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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
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[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
FOR THE FISCAL YEAR ENDED JANUARY 31, 2000
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
COMMISSION FILE NUMBER 0-22289
WHEREHOUSE ENTERTAINMENT, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
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<S> <C>
DELAWARE 95-4608339
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NUMBER)
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19701 HAMILTON AVENUE
TORRANCE, CALIFORNIA 90502-1334
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES INCLUDING ZIP CODE)
(310) 965-8300
(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: NONE
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
COMMON STOCK, $0.01 PAR VALUE
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, 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-K or any amendment to this
Form 10-K. [ ]
As of April 21, 2000, the aggregate book value of the estimated voting and
non-voting stock held by non-affiliates of the registrant was $17,495,106.(1)
Indicate by check mark whether the registrant has filed all documents and
reports required to be filed by Section 12, 13, or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court. Yes [X] No [ ]
As of April 21, 2000, 11,026,421 shares of the registrant's common stock
were issued and outstanding and approximately 4,700 additional shares were
expected to be issued pursuant to an anti-dilution provision of a stock
subscription agreement with A&M Investment Associates #3, LLC.
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(1) There is no established trading market for the voting stock of the
registrant. Accordingly, the registrant has utilized book value per share
for purposes of the foregoing calculations concerning voting and non-voting
stock held by non-affiliates. This calculation of book value per share is
not intended to represent the price at which those shares trade. As of April
21, 2000, 11,026,421 shares of the registrant's voting stock were issued and
outstanding. All but 1,329,236 of those shares were issued pursuant to a
bankruptcy plan of reorganization. See Item 1 -- "Business -- Reorganization
Under Chapter 11" below. At April 21, 2000, the registrant estimates that
approximately 4,700 additional shares of its voting stock may be issued
pursuant to an anti-dilution provision of a stock subscription agreement
with A&M Investment Associates #3, LLC, after which a total of approximately
11,031,121 shares of the registrant's voting stock will be issued and
outstanding. The registrant estimates that of the number of total
outstanding shares, approximately 1,995,519 shares will be held by
non-affiliates of the registrant. The book value of voting and non-voting
stock held by non-affiliates of the registrant specified above assumes the
issuance of all 11,031,121 shares.
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FORWARD-LOOKING STATEMENTS
This Annual Report on Form 10-K includes certain statements that may be
deemed to be "forward-looking statements" within the meaning of the Private
Securities Litigation Reform Act of 1995. The sections of this Annual Report on
Form 10-K containing such forward-looking statements include "Business --
Acquisition of Blockbuster Music", "Business -- Reorganization Under Chapter
11", "Business -- Merchandise Sale Products", "Business -- Video and Other
Product Rentals", "Business -- Competition" under Item 1 below; "Holders" under
Item 5 below; and "Management's Discussion and Analysis of Financial Condition
and Results of Operation" under Item 7 below. Statements in this Annual Report
on Form 10-K which address activities, events or developments that the
registrant expects or anticipates will or may occur in the future, including
such things as future issuance of shares, future capital expenditures (including
the amount and nature thereof), expansion and other developments and
technological trends of industry segments in which the registrant is active,
business strategy, expansion and growth of the registrant's and its competitors'
business and operations and other such matters are forward-looking statements.
You can find many of these statements by looking for words like "believes,"
"expects," "anticipates," or similar expressions in this Annual Report on Form
10-K. Although the registrant believes the expectations expressed in such
forward-looking statements are based on reasonable assumptions within the bounds
of its knowledge of its business, a number of factors could cause actual results
to differ materially from those expressed in any forward-looking statements made
by or on behalf of the registrant.
The registrant's operations are subject to factors outside its control. Any
one, or a combination, of these factors could materially affect the results of
the registrant's operations. These factors include (a) changes in levels of
competition from current competitors and potential new competition from both
retail stores and alternative methods or channels of distribution such as
Internet and telephone shopping services and mail order; (b) loss of a
significant vendor or prolonged disruption of product supply; (c) the presence
or absence of popular new releases and products in the product categories the
registrant represents; (d) changes in levels of consumer spending, especially
during seasonally significant periods; (e) changes in Federal and state income
tax rules and regulations or interpretations of existing legislation; (f)
changes in the general economic conditions in the United States including, but
not limited to, consumer sentiment about the economy in general; (g) regulatory
changes, including the investigation of minimum advertised pricing guidelines by
the FTC, which may adversely affect the business in which we are engaged; (h)
the ability to attract and retain key personnel; (i) adverse results in
significant litigation matters; and (j) increased or unexpected costs or other
adverse effects associated with Y2K compliance.
The foregoing should not be construed as an exhaustive list of all factors
which could cause actual results to differ materially from those expressed in
forward-looking statements made by the registrant. You should consider the
cautionary statements contained in this section when evaluating any
forward-looking statements that we may make. We do not have any obligation to
publicly release any revisions to these forward-looking statements to reflect
events or circumstances after the date of this Annual Report or to reflect the
occurrence of unanticipated events.
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PART I
ITEM 1. BUSINESS
The registrant, Wherehouse Entertainment, Inc. ("New Wherehouse") was
incorporated under the laws of the State of Delaware on November 15, 1996 as WEI
Acquisition Co. On January 31, 1997, New Wherehouse acquired substantially all
the assets of Wherehouse Dissolution Co. ("Old Wherehouse"), a Delaware
corporation, and Old Wherehouse's parent Company, WEI Holdings, Inc., a Delaware
corporation ("WEI"), pursuant to a Chapter 11 plan of reorganization (as
described in "Reorganization Under Chapter 11" below). Prior to such
acquisition, Old Wherehouse was known as "Wherehouse Entertainment, Inc.", and,
after such acquisition, Old Wherehouse changed its name to "Wherehouse
Dissolution Co." After acquiring substantially all the assets of Old Wherehouse,
New Wherehouse changed its name to "Wherehouse Entertainment, Inc.", and, as the
successor to Old Wherehouse, has undertaken to continue the obligations of Old
Wherehouse to file all reports under Section 13 or 15(d) of the Securities
Exchange Act of 1934, as amended. Except as expressly indicated or unless the
context otherwise requires, the "Company", "Wherehouse", "we", "our", or "us"
means Wherehouse Entertainment, Inc. and its subsidiaries and, where the
discussion relates to the continuing business operations of Old Wherehouse and
New Wherehouse and its subsidiaries, New Wherehouse and Old Wherehouse,
collectively.
The Company's fiscal year ends on January 31. References to "Fiscal 2000,"
"Fiscal 1999" and "Fiscal 1998" refer to the fiscal years ended January 31,
2000, January 31, 1999, and January 31, 1998, respectively.
ACQUISITION OF BLOCKBUSTER MUSIC
On October 26, 1998, pursuant to a Stock Purchase Agreement dated as of
August 10, 1998 (the "Purchase Agreement"), the Company acquired (the
"Acquisition") all of the capital stock of certain retail music subsidiaries
(the "Acquired Business") from Viacom International Inc. ("Seller"). The
Acquired Business operated under the name "Blockbuster Music" and is referred to
as "Blockbuster Music" throughout this Report on Form 10-K. At the date of
Acquisition, the Acquired Business consisted of 378 Blockbuster Music stores
(the "Acquired Stores") in 33 states. In June 1999, the Company completed the
systems integration of the Acquired Stores, and all of the currently operating
Acquired Stores are operating under the "Wherehouse Music" name. The initial
purchase price was subject to a purchase price adjustment mechanism based on
working capital as set forth in the Purchase Agreement. On September 8, 1999,
the Company reached an agreement with the Seller with respect to this purchase
price adjustment based on working capital plus a settlement of certain other
issues. The final purchase price was $122.3 million, including direct
acquisition costs of $4.7 million.
The Acquisition was accounted for under the purchase method of accounting.
Accordingly, the purchase price has been allocated to the assets acquired and
liabilities assumed based on their respective fair values at the Acquisition
date based on valuations and other studies. The results of operations of the
Acquired Business are reflected in the accompanying consolidated financial
statements from October 26, 1998.
GENERAL
With the Acquisition of the Blockbuster Music stores, Wherehouse is now, in
terms of both revenues and store count, one of the largest retailers of
prerecorded music in the United States.
As of January 31, 2000, Wherehouse operated 529 stores in 31 states.
Between February 1, 2000 and April 21, 2000, the Company closed 13 former
Blockbuster Music stores. All but 10 of Wherehouse's stores operate under the
name "The Wherehouse", "Wherehouse Music" or "Wherehouse Entertainment". The
remaining 10 stores operate under the names "Tu Musica" and "Odyssey".
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Wherehouse sells prerecorded music, videocassettes, DVDs, video games,
personal electronics (including personal stereos, portable stereos, headphones
and related merchandise), blank audiocassettes and videocassettes, and
accessories. In Fiscal 2000 on a consolidated basis, sales of prerecorded music,
videocassettes, DVDs, video games, and accessories accounted for 98.7% of the
Company's revenues.
SALES AND RENTAL REVENUE BY CATEGORY
(DOLLARS IN MILLIONS)
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FISCAL YEARS ENDED JANUARY 31,
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2000* 1999** 1998
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Sale Merchandise Revenue:
Music..................................................... $663.2 $422.1 $239.2
Other, principally sales of new videocassettes, DVDs,
video game software and hardware, general merchandise
and ticket commissions................................. 92.9 42.4 36.9
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Total sale merchandise revenue.................... 756.1 464.5 276.1
Videocassette and other rental revenues, net***............. 9.8 16.0 23.9
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Total Revenue..................................... $765.9 $480.5 $300.0
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* Includes revenue of the Acquired Business.
** Includes revenue of the Acquired Business from and after October 26, 1998.
*** Includes sales of previously viewed videocassettes.
MERCHANDISE SALE PRODUCTS
Wherehouse's primary revenue source is the sale of merchandise. Wherehouse
stores generally sell a broad array of entertainment products, including
prerecorded music, videocassettes, DVDs, video game software, accessories and
personal electronics. The table above summarizes Wherehouse's dollar volume of
sale revenue by merchandise category for Fiscal 1998 through Fiscal 2000. The
percentage of total revenue contributed by merchandise sales has risen from
92.0% in 1998 to 98.7% in 2000. This increase results from the combined impact
of the additional sale merchandise revenue derived from the Acquired Business
and a decrease in the number of stores engaged in the rental business.
With input from store management and a product allocation team,
Wherehouse's inventory management systems are intended to tailor each store's
product selections and merchandise mix to local market demand and maximize the
availability of the most popular titles at each store, subject to store size
constraints. Wherehouse's stores have been designed to facilitate quick service
and to accommodate changes in industry trends and product offerings. Each
product line is monitored for profitability.
The Company sells used products, principally used CDs, in the majority of
its stores. Based upon strong consumer acceptance, the Company's used CD
business grew significantly through Fiscal 1998 and stabilized in Fiscal 1999.
Prior to the Acquisition, the Acquired Stores did not sell used CDs. During
Fiscal 2000, the Company expanded the used CD product line to most of the
non-mall Acquired Stores.
Prerecorded videocassettes and DVDs (feature films, music videos, and
self-improvement programming) represented, after music, Wherehouse's second
largest sale product category in Fiscal 1998, Fiscal 1999 and Fiscal 2000. As of
January 31, 2000, all of the Company's stores sold DVDs. As box-office "hit"
motion pictures continue to be released to the videocassette and DVD
sell-through market at reduced prices, industry-wide sales of this category have
increased.
Wherehouse sells video game hardware and software, blank audio and
videocassette tapes, music and video maintenance care products, carrying cases,
storage units, and personal electronics. Wherehouse also earns commissions on
event tickets sold under affiliations with Bay Area Seating Service (BASS) and
Ticketmaster.
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VIDEO AND OTHER PRODUCT RENTALS
Wherehouse's other revenue source is the rental of prerecorded
videocassettes, DVDs and other products, chiefly feature films. As of January
31, 2000, 93 of Wherehouse's 529 stores offered videocassettes, DVDs and other
products for rent, a decrease of 29 stores from January 31, 1999.
ADVERTISING AND PROMOTION
Wherehouse employs advertising, promotion, pricing, and presentation in a
coordinated manner to generate customer awareness of its breadth of product and
value pricing on selected items, and to induce trial and repeat purchases of its
products and video rental services. Wherehouse advertises on a regular and
frequent basis in a variety of broadcast and print media, including radio,
newspaper, direct mail and freestanding inserts. The advertising generally
emphasizes immediate availability of hit products at competitive prices, as well
as access to a broad array of catalog products. With its current operations
covering 31 states, the Company intends to expand its marketing relationships to
pursue national promotional opportunities.
Wherehouse also seeks to take advantage of cooperative advertising payments
from suppliers, which are generally available to the industry. Music and video
companies generally provide funds on a title-by-title basis and, occasionally,
on a label-wide basis to promote new releases. When Wherehouse runs
pre-authorized advertising that contains reference to a specific title or label,
the related supplier generally reimburses 100% of the pro rata cost of that
advertising.
TRADE CUSTOMS AND PRACTICES
Most of the Company's music purchases are protected by return policies
offered by major manufacturers. The return privilege generally exists for each
music title as long as that title remains in the current music catalog of a
manufacturer. Catalog changes are generally made only after advance notice,
allowing the Company to return excess inventory before a title is discontinued.
Most of the Company's major pre-recorded music suppliers provide unlimited
returns of unopened items, but generally charge return penalties of varying
amounts. The major suppliers do not accept returns of opened merchandise on the
same basis as unopened items, but do generally provide the Company with certain
additional return allowances. As of January 31, 2000, the Company enjoyed normal
return privileges with all of its vendors. Pricing and return policies of the
Company's major distributors are subject to change.
STORE AND SITE SELECTION
As of January 31, 2000, the Company operated 529 stores in 31 states. The
table below sets forth store openings, store acquisitions, store closings and
the total number of the Company's stores for the last three fiscal years:
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TOTAL STORES STORES
AT BEGINNING -------------------------- STORES AT END
FISCAL YEAR ENDED JANUARY 31, OF PERIOD OPENED ACQUIRED CLOSED OF PERIOD
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2000........................................ 579 1 0 51 529
1999........................................ 223 8 378 30 579
1998........................................ 243 0 0 20 223
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The Company evaluates growth opportunities within the context of its
strategies and evaluates future store closing decisions, principally at lease
expiration, based upon individual store performance.
As of January 31, 2000, the Company operated 529 stores comprising
approximately 4,057,500 square feet, a decrease of approximately 264,300 square
feet compared to January 31, 1999.
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STORE OPERATIONS AND DISTRIBUTION
STORE LOCATION. As of January 31, 2000, the Company had 412 stores located
in strip centers or freestanding buildings and 117 stores located in malls.
Strip center and freestanding locations range in size from 1,500 to 24,600
square feet and mall stores range in size from 700 to 10,200 square feet.
RETAIL PRESENTATION. Prior to the Acquisition, the Company had updated its
retail presentation through the use of new in-store signage, expansion of
several product categories and, in certain stores, the introduction of new
product lines.
Subsequent to the Acquisition, and as an integral part of the process of
converting the former Blockbuster Music stores into Wherehouse stores, the
Company introduced a new logo, Wherehouse Music. This change is a part of the
Company's brand awareness program, which is has been introduced in all markets.
DISTRIBUTION. Central to Wherehouse's strategy of providing a broad
merchandise selection to its customers (e.g., multiple copies of hits, select
copies of catalog products, and high quality in-stock condition) is its ability
to distribute product quickly and cost-effectively to its stores. The Company
generally uses common carriers for deliveries from its distribution center.
Generally, the Company's centralized distribution system fills orders to all
stores at least once a week. Inventory at the Company's distribution center is
automatically sorted based on individual store demand data generated by the
Company's store-level inventory systems. Such data is captured by the Company's
point-of-sale ("POS") system and forwarded to the distribution center for
fulfillment. At its distribution center, the Company has completed the
implementation of a new distribution system, the installation of additional
merchandise handling equipment, and the installation of a second automated
sortation system to support the processing requirements of the increased number
of stores resulting from the Acquisition.
E-COMMERCE
In response to the growth in electronic commerce and the future potential
for on-line sales of prerecorded music and video product, the Company launched
its own Internet commerce site, "Wherehousemusic.com", on May 10, 1999. On
November 16, 1999, the Company agreed to enter into an equity investment and
strategic partnership relationship (the "CheckOut Agreement") with CheckOut.com,
LLC ("CheckOut.com"), an Internet content provider and e-commerce retailer of
music, movies and games. The CheckOut Agreement was finalized on February 16,
2000. In exchange for a 49% equity interest in CheckOut.com, the Company
contributed $9.8 million in February 2000. The Company also agreed to contribute
an additional $1.568 million per month to CheckOut.com, up to an amount not to
exceed $9.8 million. Under the terms of the CheckOut Agreement, CheckOut.com
receives various promotional benefits from Wherehouse and is Wherehouse's
exclusive Internet website partner for music, movies and games. As a result, the
Company merged the operation of its own Internet website, Wherehousemusic.com,
with that of CheckOut.com.
As a part of the CheckOut.com transaction, the Company sold 250,000 shares
of Wherehouse common stock to affiliates of its partner in CheckOut.com for $5.0
million in cash. In addition, the Company loaned $5.0 million to CheckOut.com
during Fiscal 2000, which was repaid in connection with the finalization of the
CheckOut Agreement.
INDUSTRY AND COMPETITIVE ENVIRONMENT
The retail home entertainment industry is highly competitive. The Company
competes with other brick-and-mortar retailers and a growing number of
direct-to-consumer alternatives.
Brick-and-Mortar Retailers. The Company competes with large, established
music and video chains, such as those operated by Musicland, Trans World
Entertainment Corporation, and Tower Records; consumer electronics superstores,
such as Best Buy and Circuit City; mass merchants, such as Wal-Mart, Kmart and
Target; and other specialty retail stores, such as Barnes & Noble and Borders.
Some of these competitors may have greater financial or other resources than the
Company. In addition, the Company also faces competition from video rental
stores, variety discounters and warehouse clubs.
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Direct-to-Consumer. The Internet has become an established avenue for
retailing. The purchase of music and video, in particular, through the Internet
is increasing in popularity with consumers. The Company's e-commerce competitors
include Amazon.com, CDnow.com, Barnesandnoble.com, mp3.com and others, most of
which have one or more marketing alliances. In addition to the Internet,
consumers receive television and mail order offers and have access to mail order
clubs. The largest mail order clubs are affiliated with major manufacturers of
prerecorded music and video and may have advantageous marketing relationships
with their affiliates. Consumers also have access to cable television and
digital satellite systems, including pay-per-view television. Many retailers as
well as certain distributors are testing technology that allows for the purchase
of music through a digital download either via the Internet or from an in-store
kiosk unit. Although digital download sales to date have been relatively minor,
consumer interest in this form of distribution could increase as the technology
improves and the assortment of titles available for download widens.
While consolidation of brick-and-mortar retailers slowed during 1999,
consolidation is continuing to occur elsewhere in the home entertainment
industry. Time Warner Inc. recently agreed to be acquired by America Online,
Inc. and also agreed to combine its music operation with Britain's EMI Group
plc. The Universal Music Group of Seagram Co. Ltd., another major supplier to
the Company, agreed to purchase 50% of an Internet music retailing company
operated by Bertelsmann AG, also a major supplier to the Company. The Company
has adopted strategies to address these industry developments. Among these
strategies is the strategic partnership arrangement with CheckOut.com discussed
above.
SEASONALITY AND INFLATION
The Company's business is seasonal, and revenues and operating income are
highest during the fourth quarter of the Company's fiscal year. Revenues in the
fourth quarter of Fiscal 2000 were approximately 31.5% of total annual revenues.
Working capital and related bank borrowings have usually been lowest during the
period beginning with the end of the Christmas holiday and ending with the close
of the Company's fiscal year. Beginning in February, working capital and related
bank borrowings have historically trended upward during the year until the
fourth quarter. Borrowings have historically been highest in October and
November due to cumulative capital expenditures and the building of inventory
for the holiday season.
The Company believes that, except for changes in the minimum wage mandated
by the Federal government, inflation has not had a material effect on its
operations and its internal and external sources of liquidity and working
capital.
ORGANIZATION AND EMPLOYEES
As of January 31, 2000, Wherehouse employed approximately 6,721 persons.
Approximately 37% were full-time employees, and approximately 63% percent were
part-time employees. The Company's labor requirements vary based on seasonal
business fluctuations, with between 1,500 and 2,000 additional store and
distribution center employees added during the peak holiday season. Wherehouse's
corporate office staff, which consists of approximately 254 employees, is
responsible for executive and general operating management, buying,
merchandising, advertising, finance, accounting, human resources, legal,
information systems and real estate.
TRADEMARKS
The Company owns and maintains registrations for "The Wherehouse" trademark
and variations thereof in the United States, Mexico, Taiwan, Thailand, Hong
Kong, and Korea and has filed trademark applications in China. The Company also
owns and maintains registrations in the United States and Mexico for the name
"Tu Musica". Trademark applications have been approved in the United States for
the names "Wherehouse Music", "Wherehouse.com" and "Wherehousemusic.com".
Trademark applications have been filed and are pending in the United States for
the names "Earmail", "Songmail", "Bandography", and "GameSpace".
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REORGANIZATION UNDER CHAPTER 11
On August 2, 1995, WEI and Old Wherehouse filed voluntary petitions for
relief under Chapter 11 of Title 11 of the United States Code ("Chapter 11") in
the United States Bankruptcy Court for the District of Delaware (the "Bankruptcy
Court"), seeking to reorganize under Chapter 11. Old Wherehouse and WEI
continued to manage their respective affairs and operate their businesses as
debtors-in-possession while they worked to develop a reorganization plan that
would restructure their businesses and allow their emergence from Chapter 11.
The Chapter 11 Plan of Reorganization for the Company's predecessors (the
"Reorganization Plan") was confirmed by an order of the Bankruptcy Court entered
on January 7, 1997. The effective date of the Reorganization Plan occurred on
January 31, 1997 (the "Effective Date"). The Company acquired substantially all
of the assets of WEI and Old Wherehouse pursuant to the Reorganization Plan.
Since the Effective Date, the Company has been and is free to carry out its
business without oversight by the Bankruptcy Court.
On January 31, 1997, the Company implemented the accounting principles for
entities emerging from Chapter 11 set forth in the American Institute of
Certified Public Accountants' Statement of Position 90-7 "Financial Reporting by
Entities in Reorganization under the Bankruptcy Code" (SOP 90-7). This resulted
in the use of "fresh start" reporting, since the reorganization value, as
defined, was less than the total of all post-petition liabilities and
pre-petition claims, and holders of voting shares immediately before
confirmation of the Reorganization Plan received less than fifty percent of the
voting shares of the emerging entity. All assets and liabilities were restated
to reflect the reorganization value of the reorganized entity, which
approximated its fair value at the Effective Date. In addition, the accumulated
deficit of the Company was eliminated and its capital structure was recast in
conformity with the Reorganization Plan.
ITEM 2. PROPERTIES
The Company's executive offices, which are located in Torrance, California,
are subject to a lease covering 66,775 square feet of space at a current annual
base rent of approximately $504,151, which is subject to periodic adjustment.
The executive office lease expires on January 31, 2004. The Company has the
right to terminate its executive office lease on June 30, 2001 by paying to its
landlord an early termination fee in accordance with certain conditions in the
lease. The Company also maintains regional offices for its field managers within
existing store locations or in separate office facilities.
The Company operates a 198,292 square-foot distribution center in Carson,
California. The lease for this property expires on April 30, 2002, subject to
two 5-year renewal options. The annual base rent for Fiscal 2000 was $809,031,
although the rent is subject to periodic adjustment.
As of January 31, 2000, the Company owned one of its stores and leased
space for the remaining 528 stores. Since January 31, 2000, the Company has
closed 13 of these 529 stores and opened one store. Lease terms generally range
from month-to-month to 30 years, including renewal options. If no leased stores'
renewal options were exercised, 74 leases would expire on or before January 31,
2001, 97 would expire between February 1, 2001 and January 31, 2002, 51 would
expire between February 1, 2002 and January 31, 2003, and the remainder would
expire subsequent to February 1, 2003. The Company has the right to terminate a
number of its store leases prior to the lease termination date, depending upon
certain conditions, as defined in each lease. The Company does not depend on the
continued existence of any one or several of its lease agreements or store
locations for the operation of its business.
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ITEM 3. LEGAL PROCEEDINGS
(i) Bankruptcy filing
See Item 1 -- "Business -- Reorganization Under Chapter 11" above for a
description of the bankruptcy filing of Old Wherehouse and WEI.
(ii) Other
The Company is a party to various other claims, legal actions and
complaints arising in the ordinary course of its business. In the opinion of
management, all such matters are without merit or involve such amounts that
unfavorable disposition will not have a material impact on the financial
position and results of operations of the Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
MARKET INFORMATION
The Company has one class of common equity outstanding, its Common Stock.
See Item 12 -- "Security Ownership of 5% Holders, Directors and Executive
Officers." There is no established public trading market for the Common Stock.
HOLDERS
As of January 31, 1997, after the effective date of the Reorganization
Plan, there were eight holders of Common Stock, seven of whom were senior
lenders under Old Wherehouse's bank credit agreement (the "Senior Lenders"), led
by Cerberus Partners, L.P. as the agent for the Senior Lenders. As of April 21,
2000 the Company had issued 11,026,421 shares of Common Stock, and there were
884 holders of record of the Common Stock. The Company estimates that
approximately 4,700 additional shares of Common Stock will be distributed to A&M
Investment Associates #3, LLC ("A&M #3") under the provisions of a Stock
Subscription Agreement dated as of January 31, 1997 (the "Stock Subscription
Agreement"). Included in the Common Stock issued and outstanding as of April 21,
2000 are 250,000 shares of Common Stock the Company issued on February 16, 2000
as part of its strategic alliance with CheckOut.com (see Item 1 --
"Business -- E-Commerce" above).
DIVIDENDS
No dividends have been paid to the holders of the Common Stock since its
issuance. The Company's amended loan agreement with Congress Financial
Corporation (Western) restricts the ability of Wherehouse to pay dividends. See
Item 7 -- "Management's Discussion and Analysis of Financial Condition and
Results of Operation -- Liquidity and Capital Resources" and Note 6 to the
financial statements included elsewhere in this report. There are no plans by
Wherehouse to pay cash dividends on the Common Stock in the foreseeable future.
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ITEM 6. SELECTED FINANCIAL DATA
Set forth below are selected financial data as of and for the periods
indicated below. The financial data are derived from financial statements of Old
Wherehouse and New Wherehouse. The selected financial data should be read in
conjunction with the discussion under Item 7 -- "Management's Discussion and
Analysis of Financial Condition and Results of Operation" and with the financial
statements, including the notes thereto, included elsewhere in this report.
<TABLE>
<CAPTION>
OLD WHEREHOUSE
NEW WHEREHOUSE ----------------
--------------------------------------- YEAR ENDED
YEAR ENDED JANUARY 31, JANUARY 31,
--------------------------------------- ----------------
2000 1999 1998 1997 1996
----------- ----------- ----------- ------ -------
(DOLLAR AMOUNTS IN MILLIONS)
<S> <C> <C> <C> <C> <C>
INCOME STATEMENT DATA:
Revenue:
Sale merchandise revenue................... $ 756.1 $ 464.5 $ 276.1 $295.5 $ 350.3
Rental revenue, net........................ 9.8 16.0 23.9 36.0 42.5
----------- ----------- ----------- ------ -------
Total revenues...................... 765.9 480.5 300.0 331.5 392.8
Cost of sale merchandise revenue(1).......... 495.6 309.7 176.1 195.5 230.3
Selling, general and administrative
expenses................................... 237.7 140.1 104.7 134.0 149.6
Depreciation and amortization................ 25.7 11.8 7.1 11.4 17.2
System integration costs(2).................. 0.8
Store closure costs -- existing stores(3).... 2.9
Year 2000 remediation costs(4)............... 0.2 1.8
Write-down of long-lived assets.............. 1.5
----------- ----------- ----------- ------ -------
Income (loss) from operations.............. 6.7 13.3 12.0 (9.4) (5.8)
Interest (income) expense, net............... 7.3 1.2 (1.1) 0.7 14.8
----------- ----------- ----------- ------ -------
Income (loss) before reorganization items,
income taxes and extraordinary item...... (0.6) 12.1 13.1 (10.1) (20.6)
Reorganization items......................... 19.9 23.2
----------- ----------- ----------- ------ -------
Income (loss) before income taxes.......... (0.6) 12.1 13.1 (30.0) (43.8)
Provision for income taxes................... 0.6 5.0 5.4
----------- ----------- ----------- ------ -------
Income (loss) before extraordinary item.... (1.2) 7.1 7.7 (30.0) (43.8)
Extraordinary item(5)........................ 173.7
----------- ----------- ----------- ------ -------
Net income (loss).......................... $ (1.2) $ 7.1 $ 7.7 $143.7 $ (43.8)
=========== =========== =========== ====== =======
Net income per common share(6):
Basic...................................... $ (0.11) $ 0.66 $ 0.74
Diluted.................................... $ (0.11) $ 0.61 $ 0.71
Weighted average shares outstanding:
Basic...................................... 10,749,986 10,689,580 10,420,557
Diluted.................................... 10,749,986 11,551,798 10,894,862
Other data:
Adjusted EBITDA(7)......................... $ 45.2 $ 34.8 $ 24.3 $ 1.6
Cash flows provided by (used in) operating
activities............................... $ 33.8 $ 55.4 $ 59.9 $ 15.9 $ (10.6)
Cash flows used in investing activities.... $ (30.8) $ (128.7) $ (4.6) $ (1.3) $ (10.7)
Cash flows (used in) provided by financing
activities............................... $ (13.5) $ 33.6 $ (6.7) $(15.8) $ 26.7
BALANCE SHEET DATA:
Working capital.............................. $ 47.7 $ 70.8 $ 65.3 $ 59.4 $ 83.7
Total assets................................. 413.7 387.7 161.0 131.7 168.5
Liabilities subject to compromise............ 278.9
Line of credit............................... 32.0 37.3
Capital lease obligations and long-term debt
(including current portion)(8)............. 31.5 31.6 4.5 5.4 4.2
Total shareholders' equity (deficit)(9)...... $ 96.3 $ 98.2 $ 91.5 $ 84.1 $(156.3)
</TABLE>
- ---------------
(1) The Company incurred incremental cost of sales of approximately $2.5 million
and $2.7 million for the fiscal years ended January 31, 2000 and 1999,
respectively, relating to third-party distribution costs for music
replenishment from one of its suppliers. These incremental costs resulted
from the Seller's inability
10
<PAGE> 11
to support fulfillment of music product from its distribution facility.
These incremental costs were discontinued by July 1999.
(2) System integration costs related to the Acquisition.
(3) The charge for store closure costs-existing stores in Fiscal 1999 represents
costs related to the closure of 19 Wherehouse stores that operated in the
same trade areas as acquired Blockbuster Music stores.
(4) The Company recorded charges of $0.2 million and $1.8 million during Fiscal
2000 and 1999, respectively, in connection with the Year 2000 remediation of
its computer systems (see Item 7 -- "Management's Discussion of Financial
Condition and Results of Operations -- Impact of the Year 2000").
(5) The extraordinary item in Fiscal 1997 represents gain from the
extinguishment of debt pursuant to the Company's Reorganization Plan.
(6) Net income per common share is omitted for the Company for the fiscal years
ended January 31, 1996, and 1997 because those years relate to Old
Wherehouse, which had a different capital structure.
(7) EBITDA represents income (loss) from operations, plus depreciation and
amortization. Management believes that, due to the combined format of rental
product and sale merchandise and certain non-recurring costs related to the
Acquisition, a more appropriate calculation of EBITDA (hereafter referred to
as "Adjusted EBITDA") should include an adjustment for such non-recurring
costs and the net difference between rental amortization plus the book value
of rental dispositions less rental inventory purchased during the period.
The Company has included certain information concerning Adjusted EBITDA
because management believes it would be useful information for certain
investors and analysts to evaluate operating performance and to determine
the Company's ability to service debt. The method of calculating Adjusted
EBITDA set forth above may be different from calculations of EBITDA employed
by other companies and, accordingly, may not be directly comparable to such
other computations. Adjusted EBITDA should not be viewed as a substitute for
Generally Accepted Accounting Principles (GAAP) measurements such as net
income or cash flow from operations. It is presented as supplementary
information.
Adjusted EBITDA for Fiscal 1998 includes a non-recurring cash benefit
of $1.7 million resulting from the impact of one-time credits received from
landlord concessions.
Adjusted EBITDA for Fiscal 1999 excludes certain incremental costs
related to the Acquired Stores and costs associated with the remediation of
its computer systems to comply with Y2K readiness requirements as follows:
costs related to the closure of existing stores of $2.9 million;
non-recurring merchandise replenishment costs of $2.7 million included in
cost of sale merchandise revenue; Y2K remediation costs of $1.8 million; and
system integration costs of $0.8 million.
Adjusted EBITDA for Fiscal 2000 excludes certain incremental costs
related to the Acquired Stores and costs associated with the remediation of
its computer systems to comply with Y2K readiness requirements as follows:
incremental non-recurring distribution costs of approximately $4.6 million;
and non-recurring integration costs of approximately $5.5 million (including
$2.5 million of replenishment costs in cost of sale merchandise revenue and
$0.2 million of Y2K remediation costs). Also, Adjusted EBITDA excludes
Internet related costs of $2.3 million, which are included in SG&A expenses.
(8) Includes $27.5 million and $27.6 million of capital lease obligations in
Fiscal 2000 and 1999, respectively, principally real estate leases related
to the Acquisition ($22.1 million and $25.8 million, respectively) and
equipment leases ($5.4 million and $1.8 million, respectively). Includes
6 3/4% Convertible Subordinated Debentures, which are included in
liabilities subject to compromise. Liabilities subject to compromise for the
fiscal year ended January 31, 1996 are excluded from working capital and
long-term debt.
(9) There were no cash dividends declared during any of the periods presented
above.
11
<PAGE> 12
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
RESULTS OF OPERATIONS
FORWARD-LOOKING STATEMENTS
Certain statements contained in Management's Discussion and Analysis of
Financial Condition and Results of Operations, particularly in the paragraph
entitled "Liquidity and Capital Resources", and elsewhere in this Annual Report
on Form 10-K are forward-looking statements. These statements discuss, among
other things, expected growth, future revenues and future performance. You can
find many of these statements by looking for words like "believes," "expects,"
"anticipates," or similar expressions in this Annual Report on Form 10-K.
Although the Company believes the expectations expressed in such forward-looking
statements are based on reasonable assumptions within the bounds of its
knowledge of its business, a number of factors could cause actual results to
differ materially from those expressed in any forward-looking statements,
whether oral or written, made by or on behalf of the Company.
The Company's operations are subject to factors outside its control. Any
one, or a combination, of these factors could materially affect the results of
the registrant's operations. These factors include (a) changes in levels of
competition from current competitors and potential new competition from both
retail stores and alternative methods or channels of distribution such as
Internet and telephone shopping services and mail order; (b) loss of a
significant vendor or prolonged disruption of product supply; (c) the presence
or absence of popular new releases and products in the product categories the
registrant represents; (d) changes in levels of consumer spending, especially
during seasonally significant periods; (e) changes in Federal and state income
tax rules and regulations or interpretations of existing legislation; (f)
changes in the general economic conditions in the United States including, but
not limited to, consumer sentiment about the economy in general; (g) regulatory
changes, including the investigation of minimum advertised pricing guidelines by
the FTC, which may adversely affect the business in which we are engaged; (h)
the ability to attract and retain key personnel; (i) adverse results in
significant litigation matters and (j) increased or unanticipated costs or other
adverse effects associated with Y2K compliance.
The foregoing should not be construed as an exhaustive list of all factors
which could cause actual results to differ materially from those expressed in
forward-looking statements made by the Company. You should consider the
cautionary statements contained in this section when evaluating any
forward-looking statements that we may make. We do not have any obligation to
publicly release any revisions to these forward-looking statements to reflect
events or circumstances after the date of this Annual Report or to reflect the
occurrence of unanticipated events.
YEAR ENDED JANUARY 31, 2000 COMPARED TO YEAR ENDED JANUARY 31, 1999
Revenues
Total revenues were $765.9 million and $480.5 million for the fiscal years
ended January 31, 2000 and January 31, 1999, respectively. The increase of
$285.4 million was attributable to the addition of the Acquired Stores, which
contributed $458.7 million in revenues during Fiscal 2000 compared to $173.7
million for Fiscal 1999, net of a decrease of $6.2 million in net rental
revenues.
Excluding the Acquired Stores, total revenues increased to $307.2 million
during Fiscal 2000 from $306.9 million during Fiscal 1999.
A. Sale merchandise revenue. Sales of prerecorded music, new
videocassettes, DVDs, video game software and hardware (collectively referred to
as "sale merchandise") continue to represent the greatest portion of the
Company's revenues. For Fiscal 2000, sale merchandise revenue represented 98.7%
of aggregate revenues, compared to 96.7% during Fiscal 1999, an increase of
2.0%. This increase results from the combined impact of the additional sale
merchandise revenue derived from the Acquired Business and a decrease in the
number of stores engaged in the rental business.
Sale merchandise revenue was $756.1 million in Fiscal 2000 compared to
$464.5 million in Fiscal 1999. This increase in sale merchandise revenue was
attributable to the addition of the Acquired Stores.
12
<PAGE> 13
Management defines same-store sales as sales from stores that were open for
the full period in both periods of comparison. On a same-store basis, excluding
the 11 Wherehouse stores closed during Fiscal 2000 and the Acquired Stores, sale
merchandise revenue increased by approximately 5.3% during Fiscal 2000 as
compared to Fiscal 1999. Management believes that the increase in same-store
sale merchandise revenue was principally the result of continuing improvements
in music catalog inventory management, new initiatives such as an expanded DVD
selection, and re-merchandising activities which occurred in certain stores.
Management estimates that, on a same-store basis, sale merchandise revenue for
the Acquired Stores decreased by 4.3% during Fiscal 2000 compared to Fiscal
1999. This decrease is principally due to the negative impact on revenues of
activities associated with the integration of the Acquired Stores, including the
implementation of a name change from "Blockbuster Music" to "Wherehouse Music"
in the markets where the Wherehouse brand was not previously known.
B. Rental revenue, net. Rental revenue, net includes the proceeds from the
rental of videocassettes, DVDs, video games and game players, and from the sale
of previously viewed videocassettes and previously played video games net of
cost of rentals. Rental revenue, net was $9.8 million in Fiscal 2000 and $16.0
million in Fiscal 1999, representing a decrease of $6.2 million or 38.5% due to
increased competition in the rental market and fewer of the Company's stores
offering rental products.
Cost of Sale Merchandise Revenue
Cost of sale merchandise revenue was $495.6 million for Fiscal 2000, as
compared with $309.7 million for Fiscal 1999, an increase of $185.9 million,
which was principally due to the Acquired Stores. As a percentage of sale
merchandise revenue, cost of sale merchandise revenue was 65.6% for Fiscal 2000
as compared with 66.7% for Fiscal 1999. Such decrease was caused principally by
a change in product mix as used music merchandise, which is sold at a higher
gross profit margin, was added to the Acquired Stores, partially offset by
vendor price increases on new CDs. In addition, less inventory shrinkage
occurred in Fiscal 2000 as compared to Fiscal 1999, offset by increased
inventory markdowns. Costs were also negatively impacted by approximately $2.5
million in Fiscal 2000 and $2.7 million in Fiscal 1999 of incremental costs
associated with the use of a third-party distributor to handle music and sales
video replenishment and other transition-related costs. In connection with the
acquisition, these incremental distribution costs resulted from the Seller's
inability to support the fulfillment of music product from its distribution
facility. These incremental costs were discontinued by July of Fiscal 2000 when
all the Acquired Stores were converted to the Company's POS system and expansion
of the Company's distribution facility was completed.
Operating Expenses
Selling, general and administrative ("SG&A") expenses for Fiscal 2000 were
$237.7 million, compared to $140.1 million for Fiscal 1999, an increase of $97.6
million. The increase was principally related to the operating expenses of the
Acquired Stores.
SG&A expenses were 31.0% of total revenues in Fiscal 2000, compared to
29.2% of total revenues in Fiscal 1999, an increase of 1.8%. During Fiscal 2000,
the Company incurred non-recurring SG&A costs of $7.6 million related to the
integration of the Acquired Stores and certain other non-recurring incremental
distribution costs. These costs related principally to the name change of the
Acquired Stores, the conversion of those stores to the Company's POS system, and
additional freight charges to accommodate the Acquired Stores. During Fiscal
2000, SG&A costs include $2.3 million of Internet related expenses. The
additional increase in SG&A expenses as a percentage of total revenues is due
principally to the occupancy costs and payroll related expenses of the Acquired
Stores which are greater as a percentage of total revenues than the Company's
existing stores.
Depreciation and amortization expense was $25.7 million in Fiscal 2000
compared to $11.8 million in Fiscal 1999, an increase of $13.9 million. The
increase is principally related to depreciation expense of the Acquired Stores
and amortization expense of intangible assets related to the Acquisition.
13
<PAGE> 14
Interest Expense
Interest expense for Fiscal 2000 was $7.8 million, compared to $3.5 million
for Fiscal 1999, an increase of $4.3 million. This increase was primarily
attributable to interest expense incurred due to borrowings under the Company's
revolving line of credit agreement with Congress Financial Corporation (Western)
(the "Congress Facility"). Such borrowings were used mainly for financing the
Acquisition and for working capital requirements.
Interest Income
Interest income for Fiscal 2000 was $0.5 million, as compared to $2.3
million for Fiscal 1999. The decrease of $1.8 million was the result of a
decline in short-term investments of excess cash. Such excess cash was used
mainly to pay down the Company's borrowings under the Congress Facility.
Income Taxes
The Company recorded a tax provision of $0.6 million for Fiscal 2000
compared to $5.0 million for Fiscal 1999. The tax provision is commensurate with
the decrease in income (loss) before income taxes. The increase in the Company's
effective tax rate relates principally to non-deductible goodwill amortization.
Adjusted EBITDA
See Selected Financial Data for a discussion regarding the computation of
Adjusted EBITDA.
YEAR ENDED JANUARY 31, 1999 COMPARED TO YEAR ENDED JANUARY 31, 1998
Revenues
Total revenues were $480.5 million and $300.0 million for the fiscal years
ended January 31, 1999 and January 31, 1998, respectively. The increase of
$180.5 million was attributable to the addition of the Acquired Stores, which
contributed $173.7 million in revenues during Fiscal 1999.
Excluding the Acquired Stores, net revenues increased to $306.9 million
during Fiscal 1999 from $300.0 million during Fiscal 1998. The increase of $6.9
million was attributable to an increase in sale merchandise revenue (defined
below) of $14.8 million partially offset by a $7.9 million decline in net rental
revenue.
A. Sale merchandise revenue. Sales of prerecorded music, new video
cassettes, DVDs, video game software and hardware (collectively referred to as
"sale merchandise") continue to represent the greatest portion of the Company's
revenues. For Fiscal 1999, sale merchandise revenue represented 96.7% of
aggregate revenues, compared to 92.0% during Fiscal 1998, an increase of 4.7%.
This increase results from the combined impact of the additional sale
merchandise revenue derived from the Acquired Business and a decrease in the
number of stores engaged in the rental business.
Sale merchandise revenue was $464.5 million in Fiscal 1999 compared to
$276.1 million in Fiscal 1998. This increase in sale merchandise revenue was
mainly attributable to the addition of the Acquired Stores.
On a same-store basis, excluding the 11 Wherehouse stores closed during
Fiscal 1999 and the Acquired Stores, sale merchandise revenue increased by
approximately 9.4% during Fiscal 1999 as compared to Fiscal 1998. Management
believes that the increase in same-store sale merchandise revenue was
principally the result of improvements in music catalog inventory management,
new initiatives such as an expanded DVD selection, re-merchandising activities
which occurred in certain stores, and the favorable impact of store closures by
competitors. Management estimates that, on a same-store basis, sale merchandise
revenue for the Acquired Stores decreased by 0.7% for the period commencing
October 26, 1998 and ended January 31, 1999. This decrease is principally due to
the higher revenue in Fiscal 1998 generated from the liquidation of book
inventory, as Blockbuster Music discontinued that product line.
14
<PAGE> 15
B. Rental revenue, net. Rental revenue, net includes the proceeds from the
rental of videocassettes, DVDs, video games and game players, and from the sale
of previously viewed videocassettes and previously played video games net of
cost of rentals. Rental revenue, net was $16.0 million in Fiscal 1999 and $23.9
million in Fiscal 1998, representing a decrease of $7.9 million or 33.1% due to
increased competition in the rental market and fewer of the Company's stores
offering rental products.
Cost of Sale Merchandise Revenue
Cost of sale merchandise revenue was $309.7 million for Fiscal 1999, as
compared with $176.1 million for Fiscal 1998, an increase of $133.6 million,
which was principally due to the addition of the Acquired Stores. As a
percentage of sale merchandise revenue, cost of sale merchandise revenue was
66.7% for Fiscal 1999 as compared with 63.8% for Fiscal 1998. Such increase was
due principally to the incremental costs associated with the use of a
third-party distributor to handle music and sale video replenishment and other
transition-related costs for the Acquired Stores in Fiscal 1999, partially
offset by improved inventory efficiencies and lower costs related to merchandise
returns for the existing Wherehouse stores.
Operating Expenses
Selling, general and administrative ("SG&A") expenses for Fiscal 1999 were
$140.1 million, compared to $104.7 million for Fiscal 1998, an increase of $35.4
million. The increase was principally related to the operating expenses of the
Acquired Stores, partially offset by lower store payroll and other store
expenses in the Wherehouse stores.
SG&A expenses were 29.2% of revenue in Fiscal 1999, compared to 34.9% of
revenue in Fiscal 1998, a decrease of 5.7%. The 5.7% decrease in SG&A expenses
as a percentage of revenues is due primarily to a favorable impact on the
Acquired Stores related to the timing of the Acquisition, as a result of which
only the fourth quarter of operations (historically the highest revenue quarter)
was included.
The Company incurred non-recurring system integration costs of $0.8 million
related to the Acquisition.
A charge for store closure costs - existing stores of $2.9 million was
recorded during Fiscal 1999. This charge represents approximately $2.8 million
of lease termination costs and $0.1 million of other costs related to the
closure of 19 of the Company's existing stores that were located in the same
trade areas as Acquired Stores.
The Company incurred $1.8 million of costs related to the remediation of
its corporate merchandising systems as a contingency plan to meet Y2K readiness
requirements.
Depreciation and amortization expense was $11.8 million in Fiscal 1999
compared to $7.1 million in Fiscal 1998, an increase of $4.7 million. The
increase is principally related to depreciation expense of the Acquired Stores
of $2.7 million and the write-down of fixed assets of $0.8 million in connection
with the closure of 19 of the Company's existing stores that were located in the
same trade areas as Acquired Stores.
Interest Expense
Interest expense for Fiscal 1999 was $3.5 million, compared to $0.5 million
for Fiscal 1998, an increase of $3.0 million. This increase was primarily
attributable to a one-time fee of $0.9 million that the Company paid to Cerberus
Capital Management, L.P. for a commitment to provide a bridge loan to finance
the Acquisition if the permanent financing was not in place at the time of the
Acquisition. Also contributing to the increase, the Company incurred interest
expense of $1.6 million under the Congress Facility.
Interest Income
Interest income for Fiscal 1999 was $2.3 million, as compared to $1.6
million for Fiscal 1998. The increase of $0.7 million was the result of interest
earned on short-term investments of excess cash.
15
<PAGE> 16
Income Taxes
The Company recorded a tax provision of $5.0 million for Fiscal 1999
compared to $5.4 million for Fiscal 1998. The tax provision for Fiscal 1999
represents an effective rate of 41.6%, compared to 41.1% for Fiscal 1998.
Adjusted EBITDA
See Selected Financial Data for a discussion regarding the computation of
Adjusted EBITDA.
LIQUIDITY AND CAPITAL RESOURCES
For the fiscal years ended January 31, 2000 and 1999, the Company's net
cash provided by operating activities was $33.8 million and $55.4 million,
respectively.
Net cash used in investing activities during Fiscal 2000 was $30.8 million
primarily due to capital expenditures totaling $30.6 million for the acquisition
of property, equipment and improvements to support the POS system conversion,
distribution facility improvements and the name change and re-merchandising
activities related to the Acquired Stores. Financing of capital expenditures has
generally been provided by cash from operations and borrowings under the
Congress Facility. Net cash used in investing activities during Fiscal 1999
included $116.5 million in cash paid for the Acquisition.
Net cash used in financing activities for Fiscal 2000 was $13.5 million
primarily due to a reduction in borrowings under the Congress Facility and
payments on capital lease obligations and long-term debt. Net cash provided by
financing activities for Fiscal 1999 was $33.6 million due primarily to
borrowings under the Facility to fund the Acquisition.
The Company's amended loan agreement with Congress Financial Corporation
(Western) provides a revolving credit line of up to $165.0 million including a
letter of credit subfacility of $10.0 million. The revolving line of credit
under the Congress Facility is divided into two tranches, Tranche A and Tranche
B. The Company may borrow up to $155.0 million under Tranche A. Tranche A loans
bear an interest rate of prime plus 0.5%, or at the Company's election, an
adjusted Eurodollar rate plus 1.75%. The Company's ability to make Tranche A
borrowings is subject to borrowing base limitations based upon, among other
things, the value of certain eligible merchandise inventory. If there is no
availability under the Tranche A line, the Company may borrow up to $10.0
million under the Tranche B line. Tranche B loans bear an interest rate (i) on
the first $5.0 million, of prime plus 3.75% or an adjusted Eurodollar rate plus
5.0%, and (ii) on the next $5.0 million, of prime plus 4.75% or an adjusted
Eurodollar rate plus 6.0%. In addition to the interest payable, the Company pays
an Unused Line Fee. The fee is 0.375% per annum calculated upon the amount by
which $120.0 million exceeds the average daily principal balance of the
outstanding Tranche A loans and letter of credit during the immediately
preceding month, along with 0.5% per annum calculated upon the amount by which
$10.0 million exceeds the average daily balance of the outstanding Tranche B
loans. The Congress Facility also required the Company to pay various other
fees, including a closing fee ($775,000 for Tranche A and $100,000 for Tranche
B), a syndication fee ($387,000), and includes an annual commitment fee on the
Tranche B line ($50,000) and a loan servicing fee ($3,000 per month, plus
reasonable out-of-pocket costs and expenses). As of January 31, 2000, there was
an outstanding loan balance of $32.0 million and there were no outstanding
letters of credit under the Congress Facility.
The Company believes that cash on hand, cash flow from operations,
including a planned inventory reduction, and the availability of lease
financing, together with borrowings available under the Congress Facility, will
be adequate to support existing operations and the planned capital expenditures
of the Company for Fiscal 2001.
SEASONALITY AND INFLATION
The Company's business is seasonal, and revenues and operating income are
highest during the fourth quarter of the Company's fiscal year. Working capital
and related bank borrowings in prior years were usually lowest during the period
beginning with the end of the Christmas holiday season and ending with the close
of
16
<PAGE> 17
the Company's fiscal year. Beginning in February, working capital and related
bank borrowings have historically trended upward during the year until the
fourth quarter. Borrowings have historically been highest in October and
November due to cumulative capital expenditures and the building of inventory
for the holiday season. The Company believes that, except for changes in the
minimum wage mandated by the Federal government, inflation has not had a
material effect on its operations and its internal and external sources of
liquidity and working capital.
IMPACT OF THE YEAR 2000
To date, the Company has not experienced any significant business
disruptions and has had no delays in receiving product from its suppliers as a
result of the Y2K. While the risks associated with Y2K readiness peaked with the
change of the date from December 31, 1999 to January 1, 2000, there is a risk
that Y2K related issues could surface within the year. In the event of such an
issue arising, the Company will devote the necessary resources to resolve any
significant Y2K issues in a timely manner. However, if third parties upon which
the Company relies fail to adequately address any of their Y2K problems, it
could disrupt the Company's business. In the most reasonably likely worst case
situations, the Company could experience delays in receiving product from
vendors, shipping product to stores, accessing various types of information or
communicating effectively with financial institutions or vendors. The Company's
Y2K Project Committee has developed contingency plans for the merchandising,
financial, distribution center management and POS hardware operating systems
should any significant business disruption related to Y2K problems occur. The
Project Committee has also confirmed with the Company's major product vendors
that their systems are Y2K compliant. The Company focused extensively on the Y2K
readiness of its second tier vendors in the fourth quarter of Fiscal 2000.
The Company does not consider the replacement of its corporate systems as a
Y2K expense because installation of the new major corporate systems was required
to address additional business functionality. Costs relating to the remediation
of the Company's existing mainframe-based corporate system of approximately $0.2
million and $1.8 million, performed as a contingency measure, were recorded in
Fiscal 2000 and Fiscal 1999, respectively.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is subject to risks resulting from interest rate fluctuations
since interest on the Company's borrowings under the Congress Facility are based
on variable rates. If the Eurodollar rate were to increase 1% in Fiscal 2001 as
compared to the rate at January 31, 2000, the Company's interest expense for
Fiscal 2001 would increase $0.4 million based on the outstanding balance of the
Congress Facility at January 31, 2000. The Company does not hold any derivative
instruments and does not engage in hedging activities. Information about the
fair value of financial instruments is included in note 3 of the Notes to
Consolidated Financial Statements.
The Company believes that, except for changes in the minimum wage mandated
by the Federal government, inflation has not had a material effect on its
operations and its internal and external sources of liquidity and working
capital.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
See Index to Financial Statements and Financial Statement Schedule
appearing on page F-1 of this report.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
17
<PAGE> 18
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The following table sets forth certain information concerning the persons
who were directors and executive officers of Wherehouse as of April 30, 2000:
<TABLE>
<CAPTION>
AGE AT
NAME POSITION APRIL 30, 2000
---- -------- --------------
<S> <C> <C>
Antonio C. Alvarez, II............ Chief Executive Officer, Chairman of the Board and 51
Director
Hugh G. Hilton.................... President and Chief Operating Officer 49
Mark A. Velarde................... Executive Vice President, Chief Financial Officer 43
and Assistant Secretary
Mark D. Alvarez................... Executive Vice President, Operations and 32
Administration
Larry C. Gaines................... Executive Vice President, Advertising, Marketing and 52
Merchandising
Barbara C. Brown.................. Senior Vice President, Store Operations 48
Robert C. Davenport............... Director 33
Jonathan Gallen................... Director 40
Joseph B. Smith................... Director 72
Joseph J. Radecki, Jr............. Director 42
</TABLE>
ANTONIO C. ALVAREZ, II, Chief Executive Officer, Chairman of the Board and
Director of Wherehouse since January 30, 1997. Mr. Alvarez is a principal of
Alvarez & Marsal, Inc., a New York based management consulting company ("A&M").
Mr. Alvarez's experience includes acting as adviser to the bank lenders to
Camelot Music, Inc., a mall-based music retailer with over 300 stores. Mr.
Alvarez served as Phar-Mor, Inc.'s President and Chief Operating Officer from
September 1992 through February 1993, as acting Chief Financial Officer from
August 1992 to December 1992, and as Chief Executive Officer from February 1993
through Phar-Mor's emergence from Chapter 11 bankruptcy in October 1995. Mr.
Alvarez serves as the Chief Executive Officer, Chairman of the Board and
Director of Wherehouse pursuant to a Management Services Agreement dated as of
January 31, 1997, as amended February 1, 1998, April 30, 1998, May 13, 1999, and
April 13, 2000 (the "Management Services Agreement"), among Wherehouse, A&M,
Antonio C. Alvarez, II, the Support Employees described therein, A&M #3, and
Cerberus Partners, L.P. See Item 11 -- "Executive Compensation -- Description of
Employment Contracts, Termination of Employment and Change in Control
Arrangements" below. Mr. Alvarez is a member of the Board of Directors of
CheckOut.com, LLC.
HUGH G. HILTON, President and Chief Operating Officer. Mr. Hilton commenced
serving as Chief Operating Officer in January 1998, and since January 2000 has
served as President. He was appointed Executive Vice President in March 1999,
overseeing the Company's Special Projects and Development, including the
Company's Internet commerce site which was operated through Wherehouse.com, Inc.
Mr. Hilton was a Managing Director of A&M through December 31, 1999, which he
joined in June 1992. Mr. Hilton's most recent experience while at A&M includes
serving as Chief Executive Officer at Fedco between April 1996 and April 1997.
Prior to joining A&M, Mr. Hilton was President of HVK, Inc., a California-based
real estate consulting and investment advisory firm which he founded. Prior to
founding HVK, Inc., he served as President of Karsten Institutional Realty
Advisors, the pension fund advisory arm of First Interstate Bancorp. Mr. Hilton
is Chairman of the Board and Director of CheckOut.com.
MARK A. VELARDE, Executive Vice President, Chief Financial Officer and
Assistant Secretary. On October 1, 1999, Mr. Velarde became Chief Financial
Officer of Wherehouse. Mr. Velarde was a managing director of A&M which he
joined in 1992. Mr. Velarde served as Chief Financial Officer and Chief
Operating Officer, of Telegroup, Inc., a publicly traded telecommunications
company during its Chapter 11 reorganization in early 1999. From 1994 to 1998,
he served in the capacities of Chief Financial Officer and Acting Chief
Operating Officer of Anthony Manufacturing Company, Inc., a privately held
manufacturer of commercial
18
<PAGE> 19
refrigeration components. During 1992 and 1993, Mr. Velarde was Acting Chief
Executive Officer of Affiliated Medical Enterprises, a debtor-in-possession
which owned and operated a chain of acute care hospitals. From 1988 to 1992, he
was cofounder and Executive Vice President of HVK, Inc., a California-based real
estate consulting and investment advisory firm. Prior to HVK, he was Senior Vice
President -- Acquisitions of the pension fund advisory arm of First Interstate
Bancorp, where he worked for 5 years.
MARK D. ALVAREZ, Executive Vice President, Operations and Administration.
During the past three and a half years, Mr. Alvarez has been working with
Wherehouse management taking senior roles in the areas of store operations, real
estate, construction, maintenance, finance, inventory control, and
merchandising, and human resources. Mr. Alvarez also led the due diligence
effort and integration effort in the Acquisition. Prior to Wherehouse, Mr.
Alvarez has been consulting on several assignments with London Fog/Pacific
Trail, Phar-Mor, Inc., Fedco, California Mart, Cherokee, and Integrated
Resources in the areas of finance, operations and real estate. Prior to joining
A&M, he was an Associate in the Structured Finance Group at Citibank. During
this period he assisted in negotiating and structuring bank refinancings of
middle-tier companies. Prior to that assignment, he was an Associate in the
Business Planning and Financial Analysis Group at the American Express Company,
where his responsibilities included the reviewing of business plans, preparing
financial projections and performing financial analysis and modeling of various
subsidiary business units. Mr. Mark Alvarez is the son of Antonio C. Alvarez,
II.
LARRY C. GAINES, Executive Vice President, Advertising, Marketing and
Merchandising. Mr. Gaines joined Wherehouse in October 1998 with the Acquisition
of Blockbuster Music. He was appointed Executive Vice President and Chief
Operating Officer of Wherehouse in March 1999. From January 1998 through October
1998, Mr. Gaines served as President of Blockbuster Music. From 1981 through
1997, Mr. Gaines was with the Musicland Group, serving in several senior
management positions, most recently as President of Media Play, a 90-store, big
box, full media chain. Previously he was with Cole National Corporation. Mr.
Gaines is a member of the board of directors for the National Association of
Recording Merchants (NARM).
BARBARA C. BROWN, Senior Vice President, Store Operations. Ms. Brown joined
Old Wherehouse in 1973. She became Vice President, Sales and Operations in 1986
and was promoted to Senior Vice President in 1991. Prior to 1986, Ms. Brown
served in a variety of store operations positions including Store Manager,
District Manager, Assistant Vice President, Store Operations, and Associate Vice
President, Store Operations.
ROBERT C. DAVENPORT, Director since November 15, 1996. Mr. Davenport is a
Managing Director of Cerberus Capital Management, L.P., a New York based
investment fund management firm, a position he has held since February 1996.
From March 1994 until February 1996, he was a private investor. From 1990
through 1994, he was with Vestar Capital Partners, Inc. ("Vestar"), an
investment fund, where he served as a vice president. Prior to joining Vestar in
1990, Mr. Davenport was an analyst in the Mergers and Acquisitions Group at
Drexel Burnham Lambert in New York. Mr. Davenport is a member of the Board of
Directors of CheckOut.com, LLC.
JONATHAN GALLEN, Director since January 30, 1997. Mr. Gallen is the sole
managing member of Pequod LLC, the general partner of Pequod Investments, L.P.
Pequod Investments, L.P. is a distressed securities fund which invests in
publicly traded debt, private debt, trade claims, large and middle-market bank
loans, distressed real estate and public and private equity. Mr. Gallen has
served as a member of the Board of Directors of Harvest Foods and Fruehauf
Trailer Corporation.
JOSEPH B. SMITH, Director since January 30, 1997. Mr. Smith is currently
the Chairman of Unison Productions, a consulting and production company, a
position he has held since April 1994. Mr. Smith served as President and Chief
Executive Officer of Capitol Industries-EMI Music, Inc. from 1987 until 1993.
Mr. Smith also serves as a director of Westwood One, Inc.
JOSEPH J. RADECKI, JR., Director since February 20, 1997. Mr. Radecki is a
Managing Director of CIBC Oppenheimer Corp., an investment bank. From 1990 to
1998, Mr. Radecki was an Executive Vice President and Director of Financial
Restructurings of Jefferies & Company, Inc. From 1983 until 1990, Mr. Radecki
was First Vice President in the International Capital Markets Group at Drexel
Burnham Lambert, Inc., where
19
<PAGE> 20
he specialized in financial restructurings and recapitalizations. Mr. Radecki
has also served as a member of the Board of Directors of Service America
Corporation, Bucyrus International, Inc. and ECO-Net.
SECTION 16(a) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE
Under the securities laws of the United States, the Company's directors,
its executive officers, and persons holding more than 10% of the Common Stock
are required to report their initial ownership of Common Stock and any
subsequent changes in that ownership to the Securities and Exchange Commission
(the "Commission"). Specific due dates for these reports have been established
and the Company is required to disclose any failure to file by these dates. In
fiscal 2000, the following officers inadvertently failed to file a Form 3 within
10 days after becoming officers of the Company: Hugh G. Hilton, Mark A. Velarde,
Mark D. Alvarez, Mehdi Mahdevi and Karen Marsal.
ITEM 11. EXECUTIVE COMPENSATION
SUMMARY OF CASH AND CERTAIN OTHER COMPENSATION
The following table sets forth, for Fiscal 2000, certain compensation paid
by Wherehouse for such fiscal year, to the Chief Executive Officer ("CEO") and
the three next most highly compensated executive officers of the Company (the
"Named Executive Officers"). All cash compensation with respect to Antonio C.
Alvarez, II and the majority of cash compensation with respect to Hugh G. Hilton
was paid to A&M, a consulting firm of which Antonio C. Alvarez, II is a
principal and of which Hugh G. Hilton was Managing Director.
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
LONG TERM
COMPENSATION
AWARDS
ANNUAL COMPENSATION ------------
-------------------------------- SECURITIES
FISCAL YEAR OTHER ANNUAL UNDERLYING ALL OTHER
ENDED SALARY BONUS COMPENSATION OPTIONS COMPENSATION
NAME & PRINCIPAL POSITION JANUARY 31, ($) ($) ($)(1) (#) ($)
------------------------- ----------- ------ ------- ------------ ------------ ------------
<S> <C> <C> <C> <C> <C> <C>
Antonio C. Alvarez, II....... 2000 -- -- 600,000(2) -- --
Chairman and 1999 -- -- 600,000(2) -- --
Chief Executive Officer 1998 -- -- 600,000(2) -- --
Hugh G. Hilton............... 2000 15,866(3) -- (4) (5) 754(6)
President and 1999 -- -- (4) (5) --
Chief Operating Officer 1998 -- -- (4) (5) --
Larry C. Gaines.............. 2000 280,000 112,000 -- -- 3,796(7)
Executive Vice President, 1999 -- -- -- -- --
Advertising Marketing and 1998 -- -- -- -- --
Merchandising
Barbara C. Brown............. 2000 178,654 54,000 -- -- 20,020(8)
Senior Vice President, 1999 175,000 75,000 -- 28,000 22,334(9)
Store Operations 1998 175,000 75,000 -- -- 12,270(10)
</TABLE>
- ---------------
(1) In accordance with Commission rules, the compensation described in this
table does not include medical, group life insurance or other benefits
received by the Named Executive Officers which are available generally to
all salaried employees of the Company, and certain perquisites and other
personal benefits received by the Named Executive Officers that do not in
the aggregate exceed the lesser of $50,000 or 10% of any such officer's
salary and bonus disclosed in this table.
(2) Mr. Alvarez commenced serving as Chairman of the Board and Chief Executive
Officer of Wherehouse in January 1997 pursuant to the Management Services
Agreement. The Management Services Agreement was extended for one year to
October 14, 2000 pursuant to an extension and amendment thereof dated as of
May 14, 1999.
20
<PAGE> 21
(3) Pursuant to an amendment to the Management Services Agreement (see note 4
below), Mr. Hilton was excluded from the personnel supplied to the Company
by A&M and he was made an employee of the Company effective January 3,
2000.
(4) Mr. Hilton served the Company under the Management Services Agreement with
A&M through December 31, 1999. In January, 1998, Mr. Hilton was appointed
Chief Operating Officer, and in March, 1999, Mr. Hilton was appointed
Executive Vice President, Special Projects and Development. In January
2000, he was appointed President and Chief Operating Officer. The Company
did not pay any separate compensation for Mr. Hilton to A&M for Fiscal
1998. Effective February 1, 1998, the Company agreed, pursuant to an
amendment to the Management Services Agreement, to compensate A&M
separately for Mr. Hilton's services. See Item 13 -- "Certain Relationships
and Related Transactions."
(5) In connection with the Management Services Agreement, Wherehouse issued
options to purchase 993,380 shares of Common Stock, subject to adjustment,
to A&M #3 (an affiliate of A&M), of which Mr. Alvarez is a principal,
pursuant to a Non-Transferable Stock Option Agreement dated as of January
31, 1997, as amended (the "Option Agreement"). Mr. Hilton possesses a
pecuniary interest in A&M Investment Associates #3, LLC. On April 30, 1998,
the Option Agreement was amended to conform the Agreement to the intent of
the parties. Pursuant to the Option Agreement, as amended, and based upon
distributions and cash settlements pursuant to the Reorganization Plan, on
December 10, 1998 the number of options granted to A&M #3 was adjusted to
1,199,151. See "Stock Options" under this Item 11 below.
(6) Includes $303 paid on behalf of Mr. Hilton and his family for medical
expenses not covered by the Company's group medical insurance plan. Also
included are a $415 automobile allowance and $36 of premiums paid for term
life insurance.
(7) Includes $673 paid on behalf of Mr. Gaines and his family for medical
expenses not covered by the Company's group medical insurance plan. Also
included are a $2,492 automobile allowance and $631 of premiums paid for
term life insurance.
(8) Includes $1,860 paid on behalf of Ms. Brown and her family for medical
expenses not covered by the Company's group medical insurance plan. Also
included are a $7,200 automobile allowance, $7,387 of premiums paid for
term life insurance and $3,573 for matching contributions to the Company's
401(k) plan.
(9) Includes $4,415 paid on behalf of Ms. Brown and her family for medical
expenses not covered by the Company's group medical insurance plan. Also
included are a $7,200 automobile allowance, $7,405 of premiums paid for
term life insurance and $3,315 for matching contributions to the Company's
401(k) plan.
(10) Includes $1,895 paid on behalf of Ms. Brown and her family for medical
expenses not covered by the Company's group medical insurance plan. Also
included are $7,153 of premiums paid for term life insurance and $3,222 for
matching contributions to the Company's 401(k) plan.
STOCK OPTIONS
In connection with the Management Services Agreement and consummation of
the Reorganization Plan, Wherehouse entered into the Option Agreement to conform
the agreement to the intention of the parties) with A&M #3, an affiliate of A&M,
of which Antonio C. Alvarez, II is a principal. The Option Agreement provides
for the grant to A&M #3 of options (the "A&M #3 Options") representing in the
aggregate the right to purchase 10% of (i) the shares of Common Stock issued
under the Reorganization Plan, (ii) certain shares purchased by A&M #3, and
(iii) the shares underlying these options. The A&M #3 Options vested monthly in
equal installments through October 31, 1998, and all unexercised A&M #3 Options
expire on January 31, 2003, subject to prior termination as set forth in the
Management Services Agreement. The exact number of shares underlying these
options and the exercise prices will depend on the final resolution of claims
under the Reorganization Plan. The Option Agreement provides that such
adjustments will be made periodically as deemed practicable. An interim
adjustment was made on December 10, 1998 to reflect the
21
<PAGE> 22
resolution of claims as of September 30, 1998. After such adjustment, the A&M #3
Options consisted of (i) options to acquire 399,717 shares at an exercise price
of $8.80, (ii) options to acquire 399,717 shares at an exercise price of $10.66,
and (iii) options to acquire 399,717 shares at an exercise price of $12.97. The
Company presently estimates that after all adjustments, the A&M #3 Options will
consist of (i) options to acquire 407,667 shares at an exercise price of $8.63
per share, (ii) options to acquire 407,667 shares at an exercise price of $10.45
per share, and (iii) options to acquire 407,667 shares at an exercise price of
$12.72 per share.
On April 7, 1998 and on September 18 and 22, 1998, the Company's
Compensation Committee granted, and the entire Board of Directors approved,
grants of Nonqualified Stock Options under the Wherehouse 1998 Stock Incentive
Plan for a total of 339,500 shares of Common Stock. Additional grants of
Non-Qualified Stock Options totaling 254,500 were made during Fiscal 2000. As of
April 30, 2000, net of forfeitures, there were 412,000 options outstanding under
the Wherehouse 1998 Stock Incentive Plan. On April 13, 2000, the Board of
Directors authorized the granting of an additional 264,500 options. See
"Option/SAR Grants in Last Fiscal Year" below.
STOCK APPRECIATION RIGHT PLAN
On April 13, 2000, the Board of Directors approved a Stock Appreciation
Rights Plan whereby participants may be issued rights based on the increase in
the value of the Company's equity interest in CheckOut.com over a base value
(see Item 1 -- "Business -- E-Commerce" above).
FISCAL YEAR-END OPTION VALUES
No options were exercised by any of the Named Executive Officers during
Fiscal 2000. The following table sets forth certain information with respect to
the Named Executive Officers of the Company concerning the number of shares
covered by both exercisable and unexercisable stock options held as of January
31, 2000. None of the Named Executive Officers held any stock appreciation
rights at such time. No established trading market exists for the Common Stock.
As of January 31, 2000, the Company calculated the book value of each share of
Common Stock to be $9.01. This book value of $9.01 per share is utilized to
calculate the value of unexercised in-the-money options in the table below. The
value used is not intended to represent the price at which shares of Common
Stock trade.
FISCAL YEAR-END OPTION VALUES
<TABLE>
<CAPTION>
NUMBER OF SECURITIES VALUE OF UNEXERCISED
UNDERLYING UNEXERCISED IN-THE-MONEY OPTIONS
OPTIONS AT FY-END(#) AT FY-END($)
NAME EXERCISABLE/UNEXERCISABLE EXERCISABLE/UNEXERCISABLE(1)
---- ------------------------- ----------------------------
<S> <C> <C>
Antonio Alvarez, II.................... 1,199,151/0(2) $83,940/0
Hugh G. Hilton......................... (3) 0/0
Larry C. Gaines........................ 10,000/40,000(4) 0/0
Barbara C. Brown....................... 11,200/16,800(4) 0/0
</TABLE>
- ---------------
(1) As noted above, book value was used to calculate the value of unexercised
in-the-money options. If a higher stock value were used to calculate the
value of unexercised options at fiscal year-end, the value of unexercised
options would be higher, as (i) more options would be "in-the-money," and
(ii) each in-the-money option would have a higher value.
(2) Wherehouse entered into the Option Agreement with A&M #3, an affiliate of
Alvarez & Marsal, Inc., of which Antonio C. Alvarez, II is a principal.
Pursuant to the terms of the Option Agreement, on January 31, 1997,
Wherehouse granted to A&M #3 three tranches of options to acquire, in the
aggregate, 993,380 shares of Common Stock, subject to adjustment upon
certain events. On April 30, 1998, the Option Agreement was amended to
conform the agreement to the intent of the parties. On December 10, 1998,
pursuant to the Option Agreement, as amended, and based upon distributions
and cash settlements
22
<PAGE> 23
pursuant to the Reorganization Plan, the number of options granted to A&M #3
was adjusted such that the total shares subject to such options was
1,199,151, comprised of: (i) options to acquire 399,717 shares at an
exercise price of $8.80, (ii) options to acquire 399,717 shares at an
exercise price of $10.66, and (iii) options to acquire 399,717 shares at an
exercise price of $12.97. See "Certain Relationships and Related
Transactions" under Item 13 below.
(3) In connection with the Management Services Agreement, as amended, Wherehouse
issued options to purchase 993,380 shares, subject to adjustment and
subsequently increased to 1,199,151 shares as described in Note 2 above, of
Common Stock to A&M #3 pursuant to the Option Agreement. Mr. Hilton
possesses a pecuniary interest in A&M #3. See Item 13 -- "Certain
Relationships and Related Transactions."
(4) These ten year options vest, subject to acceleration in certain
circumstances, in five equal annual installments beginning on October 26,
1999 for Mr. Gaines and April 7, 1999 for Ms. Brown and have an exercise
prices of $18.00 and $12.00 per share, respectively.
OPTION/SAR GRANTS IN LAST FISCAL YEAR
<TABLE>
<CAPTION>
INDIVIDUAL GRANTS POTENTIAL REALIZABLE
-------------------------------- VALUE AT ASSUMED
NUMBER OF PERCENT OF TOTAL ANNUAL RATES OF STOCK
SECURITIES OPTIONS/SARS PRICE APPRECIATION FOR
UNDERLYING GRANTED TO EXERCISE OR OPTION TERM(1)
OPTIONS/SARS EMPLOYEES IN BASE PRICE EXPIRATION ----------------------
NAME GRANTED(2)(3) FISCAL YEAR ($/SHARE) DATE 5%($) 10%($)
---- ------------- ---------------- ----------- ---------- --------- ----------
<S> <C> <C> <C> <C> <C> <C>
Larry C. Gaines 50,000 19.6% $18.00 10/26/2008 $67,563 $640,683
</TABLE>
- ---------------
(1) The amounts under the columns labeled "5%" and "10%" are included pursuant
to certain rules promulgated by the Commission and are not intended to
forecast future appreciation, if any, in the price of the Company's Common
Stock. The amounts are calculated by using the fair market value of $11.88
per share of Common Stock which was the fair market value on the April 7,
1998 initial grant date of options under the Wherehouse 1998 Stock Incentive
Plan (as determined by an appraisal obtained by the Company) and assume
annual compounded stock appreciation rates of 5% and 10% over the full
10-year term of the options.
The gains shown are net of the option exercise price, but do not include
deductions for taxes or other expenses associated with the exercise of the
options or the sale of the underlying shares. As set forth in note 2 below,
the option grants vest equally over a 5-year periods and the reported
amounts are based on the assumption that the named persons hold the options
granted for their full 10-year term. The actual value of the options will
vary in accordance with the market price of the Company's Common Stock.
(2) Stock options were granted under the Wherehouse 1998 Stock Incentive Plan at
exercise prices deemed not to be less than the fair market value at the time
of the grant. All options described in this table were to vest in five equal
installments on the anniversary of the grant date over a 5-year period.
Vested but unexercised options expire 6 months after a termination of
employment due to retirement, death or total disability; immediately upon
any termination of the individual's employment "for cause"; and 30 days
after a termination of employment for any other reason. Generally, upon a
"Change in Control Event", each option will become immediately exercisable.
A "Change in Control Event" under the Wherehouse 1998 Stock Incentive Plan
generally includes (subject to certain exceptions) (i) a more than 50%
change in ownership of the Company; (ii) certain changes in a majority of
the Board of Directors; (iii) certain mergers or consolidations approved by
the Company's stockholders; or (iv) stockholder approval of a liquidation of
the Company or sale of substantially all of the Company's assets. A "Change
in Control Event" could also be triggered if any new person acquires greater
than 30% ownership of the Company's Common Stock and certain 5% owners (see
Item 12 -- "Security Ownership of 5% Holders, Directors and Executive
Officers" below) do not retain at least 30%.
(3) This table does not include the adjustment to the number of shares subject
to the options granted to A&M #3 pursuant to the adjustment provisions of
the Option Agreement, as amended. See "Item 13 -- Certain Relationships and
Related Transactions" below.
23
<PAGE> 24
COMPENSATION OF DIRECTORS
Two non-employee members of the Board of Directors, Messrs. Radecki and
Smith, each received a fee of $5,000 per attended meeting for his services and
were reimbursed for reasonable expenses incurred in connection with their
attendance at Board meetings. Messrs. Alvarez, Gallen and Davenport were not
paid any additional compensation for their services as directors.
DESCRIPTION OF EMPLOYMENT CONTRACTS, TERMINATION OF EMPLOYMENT AND CHANGE IN
CONTROL ARRANGEMENTS
As of January 31, 2000, Antonio C. Alvarez, II serves as Chairman of the
Board and Chief Executive Officer pursuant to the Management Services Agreement.
Under the Management Services Agreement, A&M currently receives (i) $600,000
annually as compensation for the services of Antonio C. Alvarez, II and the
services of other personnel supplied to the Company by A&M as needed. A&M is
also eligible to receive a discretionary incentive bonus for the services of
certain individuals. During Fiscal 2000, a discretionary bonus of $46,000 was
awarded to A&M. The Management Services Agreement, as amended, now provides that
it will expire on October 14, 2000, subject to further extension or earlier
termination under certain conditions.
Prior to the effective date of the Reorganization Plan, Antonio C. Alvarez,
II served as a consultant to the Senior Lenders pursuant to a letter agreement
dated as of October 14, 1996 between A&M, Antonio C. Alvarez, II and the Senior
Lenders (the "Interim Agreement"). Pursuant to the Interim Agreement, the Senior
Lenders agreed to pay A&M a consulting fee of $50,000 per month plus the hourly
fees of those employees of A&M providing assistance to Antonio C. Alvarez, II in
the performance of his consulting responsibilities. The Senior Lenders paid
$389,452 to A&M pursuant to the Interim Agreement prior to January 31, 1997.
Under the Management Services Agreement, New Wherehouse agreed to reimburse, and
has reimbursed, the Senior Lenders for the amounts paid by the Senior Lenders to
A&M pursuant to the Interim Agreement.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
The Company's Compensation Committee consists of Messrs. Davenport,
Radecki, and Smith. None of the members of the Compensation Committee is or has
been an officer or employee of the Company. Mr. Radecki is currently Managing
Director of CIBC Oppenheimer Corp., an investment bank. CIBC Oppenheimer Corp.
acted as a financial advisor to the Company during 1998 with respect to the
Acquisition of Blockbuster Music, and, pursuant to an engagement letter dated
September 22, 1998, received a fee of $600,000, plus expenses, upon completion
of the Acquisition.
Mr. Davenport is a Managing Director of Cerberus Capital Management, L.P.
In 1998, the Company paid a onetime fee of $0.9 million to Cerberus Capital
Management, L.P., an affiliate of Cerberus Partners, L.P., for a commitment to
provide a bridge loan to finance the acquisition of Blockbuster Music in the
event that permanent financing was not in place at the time of the Acquisition.
ITEM 12. SECURITY OWNERSHIP OF 5% HOLDERS, DIRECTORS AND EXECUTIVE OFFICERS
The Common Stock is the only outstanding class of voting securities of the
Company. The following table sets forth, as of April 21, 2000, the number and
percentage of shares of Common Stock beneficially owned by (i) each person known
to Wherehouse to be the beneficial owner of more than 5% of the outstanding
shares of Common Stock, (ii) each director of Wherehouse, (iii) each Named
Executive Officer, and (iv) all directors and executive officers of Wherehouse
as a group. Unless otherwise indicated in a footnote, each person listed below
possesses sole voting and investment power with respect to the shares indicated
as beneficially owned by him or her, subject to community property laws where
applicable. The percentage of ownership in the
24
<PAGE> 25
following table does not include the additional estimated 4,700 shares that may
be issued to A&M #3 pursuant to the Stock Subscription Agreement.
<TABLE>
<CAPTION>
NUMBER OF SHARES
BENEFICIALLY OWNED PERCENTAGE OF ALL
NAME (1)(2) COMMON STOCK OUTSTANDING(3)
---- ------------------ ---------------------------
<S> <C> <C>
Stephen Feinberg......................... 7,099,282(4) 55.6%
450 Park Avenue, 28th Floor
New York, New York 10022
Antonio C. Alvarez, II................... (5)
c/o Wherehouse Entertainment, Inc.
19701 Hamilton Avenue
Torrance, California 90502-1334
AND
Bryan Marsal............................. (6)
c/o Alvarez & Marsal, Inc.
599 Lexington Avenue, Suite #2700
New York, New York 10022-4802
A&M Investment Associates #3, LLC........ 2,278,387(7) 17.8%
c/o Alvarez & Marsal, Inc.
599 Lexington Avenue, Suite #2700
New York, New York 10022-4802
A&M Investment Associates #4, LLC........ 385,542(8) 3.0%
A&M Investment Associates #8, LLC........ 16,000(9) *
---------
Total for Antonio C. Alvarez,
II and Bryan Marsal.......... 2,679,929(5)(6) 21.0%
Robert C. Davenport...................... 0(10) 0
Jonathan Gallen.......................... 435,195(11) 3.4%
Joseph B. Smith.......................... 0 0
Joseph J. Radecki, Jr.................... 0 0
Hugh G. Hilton........................... 0(7) 0
Larry Gaines............................. 10,000(12) *
Barbara C. Brown......................... 11,200(13) *
All Directors and Executive Officers, as
a group (9 persons).................... 3,136,324 24.5%
</TABLE>
- ---------------
* Less than 1%.
(1) Beneficial ownership is determined in accordance with the rules of the
Commission and generally includes sole or shared voting or investment power
with respect to securities. Except as otherwise noted below and subject to
community property laws where applicable, each person named reportedly has
sole voting and dispositive power with respect to all shares of Common
Stock shown as beneficially owned by such person. On April 21, 2000, there
were 11,026,421 shares of Common Stock outstanding.
(2) The number of shares listed as beneficially owned by each named person (and
the directors and executive officers as a group) includes shares of Common
Stock underlying options, warrants and rights (including conversion rights)
exercisable as of or within 60 days after April 21, 2000, as follows:
<TABLE>
<S> <C>
A&M Investment Associates #3, LLC......................... 1,199,151
Antonio C. Alvarez, II, Bryan Marsal
Jonathan Gallen........................................... 161,666
Stephen Feinberg.......................................... 72,687
Larry C. Gaines........................................... 10,000
Barbara C. Brown.......................................... 11,200
---------
All Directors and Executive Officers as a Group (9
persons)................................................ 1,382,017
</TABLE>
(3) The percent of Common Stock outstanding is based upon (i) the 11,026,421
shares of Common Stock issued and outstanding at April 21, 2000, plus (ii)
the 776,000 warrants issued under the Reorganization
25
<PAGE> 26
Plan, plus (iii) the 1,199,151 shares underlying the A&M Options, plus (iv)
all employee stock options that are exercisable within 60 days of April 21,
2000. In connection with the Reorganization Plan, holders of Old
Wherehouse's Senior Subordinated Notes received three tranches of warrants
to purchase shares of Common Stock (the "Warrants"). The Tranche A Warrants
represent the right to purchase 576,000 shares of Common Stock at an
exercise price of $2.38 per share and have a five year maturity. The
Tranche B Warrants represent the right to purchase 100,000 shares of Common
Stock at an exercise price of $9.00 per share and have a seven year
maturity. The Tranche C Warrants represent the right to purchase 100,000
shares of Common Stock at an exercise price of $11.00 per share and have a
seven year maturity. Each Warrant is exercisable for one share of the
Common Stock.
(4) This information was obtained from a Schedule 13D -- Amendment No. 2 filed
with the Commission regarding Mr. Feinberg's beneficial ownership as of
September 29, 1998. Ownership is described as follows: Cerberus Partners,
L.P., a Delaware limited partnership, owns 1,670,222 shares of Common Stock
and 4,959 Warrants; Cerberus International, Ltd., a corporation organized
under the laws of the Bahamas, owns 1,962,182 shares of Common Stock and
32,280 Warrants; Ultra Cerberus Fund, Ltd., a corporation organized under
the laws of the Bahamas, owns 156,583 shares of Common Stock and 7,291
Warrants, all over which Mr. Feinberg possesses sole voting and dispositive
power. Various other private investment funds for which Mr. Feinberg
possesses dispositive authority over the securities of the Company own in
the aggregate 3,237,608 shares of the Common Stock and 28,157 Warrants.
(5) As disclosed on a Schedule 13D -- Amendment No. 2 filed with the Commission
on April 13, 1999, and on a Form 5 filed with the Commission on March 17,
1999, Antonio C. Alvarez, II is a managing member of A&M #3, A&M #4 (as
defined below), and A&M #8 (as defined below), and therefore may be deemed
to be the beneficial owner of Common Stock held by any one or more of these
entities. Mr. Alvarez disclaims beneficial ownership of the shares held by
A&M #3, A&M #4, and A&M #8, except to the extent of his pecuniary interest
therein.
(6) As disclosed on a Schedule 13D -- Amendment No. 2 filed with the Commission
on April 13, 1999, and on a Form 5 filed with the Commission on March 17,
1999, Bryan Marsal is a managing member of A&M #3, A&M #4 (as defined
below), and A&M #8 (as defined below), and therefore may be deemed to be
the beneficial owner of Common Stock held by any one or more of these
entities. Mr. Marsal disclaims beneficial ownership of the shares held by
A&M #3, A&M #4, and A&M #8, except to the extent of his pecuniary interest
therein.
(7) A&M #3 is a Delaware limited liability Company. The share total includes
A&M #3 Options to purchase 1,199,151 shares of Common Stock, exercisable
within 60 days of April 27, 1999. The A&M #3 Options are subject to
adjustment. Pursuant to the adjustment provisions of the Option Agreement,
on December 10, 1998, an interim adjustment was made as is described in
Item 13 -- "Certain Relationships and Related Transactions" below. Mr.
Hilton possesses a pecuniary interest in A&M #3. Mr. Hilton disclaims
beneficial ownership of shares of Common Stock held by A&M #3, except to
the extent of his pecuniary interest therein.
(8) A&M Investment Associates #4, LLC is a Delaware limited liability Company
("A&M #4").
(9) A&M Investment Associates #8, LLC is a Delaware limited liability Company
("A&M #8").
(10) Mr. Davenport is a managing director of Cerberus Capital Management, L.P.,
an affiliate of Cerberus Partners, L.P. and may be deemed to be the
beneficial owner of all of the shares of Common Stock held by Cerberus
Partners, L.P. Mr. Davenport disclaims any beneficial ownership in the
shares of Common Stock held by Cerberus Partners, L.P.
(11) Mr. Gallen is the managing member of Pequod LLC, the general partner of
Pequod Investments, L.P., which beneficially owns 217,596 shares of Common
Stock, including 80,832 Warrants. Mr. Gallen is also President of Ahab
Capital Management, Inc., which is an investment advisor to Pequod
International, Ltd. Pequod International, Ltd. is the beneficial owner of
217,599 shares of Common Stock, which total includes 80,834 Warrants. As
such, Mr. Gallen may be deemed to be the beneficial owner of the shares of
Common Stock and Warrants held by Pequod Investments, L.P. and Pequod
International, Ltd. Mr. Gallen has sole voting and investment power over
Common Stock owned by Pequod Investments, L.P. and Pequod International,
Ltd. Mr. Gallen disclaims beneficial ownership in
26
<PAGE> 27
the shares of Common Stock held by Pequod Investments, L.P. and Pequod
International, Ltd., except to the extent of his pecuniary interest
therein.
(12) Mr. Gaines has a right to acquire 10,000 shares of Common Stock pursuant to
stock options exercisable as of or within 60 days after April 21, 2000 that
were issued pursuant to the Wherehouse Entertainment, Inc. 1998 Stock
Incentive Plan.
(13) Ms. Brown has a right to acquire 11,200 shares of Common Stock pursuant to
stock options exercisable as of or within 60 days after April 21, 2000 that
were issued pursuant to the Wherehouse Entertainment, Inc. 1998 Stock
Incentive Plan.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Antonio C. Alvarez, II serves as Chairman of the Board and Chief Executive
Officer pursuant to the Management Services Agreement. Under the Management
Services Agreement, A&M currently receives (i) $600,000 annually as compensation
for the services of Antonio C. Alvarez, II and the services of other personnel
supplied by A&M as needed. A&M is also eligible to receive a discretionary
incentive bonus for the services of certain individuals. During Fiscal 2000,
discretionary bonuses of $46,000 were awarded to A&M. The Management Services
Agreement, as amended, now provides that it will expire on October 14, 2000,
subject to further extension or earlier termination under certain conditions.
Pursuant to the Management Services Agreement and the Stock Subscription
Agreement, Wherehouse agreed to sell, and A&M #3 agreed to buy at a purchase
price of $6,340,000 ($1,000,000 in cash from A&M #3's funds, plus a secured
recourse promissory note in the principal amount of $335,000 and a secured non-
recourse promissory note in the amount of $5,005,000 (collectively, the
"Promissory Notes")) 1,100,000 shares of the Common Stock (the "A&M Shares")
(subject to adjustment upward or downward to represent 10% of the sum of (i) the
shares of Common Stock ultimately issued under the Reorganization Plan plus (ii)
the number of shares of Common Stock issued to A&M #3). The Management Services
Agreement provides that the number of A&M Shares are to be adjusted
periodically, as practicable, based on the shares issued under the
Reorganization Plan. An interim adjustment was made on December 10, 1998 to
reflect the issuance of shares under the Reorganization Plan based on the
resolution of claims as of September 30, 1998. Based on this interim adjustment,
the number of A&M Shares was reduced to 1,079,236. The Company estimates that
approximately 8,700 additional A&M Shares will be issued in the future based on
the adjustment formula. The Promissory Notes bear interest at 7% per annum
during the first four years and 11% per annum during the fifth through seventh
years, mature on January 31, 2004 and have no scheduled interest or principal
amortization until their maturity date. The Promissory Notes are secured by a
first priority pledge of the A&M Shares pursuant to a Stock Pledge Agreement
dated as of January 31, 1997.
In addition, in connection with the Management Services Agreement and
consummation of the Reorganization Plan, Wherehouse entered into the Option
Agreement with A&M #3, an affiliate of A&M, of which Antonio C. Alvarez, II is a
principal. The Option Agreement provides for the grant to A&M #3 of options
representing in the aggregate the right to purchase 10% of (i) the shares of
Common Stock issued under the Reorganization Plan, (ii) the A&M #3 Shares, and
(iii) the shares underlying these options. The A&M #3 Options vested monthly in
equal installments through October 31, 1998 and all unexercised A&M #3 Options
expire on January 31, 2003, subject to prior termination as set forth in the
Management Services Agreement. The exact number of shares underlying the A&M
Options and the exercise price will depend on the final resolution of claims
under the Reorganization Plan. The Option Agreement provides that such
adjustments will be made periodically as deemed practicable. An interim
adjustment was made on December 10, 1998 to reflect the resolution of claims as
of September 30, 1998. After such adjustment, the A&M #3 Options consist of (i)
options to acquire 399,717 shares at an exercise price of $8.80, (ii) options to
acquire 399,717 shares at an exercise price of $10.66, and (iii) options to
acquire 399,717 shares at an exercise price of $12.97. The Company presently
estimates that after all adjustments, the A&M #3 Options will consist of (i)
options to acquire 407,667 shares at an exercise price of $8.63 per share, (ii)
options to acquire 407,667 shares at an exercise price of $10.45 per share, and
(iii) options to acquire 407,667 shares at an exercise price of $12.72 per
share.
27
<PAGE> 28
Jefferies & Company, Inc., of which Mr. Radecki was an Executive Vice
President and Director of Financial Restructurings, served as the financial
consultant to Old Wherehouse in its bankruptcy case, and, prior to Mr. Radecki
leaving Jefferies & Company, Inc., it also served as financial advisor to New
Wherehouse. Mr. Radecki is currently Managing Director of CIBC Oppenheimer
Corp., an investment bank. CIBC Oppenheimer Corp. acted as a financial advisor
to the Company during 1998 with respect to the Acquisition of Blockbuster Music,
and, pursuant to an engagement letter dated September 22, 1998, received a fee
of $600,000, plus expenses, upon completion of the Acquisition.
In 1998, the Company paid a one-time fee of $0.9 million to Cerberus
Capital Management, L.P. for a commitment to provide a bridge loan to finance
the acquisition of Blockbuster Music in the event that permanent financing was
not in place at the time of the Acquisition. Cerberus Capital Management, L.P.
is a limited partnership controlled by Mr. Feinberg, who is a beneficial owner
of greater than 5% of the Common Stock of Wherehouse. Mr. Davenport, a Managing
Director of Cerberus Capital Management, L.P., is a director of Wherehouse.
Madeleine LLC, a Delaware limited liability company ("Madeleine"), has
entered into a participation agreement with Congress, pursuant to which
Madeleine has agreed to purchase a 100% undivided interest in all of Congress's
right, title and interest in and to any Tranche B loans. On October 26, 1998,
Madeleine received $100,000 of the closing fee for the Congress Facility.
Madeleine will receive up to $100,000 annually from Congress as its portion of
the annual commitment fee and unused line fee for the Tranche B loans. Stephen
Feinberg is the managing member of Madeleine and the general partner of Cerberus
Partners, L.P.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) DOCUMENTS FILED AS PART OF THIS REPORT.
1. Financial statements.
See Index to Financial Statements and Financial Statement Schedule.
2. Financial statement schedule.
See Index to Financial Statements and Financial Statement Schedule.
All other schedules are omitted as the required information is inapplicable
or the information is presented in the consolidated financial statements or
related notes.
28
<PAGE> 29
3. Exhibits
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
------- -----------
<S> <C>
2.1 Debtors' First Amended Chapter 11 Plan, as Revised for
Technical Corrections dated October 4, 1996 and Supplemental
Amendments on December 2, 1996 and December 13, 1996.
(Incorporated by reference to Exhibits A, B and C of Exhibit
3.1 of Old Wherehouse's Current Report on Form 8-K dated
January 22, 1997.)
2.2 Asset Purchase Agreement dated as of January 31, 1997 among
Old Wherehouse, WEI and New Wherehouse. (Incorporated by
reference to Exhibit 1.4 of Old Wherehouse's Current Report
on Form 8-K dated February 12, 1997.)
2.3 Stock Purchase Agreement dated as of August 10, 1998 by and
among New Wherehouse and Viacom International Inc.
(Incorporated herein by reference to Exhibit 2 of New
Wherehouse's Quarterly Report on Form 10-Q dated September
14, 1998).
3.1 Certificate of Incorporation of New Wherehouse filed with
the Delaware Secretary of State on November 15, 1997.
(Incorporated by reference to Exhibit C of Exhibit A of
Exhibit 3.1 of Old Wherehouse's Current Report on Form 8-K
dated January 22, 1997.)
3.2 Certificate of Amendment of Certificate of Incorporation of
New Wherehouse filed with the Delaware Secretary of State on
January 31, 1997. (Incorporated by reference to Exhibit 1.3
of Old Wherehouse's Current Report on Form 8-K dated
February 12, 1997.)
3.3 Certificate of Amendment of Certificate of Incorporation of
Old Wherehouse filed with the Delaware Secretary of State on
January 31, 1997. (Incorporated by reference to Exhibit 1.2
of Old Wherehouse's Current Report on Form 8-K dated
February 12, 1997.)
3.4 By-laws of New Wherehouse. (Incorporated by reference to
Exhibit B of Exhibit A of Exhibit 3.1 of Old Wherehouse's
Current Report on Form 8-K dated January 22, 1997.)
3.5 Amendment to By-laws of New Wherehouse adopted January 30,
1997, adopted by Unanimous Written Consent of the Sole
Director of New Wherehouse. (Incorporated by reference to
Exhibit 3.5 of New Wherehouse's Annual Report on Form 10-K
dated May 16, 1997.)
4.1 Tranche A Warrant Agreement dated as of January 31, 1997
between New Wherehouse and United States Trust Company of
New York, as the Warrant Agent. (Incorporated by reference
to Exhibit 4.1 of New Wherehouse's Annual Report on Form
10-K dated May 16, 1997.)
4.2 Tranche B Warrant Agreement dated as of January 31, 1997
between New Wherehouse and United States Trust Company of
New York, as the Warrant Agent. (Incorporated by reference
to Exhibit 4.2 of New Wherehouse's Annual Report on Form
10-K dated May 16, 1997.)
4.3 Tranche C Warrant Agreement dated as of January 31, 1997
between New Wherehouse and United States Trust Company of
New York, as the Warrant Agent. (Incorporated by reference
to Exhibit 4.3 of New Wherehouse's Annual Report on Form
10-K dated May 16, 1997.)
4.4 Registration Rights Agreement dated as of January 31, 1997
among New Wherehouse, Cerberus Partners, L.P., CS First
Boston Securities Corporation and Bank of America, Illinois.
(Incorporated by reference to Exhibit 1.14 of Old
Wherehouse's Current Report on Form 8-K dated February 12,
1997.)
10.1 Single Tenant Industrial Lease, dated November 5, 1991, by
and between Watson Land Company, as lessor, and Old
Wherehouse, as lessee. (Incorporated by reference to Exhibit
10.6 of the Old Wherehouse's Annual Report on Form 10-K for
the fiscal year ended January 31, 1992.)
</TABLE>
29
<PAGE> 30
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
------- -----------
<S> <C>
10.2 Management Services Agreement dated as of January 31, 1997
among New Wherehouse, A&M, Antonio C. Alvarez II, A&M #3,
Cerberus Partners, L.P. and the Support Employees.
(Incorporated by reference to Exhibit 1.5 of Old
Wherehouse's Current Report on Form 8-K dated February 12,
1997.)
10.3 Extension and Amendment to Management Services Agreement
dated as of February 1, 1998 among New Wherehouse, A&M,
Antonio C. Alvarez, II and A&M #3. (Incorporated by
reference to Exhibit 10.3 of New Wherehouse's Annual Report
on Form 10-K dated May 1, 1998.)
10.4 Second Amendment to Management Services Agreement dated as
of April 30, 1998 among New Wherehouse, A&M, Antonio C.
Alvarez, II and A&M #3. (Incorporated by reference to
Exhibit 10.4 of New Wherehouse's Annual Report on Form 10-K
dated May 1, 1998.)
10.5 Secured Recourse Promissory Note dated January 31, 1997 by
A&M #3 in favor of New Wherehouse in the principal amount of
$335,000. (Incorporated by reference to Exhibit 1.6 of Old
Wherehouse's Current Report on Form 8-K dated February 12,
1997.)
10.6 Secured Non-Recourse Promissory Note dated January 31, 1997
by A&M #3 in favor of New Wherehouse in the principal amount
of $5,005,000. (Incorporated by reference to Exhibit 1.7 of
Old Wherehouse's Current Report on Form 8-K dated February
12, 1997.)
10.7 Stock Pledge Agreement dated as of January 31, 1997 between
A&M #3 and New Wherehouse. (Incorporated by reference to
Exhibit 1.8 of Old Wherehouse's Current Report on Form 8-K
dated February 12, 1997.)
10.8 Stock Subscription Agreement dated as of January 31, 1997
between New Wherehouse and A&M #3. (Incorporated by
reference to Exhibit 1.9 of Old Wherehouse's Current Report
on Form 8-K dated February 12, 1997.)
10.9 Non-Transferable Stock Option Agreement dated as of January
31, 1997 between New Wherehouse and A&M #3. (Incorporated by
reference to Exhibit 1.10 of Old Wherehouse's Current Report
on Form 8-K dated February 12, 1997.)
10.10 First Amendment to Non-Transferable Stock Option Agreement
dated as of April 30, 1998 between New Wherehouse and A&M
#3. (Incorporated by reference to Exhibit 10.10 of New
Wherehouse's Annual Report on Form 10-K dated May 1, 1998.)
10.11 Registration Rights Agreement dated as of January 31, 1997
between New Wherehouse and A&M #3. (Incorporated by
reference to Exhibit 1.12 of Old Wherehouse's Current Report
on Form 8-K dated February 12, 1997.)
10.12 Letter agreement dated as of October 14, 1996 among Cerberus
Partners, L.P., CS First Boston Securities Corporation and
Bank of America, Illinois regarding fees to be paid to A&M
(Incorporated by reference to Exhibit 1.13 of Old
Wherehouse's Current Report on Form 8-K dated February 12,
1997.)
10.13 Letter agreement dated as of January 31, 1997 between New
Wherehouse and Cerberus Partners, L.P. regarding the
reimbursement of fees paid by Cerberus Partners, L.P. on
behalf of the senior lenders to A&M (Incorporated by
reference to Exhibit 1.11 of Old Wherehouse's Current Report
on Form 8-K dated February 12, 1997.)
10.14 Loan and Security Agreement dated as of January 31, 1997
between New Wherehouse and Congress Financial Corporation
(Western). (Incorporated by reference to Exhibit 1.15 of Old
Wherehouse's Current Report on Form 8-K dated February 12,
1997.)
10.15 Security Agreement dated as of January 31, 1997 between New
Wherehouse and United States Trust Company of New York, as
Collateral Agent for certain trade creditors. (Incorporated
by reference to Exhibit 1.16 of Old Wherehouse's Current
Report on Form 8-K dated February 12, 1997.)
</TABLE>
30
<PAGE> 31
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
------- -----------
<S> <C>
10.16 Intercreditor and Collateral Agency Agreement dated as of
January 31, 1997 among New Wherehouse, the Trade Creditors
named therein and United States Trust Company of New York,
as Collateral Agent. (Incorporated by reference to Exhibit
1.17 of Old Wherehouse's Current Report on Form 8-K dated
February 12, 1997.)
10.17 Intercreditor and Subordination Agreement dated as of
January 31, 1997 among the Trade Creditors named therein,
United States Trust Company of New York, as Collateral Agent
for the Trade Creditors and Congress Financial Corporation
(Western). (Incorporated by reference to Exhibit 1.18 of Old
Wherehouse's Current Report on Form 8-K dated February 12,
1997.)
10.18 Security Agreement dated as of January 20, 1997, by and
between Mellon US Leasing, a division of Mellon Leasing
Corporation, successor to United States Leasing Corporation,
as Secured Party, and Reorganized Wherehouse. (Incorporated
by reference to Exhibit 10.15 of New Wherehouse's Annual
Report on Form 10-K dated May 16, 1997.)
10.19 Change of Control Agreements, dated as of July 10, 1995,
between Old Wherehouse and each of its executive officers,
with schedule required by instruction (2) to item 601(a) of
Regulation S-K identifying the parties thereto and certain
other details. (Incorporated by reference to Exhibit 10.1 of
Old Wherehouse's Quarterly Report on Form 10-Q for the
quarter ended July 31, 1995.)
10.20 Transition License Agreement dated as of October 26, 1998
between Wherehouse Entertainment, Inc., the Blockbuster
Music subsidiaries, and Blockbuster Entertainment Inc.
(Incorporated by reference to Exhibit 2.2 of New
Wherehouse's Current Report on Form 8-K dated November 10,
1998.)
10.21 Transition Services Agreement dated as of August 10, 1998
between Wherehouse Entertainment, Inc. and Viacom
International Inc. (Incorporated by reference to Exhibit 2.3
of New Wherehouse's Current Report on Form 8-K dated
November 10, 1998.)
10.22 Amended and Restated Loan and Security Agreement dated as of
October 26, 1998 between New Wherehouse and its subsidiaries
and Congress Financial Corporation (Western). (Incorporated
by reference to Exhibit 10.22 of New Wherehouse's Annual
Report on Form 10-K dated May 17, 1999.)
10.23 Intercreditor and Subordination Agreement dated as of
October 26, 1998 among the Trade Creditors named therein,
United States Trust Company of New York, as Collateral Agent
for the Trade Creditors, and Congress Financial Corporation
(Western). (Incorporated by reference to Exhibit 10.23 of
New Wherehouse's Annual Report on Form 10-K dated May 17,
1999.)
10.24 Security Agreement dated as of October 26, 1998 between New
Wherehouse and United States Trust Company of New York, as
Collateral Agent for certain trade creditors. (Incorporated
by reference to Exhibit 10.24 of New Wherehouse's Annual
Report on Form 10-K dated May 17, 1999.)
10.25 Intercreditor and Collateral Agency Agreement dated as of
October 26, 1998 among certain subsidiaries of New
Wherehouse, the Trade Creditors named therein and United
States Trust Company of New York, as Collateral Agent.
(Incorporated by reference to Exhibit 10.25 of New
Wherehouse's Annual Report on Form 10-K dated May 17, 1999.)
10.26 Wherehouse Entertainment, Inc. 1998 Stock Incentive Plan.
(Incorporated by reference to Appendix A of the Company's
definitive proxy statement dated September 25, 1998.)
(Incorporated by reference to Exhibit 10.26 of New
Wherehouse's Annual Report on Form 10-K dated May 17, 1999.)
</TABLE>
31
<PAGE> 32
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
------- -----------
<S> <C>
10.27 First Amendment to the Amended and Restated Loan and
Security Agreement dated as of November 30, 1998 between New
Wherehouse and its subsidiaries and Congress Financial
Corporation (Western). (Incorporated by reference to Exhibit
10.27 of New Wherehouse's Annual Report on Form 10-K dated
May 17, 1999.)
10.28 Extension and Third Amendment to Management Services
Agreement dated as of May 13, 1999 among Wherehouse, A&M,
Antonio C. Alvarez II and A&M #3. (Incorporated by reference
to Exhibit 10.28 of New Wherehouse's Annual Report on Form
10-K dated May 17, 1999.)
10.29 Second Amendment to the Amended and Restated Loan and
Security Agreement dated as of May 14, 1999 between
Wherehouse and its subsidiaries and Congress Financial
Corporation (Western). (Incorporated by reference to Exhibit
10.29 of New Wherehouse's Annual Report on Form 10-K dated
May 17, 1999.)
10.30 Third Amendment to the Amended and Restated Loan and
Security Agreement dated as of August 31, 1999 between
Wherehouse and its subsidiaries and Congress Financial
Corporation (Western). (Incorporated by reference to Exhibit
10.1 of New Wherehouse's Quarterly Report on Form 10-Q for
the quarter ended July 31, 1999.)
10.31 Fourth Amendment to the Amended and Restated Loan and
Security Agreement dated as of August 31, 1999 between
Wherehouse and its subsidiaries and Congress Financial
Corporation (Western). (Incorporated by reference to Exhibit
10.1 of New Wherehouse's Quarterly Report on Form 10-Q for
the quarter ended October 31, 1999.)
27.0* Financial Data Schedule.
</TABLE>
- ---------------
* Filed herewith
(b) CURRENT REPORTS ON FORM 8-K.
None
32
<PAGE> 33
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
Date: May 1, 2000 WHEREHOUSE ENTERTAINMENT, INC.
By: /s/ ANTONIO C. ALVAREZ, II
------------------------------------
Antonio C. Alvarez, II
Chairman of the Board,
Chief Executive Officer and Director
(Principal Executive Officer)
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
--------- ----- ----
<C> <C> <S>
/s/ ANTONIO C. ALVAREZ, II Chairman of the Board, May 1, 2000
- ------------------------------ Chief Executive Officer
Antonio C. Alvarez, II
/s/ MARK A VELARDE Executive Vice President, May 1, 2000
- ------------------------------ Chief Financial Officer
Mark A Velarde
/s/ MEHDI MAHDAVI Vice President, Controller May 1, 2000
- ------------------------------ (Principal Accounting Officer)
Mehdi Mahdavi
/s/ ROBERT C. DAVENPORT Director May 1, 2000
- ------------------------------
Robert C. Davenport
/s/ JONATHAN GALLEN Director May 1, 2000
- ------------------------------
Jonathan Gallen
/s/ JOSEPH J. RADECKI Director May 1, 2000
- ------------------------------
Joseph J. Radecki
/s/ JOSEPH B. SMITH Director May 1, 2000
- ------------------------------
Joseph B. Smith
</TABLE>
33
<PAGE> 34
WHEREHOUSE ENTERTAINMENT, INC.
INDEX TO FINANCIAL STATEMENTS AND
FINANCIAL STATEMENT SCHEDULE
CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Independent Auditors' Report -- Deloitte & Touche LLP....... F-2
Report of Independent Auditors -- Ernst & Young LLP......... F-3
Financial Statements:
Consolidated Balance Sheets at January 31, 2000 and
1999................................................... F-4
Consolidated Statements of Operations for the years ended
January 31, 2000, 1999 and 1998........................ F-5
Consolidated Statements of Changes in Shareholders' Equity
for the years ended January 31, 2000, 1999 and 1998.... F-6
Consolidated Statements of Cash Flows for the years ended
January 31, 2000, 1999 and 1998........................ F-7
Notes to Consolidated Financial Statements.................. F-8
Schedule II -- Valuation and Qualifying Accounts............ F-21
</TABLE>
All other schedules have been omitted because they are not required under
the related instructions or are inapplicable, or because the required
information is included elsewhere in the consolidated financial statements.
F-1
<PAGE> 35
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Shareholders of
Wherehouse Entertainment, Inc.:
We have audited the accompanying consolidated balance sheets of Wherehouse
Entertainment, Inc. and subsidiaries as of January 31, 2000 and 1999, and the
related consolidated statements of operations, changes in shareholders' equity,
and cash flows for the years then ended. Our audit also included the financial
statement schedule listed in the Index at Item 14(a). These financial statements
and financial statement schedule are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements and financial statement schedule based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. 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 audits provide a
reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in
all material respects, the financial position of Wherehouse Entertainment, Inc.
and subsidiaries at January 31, 2000 and 1999, and the results of their
operations and their cash flows for the years then ended in conformity with
accounting principles generally accepted in the United States of America. Also,
in our opinion, such financial statement schedule, when considered in relation
to the basic consolidated financial statements taken as a whole, presents fairly
in all material respects the information set forth therein.
DELOITTE & TOUCHE LLP
Los Angeles, California
April 28, 2000
F-2
<PAGE> 36
REPORT OF INDEPENDENT AUDITORS
Board of Directors
Wherehouse Entertainment, Inc.:
We have audited the accompanying statement of operations, changes
shareholders' equity, and cash flows of Wherehouse Entertainment, Inc. for the
year ended January 31, 1998. Our audit also included the financial statement
schedule listed in the Index at Item 14(a). These financial statements and
schedule are the responsibility of the Company's management. Our responsibility
is to express an opinion on these financial statements and schedule based on our
audit.
We conducted our audit in accordance with auditing standards generally
accepted in the United States. 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 results of operations and cash flows of Wherehouse
Entertainment, Inc. for the year ended January 31, 1998 in conformity with
accounting principles generally accepted in the United States. Also, in our
opinion, such financial statement schedule, when considered in relation to the
basic consolidated financial statements taken as a whole, presents fairly in all
material respects the information set forth therein.
ERNST & YOUNG LLP
Los Angeles, California
April 17, 1998
F-3
<PAGE> 37
WHEREHOUSE ENTERTAINMENT, INC.
CONSOLIDATED BALANCE SHEETS
ASSETS
<TABLE>
<CAPTION>
JANUARY 31,
----------------------------
2000 1999
------------ ------------
<S> <C> <C>
Current assets (Note 6):
Cash and cash equivalents................................. $ 4,531,000 $ 15,009,000
Receivables, net.......................................... 7,794,000 5,207,000
Inventories, net.......................................... 247,800,000 226,648,000
Income taxes receivable................................... 2,348,000
Other current assets...................................... 2,306,000 2,807,000
Deferred taxes (Note 7)................................... 15,932,000 14,003,000
------------ ------------
Total current assets................................... 280,711,000 263,674,000
Property, equipment, and improvements, net (Notes 4 and
6)..................................................... 82,250,000 68,531,000
Deferred taxes (Note 7)................................... 10,573,000 12,409,000
Intangible assets, net (Notes 1, 2, 3 and 6).............. 38,075,000 41,282,000
Other assets, net......................................... 2,074,000 1,845,000
------------ ------------
Total assets...................................... $413,683,000 $387,741,000
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable and bank overdraft....................... $177,158,000 $114,480,000
Accrued expenses (Note 5)................................. 30,067,000 29,679,000
Sales taxes payable....................................... 4,015,000 9,304,000
Store closure reserve -- acquired stores (Note 1)......... 9,746,000 22,612,000
Store closure reserve -- existing stores (Note 1)......... 1,446,000 2,593,000
Income taxes payable...................................... 4,607,000
Reorganization liabilities (Note 2)....................... 1,567,000 2,109,000
Current portion of leases in excess of fair market value
(Note 1)............................................... 3,278,000 3,271,000
Current portion of capital lease obligations and other
long-term debt......................................... 5,691,000 4,207,000
------------ ------------
Total current liabilities.............................. 232,968,000 192,862,000
Line of credit (Note 6)................................... 31,983,000 37,349,000
Long-term debt (Note 2)................................... 3,812,000 3,837,000
Capital lease obligations (Notes 4 and 9)................. 22,018,000 23,546,000
Leases in excess of fair market value (Note 1)............ 21,463,000 25,929,000
Deferred rent and other long-term liabilities (Note 3).... 5,168,000 6,040,000
------------ ------------
Total liabilities................................. 317,412,000 289,563,000
------------ ------------
Commitments and contingencies (Notes 9 and 10)
Shareholders' equity (Note 10):
Preferred stock
Common stock.............................................. 108,000 108,000
Additional paid-in-capital................................ 89,400,000 89,400,000
Retained earnings......................................... 13,562,000 14,758,000
Treasury stock............................................ (338,000)
Notes receivable.......................................... (6,461,000) (6,088,000)
------------ ------------
Total shareholders' equity........................ 96,271,000 98,178,000
------------ ------------
Total liabilities and shareholders' equity........ $413,683,000 $387,741,000
============ ============
</TABLE>
See accompanying notes to consolidated financial statements.
F-4
<PAGE> 38
WHEREHOUSE ENTERTAINMENT, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
YEARS ENDED JANUARY 31,
--------------------------------------------
2000 1999 1998
------------ ------------ ------------
<S> <C> <C> <C>
Sale merchandise revenue......................... $756,055,000 $464,475,000 $276,147,000
Rental revenue, net.............................. 9,836,000 15,984,000 23,881,000
------------ ------------ ------------
Total revenues.............................. 765,891,000 480,459,000 300,028,000
Cost of sale merchandise revenue................. 495,596,000 309,687,000 176,137,000
------------ ------------ ------------
Gross profit................................ 270,295,000 170,772,000 123,891,000
Selling, general and administrative expenses..... 237,749,000 140,135,000 104,738,000
System integration costs (Note 1)................ 827,000
Store closure costs -- existing stores (Note
1)............................................. 2,869,000
Year 2000 remediation costs (Note 12)............ 176,000 1,842,000
Depreciation and amortization.................... 25,659,000 11,769,000 7,130,000
------------ ------------ ------------
Income from operations......................... 6,711,000 13,330,000 12,023,000
Interest expense................................. 7,796,000 3,503,000 531,000
Interest income.................................. (526,000) (2,258,000) (1,583,000)
------------ ------------ ------------
Income (loss) before income taxes.............. (559,000) 12,085,000) 13,075,000
Provision for income taxes (Note 7).............. 637,000 5,029,000 5,373,000
------------ ------------ ------------
Net (loss) income.............................. $ (1,196,000) $ 7,056,000 $ 7,702,000
============ ============ ============
Net income (loss) per common share: (Note 8)
Basic.......................................... $ (0.11) $ 0.66 $ 0.74
============ ============ ============
Diluted........................................ $ (0.11) $ 0.61 $ 0.71
============ ============ ============
</TABLE>
See accompanying notes to consolidated financial statements.
F-5
<PAGE> 39
WHEREHOUSE ENTERTAINMENT, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
<TABLE>
<CAPTION>
COMMON STOCK ADDITIONAL
----------------------- PAID-IN RETAINED TREASURY NOTES
SHARES AMOUNT CAPITAL EARNINGS STOCK RECEIVABLE TOTAL
------------ -------- ----------- ----------- --------- ----------- -----------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance, February 1, 1997........ 10,257,808 $103,000 $89,380,000 $(5,340,000) $84,143,000
Issuance of common stock......... 361,393 3,000 (3,000)
Interest on notes receivable..... (373,000) (373,000)
Net income....................... $ 7,702,000 7,702,000
---------- -------- ----------- ----------- ----------- -----------
Balance, January 31, 1998........ 10,619,201 106,000 89,377,000 7,702,000 (5,713,000) 91,472,000
Adjustment of common stock
(Note 10)...................... (20,764)
Issuance of common stock......... 125,628 1,000 (1,000)
Exercise of warrants............. 5,645 1,000 24,000 25,000
Interest on notes receivable..... (375,000) (375,000)
Net income....................... 7,056,000 7,056,000
---------- -------- ----------- ----------- ----------- -----------
Balance, January 31, 1999........ 10,729,710 108,000 89,400,000 14,758,000 (6,088,000) 98,178,000
Issuance of common stock......... 31,096
Purchase of treasury stock....... $(338,000) (338,000)
Interest on notes receivable..... (373,000) (373,000)
Net loss......................... (1,196,000) (1,196,000)
---------- -------- ----------- ----------- --------- ----------- -----------
Balance, January 31, 2000........ 10,760,806 $108,000 $89,400,000 $13,562,000 $(338,000) $(6,461,000) $96,271,000
========== ======== =========== =========== ========= =========== ===========
</TABLE>
See accompanying notes to consolidated financial statements.
F-6
<PAGE> 40
WHEREHOUSE ENTERTAINMENT, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
YEARS ENDED JANUARY 31,
---------------------------------------------
2000 1999 1998
------------ ------------- ------------
<S> <C> <C> <C>
OPERATING ACTIVITIES:
Net (loss) income......................................... $ (1,196,000) $ 7,056,000 $ 7,702,000
Adjustments to reconcile net (loss) income to net cash
provided by operating activities:
Depreciation and amortization........................... 25,659,000 11,769,000 7,130,000
Store closure reserves -- existing stores............... 2,869,000
Rental amortization included in rental revenue, net..... 5,435,000 11,190,000 21,113,000
Book value of rental inventory dispositions, included in
rental revenue, net................................... 949,000 2,044,000 4,886,000
Deferred taxes.......................................... 432,000 (2,327,000) (4,751,000)
Changes in operating assets and liabilities:
Receivables, net...................................... (1,518,000) (3,911,000) 636,000
Prepaid inventory deposits............................ 4,486,000
Inventories, net...................................... (28,029,000) 21,742,000 11,841,000
Other current assets.................................. 501,000 181,000 1,022,000
Accounts payable, accrued expenses and other
liabilities......................................... 56,909,000 19,905,000 23,894,000
Income taxes payable.................................. (6,955,000) (1,705,000) 6,312,000
Rental inventory purchases............................ (6,105,000) (11,502,000) (21,195,000)
Other long-term liabilities........................... (1,373,000) 617,000 2,648,000
Store closure reserve -- existing stores.............. (767,000) (276,000)
Store closure and FMV reserves -- acquired stores..... (10,120,000) (2,295,000)
Changes due to reorganization activities.............. (5,867,000)
------------ ------------- ------------
Net cash provided by operating activities........... 33,822,000 55,357,000 59,857,000
------------ ------------- ------------
INVESTING ACTIVITIES:
Purchase of property, equipment and improvements.......... (30,617,000) (11,241,000) (4,699,000)
(Decrease) increase in other assets....................... (229,000) (908,000) 85,000
Purchase of Blockbuster Music, net of cash acquired....... (116,535,000)
------------ ------------- ------------
Net cash used in investing activities............... (30,846,000) (128,684,000) (4,614,000)
------------ ------------- ------------
FINANCING ACTIVITIES:
Net (repayments) borrowings under line of credit.......... (5,366,000) 37,349,000
Payments on capital lease obligations and long-term
debt.................................................... (6,835,000) (1,237,000) (696,000)
Exercise of warrants...................................... 25,000
Purchase of treasury stock................................ (338,000)
Interest on notes receivable.............................. (373,000) (375,000) (373,000)
Settlement of pre-petition claims......................... (542,000) (2,146,000) (5,632,000)
------------ ------------- ------------
Net cash provided by (used in) financing
activities....................................... (13,454,000) 33,616,000 (6,701,000)
------------ ------------- ------------
Net (decrease) increase in cash and cash equivalents...... (10,478,000) (39,711,000) 48,542,000
Cash and cash equivalents, beginning of year.............. 15,009,000 54,720,000 6,178,000
------------ ------------- ------------
Cash and cash equivalents, end of year.................... $ 4,531,000 $ 15,009,000 $ 54,720,000
============ ============= ============
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid during the year for:
Interest................................................ $ 6,815,000 $ 2,760,000 $ 991,000
Income taxes............................................ $ 7,465,000 $ 9,089,000 $ 1,362,000
</TABLE>
NONCASH INVESTING AND FINANCING ACTIVITIES:
The Company incurred capital lease obligations of $6,518,000 and $1,863,000
for the purchase of certain equipment during the years ended January 31, 2000
and 1999, respectively.
During 1999, the Company accrued $775,000 of deferred financing costs
incurred in connection with the Revolving Credit Facility (See Note 6).
See accompanying notes to consolidated financial statements.
F-7
<PAGE> 41
WHEREHOUSE ENTERTAINMENT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION AND ACQUISITION
BASIS OF PRESENTATION
The consolidated financial statements include the accounts of Wherehouse
Entertainment, Inc. and its wholly owned subsidiaries. All inter-company
balances and transactions have been eliminated. Wherehouse Entertainment, Inc.
and all of its subsidiaries are collectively referred to as the Company.
ACQUISITION
On October 26, 1998, pursuant to a Stock Purchase Agreement dated as of
August 10, 1998 (the "Purchase Agreement"), the Company acquired (the
"Acquisition") from Viacom International Inc. ("Seller") all of the capital
stock of certain retail music subsidiaries of the Seller (the "Acquired
Business"). The Acquired Business operated under the name "Blockbuster Music."
At the date of Acquisition, the Acquired Business consisted of 378 Blockbuster
Music stores (the "Acquired Stores") in 33 states. In June 1999, the Company
completed the system integration of the Acquired Stores, and all of the
currently operating Acquired Stores are operating under the "Wherehouse Music"
name. The initial purchase price was subject to a purchase price adjustment
mechanism based on working capital as set forth in the Purchase Agreement.
On September 8, 1999, the Company reached an agreement with the Seller with
respect to a purchase price adjustment based on working capital plus a
settlement of certain other issues. The final purchase price was $122.3 million,
including direct acquisition costs of $4.7 million, resulting in an increase in
intangible assets of $3.8 million as of January 31, 2000.
The Acquisition was accounted for under the purchase method of accounting.
Accordingly, the purchase price has been allocated to the assets acquired and
liabilities assumed based upon their respective fair values at the Acquisition
date based on valuations and other studies. The following is a summary of the
acquired assets and liabilities:
<TABLE>
<S> <C>
Current assets......................................... $189,180,000
Property, equipment & improvements..................... 45,982,000
Deferred tax assets, net............................... 19,861,000
Goodwill............................................... 29,361,000
Accounts payable and accrued expenses.................. (87,015,000)
Store closure and other reserves....................... (20,042,000)
Capital lease obligations.............................. (26,430,000)
Leases in excess of fair market value.................. (28,551,000)
------------
Total consideration.......................... $122,346,000
============
</TABLE>
The results of operations of the Acquisition are reflected in the
accompanying consolidated financial statements from October 26, 1998. Goodwill
arising out of the Acquisition is being amortized over 15 years.
Upon the consummation of the Acquisition, the Company's senior management
began formulating its plan to close certain stores which, due to the
Acquisition, competed in the same trade areas as other stores (the "Store
Closure Plan"). The Store Closure Plan, which was finalized during January 1999,
anticipated the closing of 70 stores (51 Acquired Stores and 19 existing
Wherehouse stores) located in 17 states. The Company has closed 58 of these
stores (43 Acquired Stores and 15 existing Wherehouse stores) as of January 31,
2000. The Company is negotiating with landlords to terminate the leases on the
remaining 12 stores.
F-8
<PAGE> 42
WHEREHOUSE ENTERTAINMENT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
During Fiscal 1999, the Company recorded accruals in the purchase price
allocation for store closure reserve -- acquired stores and leases in excess of
fair market value. The following is a rollforward of the activity of these
reserves:
<TABLE>
<CAPTION>
BALANCE AS OF CHARGES BALANCE AS OF CHARGES BALANCE AS OF
OCTOBER 26, AGAINST JANUARY 31, AGAINST JANUARY 31,
1998 RESERVE 1999 RESERVES ADJUSTMENT(2) 2000
------------- ---------- ------------- ----------- ------------- -------------
<S> <C> <C> <C> <C> <C> <C>
Store closure reserve --
acquired stores(1)..... $24,126,000 $1,514,000 $22,612,000 $ 8,782,000 $4,084,000 $ 9,746,000
Leases in excess of fair
market value........... 29,981,000 781,000 29,200,000 3,029,000 1,430,000 24,741,000
----------- ---------- ----------- ----------- ---------- -----------
Total.......... $54,107,000 $2,295,000 $51,812,000 $11,811,000 $5,514,000 $34,487,000
=========== ========== =========== =========== ========== ===========
</TABLE>
- ---------------
(1) Consists substantially of lease termination costs.
(2) Adjustments relating to certain lease settlement costs and store closure
reserves.
During Fiscal 1999, the Company recorded accruals related to the planned
closing of 19 existing Wherehouse stores. The following is a rollforward of the
activity of the store closure reserve -- existing stores:
<TABLE>
<S> <C>
Balance at October 26, 1998(1)........................... $2,869,000
Charges against reserve.................................. 276,000
----------
Balance at January 31, 2000.............................. 2,593,000
Charges against reserve.................................. 1,147,000
----------
Balance at January 31, 2000.............................. $1,446,000
==========
</TABLE>
- ---------------
(1) Consists substantially of lease termination costs.
The following unaudited pro forma financial information for the Company
gives effect to certain adjustments, including depreciation expense,
amortization of goodwill, corporate overhead allocations, interest expense and
the related income tax effect of the foregoing adjustments, and reflects
operating results as if the Acquisition had occurred at February 1, 1998:
<TABLE>
<CAPTION>
YEAR ENDED JANUARY 31,
----------------------------
1999 1998
------------ ------------
<S> <C> <C>
Net revenues............................ $857,504,000 $918,001,000
Net loss................................ $(14,234,000) $(43,767,000)
Basic net loss per share................ (1.33) $ (4.20)
Diluted net loss per share.............. (1.23) $ (4.20)
</TABLE>
The unaudited pro forma results have been prepared for comparative purposes
only and do not purport to represent what the Company's actual results of
operations would have been had the Acquisition occurred as of the beginning of
the periods presented and are not intended to be a projection of future results
or trends.
In connection with the integration of the Acquired Business, the Company
incurred consulting and system integration costs of $827,000 during 1999. These
amounts are included in system integration costs in the accompanying
consolidated statement of operations.
E-COMMERCE
In response to the growth in electronic commerce and the future potential
for on-line sales of prerecorded music and video product, the Company launched
its own Internet commerce site, "Wherehousemusic.com," on May 10, 1999. In
November of 1999, the Company agreed to enter into an equity investment and
strategic partnership relationship (the "Agreement") with CheckOut.com, LLC
("CheckOut.com"), an Internet
F-9
<PAGE> 43
WHEREHOUSE ENTERTAINMENT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
content provider and e-commerce retailer of music, movies and games. This
Agreement was finalized on February 16, 2000. In exchange for a 49% interest in
CheckOut.com, the Company contributed $9.8 million in February of 2000. In
addition, commencing March 2000, $1.568 million per month will be contributed up
to an amount not to exceed $9.8 million. Under the terms of the Agreement,
CheckOut.com is the exclusive Internet website partner for music, movies and
games for Wherehouse Music. As a result, the Company merged the operation of its
own Internet website, Wherehousemusic.com, with that of CheckOut.com. As a part
of the CheckOut.com transaction, the Company sold 250,000 shares of its common
stock to affiliates of its partner in CheckOut.com for $5.0 million in cash. In
addition, during the year ended January 31, 2000, the Company loaned
CheckOut.com $5.0 million which is included in accounts receivable in the
accompanying balance sheet. This loan was repaid in connection with the
finalization of the agreement with CheckOut.com.
2. REORGANIZATION UNDER CHAPTER 11
Wherehouse Entertainment, Inc. ("New Wherehouse") was incorporated under
the laws of the state of Delaware on November 15, 1996, as WEI Acquisition Co.
On January 31, 1997, New Wherehouse acquired substantially all of the assets of
Wherehouse Dissolution Co. ("Old Wherehouse"), a Delaware corporation, and its
parent company, WEI Holdings, Inc., a Delaware corporation (WEI, and together
with Old Wherehouse, the "Debtor"), pursuant to a Chapter 11 plan of
reorganization (the "Reorganization").
On August 2, 1995 (the "Petition Date"), the Debtor filed voluntary
petitions for relief under Chapter 11 of Title 11 of the United States Code in
the United States Bankruptcy Court for the District of Delaware (the "Bankruptcy
Court"), seeking to reorganize under Chapter 11 (the "Bankruptcy Case"). Old
Wherehouse and WEI continued to manage their respective affairs and operate
their businesses as debtors-in-possession while they worked to develop a
reorganization plan that would restructure their businesses and allow their
emergence from Chapter 11.
The Plan of Reorganization for the Company's predecessors (the
"Reorganization Plan") was confirmed by an order of the Bankruptcy Court entered
on January 7, 1997. The effective date of the Reorganization Plan occurred on
January 31, 1997 (the "Effective Date"). Since the Effective Date, the
Bankruptcy Court has retained jurisdiction over certain claims and other matters
relating to the bankruptcy estates of the Company's predecessors, but New
Wherehouse has been and is free to carry out its business without oversight by
the Bankruptcy Court.
Several state and local taxing authorities received promissory notes for
their claims, due generally six years after the tax assessment date together
with interest at 5%. The promissory notes, which amounted to $3,846,000 and
$3,871,000 at January 31, 2000 and 1999, respectively, are included in long-term
debt and current portion of other long-term debt in the accompanying
consolidated balance sheets.
3. SIGNIFICANT ACCOUNTING POLICIES
DESCRIPTION OF BUSINESS
The Company is a national specialty retailer of pre-recorded music, video
and other entertainment-related products. Certain of the Company's stores offer
video and other products for rental. At January 31, 2000, the Company operated
529 stores in 31 states. The Company is supported by centralized corporate
services and the stores have similar economic characteristics, products,
customers and retail distribution methods, and as such are reported as a single
segment.
FISCAL YEAR
The Company's fiscal year ends on January 31. References made to Fiscal
2000, 1999, and 1998 are to the fiscal years ended January 31, 2000, 1999 and
1998, respectively.
F-10
<PAGE> 44
WHEREHOUSE ENTERTAINMENT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
USE OF ACCOUNTING ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make certain estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from these estimates.
CASH AND CASH EQUIVALENTS
Cash and cash equivalents consist of highly liquid investments with a
maturity of three months or less when purchased.
FINANCIAL INSTRUMENTS
The carrying amounts of cash and cash equivalents, accounts receivable, and
accounts payable approximate fair value because of the short-term maturities of
these instruments. The fair value of the Revolving Credit Facility approximated
its carrying value at January 31, 2000 based on debt with similar terms.
CONCENTRATION OF CREDIT RISK
Financial instruments, which potentially expose the Company to
concentrations of credit risk, consist primarily of cash and cash equivalents.
It is the Company's practice to place its cash equivalents in high quality
securities with a financial institution.
INVENTORY
Wherehouse carries inventory at the lower of cost or market using the
last-in, first-out (LIFO) method. Inventory consists primarily of resaleable
pre-recorded music, videocassettes, DVDs, video games and other products. At
January 31, 2000 and 1999, inventory valued using LIFO is $3,110,000 and
$1,485,000, respectively, less than the value of the inventory if valued using
the first-in, first-out method.
RENTAL INVENTORY
The Company amortizes video rental inventory using the straight-line method
over a three-month period with a $3 salvage value. Rental inventory has been
classified as a current asset in the accompanying consolidated balance sheets as
substantially all revenue and cash flow from rentals on hand is expected to be
derived within a one-year period. The sell-through of such rental inventory in
the year purchased results in additional amortization, which is included in
rental revenue, net.
DEPRECIATION AND AMORTIZATION
Fixed assets are stated at cost less accumulated depreciation and
amortization, which includes the amortization of assets recorded under capital
leases. Fixed assets purchased under capital leases are amortized on a
straight-line basis over the lesser of the estimated useful life of the asset or
the lease term. Depreciation
F-11
<PAGE> 45
WHEREHOUSE ENTERTAINMENT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
and amortization of equipment and leasehold improvements is computed on the
straight-line method over the following periods:
<TABLE>
<CAPTION>
YEARS
------
<S> <C>
Leasehold improvements...................................... 2 - 10
Data processing equipment and software...................... 3 - 5
Store and office fixtures and equipment..................... 1 - 10
Buildings and improvements.................................. 5 - 30
</TABLE>
INTANGIBLE ASSETS
Goodwill of $29,361,000, resulting from the Acquisition (see Note 1), is
being amortized on a straight-line basis over 15 years. Accumulated amortization
was $2,453,000 and $482,000 at January 31, 2000 and 1999, respectively.
Reorganization value in excess of amounts allocable to identifiable assets
resulting from the Reorganization (see Note 2) is being amortized on a
straight-line basis over a period of 10 years.
Reorganization goodwill consisted of the following at January 31, 2000 and
January 31, 1999:
<TABLE>
<CAPTION>
2000 1999
----------- -----------
<S> <C> <C>
Original value............................ $15,953,000 $15,953,000
Accumulated amortization.................. (4,786,000) (3,191,000)
----------- -----------
Net....................................... $11,167,000 $12,762,000
=========== ===========
</TABLE>
DEFERRED FINANCING COSTS
In connection with the Acquisition, the Company incurred $1,391,000 of
costs related to the Revolving Credit Facility (see Note 6). Such costs are
being amortized on a basis that approximates the interest method over the term
of the related debt. Accumulated amortization at January 31, 2000 and 1999 was
$601,000 and $133,000, respectively.
DEFERRED RENT
The Company recognizes rent expense on a straight-line basis over the life
of the leases. At January 31, 2000 and 1999, deferred rent of $3,062,000 and
$3,265,000, respectively, is included in the accompanying consolidated balance
sheets.
IMPAIRMENT OF LONG-LIVED ASSETS
The Company follows the provisions of Statement of Financial Accounting
Standards ("SFAS") No. 121 "Accounting for the Impairment of Long-Lived Assets
and for Long-Lived Assets to be Disposed Of." Long-lived assets are reviewed for
impairment, based on undiscounted cash flows, whenever events or changes in
circumstances indicate that the carrying amount of such assets may not be
recoverable from cash flows.
STORE PRE-OPENING AND ADVERTISING COSTS
Store pre-opening and advertising costs are charged to expense as they are
incurred.
EARNINGS PER SHARE
Basic net income per share is based on the weighted average number of
shares of common stock outstanding. Diluted net income per share is based on the
weighted average number of shares of common
F-12
<PAGE> 46
WHEREHOUSE ENTERTAINMENT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
stock outstanding and dilutive potential common shares from stock options and
warrants (using the treasury stock method).
STOCK-BASED COMPENSATION
The Company has elected to follow Accounting Principles Board Opinion No.
25, "Accounting for Stock Issued to Employees" (APB 25), which requires
compensation expense for stock options to be recognized when the market price of
the underlying security exceeds the exercise price on the date of grant. SFAS
No. 123, "Accounting for Stock-Based Compensation", permits companies to apply
the principles of APB 25 and to additionally provide pro forma disclosures of
net income and earnings per share as if the fair value method, as defined in
SFAS No. 123, had been applied.
INCOME TAXES
The Company accounts for income taxes under an asset and liability approach
that requires the recognition of deferred income tax assets and liabilities for
the expected future consequences of events that have been recognized in the
Company's consolidated financial statements or income tax returns. Management
provides a valuation allowance for deferred income tax assets when it is more
likely than not that a portion of such deferred income tax assets will not be
realized.
NEW ACCOUNTING STANDARDS
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities". This statement establishes accounting and
reporting standards for derivative instruments and for hedging activities and
will be effective for the Company's fiscal year ending January 31, 2002. The
Company has not yet analyzed the impact of adopting the statement.
4. PROPERTY, EQUIPMENT AND IMPROVEMENTS
Property, equipment and improvements consist of the following at January
31, 2000 and 1999:
<TABLE>
<CAPTION>
2000 1999
------------ -----------
<S> <C> <C>
Land............................................. $ 141,000 $ 141,000
Buildings and improvements....................... 131,000 131,000
Leasehold improvements........................... 20,490,000 15,849,000
Store and office fixtures and equipment.......... 43,879,000 31,986,000
Data processing equipment and software........... 23,944,000 11,795,000
Capital leases................................... 27,836,000 22,021,000
------------ -----------
116,421,000 81,923,000
Less accumulated depreciation and amortization... 34,171,000 13,392,000
------------ -----------
Property and equipment, net...................... $ 82,250,000 $68,531,000
============ ===========
</TABLE>
Accumulated amortization related to capital lease assets amounted to
$5,818,000 and $902,000 at January 31, 2000 and 1999, respectively.
F-13
<PAGE> 47
WHEREHOUSE ENTERTAINMENT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
5. ACCRUED EXPENSES
Accrued expenses consists of the following at January 31, 2000 and 1999:
<TABLE>
<CAPTION>
2000 1999
----------- -----------
<S> <C> <C>
Gift certificate and credit slips liability....... $14,804,000 $12,273,000
Payroll and related costs......................... 9,000,000 9,493,000
Accrued property taxes............................ 2,420,000 4,398,000
Other............................................. 3,843,000 3,515,000
----------- -----------
$30,067,000 $29,679,000
=========== ===========
</TABLE>
6. REVOLVING CREDIT FACILITY
The Company maintains a financing agreement (the "Facility") with a
financial institution which provides for a revolving credit line of up to
$165,000,000, including a letter of credit subfacility of $10,000,000, for a
term of three years, with a year to year renewal thereafter. The revolving line
of credit under the Facility is divided into two tranches, Tranche A and Tranche
B. The Company may borrow up to $155,000,000 under Tranche A. Tranche A loans
bear interest at the prime rate (8.5% at January 31, 2000) plus 0.5%, or at the
Company's election, an adjusted Eurodollar rate (6.203% at January 31, 2000)
plus 1.75%. The Company's ability to make Tranche A borrowings is subject to
borrowing base limitations based upon, among other things, the value of certain
eligible merchandise inventory. If there is no availability under the Tranche A
line, the Company may borrow up to $10,000,000 under the Tranche B line. Tranche
B loans bear interest (i) on the first $5,000,000, at the prime rate plus 3.75%
or an adjusted Eurodollar rate plus 5.0%, and (ii) on the next $5,000,000, at
the prime rate plus 4.75% or an adjusted Eurodollar rate plus 6.0%. In addition,
the Company pays an unused line fee of 0.375% per annum calculated upon the
amount by which $120,000,000 exceeds the average daily principal balance of the
outstanding Tranche A loans and letters of credit outstanding during the
immediately preceding month, along with 0.5% per annum calculated upon the
amount by which $10,000,000 exceeds the average daily principal balance of the
outstanding Tranche B loans. As of January 31, 2000, there was an outstanding
loan balance of $31,983,000 and there were no outstanding letters of credit.
The Company also pays an annual commitment fee on the Tranche B line of
$50,000, payable in advance for each year during which the line is available.
The Facility contains certain financial covenants, including the
maintenance of minimum adjusted net worth (as defined) and debt service coverage
ratios, and is collateralized by substantially all of the assets of the Company.
Under the Facility, dividends may only be paid if, after the dividend
payment, the sum of (i) the Company's cash and (ii) availability under the
Tranche A line, less outstanding and unpaid obligations and certain trade
payables, exceeds $20,000,000.
F-14
<PAGE> 48
WHEREHOUSE ENTERTAINMENT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
7. INCOME TAXES
The provision for income taxes is summarized as follows:
<TABLE>
<CAPTION>
YEAR ENDED JANUARY 31,
--------------------------------------
2000 1999 1998
-------- ----------- -----------
<S> <C> <C> <C>
Current:
Federal..................................... $ 45,000 $ 5,667,000 $ 8,243,000
State....................................... 160,000 1,689,000 1,881,000
-------- ----------- -----------
Total current....................... 205,000 7,356,000 10,124,000
-------- ----------- -----------
Deferred:
Federal..................................... 459,000 (1,668,000) (3,920,000)
State....................................... (27,000) (659,000) (831,000)
-------- ----------- -----------
Total deferred...................... 432,000 (2,327,000) (4,751,000)
-------- ----------- -----------
Total............................... $637,000 $ 5,029,000 $ 5,373,000
======== =========== ===========
</TABLE>
A reconciliation of the difference between the federal statutory tax rate
and the effective tax rate is summarized as follows:
<TABLE>
<CAPTION>
YEAR ENDED JANUARY 31,
------------------------
2000 1999 1998
------ ----- -----
<S> <C> <C> <C>
Statutory tax rate.......................................... (35.0%) 35.0% 35.0%
Non-deductible goodwill amortization........................ 123.0 1.4
Other permanent tax differences............................. 11.0 (0.6) 0.9
State taxes, net of federal benefit......................... 14.9 5.8 5.2
----- ---- ----
113.9% 41.6% 41.1%
===== ==== ====
</TABLE>
The components of net deferred income taxes at January 31, 2000 and 1999
are as follows:
<TABLE>
<CAPTION>
2000 1999
----------- -----------
<S> <C> <C>
Net current deferred income tax assets (liabilities):
Merchandise inventory................................... $ 8,431,000 $ 2,843,000
Vacation and bonus liabilities.......................... 1,244,000 1,201,000
Other accrued liabilities............................... 1,498,000 833,000
Prepaid expenses........................................ (155,000) (293,000)
Reorganization expenses................................. (716,000) (721,000)
Cash discounts.......................................... (426,000) (426,000)
State taxes............................................. (402,000) 350,000
Business acquisition.................................... 6,458,000 10,216,000
----------- -----------
15,932,000 14,003,000
----------- -----------
Net long-term deferred income tax assets (liabilities):
Reorganization value.................................... 1,500,000 1,017,000
Deferred rent........................................... 1,239,000 1,313,000
Property, equipment and improvements.................... (1,202,000) 106,000
Business acquisition.................................... 9,036,000 9,973,000
----------- -----------
10,573,000 12,409,000
----------- -----------
Total net deferred tax assets................... $26,505,000 $26,412,000
=========== ===========
</TABLE>
F-15
<PAGE> 49
WHEREHOUSE ENTERTAINMENT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The Company is currently undergoing an audit by the Internal Revenue
Service for Fiscal 1998. Management believes that an adverse result from the
audit, if any, will not have a significant impact on its financial position.
8. EARNINGS PER SHARE
The following table is a reconciliation of the basic and diluted earnings
per share computations:
<TABLE>
<CAPTION>
YEAR ENDED YEAR ENDED YEAR ENDED
JANUARY 31, JANUARY 31, JANUARY 31,
2000 1999 1998
------------ ----------- -----------
<S> <C> <C> <C>
Basic EPS Computation:
Numerator.......................................... $ (1,196,000) $ 7,056,000 $ 7,702,000
Denominator:
Weighted average common shares outstanding...... 10,750,000 10,690,000 10,421,000
------------ ----------- -----------
Total shares............................... 10,750,000 10,690,000 10,421,000
------------ ----------- -----------
Basic EPS............................................ $ (0.11) $ 0.66 $ 0.74
============ =========== ===========
Diluted EPS Computation:
Numerator.......................................... $ (1,196,000) $ 7,056,000 $ 7,702,000
Denominator:
Weighted average common shares outstanding...... 10,750,000 10,690,000 10,421,000
Incremental shares from assumed exercise of
warrants...................................... 0 537,000 439,000
Incremental shares from assumed exercise of
options....................................... 0 325,000 35,000
------------ ----------- -----------
Total shares............................... 10,750,000 11,552,000 10,895,000
------------ ----------- -----------
Diluted EPS.......................................... $ (0.11) $ 0.61 $ 0.71
============ =========== ===========
</TABLE>
Options and warrants were not included in the computation of diluted
earnings per share during January 31, 2000 because there was a net loss and
therefore, all options and warrants would be antidilutive. Options to purchase
86,000 and 393,300 shares of common stock outstanding during the years ended
January 31, 1999 and 1998 were not included in the computation of diluted
earnings per share because the options' exercise price was greater than the
average market price of the common shares and, therefore, the effect would be
antidilutive.
9. COMMITMENTS AND CONTINGENCIES
LEASES
The Company leases all of its retail stores and other facilities under
non-cancelable lease agreements that expire on various dates and provide for
renewal options. Certain of these leases have scheduled rent increases or
require rent escalations based on the consumer price index and/or provide for
payment of the real estate taxes and additional rents based on a percentage of
sales. Leases related to certain stores acquired (see Note 1) are reflected as
capital leases in the accompanying consolidated balance sheet at January 31,
2000 and 1999. In addition, the Company leases certain equipment under capital
lease agreements.
F-16
<PAGE> 50
WHEREHOUSE ENTERTAINMENT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Future minimum annual lease payments under operating and capital leases at
January 31, 2000 are payable as follows:
<TABLE>
<CAPTION>
OPERATING CAPITAL
------------ -----------
<S> <C> <C>
2000................................................... $ 60,286,000 $ 7,293,000
2001................................................... 53,618,000 7,028,000
2002................................................... 45,431,000 5,390,000
2003................................................... 39,839,000 3,725,000
2004................................................... 27,756,000 3,260,000
Thereafter............................................. 46,011,000 6,506,000
------------ -----------
Total minimum lease payments................... $272,941,000 33,202,000
============
Less amounts representing interest.................. 6,555,000
-----------
Present value of minimum lease payments............. $26,647,000
===========
</TABLE>
Rental expense charged to operations was $59,205,000, $35,961,000, and
$25,365,000 during Fiscal 2000, 1999 and 1998, respectively. In addition, real
estate taxes and additional rents based on percentage of sales were $8,272,000,
$4,388,000, and $2,392,000 during Fiscal 2000, 1999, and 1998, respectively.
OTHER
The Company is a party to various claims, legal actions and complaints
arising in the ordinary course of its business. In the opinion of management,
all such matters are without merit or involve such amounts that unfavorable
disposition will not have a material impact on the financial position or results
of operations of the Company.
10. SHAREHOLDERS' EQUITY
The Company has the following classes of stock:
Preferred Stock -- $.01 par value; 3,000,000 shares authorized; none
issued.
Common Stock -- $.01 par value; 24,000,000 shares authorized; 10,760,806
and 10,729,710 issued and outstanding shares at January 31, 2000 and 1999,
respectively.
Pursuant to the Management Services Agreement dated as of January 31, 1997
and as subsequently amended (the "Management Services Agreement"), and a Stock
Subscription Agreement dated as of January 31, 1997 (the "Stock Subscription
Agreement"), the Company agreed to sell, and A&M Investment Associates #3, LLC
("A&M #3"), an affiliate of A&M, agreed to buy at a purchase price of $6,340,000
($1,000,000 in cash from A&M #3's funds, plus a secured recourse promissory note
in the principal amount of $335,000 and a secured non-recourse promissory note
in the amount of $5,005,000 (collectively, the Promissory Notes), 1,100,000
shares of the common stock (the A&M Shares) (subject to adjustment upward or
downward to represent 10% of the sum of (i) the shares of common stock
ultimately issued under the Reorganization Plan plus (ii) the number of shares
of common stock issued to A&M #3). On December 10, 1998, the A&M Shares were
adjusted downward by 20,764, which reduced the total shares to A&M as of January
31, 1999 to 1,079,236. The Promissory Notes bear interest at 7% per annum during
the first four years and 11% per annum during the fifth through seventh years,
mature on January 31, 2004, and have no scheduled interest and principal
amortization until their maturity date. The Promissory Notes are secured by a
first priority pledge of the A&M Shares pursuant to a Pledge Agreement dated as
of January 31, 1997.
In addition, New Wherehouse and A&M #3 entered into a Non-Transferable
Stock Option Agreement dated as of January 31, 1997, (as amended, the "Stock
Option Agreement"), pursuant to which the Company issued to A&M #3 three
tranches of options to purchase shares of common stock (the A&M Options; and,
F-17
<PAGE> 51
WHEREHOUSE ENTERTAINMENT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
together with the A&M Shares, the "A&M" Securities) representing in the
aggregate the right to purchase an additional 10% of the shares of common stock
issued under the Reorganization Plan. The first tranche of options represents
the right to purchase 399,717 shares of common stock at an exercise price of
$8.80. The second tranche of options represents the right to purchase 399,717
shares of common stock at an exercise price of $10.66. The third tranche of
options represents the right to purchase 399,717 shares of common stock at an
exercise price of $12.97. The A&M Options are fully vested and all unexercised
A&M Options expire on January 31, 2003, subject to prior vesting or termination
as set forth in the Management Services Agreement. The A&M Options are subject
to upward adjustment on a quarterly basis as additional shares of common stock
related to the Reorganization are issued and are entitled to certain other
anti-dilution provisions as set forth in the Stock Option Agreement. The above
option amounts and exercise prices have been adjusted for anti-dilution effects
through January 31, 2000.
Under the Reorganization Plan, the Company issued three Tranches of
warrants to purchase shares of common stock (the "Warrants"). The Tranche A
warrants represent the right to purchase 576,000 shares of common stock at an
exercise price of $2.38 per share and have a five year maturity. The Tranche B
warrants represent the right to purchase 100,000 shares of common stock at an
exercise price of $9.00 per share and have a seven year maturity. The Tranche C
warrants represent the right to purchase 100,000 shares of common stock at an
exercise price of $11.00 per share and have a seven year maturity.
During April 1998, the Board of Directors adopted the Wherehouse 1998 Stock
Incentive Plan ("Stock Incentive Plan"), which was amended on September 22,
1998, to increase the number of shares available to 600,000. Under the
provisions of the plan, the Company may grant incentive and non-qualified stock
options and stock appreciation rights (SARs) to employees, officers and
directors at the discretion of the Board of Directors. Options granted under the
plan vest ratably over a five year period and expire ten years from the date of
the grant.
Non-qualified options are granted at an exercise price of no less than 85%
of fair market value at the date of the grant. Incentive options are granted at
no less than 100% (110% for holders of more than 10% of the voting stock) of the
fair market value at the date of the grant. During 2000, the Company granted
254,500 options to purchase shares of common stock to officers and employees at
$18 per share, an amount which exceeded the fair market value at the date of the
grant. There were no SARs granted during 2000. A summary of activity in the
Stock Incentive Plan is as follows:
<TABLE>
<CAPTION>
WEIGHTED AVERAGE
SHARES EXERCISE PRICE
------- ----------------
<S> <C> <C>
Options outstanding at February 1, 1998
Options granted at $12.00 - $18.00 per share............... 339,500 $ 13.60
Options cancelled..........................................
------- --------
Options outstanding at January 31, 1999.................... 339,500 13.60
Options granted at $18.00 per share........................ 254,500 18.00
Options cancelled.......................................... 182,000 15.51
------- --------
Options outstanding at January 31, 2000.................... 412,000 $ 15.52
======= ========
</TABLE>
At January 31, 2000, there were 38,820 options exercisable under the Stock
Incentive Plan. All options granted in 2000 under the Stock Incentive Plan were
at prices greater than the fair value of the Company's stock at the date of
grant and, accordingly, no compensation expense has been recognized.
F-18
<PAGE> 52
WHEREHOUSE ENTERTAINMENT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Had compensation expense for grants under the Stock Incentive Plan been
determined based on the fair value method of SFAS 123, the Company's net income
and earnings per share would not have been significantly different.
The pro forma compensation expense related to the fair value of options
issued was estimated using the Black-Scholes model with the following
assumptions: expected volatility -- none (minimum value method); risk
free-interest rate -- 5.51%; average life -- 6 years and expected dividends --
none. The weighted average fair value of options granted in 2000 and 1999 was $0
and $2.45, respectively.
On April 13, 2000, the Board of Directors approved a Stock Appreciation
Rights Plan whereby participants may be issued rights based on the increase in
the value of the Company's equity interest in CheckOut.com over a base value
(see Note 1).
11. EMPLOYEE BENEFITS
Employees' Savings Retirement Plan: In March 1992, the Company established
a tax qualified 401(k) Savings Retirement Plan (401(k) Plan). All employees who
have completed one year of service and at least 1,000 hours of service in that
year with the Company are eligible to join the 401(k) Plan on the first day of
each calendar quarter. All eligible employees may contribute from 1% to 10% of
their annual compensation on a pre-tax basis. The Company contributes to the
401(k) Plan based on employee contributions. Matching contributions made by the
Company vest 25% per year beginning with the employee's second year of
employment. The Company recognized expense of $386,000 in 2000, $223,000 in
1999, and $235,000 in 1998 for matching costs and administrative fees under the
401(k) Plan.
Employment Agreements: In connection with the Management Services Agreement
(see Note 10), certain specified executive services are provided to the Company
in exchange for annual fees, plus incentive fees up to $230,000, if certain
financial targets are achieved. Charges, including incentives, amounted to
$1,495,000, $1,364,000 and $953,000 during the years ended January 31, 2000,
1999 and 1998, respectively.
In the event that the Company's Chairman of the Board and Chief Executive
Officer under the Management Services Agreement is terminated other than for
cause (as defined in the Management Services Agreement), prior to October 14,
2000, the Management Services Agreement provides that (i) A&M #3 will have the
right to require the Company to purchase the shares of common stock and options
(whether or not vested), owned by A&M #3, and (ii) the Company will pay A&M cash
in a lump sum amount equal to $50,000 multiplied by the number of months
remaining from the time of termination to October 14, 2000. The price to be paid
by the Company in purchasing the shares of common stock and options to acquire
common stock owned by A&M #3 will depend on the fair market value (as defined in
the Management Services Agreement) of the common stock at the time of purchase.
Any payments made to A&M #3 in purchasing the shares of common stock and options
to acquire common stock from A&M #3 are required to be applied to reduce the
outstanding amounts under the Promissory Notes.
12. YEAR 2000 REMEDIATION COSTS
Non-recurring costs of $176,000 and $1,842,000 relating to the Company's
remediation of its computer systems to comply with Year 2000 readiness
requirements were recorded during Fiscal 2000 and 1999, respectively.
13. RELATED PARTIES
The Company paid a onetime fee of $938,000 to Cerberus Capital Management,
L.P., the beneficial owner of approximately 65% of the Company's common stock,
for a commitment to provide a bridge loan to finance the Acquisition (See Note
1) in the event that permanent financing was not in place at the time of the
Acquisition. This fee is included in interest expense in the Fiscal 1999
consolidated statement of operations.
F-19
<PAGE> 53
WHEREHOUSE ENTERTAINMENT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
14. QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)
The following is a summary of the quarterly results of operations for the
years ended January 31, 2000 and 1999:
<TABLE>
<CAPTION>
QUARTER ENDED
------------------------------------------------
APRIL 30 JULY 31 OCTOBER 31 JANUARY 31
-------- -------- ---------- ----------
<S> <C> <C> <C> <C>
2000
Total revenues.................................. $175,903 $183,501 $165,466 $241,021
Gross profit.................................... 60,352 66,924 63,727 79,292
Income from operations.......................... (4,626) 621 (2,081) 12,797
Net income (loss)............................... (3,685) (891) (2,426) 5,806
Net income per common share:
Basic......................................... (0.34) (0.08) (0.23) 0.54
Diluted....................................... (0.34) (0.08) (0.23) 0.52
Weighted average shares outstanding:
Basic......................................... 10,715 10,731 10,757 10,761
Diluted....................................... 10,715 10,731 10,757 11,069
1999
Total revenues.................................. $ 65,760 $ 70,304 $ 73,845 $270,550
Gross profit.................................... 27,607 28,265 29,000 85,900
Income from operations.......................... 2,338 2,673 313 8,006
Net income (loss)............................... 1,727 1,888 (218) 3,659
Net income per common share:
Basic......................................... 0.16 0.18 (0.02) 0.34
Diluted....................................... 0.15 0.16 (0.02) 0.32
Weighted average shares outstanding:
Basic......................................... 10,625 10,651 10,744 10,690
Diluted....................................... 11,210 11,696 10,744 11,552
</TABLE>
F-20
<PAGE> 54
SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTS
<TABLE>
<CAPTION>
ADDITIONS
BALANCE AT CHARGED TO
BEGINNING COSTS AND BALANCE AT
DESCRIPTION OF YEAR EXPENSES DEDUCTIONS(1) END OF YEAR
----------- ----------- ----------- ------------- -----------
<S> <C> <C> <C> <C>
Accumulated amortization deducted from video
rental inventory:
Company:
Year ended January 31, 2000.......... $ 990,000 $ 5,376,000 $ 5,483,000 $ 883,000
Year ended January 31, 1999(2)....... $10,143,000 $11,190,000 $20,343,000 $ 990,000
Year ended January 31, 1998.......... $21,113,000 $10,970,000 $10,143,000
</TABLE>
- ---------------
(1) Accumulated amortization on disposition of video rental tapes.
(2) Cost and related accumulated amortization for fully amortized inventory is
written off to salvage value during 1999.
F-21
<PAGE> 55
EXHIBIT INDEX
<TABLE>
<CAPTION>
SEQUENTIALLY
EXHIBIT NUMBERED
NUMBER DESCRIPTION PAGE
- ------- ----------- ------------
<C> <S> <C>
27.0... Financial Data Schedule
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> JAN-31-2000
<PERIOD-START> FEB-01-1999
<PERIOD-END> JAN-31-2000
<CASH> 4,531
<SECURITIES> 0
<RECEIVABLES> 7,794
<ALLOWANCES> 0
<INVENTORY> 247,800
<CURRENT-ASSETS> 280,711
<PP&E> 116,421
<DEPRECIATION> 34,171
<TOTAL-ASSETS> 413,683
<CURRENT-LIABILITIES> 232,968
<BONDS> 0
0
0
<COMMON> 89,508
<OTHER-SE> (6,763)
<TOTAL-LIABILITY-AND-EQUITY> 413,683
<SALES> 756,055
<TOTAL-REVENUES> 765,891
<CGS> 495,596
<TOTAL-COSTS> 263,408
<OTHER-EXPENSES> 176
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 7,796
<INCOME-PRETAX> (559)
<INCOME-TAX> 637
<INCOME-CONTINUING> (1,196)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (1,196)
<EPS-BASIC> (0.11)
<EPS-DILUTED> (0.11)
</TABLE>
