 38,367 (21,886)(2) 78,473
Intangible and other assets,
net 444,993 3,358 1,859 (211,995)(1)
3,040,271 (2)
80,000 (3)
317,953 (4) 3,676,439
-------------------------------------------------------------------
Total assets $460,424 $1,391,678 $ 85,595 $4,038,226 $5,975,923
-------------------------------------------------------------------
-------------------------------------------------------------------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 93,340 $ 716,550 $ - $ (57,099)(2) $ 752,791
Accrued liabilities 17,382 1,578 3,548 (1,578)(2) 20,930
Advances and deposits - 107,500 - (100,000)(2) 7,500
-------------------------------------------------------------------
Total current liabilities 110,722 825,628 3,548 (158,677) 781,221
Stockholders' equity:
Common stock 3,500 - - 10,000 (1)
800 (4)
3,500 (5) 17,800
Additional paid-in capital 346,500 - - 4,085,000 (1)
399,200 (4)
346,500 (5) 5,177,200
Accumulated deficit (298) - - - (298)
Partners' capital - 566,050 82,047 (566,050)(2)
(82,047)(4) -
-------------------------------------------------------------------
349,702 566,050 82,047 4,196,903 5,194,702
-------------------------------------------------------------------
Total liabilities and
stockholders' equity $460,424 $1,391,678 $ 85,595 $4,038,226 $5,975,923
-------------------------------------------------------------------
-------------------------------------------------------------------
</TABLE>
F-3
<PAGE>
CD WAREHOUSE, INC.
PRO FORMA COMBINED CONDENSED BALANCE SHEET
December 31, 1996
(unaudited)
Pro Forma Adjustments:
(1) To record the issuance of 1,000,000 shares
of Common Stock of the Company in connection
with the initial public offering:
Offering proceeds $5,000,000
Expenses of Offering 905,000
-----------
Net proceeds of Offering 4,095,000
Offering expenses previously incurred 211,995
-----------
Net cash proceeds $4,306,995
-----------
-----------
(2) Acquisition of specified assets of CDIL and
assumption of specified liabilities:
Net assets at December 31, 1996 $ 566,050
Less net assets retained by CDIL:
Ivestment in partnership (21,886)
Cash and accounts receivable, net of
accounts payable and accrued liabilities (484,435)
-----------
Net assets acquired 59,729
Acquisition price 3,200,000
-----------
Excess of purchase price over assets
acquired 3,140,271
Initial deposit paid to CDIL (100,000)
-----------
$3,040,271
-----------
-----------
(3) Payment of balance of finder's fee $ 80,000
-----------
-----------
(4) Acquisition of MacDonald Assets for
80,000 shares of Common Stock:
Purchase price $ 400,000
Less net assets at December 31, 1996 82,047
-----------
Excess of purchase price over assets
acquired $ 317,953
-----------
-----------
(5) Payment of Common Stock subscription
by initial stockholder $ 350,000
-----------
-----------
F-4
<PAGE>
CD WAREHOUSE, INC.
PRO FORMA COMBINED CONDENSED STATEMENT OF OPERATIONS
Year Ended December 31, 1996
(unaudited)
<TABLE>
Historical
---------------------------------------
Compact
CD Discs
Warehouse, International, MacDonald Pro Forma
Inc. Ltd. Assets Adjustments Pro Forma
-------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Revenues:
Company operations:
Retail store sales $ - $ - $240,998 $ 240,998
Wholesale merchandise sales - 3,468,878 - 3,468,878
Software income, net - 7,030 - 7,030
Franchise operations:
Royalty income - 1,200,396 - 1,200,396
Franchise and development fees - 88,321 - 88,321
-------------------------------------------------------------------
Total revenues - 4,764,625 240,998 5,005,623
Operating costs and expenses:
Cost of sales--retail store
sales - - 149,775 149,775
Cost of sales--wholesale
merchandise sales - 3,276,953 - 3,276,953
Retail store operating expenses - - 69,261 69,261
General and administrative 2,335 811,873 - $ 280,500 (2) 1,094,708
Depreciation and amortization - 13,238 - 180,000 (3) 193,238
-------------------------------------------------------------------
2,335 4,102,064 219,036 460,500 4,783,935
-------------------------------------------------------------------
Operating income (loss) (2,335) 662,561 21,962 (460,500) 221,688
Other income 2,037 57,831 27,612 (39,209)(1) 48,271
-------------------------------------------------------------------
Income (loss) before income
taxes (298) 720,392 49,574 (499,709) 269,959
Pro forma provision for income
taxes - - - 94,000 (4) 94,000
-------------------------------------------------------------------
Pro forma net income (loss) $ (298) $ 720,392 $ 49,574 $(593,709) $ 175,959
-------------------------------------------------------------------
-------------------------------------------------------------------
Pro forma net income per share $.10
---------
---------
Shares used in computation 1,780,000
---------
---------
</TABLE>
F-5
<PAGE>
CD WAREHOUSE, INC.
PRO FORMA COMBINED CONDENSED STATEMENT OF OPERATIONS
Year Ended December 31, 1996
(unaudited)
Pro Forma Adjustments:
(1) Eliminate partnership interests retained by CDIL $ 39,209
---------
---------
(2) Adjust executive compensation as a result of employment
arrangements with new officers of the Company $ 280,500
---------
---------
(3) Amortization of estimated goodwill on purchase
transactions over twenty-year period $ 180,000
---------
---------
(4) Provide for income taxes at statutory rate $ 94,000
---------
---------
F-6
<PAGE>
FINANCIAL STATEMENTS
C D WAREHOUSE, INC.
FOR THE PERIOD FROM SEPTEMBER 5, 1996 (INCEPTION) TO DECEMBER 31, 1996
WITH REPORT OF INDEPENDENT AUDITORS
F-7
<PAGE>
Report of Independent Auditors
The Stockholders
C D Warehouse, Inc.
We have audited the accompanying consolidated balance sheet of C D Warehouse,
Inc. as of December 31, 1996 and the related consolidated statements of
operations, stockholders' equity and cash flows for the period from September 5,
1996 (inception) to December 31, 1996. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audit.
We conducted our audit in accordance with generally accepted auditing standards.
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit of the financial statements provides a reasonable
basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of C D
Warehouse, Inc. at December 31, 1996 and the consolidated results of its
operations and its cash flows for the period from September 5, 1996 (inception)
to December 31, 1996, in conformity with generally accepted accounting
principles.
ERNST & YOUNG LLP
Oklahoma City, Oklahoma
February 12, 1997
F-8
<PAGE>
CD Warehouse, Inc.
Consolidated Balance Sheet
DECEMBER 31,
1996
------------
ASSETS
Current assets:
Cash and cash equivalents $ 15,431
Organization costs 12,847
Deferred acquisition costs (NOTE 2) 220,151
Deferred offering costs (NOTE 2) 211,995
--------
$460,424
--------
--------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 93,340
Accrued liabilities 17,382
--------
Total current liabilities 110,722
Commitments (NOTES 3 AND 4)
Stockholders' equity (NOTES 2 AND 3):
Preferred stock, $.01 par value; 5,000,000 shares
authorized, none issued -
Common stock, $.01 par value; 10,000,000 shares
authorized, 350,000 shares issued and outstanding 3,500
Paid-in capital 346,500
Accumulated deficit (298)
--------
Total stockholders' equity 349,702
--------
$460,424
--------
--------
SEE ACCOMPANYING NOTES.
F-9
<PAGE>
CD Warehouse, Inc.
Consolidated Statement of Operations
PERIOD FROM
SEPTEMBER 5,
1996
(INCEPTION) TO
DECEMBER 31, 1996
-----------------
Interest income $2,037
General and administrative expenses 2,335
-------
Net loss $ (298)
-------
-------
SEE ACCOMPANYING NOTES.
F-10
<PAGE>
CD Warehouse, Inc.
Consolidated Statement of Stockholders' Equity
PERIOD FROM SEPTEMBER 5, 1996 (INCEPTION) TO
DECEMBER 31, 1996
--------------------------------------------
COMMON STOCK
-------------------- PAID-IN ACCUMULATED
SHARES AMOUNT CAPITAL DEFICIT
------- ------ -------- -----------
Balance at September 5, 1996 - $ - $ - $ -
Sale of common stock 350,000 3,500 346,500 -
Net loss - - - (298)
------- ------ -------- -----
Balance at December 31, 1996 350,000 $3,500 $346,500 $(298)
------- ------ -------- -----
------- ------ -------- -----
SEE ACCOMPANYING NOTES.
F-11
<PAGE>
CD Warehouse, Inc.
Consolidated Statement of Cash Flows
PERIOD FROM
SEPTEMBER 5,
1996
(INCEPTION) TO
DECEMBER 31,
1996
--------------
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss--cash used for operating activities $ (298)
CASH FLOWS FROM INVESTING ACTIVITIES
Increase in other assets:
Organizational costs (12,847)
Deferred acquisition costs (220,151)
---------
Net cash used in investing activities (232,998)
CASH FLOWS FROM FINANCING ACTIVITIES
Sale of common stock 350,000
Deferred offering costs (exclusive of $110,722 of accounts
payable and accrued liabilities)
(101,273)
---------
Net cash provided by financing activities 248,727
---------
Net increase in cash $ 15,431
---------
---------
SEE ACCOMPANYING NOTES.
F-12
<PAGE>
CD Warehouse, Inc.
Notes to Consolidated Financial Statements
December 31, 1996
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
ORGANIZATION AND CONSOLIDATION
The consolidated financial statements include the accounts of C D Warehouse,
Inc. (the "Company") and its wholly-owned subsidiary, Compact Discs Management,
Inc. ("CDM"). The Company was formed in Delaware on September 5, 1996. The
Company has had only limited operations during the period from September 5, 1996
to December 31, 1996.
CASH EQUIVALENTS
Cash equivalents include money-market investments with maturities of three
months or less when purchased.
ORGANIZATION COSTS
Organization costs are amortized on a straight-line basis over five years.
DEFERRED ACQUISITION COSTS
Costs incurred related to a business acquisition completed in January 1997 (NOTE
2) have been deferred and, subsequent to December 31, 1996, have been
capitalized as a component of the total acquisition cost.
DEFERRED OFFERING COSTS
Specific incremental costs directly attributable to the initial public offering
of common stock completed in January 1997 (NOTE 2) have been deferred and,
subsequent to December 31, 1996, have been charged against the gross proceeds of
the offering.
2. INITIAL PUBLIC OFFERING AND BUSINESS ACQUISITIONS
In January 1997, the Company completed an initial public offering for 1,000,000
shares of its common stock at a price of $5 per share. The proceeds of the
offering, after deducting the underwriting discount and offering expenses were
approximately $4.1 million.
F-13
<PAGE>
CD Warehouse, Inc.
Notes to Consolidated Financial Statements (continued)
2. INITIAL PUBLIC OFFERING AND BUSINESS ACQUISITIONS (CONTINUED)
Simultaneously with the closing of the Offering, the Company purchased
substantially all of the assets of Compact Discs International, Ltd. ("CDIL")
for $3.2 million. Prior to the acquisition, CDIL was engaged principally in the
business of selling new and preowned audio compact discs to its franchisees.
The acquisition resulted in the Company entering into an area development
agreement (the "ADA") with the principal owner of CDIL. The ADA provides for the
right to develop franchise operations worldwide, except for the United States,
Canada and Mexico. The Company has the right, during a specified period of time,
to cancel the ADA and to acquire any franchise developed under the ADA at a
specified multiple of earnings. In addition, the Company has agreed to grant to
the principal owner of CDIL (1) ten domestic franchises with no initial
franchise fee and royalties of 2% of net sales and (2) two renewal franchises
with no franchise fee or royalty payments. Except as provided for in the above
mentioned franchise agreements, CDIL and the principal owner of CDIL have also
entered into covenants not to compete with the Company for a period of ten
years.
Also in January 1997, the Company and CDM purchased all of the franchise
interests of the largest CDIL franchisee in exchange for 80,000 shares of the
Company's common stock.
The acquisitions were recorded in January 1997 under the purchase method of
accounting and resulted in an excess of purchase price over net assets acquired
of approximately $3.6 million which will be amortized on a straight-line basis
over 20 years.
The following unaudited pro forma combined information presents a summary of the
consolidated results of operations of the Company and the acquired businesses as
if the acquisitions and the initial public offering of the Company had occurred
January 1, 1996.
Revenues $5,005,623
Net income $ 175,959
Net income per share $ .10
Shares used in computation 1,780,000
F-14
<PAGE>
CD Warehouse, Inc.
Notes to Consolidated Financial Statements (continued)
2. INITIAL PUBLIC OFFERING AND BUSINESS ACQUISITIONS (CONTINUED)
These unaudited pro forma results have been prepared for comparative purposes
only and include certain adjustments, including amortization of goodwill and
provision for executive compensation as a result of the acquisitions. They do
not purport to be indicative of the results of operations which would have
resulted had the acquisitions and initial public offering occurred on January 1,
1996, or of future results of operations of the consolidated entities.
3. STOCKHOLDERS' EQUITY
Effective September 5, 1996 and October 1, 1996, the Company obtained stock
subscription agreements for the sale of an aggregate of 700,000 shares of common
stock at $1 per share. During October 1996, the Company received $350,000 in
cash in exchange for the issuance of 350,000 shares of common stock. The
subscription agreement for the remaining 350,000 shares provided for payment to
the Company concurrently with the closing of the Company's initial public
offering of common stock (NOTE 2).
On December 10, 1996, the Company adopted the 1996 Stock Option Plan which
provides for grants of up to 400,000 shares of common stock to certain
employees, officers, directors and others. Generally, the purchase price of
stock issuable upon exercise of the options will be at least equal to the fair
market value of the stock on the dates of grant. Generally, options are
exercisable no longer than ten years from the dates of grant. No options were
granted through December 31, 1996. The Company has agreed to grant options to
purchase 6,000 shares annually, subject to pro-rata vesting over a three-year
period, to each director.
4. COMMITMENTS
Effective in January 1997, after the Company's completion of the initial public
offering, the Company entered into employment agreements with four officers of
the Company. The employment agreements are for terms of one and five years with
renewal options of one and five years and total $355,000 annually for the four
individuals.
F-15
<PAGE>
COMPACT DISCS INTERNATIONAL, LTD.
FINANCIAL STATEMENTS
FOR THE YEAR ENDED DECEMBER 31, 1996
WITH
INDEPENDENT AUDITORS' REPORT
F-16
<PAGE>
INDEPENDENT AUDITORS' REPORT
To the General Partner
Compact Discs International, Ltd.
We have audited the accompanying balance sheet of Compact Discs
International, Ltd. (A Texas Limited Partnership) as of December 31, 1996, and
the related statements of income, partners' capital, and cash flows for the year
then ended. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audit.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Compact Discs International,
Ltd. as of December 31, 1996 and the results of its operations and its cash
flows for the year then ended in conformity with generally accepted accounting
principles.
Huselton & Morgan, P.C.
Dallas, TX
February 27, 1997
F-17
<PAGE>
COMPACT DISCS INTERNATIONAL, LTD.
(A TEXAS LIMITED PARTNERSHIP)
BALANCE SHEET
DECEMBER 31, 1996
ASSETS
Current assets
Cash $ 525,523
Accounts receivable (net of allowance of $132,253) 341,414
Inventory 326,561
Prepaid expenses 31,090
Deferred expenses 69,125
----------
Total current assets 1,293,713
----------
Furniture, fixtures and equipment (net of
accumulated depreciation) 32,615
----------
Investment in partnerships 61,992
Other assets (net of amortization) 3,358
----------
Total other assets 65,350
----------
Total assets $1,391,678
----------
----------
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART
OF THESE FINANCIAL STATEMENTS.
F-18
<PAGE>
COMPACT DISCS INTERNATIONAL, LTD.
(A TEXAS LIMITED PARTNERSHIP)
BALANCE SHEET
DECEMBER 31, 1996
LIABILITIES AND PARTNERS' CAPITAL
Current liabilities
Accounts payable $ 716,550
Sales tax payable 1,450
Payroll taxes payable 128
Refundable development fees 7,500
Deposit on asset sale 100,000
----------
Total current liabilities 825,628
----------
Partners' capital 566,050
----------
Total liabilities and partners' capital $1,391,678
----------
----------
Contingent liabilities
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART
OF THESE FINANCIAL STATEMENTS.
F-19
<PAGE>
COMPACT DISCS INTERNATIONAL, LTD.
(A TEXAS LIMITED PARTNERSHIP)
STATEMENT OF INCOME
FOR THE YEAR ENDED DECEMBER 31, 1996
Revenue
Retail sales $3,468,879
Royalty income 1,200,396
Franchise fees 65,000
Development fees 23,321
Computer/software income 7,029
----------
Total revenue 4,764,625
----------
Expenses
Cost of goods sold-retail sales 3,276,953
Salaries 299,969
Bad debts 150,030
Professional fees 64,120
Promotion 40,003
Taxes 34,028
Travel 31,949
Telephone & utilities 31,415
Commissions 29,008
Rent 28,515
Insurance 20,144
Office expense 18,616
Printing 16,970
Depreciation 12,782
Postage 8,907
Entertainment 5,633
Franchise meeting 5,388
Repairs & maintenance 5,041
Auto expense 4,805
Licenses 4,170
(continued)
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART
OF THESE FINANCIAL STATEMENTS.
F-20
<PAGE>
COMPACT DISCS INTERNATIONAL, LTD.
(A TEXAS LIMITED PARTNERSHIP)
STATEMENT OF INCOME
FOR THE YEAR ENDED DECEMBER 31, 1996
(continued)
Expenses
Miscellaneous 3,571
Contract labor 3,038
Advertising 2,495
Dues & subscriptions 1,407
Supplies 1,240
Bank charges 1,080
Amortization 456
Photography 140
Charitable contributions 140
Interest expense 51
----------
Total expenses 4,102,064
----------
Operating income 662,561
Other income
Gain on sale of assets 13,835
Investment income 43,924
Interest income 72
----------
Net income $ 720,392
----------
----------
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART
OF THESE FINANCIAL STATEMENTS.
F-21
<PAGE>
COMPACT DISCS INTERNATIONAL, LTD.
(A TEXAS LIMITED PARTNERSHIP)
STATEMENT OF PARTNERS' CAPITAL
DECEMBER 31, 1996
Beginning balance $ 430,239
Beginning capital - CD Acquisitions 128,096
Net income 720,392
Distributions
Cash (508,609)
Noncash (204,068)
---------
Ending balance $ 566,050
---------
---------
THE ACCOMPANYING NOTES ARE AN INTEGRAL
PART OF THESE FINANCIAL STATEMENTS.
F-22
<PAGE>
COMPACT DISCS INTERNATIONAL, LTD.
(A TEXAS LIMITED PARTNERSHIP)
STATEMENT OF CASH FLOWS
DECEMBER 31, 1996
Cash flows from operating activities:
Net income $ 720,392
Noncash items
Bad debt expense 138,629
Depreciation and amortization 13,238
Investment income (43,924)
Gain on sale of investment (13,835)
Adjustments to reconcile net income to cash
used by operating activities
(Increase) in accounts receivable (265,127)
(Increase) in inventory (20,804)
(Increase) in prepaids and deferred expenses (91,123)
Increase in accounts payable 291,983
Decrease in accrued expenses (64,294)
Increase in deposit on sale 100,000
---------
Net cash provided by operating activities 765,135
Cash flows from investing activities
Purchase of fixed assets (14,661)
Proceeds from sale of asset 4,000
Contribution to partnership (1,600)
Proceeds from sale of Fort Worth investment 30,925
Distributions from partnerships 42,394
---------
Net cash provided by investing activities 61,058
(continued)
THE ACCOMPANYING NOTES ARE AN INTEGRAL
PART OF THESE FINANCIAL STATEMENTS.
F-23
<PAGE>
COMPACT DISCS INTERNATIONAL, LTD.
(A TEXAS LIMITED PARTNERSHIP)
STATEMENT OF CASH FLOWS
DECEMBER 31, 1996
(continued)
Cash flows from financing activities
Distributions to partners (508,609)
---------
Net cash used by financing activities (508,609)
Net increase in cash 317,584
Cash from merger of CDA 159,444
Cash at beginning of year 48,495
---------
Cash at end of year $ 525,523
---------
Interest paid $ 51
---------
---------
SUPPLEMENTAL NOTES TO CASH FLOW
In November, 1996, the Company sold a portion of its interest in the
Fort Worth store to the Company's partners and recorded the sale of $30,636
as a draw to the partners.
Accounts receivable due from partners of the Company in the amount of
$173,432 were discharged and recognized as a distribution to the partners.
Accounts receivable in the amount of $35,549 from two franchisees were
exchanged for partnership interests.
THE ACCOMPANYING NOTES ARE AN INTEGRAL
PART OF THESE FINANCIAL STATEMENTS.
F-24
<PAGE>
COMPACT DISCS INTERNATIONAL, LTD.
(A TEXAS LIMITED PARTNERSHIP)
DECEMBER 31, 1996
NOTES TO FINANCIAL STATEMENTS
1. Organization
THE COMPANY
Compact Discs International, Ltd. (the "Company") is a Texas limited
partnership which conducts business under the name "CD Warehouse" and maintains
its principal office in Richardson, Texas.
In 1995, the Company purchased an 81.25% ownership in CD Warehouse Fort
Worth and consolidated the financial results of this entity with the Company.
This interest was sold during 1996.
Effective January 1, 1996, CD Acquisitions ("CDA"), a joint venture owned
and operated by the Company's partners, was merged into the Company.
The Company offers and sells single-unit franchises and development rights
for multi-unit franchises for the operation of retail sales outlets which buy,
sell and trade new and used compact discs and related items. As of December 31,
1996, the Company has executed 118 franchise agreements for the operation of
stores, of which 113 are operational. The Company has 3 development agreements
in place as of December 31, 1996. Effective with the merger of CDA, the Company
began selling new and used compact discs to franchisees.
CASH AND CASH EQUIVALENTS
For purposes of the statement of cash flows, the Company considers all
highly liquid debt instruments purchased with a maturity of three months or less
to be cash equivalents. All cash is held in accounts that are federally
insured.
F-25
<PAGE>
INVENTORY
Inventory consists primarily of both new and used compact discs. All
inventory is valued at the lower of cost or market using the first-in, first-out
(FIFO) method.
FURNITURE, FIXTURES AND EQUIPMENT
Furniture, fixtures and equipment are stated at cost. The provision for
depreciation has been calculated using the straight-line method. Useful lives
range from 3 to 7 years.
OTHER ASSETS
Organization costs and the Company's trademark are being amortized using
the straight-line method over five and fifteen years, respectively.
INVESTMENT IN PARTNERSHIPS
The Company records its ownership in four partnerships that own CD
Warehouse stores using the equity method of accounting.
REVENUE RECOGNITION
Franchise fees are non-refundable. Franchise fee income is recognized upon
the opening of the related store. The Company's commitment and obligations to
franchisees are not significant after the store is opened. Development right
fees paid are recognized as income on a prorated basis as franchise units within
a development agreement are opened. Development fees are non-refundable, but
can be applied against future franchise fees and royalty fees due from
development franchisees. Royalties are recognized when earned. Specially
designed software and computer equipment are sold to the franchisees, and the
related income is recognized when earned.
ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect certain reported amounts and disclosures. Accordingly,
actual results may differ from those estimates.
F-26
<PAGE>
2. FURNITURE, FIXTURES AND EQUIPMENT
Components of furniture, fixtures and equipment at December 31, 1996 are as
follows:
Equipment $ 31,607
Furniture and fixtures 9,685
Automobiles 16,528
Leasehold improvements 0
--------
Total 57,820
Accumulated depreciation (25,205)
--------
Total $ 32,615
--------
--------
3. OTHER ASSETS
Components of other assets at December 31, 1996 are as follows:
Deposits $ 2,087
Organization costs 2,150
Trademark 394
-------
Total 4,631
Accumulated amortization (1,273)
-------
Total $ 3,358
-------
-------
4. INVESTMENTS IN PARTNERSHIPS
In the latter part of 1995 and in 1996, the Company entered into
partnership agreements to own and operate retail CD outlets in Tulsa, Oklahoma;
Memphis, Tennessee; Orange Park, Florida; and Edmond, Oklahoma. At December 31,
1996, the Company has the following investments in general partnerships:
Percentage
Partnership Owned
----------- ----------
CD Warehouse -Tulsa 50
CD Warehouse -Memphis 25
CD Warehouse -Orange Park 50
CD Warehouse -Edmond 50
F-27
<PAGE>
At December 31, 1996, the Company's investments in partnerships and equity
in the income of these partnerships for the year ended December 31, 1996 consist
of the following:
Investment in Partnership
Partnership Income
------------- -----------
CD Warehouse - Tulsa $ 25,191 $ 10,238
CD Warehouse - Memphis (88) 8,858
CD Warehouse - Orange Park 21,886 10,886
CD Warehouse - Edmond 15,003 (546)
CD Warehouse - Fort Worth 0 14,488
--------- ---------
$ 61,992 $ 43,924
--------- ---------
--------- ---------
The following summarizes the activity of the CD Warehouse equity
investments of the Company for the year ended December 31, 1996:
CD Warehouse CD Warehouse CD Warehouse CD Warehouse
Edmond Orange Park Tulsa Memphis
------------ ------------ ------------ ------------
Total assets $42,505 $ 74,854 $ 64,815 $ 49,728
Total liabilities 3,497 4,080 4,430 4,084
------- -------- -------- --------
Net assets $39,008 $ 70,774 $ 60,385 $ 45,644
------- -------- -------- --------
------- -------- -------- --------
Revenues $78,670 $260,705 $261,873 $371,627
------- -------- -------- --------
Net income (loss) $(1,091) $ 21,772 $ 20,475 $ 35,430
------- -------- -------- --------
------- -------- -------- --------
5. COMMITMENTS AND CONTINGENCIES
The Company leases office space under a non-cancelable operating lease
agreement. The agreement expires in 1997. Total rent expense for the year
ended December 31, 1996 was $28,515.
The following is a schedule of future minimum lease payments for the above
lease as of December 31, 1996:
1997 $5,694
------
F-28
<PAGE>
At December 31, 1996, the Company is involved in one situation of pending
litigation. The case involves a wrongful death claim resulting from an accident
at a franchise location. Although the Company does not anticipate a loss in this
case, the extent of possible damages cannot be accurately determined at this
time.
6. INCOME TAXES
Taxable income of the Company is includable in the income returns of the
individual partners; therefore, no provision for income taxes has been made in
the accompanying financial statements.
7. RELATED-PARTY TRANSACTIONS
The Company sells new and used merchandise to franchisees. The
franchisees included the CD Warehouse investments listed in Note 4. Sales to
these franchisees amounted to $124,796 for the year ending December 31, 1996.
At December 31, 1996, the accounts receivable balance includes $12,084 of
receivables due from franchisees who are relatives of the partners.
8. POOLING-OF-INTEREST
Effective January 1, 1996, CD Acquisitions (A Joint Venture) was merged
into the Company. As a result of the merger, Compact Discs International, Ltd.
became the successor in interest of all rights, properties, assets, and
liabilities of CDA.
The 1996 financial statements for the merged entities reflect the merger as
a pooling of interest. The 1996 statements reflect a full year of operations.
9. CONCENTRATION OF CREDIT RISK
The Company maintains its cash balances at various financial institutions
located in the Dallas, Texas area. Cash and cash equivalents are held in bank
accounts that are insured by the Federal Deposit Insurance Corporation up to
$100,000. At December 31, 1996, the Company's uninsured
F-29
<PAGE>
balances, before reconciling items, totaled $423,750.
10. FAIR VALUE OF FINANCIAL INSTRUMENTS
The estimated fair values of the Company's financial instruments, none of
which are held for trading purposes, as of December 31, 1996 are as follows:
Carrying Fair
Amount Value
-------- --------
Assets:
Cash and equivalents $525,523 $525,523
Investments in partnerships $ 61,992 $ 61,992
11. SUBSEQUENT EVENTS
Effective January 22, 1997, the Company sold a substantial portion of its
assets to an unrelated third party. The assets sold consist of all of the
Company's (a) rights as the franchisor under existing franchise agreements and
existing area development agreements; (b) inventory of new and used CD's; (c)
accounts, notes and warranty receivables; (d) trademarks and other intellectual
property rights; (e) business records, including but not limited to the
Company's customer lists, vendor lists, prospective franchise lists, franchise
files, accounting and tax records concerning the same, sales literature and
promotional materials; (f) software programs; (g) furniture, equipment, files
and other assets located at the Company's corporate offices; and (h) the equity
interests of the Company in CD Warehouse stores in Tulsa, Oklahoma, (two),
Edmond, Oklahoma and Memphis, Tennessee. The purchaser will be entitled to all
franchise fees and royalties accruing to the Company after the closing date of
the acquisition. As part of the acquisition, the purchaser will assume the
Company's accounts payable for the inventory being acquired as of the closing
date, as well as the Company's obligations under the franchise agreements and
franchise and area development agreements. The Company will continue in
existence; however, the Company's primary business activities remain
undetermined.
In a separate transaction dated February 1, 1997, the Company sold its
interest in the CD Warehouse - Orange Park investment for $45,000.
F-30
<PAGE>
COMPACT DISCS INTERNATIONAL, LTD.
AND SUBSIDIARY
CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEAR ENDED DECEMBER 31, 1995
WITH
INDEPENDENT AUDITORS' REPORT
F-31
<PAGE>
INDEPENDENT AUDITORS' REPORT
To the General Partner
Compact Discs International, Ltd. and Subsidiary
We have audited the accompanying consolidated balance sheet of Compact
Discs International, Ltd. (A Texas Limited Partnership) and Subsidiary as of
December 31, 1995, and the related consolidated statements of income, partners'
capital, and cash flows for the year then ended. These financial statements are
the responsibility of the Company's management. Our responsibility is to express
an opinion on these financial statements based on our audit.
We conducted our audit in accordance with generally accepted auditing
standards. These standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position of
Compact Discs International, Ltd. and Subsidiary as of December 31, 1995, and
the consolidated results of its operations and its cash flows for the year then
ended in conformity with generally accepted accounting principles.
Huselton & Morgan, P.C.
Dallas, TX
March 6, 1996, except for Note 2,
as to which the date is October 10, 1996
F-32
<PAGE>
COMPACT DISCS INTERNATIONAL, LTD. AND SUBSIDIARY
(A TEXAS LIMITED PARTNERSHIP)
CONSOLIDATED BALANCE SHEET
DECEMBER 31, 1995
ASSETS
Current assets
Cash $ 48,495
Accounts receivable (net of allowance of $70,171) 228,887
Due from CD Acquisitions 111,316
Inventory 50,275
Prepaid expenses 1,179
--------
Total current assets 440,152
--------
Furniture, fixtures and equipment (net of
accumulated depreciation) 39,108
--------
Investment in partnerships 25,231
Other assets (net of amortization) 5,288
--------
Total investment and other assets 30,519
--------
Total assets $509,779
--------
--------
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART
OF THESE FINANCIAL STATEMENTS.
F-33
<PAGE>
COMPACT DISCS INTERNATIONAL, LTD. AND SUBSIDIARY
(A TEXAS LIMITED PARTNERSHIP)
CONSOLIDATED BALANCE SHEET
DECEMBER 31, 1995
LIABILITIES AND PARTNERS' CAPITAL
Current liabilities
Accounts payable $ 4,075
Sales tax payable 2,219
Payroll taxes payable 744
Development fees advanced 60,521
--------
Total current liabilities 67,559
--------
Minority interest 11,981
Partners' capital 430,239
--------
Total liabilities and partners' capital $509,779
--------
--------
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART
OF THESE FINANCIAL STATEMENTS.
F-34
<PAGE>
COMPACT DISCS INTERNATIONAL, LTD. AND SUBSIDIARY
(A TEXAS LIMITED PARTNERSHIP)
CONSOLIDATED STATEMENT OF INCOME
FOR THE YEAR ENDED DECEMBER 31, 1995
Revenue
Royalty income $ 946,640
Retail sales 291,948
Franchise fees 109,750
Development fees 74,500
Software income 23,683
----------
Total revenue 1,446,521
----------
Expenses
Salaries 332,333
Cost of goods sold -retail sales 181,312
Bad debts 113,539
Travel 44,029
Telephone & utilities 43,208
Rent 41,027
Taxes 29,289
Professional fees 19,006
Office expense 18,487
Advertising 14,745
Depreciation 9,189
Miscellaneous 8,666
Printing 7,927
Insurance 5,768
Auto expense 5,314
Entertainment 4,974
Postage 4,578
Promotion 4,218
Licenses 4,136
Supplies 4,011
Contract labor 2,542
(Continued)
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART
OF THESE FINANCIAL STATEMENTS.
F-35
<PAGE>
COMPACT DISCS INTERNATIONAL, LTD. AND SUBSIDIARY
(A TEXAS LIMITED PARTNERSHIP)
CONSOLIDATED STATEMENT OF INCOME
FOR THE YEAR ENDED DECEMBER 31, 1995
(Continued)
Expenses
Repairs & maintenance 1,594
Security 1,355
Bank charges 820
Amortization 456
Dues & subscriptions 455
Photography 356
Interest expense 46
Fees 21
--------
Total expenses 903,401
--------
Operating income 543,120
Other income
Equity in income of partnerships 2,898
Interest income 89
--------
Net income before minority interest 546,107
Minority interest (7,293)
--------
Net income $538,814
--------
--------
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART
OF THESE FINANCIAL STATEMENTS.
F-36
<PAGE>
COMPACT DISCS INTERNATIONAL, LTD. AND SUBSIDIARY
(A TEXAS LIMITED PARTNERSHIP)
CONSOLIDATED STATEMENT OF PARTNERS' CAPITAL
FOR THE YEAR ENDED DECEMBER 31, 1995
Beginning balance $ 187,702
Net income 538,814
Distributions (296,277)
---------
Ending balance $ 430,239
---------
THE ACCOMPANYING NOTES ARE AN INTEGRAL
PART OF THESE FINANCIAL STATEMENTS.
F-37
<PAGE>
COMPACT DISCS INTERNATIONAL, LTD. AND SUBSIDIARY
(A TEXAS LIMITED PARTNERSHIP)
CONSOLIDATED STATEMENT OF CASH FLOWS
FOR THE YEAR ENDED DECEMBER 31, 1995
Cash flows from operating activities:
Net income $ 538,814
Noncash items
Bad debt expense 70,171
Depreciation and amortization 9,645
Minority interest 7,293
Investment income (2,898)
Adjustments to reconcile net income to cash
used by operating activities
Increase in accounts receivable (224,071)
Increase in due from CD Acquisitions (69,791)
Increase in inventory (11,327)
Increase in prepaid expenses (1,179)
Increase in development fees advanced 13,521
Increase (decrease) in accrued liabilities (11,829)
Increase (decrease) in accounts payable (1,997)
---------
Net cash provided by operating activities 316,352
Cash flows from investing activities
Purchase of fixed assets (17,355)
Distributions from partnership - Memphis store 167
Distribution to minority interest owner (5,040)
---------
Net cash used by investing activities (22,228)
Cash flows from financing activities
Distributions to partners (296,277)
Repayment of loan to Leo Kane (2,842)
---------
Net cash used by financing activities (299,119)
Net decrease in cash (4,995)
Cash at beginning of year 53,490
---------
Cash at end of year $ 48,495
---------
---------
Supplemental information:
1995 - Trade receivables in the amount of $22,500 are exchanged for a
minority interest in a general partnership.
- Development fees advanced in the amount of $22,500 are used
to satisfy various trade receivables.
THE ACCOMPANYING NOTES ARE AN INTEGRAL
PART OF THESE FINANCIAL STATEMENTS.
F-38
<PAGE>
COMPACT DISCS INTERNATIONAL, LTD. AND SUBSIDIARY
(A TEXAS LIMITED PARTNERSHIP)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1995
1. ORGANIZATION
THE COMPANY
Compact Discs International, Ltd. (the "Company") is a Texas limited
partnership which conducts business under the name "CD Warehouse" and maintains
its principal office in Richardson, Texas.
The Company offers and sells single-unit franchises and development rights
for multi-unit franchises for the operation of retail sales outlets which buy,
sell and trade new and used compact discs and related items (Note 8). As of
December 31, 1995, the Company has executed 112 franchise agreements for the
operation of stores, of which 96 are operational. The Company has 11
development agreements in place as of December 31, 1995.
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of the Company
and CD Warehouse - Fort Worth, an 81.25% owned subsidiary; the remaining 18.75%
is owned by an unrelated third party investor. All significant intercompany
accounts and transactions have been eliminated in consolidation. Minority
interest in the consolidated subsidiary represents the minority owner's
proportionate share of the equity of CD Warehouse - Fort Worth.
CASH AND CASH EQUIVALENTS
For purposes of the statement of cash flows, the Company considers all
highly liquid debt instruments purchased with a maturity of three months or less
to be cash equivalents. All cash is held in accounts that are federally
insured.
F-39
<PAGE>
INVENTORY
Inventory consists primarily of both new and used compact discs. All
inventory is valued at the lower of cost or market using the first-in, first-out
(FIFO) method. The inventory is located for resale at the subsidiary's location
in Fort Worth, Texas .
FURNITURE, FIXTURES AND EQUIPMENT
Furniture, fixtures and equipment are stated at cost. The provision for
depreciation has been calculated using the straight-line method. Useful lives
range from 3 to 7 years.
OTHER ASSETS
Organization costs and the Company's trademark are being amortized using
the straight-line method over five and fifteen years, respectively.
INVESTMENT IN PARTNERSHIPS
The Company records its ownership in two minority-owned partnerships that
own CD Warehouse stores using the equity method of accounting.
REVENUE RECOGNITION
Franchise fees are non-refundable. Franchise fee income is recognized upon
the opening of the related store. The Company's commitment and obligations to
franchisees are not significant after the store is opened. Development right
fees paid are recognized as income on a prorated basis as the franchise units
within a development agreement are opened. Development fees are non-refundable,
but will be applied against future franchise fees and royalty fees due from
development franchisees. Royalties are recognized when earned. Specially
designed software is sold to the franchisees, and the related income is
recognized when earned.
ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect certain reported amounts and disclosures. Accordingly,
actual results may differ from those estimates.
F-40
<PAGE>
2. CHANGE IN METHOD OF ACCOUNTING
Subsequent to the original audit date of these financial statements, March
6, 1996, management of the Company changed its method of accounting for
development fee income. In the prior financial statements, the total amount
deposited for development rights was recognized as income upon the opening of
the first franchise within a development agreement. As Note 1 indicates, these
financial statements recognize development fee income on a prorated basis as the
franchise units within a development agreement are opened. The change increased
income $4,095, increased development fee advances $50,321, and decreased
partners' capital $50,321, from what was originally reported in the financial
statements audited March 6, 1996.
3. FURNITURE, FIXTURES AND EQUIPMENT
Components of furniture, fixtures and equipment at December 31, 1995 are as
follows:
Equipment $ 28,861
Furniture and fixtures 23,541
Automobiles 12,386
Leasehold improvements 10,101
--------
Total 74,889
Accumulated depreciation (35,781)
--------
Total $ 39,108
--------
--------
4. OTHER ASSETS
Components of other assets at December 31, 1995 are as follows:
Deposits $3,560
Organization costs 2,150
Trademark 394
------
Total 6,104
Accumulated amortization (816)
------
Total $5,288
------
------
F-41
<PAGE>
5. INVESTMENT IN PARTNERSHIPS
In the latter part of 1995 the Company entered into two partnership
agreements to own and operate retail CD outlets in Tulsa, Oklahoma and Memphis,
Tennessee. At December 31, 1995, the Company has the following investments in
general partnerships:
Percentage
Partnership Owned
----------- ----------
CD Warehouse - Tulsa 50
CD Warehouse - Memphis 25
At December 31, 1995, the Company's investment in partnerships and equity
in the income of these partnerships for the year then ended consist of the
following:
Investment in Partnership
Partnership Income
------------- -----------
CD Warehouse - Tulsa $22,853 $ 353
CD Warehouse - Memphis 2,378 2,545
------- ------
$25,231 $2,898
------- ------
------- ------
The following summarizes the activity of the CD Warehouse - Tulsa and
the CD Warehouse - Memphis partnerships for the year ended December 31, 1995:
CD Warehouse CD Warehouse
Tulsa Memphis
------------ ------------
Total assets $65,157 $58,722
Total liabilities 5,388 3,210
------- -------
Net assets $59,769 $55,512
------- -------
Revenues $24,683 $98,734
------- -------
Net income $ 707 $10,180
------- -------
F-42
<PAGE>
6. COMMITMENTS AND CONTINGENCIES
The Company leases office space under a non-cancelable operating lease
agreement. The agreement expires in 1997. The Company also leases retail space
for its store operation. This agreement expires in 1996. Total rent expense
for the year ended December 31, 1995 was $41,027.
The following is a schedule of future minimum lease payments for the above
leases as of December 31, 1995:
Year ending December 31, 1996 $27,426
Year ending December 31, 1997 5,694
-------
$33,120
-------
7. INCOME TAXES
Taxable income of the Company is includable in the income returns of the
individual partners; therefore, no provision for income taxes has been made in
the accompanying financial statements.
8. RELATED-PARTY TRANSACTIONS
The partners of the Company own, through a joint venture, CD Acquisitions,
"CDA." CDA sells new and used merchandise to franchisees. The franchisees
included CD Warehouse - Fort Worth, Tulsa and Memphis. Sales to these three
franchisees amounted to $108,800 in the year ending December 31, 1995. CDA
operates out of the Company's location with no contribution to overhead
expenses.
CDA owes the Company $111,316 at December 31, 1995.
F-43
<PAGE>
CD ACQUISITIONS
FINANCIAL STATEMENTS
FOR THE YEAR ENDED DECEMBER 31, 1995
WITH
INDEPENDENT AUDITORS' REPORT
F-44
<PAGE>
INDEPENDENT AUDITORS' REPORT
To the Venturers
CD Acquisitions
We have audited the accompanying balance sheet of CD Acquisitions (A Joint
Venture) as of December 31, 1995, and the related statements of income,
venturers' capital, and cash flows for the year then ended. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audit.
We conducted our audit in accordance with generally accepted auditing
standards. These standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of CD Acquisitions as of
December 31, 1995, and the results of its operations and its cash flows for the
year then ended in conformity with generally accepted accounting principles.
Huselton & Morgan, P.C.
Dallas, TX
February 20, 1996
F-45
<PAGE>
CD ACQUISITIONS
(A JOINT VENTURE)
BALANCE SHEET
DECEMBER 31, 1995
ASSETS
Current assets
Cash $159,444
Accounts receivable, net of allowance of $12,859 194,441
Inventory 305,757
Prepaid insurance 7,913
--------
Total current assets 667,555
--------
Total assets $667,555
--------
--------
LIABILITIES AND VENTURERS' CAPITAL
Current liabilities
Accounts payable $411,805
Due to Compact Discs International, Ltd. 111,316
Advances from CD Stores 7,997
Accrued insurance 6,430
Sales tax payable 1,911
--------
Total current liabilities 539,459
--------
Venturers' capital 128,096
--------
Total liabilities and venturers' capital $667,555
--------
--------
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART
OF THESE FINANCIAL STATEMENTS.
F-46
<PAGE>
CD ACQUISITIONS
(A JOINT VENTURE)
STATEMENT OF INCOME AND VENTURERS' CAPITAL
FOR THE YEAR ENDED DECEMBER 31, 1995
Net Sales $2,717,043
Cost of goods sold 2,511,032
----------
Gross profit on sales 206,011
----------
Administrative and selling expenses 77,918
----------
Net income 128,093
Venturers' capital, beginning of year 3
----------
Venturers' capital, end of year $ 128,096
----------
----------
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART
OF THESE FINANCIAL STATEMENTS.
F-47
<PAGE>
CD ACQUISITIONS
(A JOINT VENTURE)
STATEMENT OF CASH FLOWS
FOR THE YEAR ENDED DECEMBER 31, 1995
Cash flows from operating activities:
Net income $ 128,093
Adjustments to reconcile net income to cash
from operating activities
Bad debt expense 12,859
(Increase) decrease in:
Accounts receivable 10,342
Inventory (145,948)
Prepaids and other assets (7,913)
Increase (decrease) in:
Accounts payable 90,412
Accrued expenses 12,521
---------
Net cash provided by operating activities 100,366
Net increase in cash 100,366
Cash at beginning of year 59,078
---------
Cash at end of year $ 159,444
---------
---------
THE ACCOMPANYING NOTES ARE AN INTEGRAL
PART OF THESE FINANCIAL STATEMENTS.
F-48
<PAGE>
CD ACQUISITIONS
(A JOINT VENTURE)
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1995
1. ACCOUNTING AND FINANCIAL REPORTING POLICIES
CD Acquisitions (the "Company") is a joint venture among two individuals
and a limited liability company owned by one of the same individuals and his
spouse. The principal office of operations is located in Richardson, Texas.
The Company is a wholesale distributor of new and used compact discs.
The significant accounting policies utilized in the preparation of the
financial statements are as follows:
RECORDS
The financial statements are presented in accordance with generally
accepted accounting principles.
CASH AND CASH EQUIVALENTS
For purposes of the statement of cash flows, the Company considers all
highly liquid debt instruments purchased with a maturity of three months or less
to be cash equivalents. There are no cash equivalents as of December 31, 1995.
All cash is held in accounts that are federally insured.
INVENTORY
Inventory is stated at the lower of cost or market. Cost is determined by
using a moving average method.
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<PAGE>
ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect certain reported amounts and disclosures. Accordingly,
actual results may differ from those estimates.
2. RELATED PARTY TRANSACTIONS
At December 31, 1995, the Company has the following balance owed to related
parties:
Due to Compact Discs International, Ltd. $111,316
--------
Leo Kane, owner of the Company, owns a 33% limited partnership interest in
Compact Discs International, Ltd. ("CDIL"). CDIL offers and sells single-unit
franchises and development rights for multi-unit franchises for the operation of
retail outlets which buy, sell and trade new and used compact discs. All of
the Company's 1995 sales were to franchisees of CDIL. The Company operates out
of the office and warehouse of CDIL at no charge to the Company.
3. INCOME TAXES
Taxable income or loss of the Company is includable in the income tax
return of the proprietor; therefore, no provision for income taxes has been made
in the accompanying financial statements.
F-50
