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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended December 31, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES AND
EXCHANGE COMMISSION
Commission File Number 0-23827
PC CONNECTION, INC.
(Exact name of registrant as specified in its charter)
Delaware 02-0497006
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
RT. 101A, 730 MILFORD ROAD
Merrimack, New Hampshire 03054
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (603) 423-2000
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__________________________________________________
Securities registered pursuant to Section 12(b) of the Act:
Common Stock, $.01 par value, Listed on NASDAQ
Securities registered pursuant to Section 12(g) of the Act: Common Stock
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 ____
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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. [ ]
The aggregate market value of the voting and non-voting stock held by non-
affiliates of the Registrant, based upon the closing price of the Registrant's
Common Stock as reported on the NASDAQ National Market on March 18, 1999, was
$49,347,000. Although directors and executive officers of the registrant were
assumed to be "affiliates" of the registrant for the purposes of this
calculation, this classification is not to be interpreted as an admission of
such status.
The number of outstanding shares of the Registrant's Common Stock on March 18,
1999 was 15,624,856.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the definitive Proxy Statement for the 1998 Annual Meeting of
Shareholders for the fiscal year ended December 31, 1998, which is to be filed
within 120 days of the end of the Company's fiscal year, are incorporated by
reference into Part III of this Form 10-K. The incorporation by reference herein
of portions of the Proxy Statement shall not be deemed to specifically
incorporate by reference the information referred to in Item 402(a) (8) of
Regulation S-K.
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PC CONNECTION, INC.
FORM 10-K ANNUAL REPORT
YEAR ENDED DECEMBER 31, 1998
TABLE OF CONTENTS
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Page
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PART I
ITEM 1. Business.............................................................. 2
ITEM 2. Properties............................................................ 9
ITEM 3. Legal Proceedings..................................................... 9
ITEM 4. Submission of Matters to a Vote of Security Holders................... 9
PART II
ITEM 5. Market for the Registrant's Common Stock and Related Stockholder
Matters.............................................................. 10
ITEM 6. Selected Financial and Operating Data................................ 11
ITEM 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations................................................ 12
ITEM 7A. Quantitative and Qualitative Disclosure About Market Risk............ 24
ITEM 8. Financial Statements and Supplementary Data.......................... 25
ITEM 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure............................................. 25
PART III
ITEM 10. Directors and Executive Officers of the Registrant................... 25
ITEM 11. Executive Compensation............................................... 25
ITEM 12. Security Ownership of Certain Beneficial Owners and Management....... 25
ITEM 13. Certain Relationships and Related Transactions....................... 25
PART IV
ITEM 14. Exhibits, Financial Statements, and Reports on Form 8-K............... 26
SIGNATURES....................................................................... 28
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PART I
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Item 1. Business
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This section contains forward-looking statements based on management's current
expectations, estimates and projections about the industry in which the Company
operates, management's beliefs and certain assumptions made by management. All
statements, trends, analyses and other information contained in this report
relative to trends in net sales, gross margin and anticipated expense levels, as
well as other statements, including words such as "anticipate", "believe",
"plan", "estimate" and "intend" and other similar expressions, constitute
forward-looking statements. These forward-looking statements involve risks and
uncertainties, and actual results may differ materially from those anticipated
or expressed in such statements. Potential risks and uncertainties include,
among others, those set forth under the caption "Factors That May Affect Future
Results and Financial Condition" included in Item 7 "Management's Discussion and
Analysis of Financial Conditions and Results of Operations". Particular
attention should be paid to the cautionary statements involving the industry's
rapid technological change and exposure to inventory obsolescence, availability
and allocations of goods, reliance on vendor support and relationships,
continued sales of Mac products, competitive risks, pricing risks, Year 2000
compliance issues, and economic risks. Except as required by law, the Company
undertakes no obligation to update any forward-looking statement, whether as a
result of new information, future events or otherwise. Readers, however, should
carefully review the factors set forth in other reports or documents that the
Company files from time to time with the Securities and Exchange Commission
("SEC").
GENERAL
PC Connection, Inc., a Delaware corporation ("PC Connection" or "the Company"),
is a direct marketer of brand-name personal computers and related peripherals,
software, accessories and networking products. The Company's primary target
customers are small and medium-sized businesses ("SMBs") comprised of 20 to
1,000 employees. PC Connection sells its products through a combination of
targeted direct mail catalogs, outbound telemarketing, its Internet Web site and
advertisements on the Internet and in selected computer magazines. The Company
offers a broad selection of approximately 25,000 products targeted for business
use at competitive prices, including products from Compaq, Hewlett-Packard,
Toshiba, IBM, Microsoft, Sony, Acer, Fujitsu, Canon, Iomega and Apple. Net sales
of Microsoft Windows or MS-DOS based personal computers ("PCs") and compatible
products were approximately 80% of net sales in 1998. The Company's most
frequently ordered products are carried in inventory and are typically shipped
to customers the same day that the order is received.
Since its founding in 1982, the Company has focused on serving customer needs by
providing innovative, reliable and timely customer service and technical
support, and offering an extensive assortment of branded products, through
knowledgeable, well-trained sales and support teams. The effectiveness of this
strategy is reflected in the recognition accorded the Company, including the
Company's receipt of the PC World "World Class Award for Best Mail-Order
Company" in 1997, as voted by its readers, for the seventh time in the past nine
years, and receipt of the highest ranking of only two direct resellers included
in the "100 Most Influential Companies in the Computer Industry" by PC Magazine
in 1997 and 1998.
The Company believes that its consistent customer focus has also resulted in the
development of strong brand name recognition and a broad and loyal customer
base. At December 31 1998, the Company's mailing list consisted of approximately
2,300,000 customers and potential customers, of which approximately 680,000 had
purchased products from the Company within the last twelve months. Approximately
68% of the Company's net sales in the year ended December 31, 1998 were made to
customers who had previously purchased products from the Company. The Company
believes it has also developed strong relationships with vendors, resulting in
favorable product allocations and marketing assistance.
Commencing in late 1995, the Company significantly increased its business-to-
business marketing efforts, targeting SMBs, a rapidly growing sector of the
personal computer market that the Company believes is particularly receptive to
purchases from direct marketers. To service this growing part of its business
more effectively, the Company has increased the number of its outbound
telemarketing account managers from 155 at December 31, 1997 to 200 at December
31, 1998. This growth includes 90 new account managers with less than 12 months
of outbound telemarketing experience with the Company.
The Company's two major catalogs are PC Connection(R), focused on PCs and
compatible products, and MacConnection(R), focused on Apple Macintosh personal
computers ("Macs") and compatible products. With colorful
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illustrations, concise product descriptions, relevant technical information,
along with customer service benefits and toll-free telephone numbers for
ordering, the Company's catalogs are recognized as a leading source for personal
computer hardware, software and other related products. The Company distributed
approximately 42 million catalogs during the year ended December 31, 1998.
The Company also markets its products and services through its Internet Web
sites, www.pcconnection.com and www.macconnection.com which provide customers
and prospective customers with Company and product information and enables
customers to place electronic orders for all of the Company's products. Internet
sales processed directly online during the fourth quarter of 1998 were $10.6
million, or 5% of that quarter's net sales, representing a 68% sequential
increase over the third quarter of 1998. Online sales in the fourth quarter of
1998 increased 205% over the comparable quarter in 1997. For the full year 1998,
these sales were $29.1 million, or 4% of net sales, compared to less than 1% in
1997. These results represent a 455% increase in annual Internet sales over
1997.
Fourth quarter 1998 sales sourced from the Company's web site, including orders
processed online and web-generated phone orders, were approximately $23.0
million, exceeding 10% of net sales and representing a sequential increase of
65% over the third quarter of 1998. For the full year 1998, this sales channel
exceeded 8.5% of net sales or approximately $62.7 million, compared to
approximately 3.5% of net sales or approximately $19.0 million for the full year
of 1997.
The Company believes that the reason its e-commerce business is growing so
rapidly is that it offers customers the advanced tools they need to quickly make
educated purchase decisions. Working closely with vendors, the Company believes
it is able to provide one of the broadest, leading-edge technology selections in
the industry. By leveraging its merchandising expertise, catalog mailings, and
established infrastructure, the Company has built an Internet business that has
been profitable from the start -- and one that complements all other sales
channels.
INDUSTRY BACKGROUND
According to industry data published by Merrin in May 1997, United States sales
of personal computers and related products were $77.8 billion in 1996 and are
expected to be $138.2 billion in 2000, representing a compound annual growth
rate of 15.4%. The Company believes that the direct marketing channel will be
among the fastest growing distribution channels for the domestic personal
computer and related products industry. As a leading participant in the direct
marketing channel, the Company believes it is well positioned to capitalize on
the expected growth in the industry.
The Company believes that sales of personal computers and related products have
increased principally as a result of (i) technological advances leading to
significant improvements in performance, functionality and ease of use; (ii)
lower prices and improved price/performance made possible by technological
advances and driven by intense competition among manufacturers, retailers and
resellers; (iii) increased dependence upon PCs by businesses, educational
institutions and governments; and (iv) the emergence of industry standards and
component commonality. The Company believes that the higher projected growth for
the direct marketing channel is primarily based on (i) increased user
familiarity with PCs, coupled with the emergence of industry standards and
component commonality, and the resultant increase in customer comfort with
purchasing products without the need to "touch and feel" them, and (ii)
broader product offerings, lower prices and greater purchasing convenience that
direct marketers generally provide over traditional retail stores and local
dealers.
Users of personal computers range from large corporate entities focused on
business applications to individual consumers focused primarily on personal
productivity, education and entertainment applications. Historically, large
corporate resellers have served the needs of FORTUNE 1000 companies and
retailers have competed to serve the consumer market. SMBs, the Company's core
target customers, are being served by a wide range of suppliers, including
direct marketers, large retailers, and small, independent value added resellers
(''VARs'') and local dealerships. The Company believes that the direct field
sales model used by large resellers is not an efficient method of reaching SMBs,
and that VARs, local dealerships and retailers are unable to match the high
level of customer service, extensive array of products, low prices and
efficiencies afforded to SMBs by direct marketers. Intense competition for
market share has led manufacturers of PCs and related products to use all
available channels to distribute products, including direct marketers. Although
certain manufacturers that have traditionally used resellers to distribute their
products have established or attempted to establish their own direct marketing
operations, including sales through the Internet, to the Company's knowledge,
only one has replaced its traditional indirect selling channels as the principal
means of distribution. Accordingly, the Company believes these manufacturers
will continue to provide favorable product allocations and marketing support to
third-party direct marketers, such as the Company
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The Company believes new entrants to the direct marketing channel must overcome
a number of significant barriers to entry, including the time and resources
required to build a customer base of meaningful size, quality and responsiveness
for cost-effective circulation; costs of developing the information and
operating infrastructure required by direct marketers; the advantages enjoyed by
larger and more established competitors in terms of purchasing and operating
efficiencies; the difficulty of building relationships with manufacturers to
achieve favorable product allocations, attractive pricing terms and cooperative
advertising funds; and the difficulty of identifying and recruiting management
personnel with significant direct marketing experience in the industry.
BUSINESS STRATEGIES
The Company's objective is to become the leading supplier of personal computers
and related products and services to its customers. The key elements of the
Company's business strategies include:
. AWARD-WINNING CUSTOMER SERVICE BEFORE, DURING AND AFTER THE SALE. The
Company believes that it has earned a reputation for providing superior
customer service by consistently focusing on customer needs and service
innovation. The Company has won PC World's ''World Class Award for Best
Mail Order Company'' in seven out of the last nine years. The Company
delivers value to its customers through high quality service and technical
support provided by knowledgeable, well-trained personnel; efficient and
innovative delivery programs; in-house servi ce capabilities; competitive
prices; and reasonable return policies.
. STRONG BRAND NAME AND CUSTOMER FRANCHISE. Since its founding in 1982, the
Company has built a strong brand name and customer franchise. In July 1998
and 1997, the Company was one of only two direct resellers included in the
''100 Most Influential Companies in the Computer Industry'' by PC Magazine.
The Company's mailing list includes approximately 2,300,000 names, of which
approximately 680,000 have purchased products from the Company during the
last 12 months.
. BROAD PRODUCT SELECTION AT COMPETITIVE PRICES. The Company offers its
customers a wide assortment of personal computers and related products at
competitive price points. The Company's merchandising programs feature
products that provide customers with aggressive price/performance and the
convenience of one-stop shopping for their personal computer and related
needs.
. LONG-STANDING VENDOR RELATIONSHIPS. The Company has a history of strong
relationships with vendors, being among the first direct marketers
qualified by manufacturers to market systems to end users. The Company
provides its vendors with information concerning customer preferences and
an efficient channel for the advertising and distribution of their
products.
GROWTH STRATEGIES
The Company's growth strategies are to increase penetration of its existing
customer base, broaden its product offerings and expand its customer base. The
key elements of its strategies include:
. INCREASE OUTBOUND TELEMARKETING. The Company plans to continue to increase
significantly the number of its corporate outbound account managers and
assign them to a higher percentage of the Company's customers. Outbound
account managers focus exclusively on serving specifically assigned
customers and seek to develop a close relationship with those customers by
identifying and responding to their needs for personal computers and
related products.
. EXPAND PRODUCT OFFERINGS. The Company continually evaluates personal
computers and related products focused on business users, adding new
products as they become available or in response to customer demand. The
Company works closely with vendors to identify and source first-to-market
product offerings at aggressive price points, and believes that expansion
of its corporate outbound marketing program will enhance its access to such
product offerings.
. TARGET CUSTOMER SEGMENTS. Through targeted mailings, the Company seeks to
expand the number of its active customers and generate additional sales
from its existing customers on a cost-effective basis. The Company has
developed specialty catalogs, as well as standard catalogs with special
cover pages, featuring product offerings
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designed to address the needs of specific customer segments, including new
product inserts targeted to purchasers of graphics, server and networking
products.
. EXPAND ELECTRONIC COMMERCE CHANNEL. The Company's Internet Web-based
catalog provides detailed product descriptions, product search capabilities
and on-line order processing. The Company believes that an increasing
number of customers and potential new customers will elect to shop
electronically in the future and therefore it plans additional investments
to further improve the on-line sales capabilities, customer service and
product information and support available on its Internet Web site.
SERVICE AND SUPPORT
Since its founding in 1982, the Company's primary objective has been to provide
products that meet the demands and needs of customers and to supplement those
products with up-to-date product information and excellent customer service and
support. The Company believes that offering its customers superior value,
through a combination of product knowledge, consistent and reliable service and
leading products at competitive prices, differentiates it from other direct
marketers and has become the foundation for developing a broad and loyal
customer base. The Company has introduced programs such as Toll-Free Technical
Support in 1982, the Everything Overnight(R) delivery program in 1988, Money
Back Guarantees in 1989, One-Minute Mail Order(R) in 1991 and its On-line
Superstore in 1997.
The Company invests in training programs for its service and support personnel,
with an emphasis on putting customer needs and service first. Customer service
representatives are available 24 hours a day, seven days a week to handle
orders, product information and general inquiries (including the most frequently
asked technical support questions).
The Company provides toll-free technical support from 9 a.m. through 5 p.m.,
eastern time, Monday through Friday. Product support technicians assist callers
with questions concerning compatibility, installation, determination of defects
and more difficult questions of product use. The product support technicians
authorize customers to return defective or incompatible products to either the
manufacturer or to the Company for warranty service. In-house technicians are
authorized for both warranty and non-warranty repair on most major systems and
hardware products.
Using the Company's customized information system, the Company, upon receipt of
customer orders, sends them to its distribution center for processing
immediately after they are credit approved. Through its Everything Overnight(R)
service, the Company guarantees that all orders accepted up until 2:45 a.m.
(until midnight on most custom-configured systems) will be shipped for overnight
delivery via Airborne Express. The Company configures approximately half of the
computer systems it sells. Configuration typically consists of the installation
of memory, accessories and/or software.
MARKETING AND SALES
The Company sells its products through the direct marketing channel, primarily
to SMBs. The Company's marketing objectives are to be the primary supplier of
personal computers and related products to its existing customers and to expand
its customer base. The Company employs multiple marketing approaches to reach
existing and prospective customers, including outbound telemarketing, catalogs
and inbound telesales, Web and print media advertising, and specialty marketing
programs. All of its marketing approaches emphasize the Company's broad product
offerings, fast delivery, customer support, competitive pricing and multiple
payment options.
The Company believes that its ability to establish and maintain long-term
customer relationships and to encourage repeat purchases is largely dependent on
the strength of its telemarketing personnel and programs. Because its customers'
primary contact with the Company is through its telemarketers, the Company is
committed to maintaining a qualified, knowledgeable and motivated sales staff
with its principal focus on customer service.
Outbound Telemarketing. The Company seeks to build loyal relationships with its
potential high-volume customers by assigning them to individual account
managers. The Company believes that customers respond favorably to a one-on-one
relationship with personalized, well-trained account managers. Once established,
these one-on-one relationships are maintained and enhanced through frequent
telecommunications and targeted catalogs and other marketing materials designed
to meet each customer's specific computing needs.
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Account managers focus exclusively on their managed accounts and on outbound
sales calls to prospective customers. The Company generally recruits account
managers from its inbound telemarketing staff and from other sales
organizations. All account managers must successfully complete a one-month
training program, which includes instruction in the Company's product offerings
and order management systems, as well as selling skills and account management.
Thereafter, new account managers are assigned to sales teams where they receive
intensive coaching and supervision by experienced supervisors, and periodic
refresher training from the sales training staff. Additional training and
product education programs are provided continuously through vendor supported
programs. The Company pays its account managers a base annual salary plus
incentive compensation which is tied to sales volume and gross profit dollars
produced. The Company imposes specific increases in sales targets for incentive
pay. Account managers historically have significantly increased productivity
after approximately 12 months of training and experience. At December 31, 1998,
the Company employed 200 account managers, including 90 with less than 12 months
of outbound telemarketing experience with the Company.
Catalogs and Inbound Telesales. The Company's two principal catalogs are PC
Connection(R) for the PC market and MacConnection(R) for the Mac market. The
Company publishes twelve editions of each of these catalogs annually. The
Company distributes catalogs to purchasers on its in-house mailing list as well
as to other prospective customers. It sends its two principal catalogs to its
best customers twice each month. The initial mailing each month, labeled an
''early edition,'' is sent simultaneously to the best customers throughout the
United States and features special offers, such as first-to-market product
offerings, highlighted on the cover. The Company also includes a catalog with
each order shipped.
In addition, the Company mails specialty catalogs or customized versions of its
catalogs to selected customers. The Company distributes specialty catalogs to
educational and governmental customers and prospects on a periodic basis. The
Company also distributes its monthly catalogs customized with special covers and
inserts, offering a wider assortment of special offers on products in specific
areas (such as graphics, server/netcom and mobile computing) or for specific
customers (such as developers). These customized catalogs are distributed to
targeted customers included in the Company's customer database using past
identification or purchase history, as well as to outside mailing lists.
Each catalog is printed with full-color photographs, detailed product
descriptions and manufacturer specifications. The catalogs are primarily created
by in-house designers and production artists on a computer-based desktop
publishing system. The in-house preparation of most portions of the catalog
expedites the production process, providing for greater flexibility and
creativity in catalog production, allowing for last-minute changes in pricing
and format, and resulting in significant cost savings. After completion of the
design and preparation, the catalogs are outsourced for printing by commercial
printers.
The Company employs inbound sales representatives to answer customer telephone
calls generated by the Company's catalog, magazine and other advertising
programs and to assist customers in purchasing decisions, process product orders
and respond to customer inquiries on order status, product pricing and
availability. Since 1995, the Company has increased the training of inbound
telemarketing personnel and provided incentive compensation based upon sales
productivity. The Company employs a flexible staffing model which allows it to
maintain excellent customer service during periods of peak demand while
maintaining an efficient cost structure. The Company regularly monitors calls
for quality assurance purposes. It has been a pioneer in using caller
identification for the instant retrieval of customer records. Employing
proprietary information systems, sales representatives can quickly access
customer records which detail purchase history and billing and shipping
information, expediting the ordering process. In addition to receiving orders
through the Company's toll-free numbers, orders are also received via fax, mail
and electronic mail.
Advertising. The Company has historically advertised in selected personal
computer and trade magazines, such as PC Magazine, PC World and Macworld. These
advertisements provide product descriptions, manufacturers' specifications and
pricing information, and emphasize the Company's service and support features.
Additionally, the PC Connection(R) logo and telephone number are included in
promotions by selected manufacturers.
www.pcconnection.com. In November 1996, the Company launched an Internet Web
site, including a complete product catalog. In July 1997, the Company began
accepting electronic orders through its Internet Web site. Product descriptions
and prices of all products are provided on-line, with full, updated information
for over 12,000 items and on screen images available for over 6,000 items. The
Company offers, and continuously updates, selected product offerings and other
special buys. The Company believes that in the future its Internet Web site will
be an important sales source and communication tool for improving customer
service.
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Specialty Marketing. The Company's specialty marketing activities include
direct mail, other inbound and outbound telemarketing services, bulletin board
services, ''fax on demand'' services, package inserts, fax broadcasts and
electronic mail. The Company also markets call-answering and fulfillment
services to certain of its product vendors such as Iomega Corporation.
Customers. The Company currently maintains an extensive database of customers
and prospects aggregating approximately 2,300,000 names. During the year ended
December 31, 1998, the Company received orders from approximately 680,000
customers. Approximately 68% of the Company's net sales in the year ended
December 31, 1998 were made to customers who had previously purchased products
from the Company.
PRODUCTS AND MERCHANDISING
The Company continuously focuses on expanding the breadth of its product
offerings. The Company currently offers approximately 25,000 personal computer
products designed for business applications from over 1,000 manufacturers,
including hardware and peripherals, accessories, networking products and
software. The Company offers both PCs and Macs and related products. In 1998,
sales of PCs and related products were approximately 80% of the Company's net
sales. The Company selects the products that it sells based upon their
technology and effectiveness, market demand, product features, quality, price,
margins and warranties. As part of its merchandising strategy, the Company also
offers new types of products related to PCs, such as digital cameras.
Computer systems/memory is the fastest growing product category, representing
43.7% of net sales in the year ended December 31, 1998, up from 42.2% and 34.8%
of net sales in the years ended December 31, 1997 and 1996, respectively. The
growth in system sales has been driven primarily by increased outbound sales
efforts to business customers and the aggressive sourcing and merchandising of
new computer systems lines and products.
The following table sets forth the Company's percentage of net sales (in
dollars) of computer systems/memory, peripherals, software, and networking and
communications products during the years ended December 31, 1998, 1997 and 1996.
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PERCENTAGE OF NET SALES
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Year Ended December 31,
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PRODUCT CATEGORIES 1998 1997 1996
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Computer Systems/Memory........................ 43.7% 42.2% 34.8%
Peripherals.................................... 34.5 34.3 38.0
Software....................................... 14.0 15.8 17.6
Networking and Communications . 7.8 7.7 9.6
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Total....................................... 100.0% 100.0% 100.0%
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The Company offers a limited 30-day money back guarantee for most unopened
products and selected opened products, although selected products are subject to
restocking fees. Substantially all of the products marketed by the Company are
warranted by the manufacturer. The Company generally accepts returns directly
from the customer and then either credits the customer's account or ships the
customer a similar product from the Company's inventory.
PURCHASING AND VENDOR RELATIONS
For the year ended December 31, 1998, the Company purchased approximately 62% of
its products directly from manufacturers and the balance from distributors and
aggregators, all of which shipped products directly to the Company's
distribution facility in Wilmington, Ohio. During the years ended December 31,
1998 and 1997, product purchases from Ingram Micro, the Company's largest
vendor, accounted for approximately 20% and 28%, respectively, of the Company's
total product purchases. No other vendor accounted for more than 10% of the
Company's total product purchases. The Company believes that alternative sources
for products obtained from Ingram Micro are available.
Many product suppliers reimburse the Company for advertisements or other
cooperative marketing programs in the Company's catalogs or Company
advertisements in personal computer magazines that feature a manufacturer's
product. Reimbursements may be in the form of discounts, advertising allowances
and/or rebates. The Company also receives reimbursements from certain vendors
based upon the volume of purchases or sales of the vendors' products by the
Company. Historically, the Company received price protection from its vendors on
a majority of the products it sold.
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Protection takes the form of rebates or credits against future purchases. The
Company may participate in the future in end-of-life-cycle and other special
purchases which may not be eligible for price protection.
The Company believes that it has excellent relationships with vendors, generally
pays vendors within stated terms and takes advantage of all appropriate
discounts. The Company believes that because of its volume purchases it is able
to obtain product pricing and terms that are competitive with those available to
other major direct marketers. Although brand names and individual product
offerings are important to the Company's business, the Company believes that
competitive sources of supply are available in substantially all of the
merchandise categories carried by the Company.
DISTRIBUTION
At its approximately 140,000 square foot distribution and fulfillment complex in
Wilmington, Ohio, the Company receives and ships inventory, configures computer
systems and processes returned products. Orders are transmitted electronically
from the Company's New Hampshire sales facilities to its Wilmington distribution
center after credit approval, where packing documentation is printed
automatically and order fulfillment takes place. Through its Everything
Overnight(R) service, the Company guarantees that all orders accepted up until
2:45 a.m. (until midnight on custom-configured systems) will be shipped for
overnight delivery via Airborne Express. It ships approximately 75% of its
orders through Airborne Express. Upon request, orders may also be shipped by
other common carriers.
MANAGEMENT INFORMATION SYSTEMS
The Company uses management information systems, principally comprised of
applications software running on IBM AS/400 and RS6000 computers and Microsoft
NT-based servers, which the Company has customized for its use. These systems
permit centralized management of key functions, including order taking and
processing, inventory and accounts receivable management, purchasing, sales and
distribution, and the preparation of daily operating control reports on key
aspects of the business. The Company also operates advanced telecommunications
equipment to support its sales and customer service operations. Key elements of
the telecommunications systems are integrated with the Company's computer
systems to provide timely customer information to sales and service
representatives, and to facilitate the preparation of operating and performance
data. The Company believes that its customized information systems enable the
Company to improve its productivity, ship customer orders on a same-day basis,
respond quickly to changes in its industry and provide high levels of customer
service.
The Company's success is dependent in large part on the accuracy and proper use
of its information systems, including its telephone systems, to manage its
inventory and accounts receivable collections, to purchase, sell and ship its
products efficiently and on a timely basis, and to maintain cost-efficient
operations. The Company expects to continually upgrade its information systems
to more effectively manage its operations and customer database. The Company
recently replaced its order management and fulfillment software with new
software and converted its principal computer equipment to new IBM AS400
platform systems, both of which are better suited to the Company's expected
scale of operations and are designed to be Year 2000 compliant.
COMPETITION
The direct marketing and sale of personal computers and related products is
highly competitive. PC Connection competes with other direct marketers of
personal computers and related products, including CDW Computer Centers, Inc.,
Insight Enterprises, Inc. and Micro Warehouse, Inc. The Company also competes
with certain product manufacturers that sell directly to customers, such as Dell
Computer Corporation and Gateway, Inc., and more recently Compaq, IBM and Apple;
distributors that sell directly to certain customers, such as MicroAge, Inc. and
Vanstar Corporation; various cost-plus aggregators, franchisers, and national
computer retailers, such as CompUSA, Inc., and companies with more extensive
Internet Web sites and commercial on-line networks. Additional competition may
arise if other new methods of distribution, such as broadband electronic
software distribution, emerge in the future.
The Company competes not only for customers, but also for favorable product
allocations and cooperative advertising support from product manufacturers.
Several of the Company's competitors are larger and have substantially greater
financial resources than the Company.
The Company believes that price, product selection and availability, and service
and support are the most important competitive factors in its industry.
8
<PAGE>
INTELLECTUAL PROPERTY RIGHTS
The Company conducts its business under the marks PC Connection(R) and
MacConnection(R) and their related logos. Other Company trademarks and service
marks include Everything Overnight(R), One-Minute Mail Order(R), PC & Mac
Connection(R), Systems Connection(R), The Connection(R), Raccoon Character(R),
Service Connection(TM), Graphics Connection(TM), and Memory Connection(TM). The
Company intends to use and protect these and its other marks, as it deems
necessary. The Company believes its trademarks and service marks have
significant value and are an important factor in the marketing of its products.
The Company does not maintain a traditional research and development group, but
works closely with computer product manufacturers and other technology
developers to stay abreast of the latest developments in computer technology,
both with respect to the products it sells and the products it uses to conduct
its business.
EMPLOYEES
As of December 31, 1998, the Company employed 1,046 persons, of whom 449 were
engaged in sales related activities, 80 were engaged in providing customer
service and support, 331 were engaged in purchasing, marketing and distribution
related activities, 59 were engaged in the operation and development of
management information systems, and 127 were engaged in administrative and
accounting functions. The Company considers its employee relations to be good.
The Company's employees are not represented by a labor union, and it has
experienced no work stoppages since inception.
================================================================================
ITEM 2. PROPERTIES
================================================================================
In November 1997, the Company entered into a fifteen year lease for a new
corporate headquarters and telemarketing center located at Route 101A, 730
Milford Road, Merrimack, New Hampshire 03054-4631, with an affiliated entity,
related to the Company through common ownership. The Company occupied this
facility upon completion of construction in late November 1998, and the lease
payments commenced in December 1998. The Company also leases 140,000 square feet
in two facilities in Wilmington, Ohio, which houses its distribution and order
fulfillment operations. The Company also operates telemarketing centers in
Dover, Hudson, and Keene, New Hampshire. While the Company believes that its
existing distribution facilities in Wilmington, Ohio will be sufficient to
support the Company's anticipated needs through the next twelve months, it is
evaluating additional and/or alternative facilities for distribution to support
future growth.
================================================================================
ITEM 3. LEGAL PROCEEDINGS
================================================================================
The Company currently is not a party to any material legal proceedings, other
than ordinary routine litigation incidental to the business.
================================================================================
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
================================================================================
There were no matters submitted during the fourth quarter of 1998 to a vote of
securitity holders.
EXECUTIVE OFFICERS
The executive officers of the Company and their ages as of March 18, 1998 are as
follows:
<TABLE>
<CAPTION>
NAME AGE POSITION
- ---- --- --------
<S> <C> <C>
Patricia Gallup 44 Chairman of the Board and Chief Executive Officer
David Hall 49 Vice Chairman of the Board
Wayne L. Wilson. 50 President and Chief Operating Officer
Robert F. Wilkins 37 Senior Vice President of Sales and Marketing
John L. Bomba, Jr. 45 Vice President of Information Services and Chief
Information Officer
Mark A. Gavin 37 Vice President of Finance and Chief Financial Officer
</TABLE>
9
<PAGE>
PATRICIA GALLUP is a co-founder of the company and has served as Chairman of the
Board and Chief Executive Officer of the Company since January 1998. From
September 1995 to January 1998, Ms. Gallup served as the Chairman of the Board,
President and Chief Executive Officer of the Company. From September 1994 to
September 1995, she served as Chairman of the Board and Chief Executive Officer
of the Company. From August 1990 to September 1994, Ms. Gallup served as the
Company's President and Chief Executive Officer.
DAVID HALL is a co-founder of the Company and has served as Vice Chairman of the
Board since November 1997. From June 1997 to November 1997, Mr. Hall served as
the Vice Chairman of the Board, Executive Vice President and Treasurer of the
Company. From February 1995 to June 1997, Mr. Hall served as the Company's Vice
Chairman of the Board and Executive Vice President. From March 1991 to February
1995, he served as the Executive Vice President of the Company.
WAYNE L. WILSON has served as President and Chief Operating Officer of the
Company since January 1998 and Chief Financial Officer from January 1998 to
March 1998. From January 1996 to January 1998, Mr. Wilson served as Senior Vice
President, Chief Operating Officer and Chief Financial Officer of the Company.
From August 1995 to January 1996, he served as Senior Vice President of Finance
and Chief Financial Officer of the Company. Prior to joining the Company, Mr.
Wilson was a partner in the accounting and consulting firm of Deloitte & Touche
LLP from June 1986 to August 1995.
ROBERT F. WILKINS has served as Senior Vice President of Merchandising and
Product Management of the Company since January 1998. From December 1995 to
January 1998. Mr. Wilkins served as Vice President of Merchandising and Product
Management of the Company. From September 1994 to December 1995 he was a
consultant to the Company and certain of its affiliates. From February 1990 to
September 1994, Mr. Wilkins served as President of Mac's Place.
JOHN L. BOMBA, JR. has served as Vice President of Information Services and
Chief Information Officer of the Company since May 1997. From May 1994 to April
1997, Mr. Bomba served as Director of Worldwide Information Systems for Micro
Warehouse, Inc. Prior to May 1994; he served as Director of Professional
Services for Innovative Information Systems, Inc.
MARK A. GAVIN has served as Vice President of Finance and Chief Financial
Officer of the Company since March 1998. Prior to joining PC Connection, Mr.
Gavin held the position of Executive Vice President and Chief Operating Officer
at CFX Corporation, a bank holding company in Keene, New Hampshire. Prior to
CFX, Mr. Gavin worked as a Manager for Ernst & Young, LLP.
PART II
================================================================================
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER
MATTERS
================================================================================
Market Information
- ------------------
On March 6, 1998, the Company closed its initial public offering of 3,593,750
shares (including 468,750 shares issued upon the exercise of an underwriters'
overallotment option) of Common Stock (the "Offering") at an offering price of
$17.50 per share.
The Company's Common Stock is traded on the Nasdaq National Market under the
symbol "PCCC". The bid price information included herein is derived from the
Nasdaq Monthly Statistical Report. This report represents quotations by dealers,
may not reflect applicable markups, markdowns or commissions, and does not
necessarily represent actual transactions.
<TABLE>
<CAPTION>
Common Stock
High Bid Low Bid
---------------------------
<S> <C> <C>
Calendar Year 1998
First Quarter $22 1/8 $18 5/8
Second Quarter 22 1/4 12
Third Quarter 25 3/4 9 3/4
Fourth Quarter 40 6
</TABLE>
As of March 18, 1999, there were 15,624,856 shares outstanding of the Common
Stock of the Company held by approximately 70 stockholders of record.
10
<PAGE>
================================================================================
ITEM 6. SELECTED FINANCIAL AND OPERATING DATA
================================================================================
The following selected financial and operating data should be read in
conjunction with the Company's Financial Statements and the Notes thereto, and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" appearing elsewhere herein. The selected data presented below under
the captions "Statement of Operations Data" and "Balance Sheet Data" for each of
the years in the five-year period ended December 31, 1998 are derived from the
audited financial statements of the Company. The Company's financial statements
as of December 31, 1997 and 1998 and for each of the years in the three-year
period ended December 31, 1998 and the independent auditors' report thereon, are
included elsewhere herein:
<TABLE>
<CAPTION>
Year Ended December 31,
-------------------------------------------------------------------------
1998 1997 1996 1995 1994
-------------------------------------------------------------------------
(dollars in thousands, except per share and selected operating data)
<S> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Net sales $ 732,370 $ 550,575 $ 333,322 $ 252,217 $ 196,659
Cost of sales 639,096 474,609 282,117 211,299 165,957
----------- ----------- ----------- ----------- -----------
Gross profit 93,274 75,966 51,205 40,918 30,702
Selling, general and administrative expenses 68,521 56,596 43,739 38,373 32,653
Additional stockholder/officer compensation/(1)/ 2,354 12,130 1,259 - -
----------- ----------- ----------- ----------- -----------
Income (loss) from operations 22,399 7,240 6,207 2,545 (1,951)
Interest expense (415) (1,355) (1,269) (1,296) (594)
Other, net 565 (42) 70 62 80
----------- ----------- ----------- ----------- -----------
Income (loss) before income taxes 22,549 5,843 5,008 1,311 (2,465)
Income tax benefit (provision)/(2)/ (3,905) (639) (252) (38) 124
----------- ----------- ----------- ----------- -----------
Net income (loss) $ 18,644 $ 5,204 $ 4,756 $ 1,273 $ (2,341)
=========== =========== =========== =========== ===========
PRO FORMA DATA/(3)/:
Net income $ 15,272 $ 10,890
=========== ===========
Basic net income per share $1.01 $.79
=========== ===========
Diluted net income per share $.98 $.76
=========== ===========
SELECTED OPERATING DATA:
Active customers/(4)/ 684,000 510,000 424,000 353,000 295,000
Catalogs distributed 42,150,000 33,800,000 18,600,000 16,800,000 16,900,000
Orders entered(5) 1,510,000 1,252,000 910,000 854,000 803,000
Average order size(5) $ 580 $ 524 $ 453 $ 346 $ 282
</TABLE>
<TABLE>
<CAPTION>
December 31,
-----------------------------------------------------------------------
1998 1997 1996 1995 1994
-----------------------------------------------------------------------
(dollars in thousands)
<S> <C> <C> <C> <C> <C>
BALANCE SHEET DATA:
Working capital $ 53,768 $ 18,907 $ 14,622 $ 10,994 $ 2,770
Total assets 164,510 105,442 77,358 49,661 53,830
Short-term debt 123 29,568 13,057 4,933 6,106
Long-term debt (less current maturities):
Capital lease obligations 7,081 - - - -
Term loan - 3,250 4,250 5,000 -
Total stockholders' equity 69,676 24,120 18,043 13,057 11,687
</TABLE>
(1) Represents amounts accrued or distributed in excess of aggregate annual base
salaries approved by the Board of Directors and generally represents
Company-related federal income tax obligations payable by the stockholders.
(2) For all periods prior to March 6, 1998, the Company had been an S
Corporation and, accordingly, had not been subject to federal income taxes.
(3) The following pro forma adjustments have been made to the historical results
of operations to make the pro forma presentation comparable to what would
have been reported had the Company operated as a C Corporation for 1998 and
1997:
(i) Elimination of stockholder/officer compensation in excess of aggregate
annual base salaries of $600 in effect during 1998 in accordance with
employment agreements; and
(ii) Computation of income tax expense assuming an effective tax rate of
approximately 39% (see Note 9 to the financial statements) and after
adjusting stockholder/officer compensation expense described in (i)
above.
(4) Represents estimates of all customers included in the Company's mailing list
who have made a purchase within the last twelve month period.
(5) Does not reflect cancellations or returns.
11
<PAGE>
================================================================================
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
================================================================================
The following discussion and analysis of the Company's financial condition and
results of operations should be read in conjunction with the Company's financial
statements.
The following Management's Discussion and Analysis of Financial Condition and
Results of Operations contains forward-looking statements based on management's
current expectations, estimates and projections about the industry in which the
Company operates, management's beliefs and certain assumptions made by
management. All statements, trends, analyses and other information contained in
this report relative to trends in net sales, gross margin and anticipated
expense levels, as well as other statements, including words such as
"anticipate", "believe", "plan", "estimate" and "intend" and other similar
expressions, constitute forward-looking statements. These forward-looking
statements involve risks and uncertainties, and actual results may differ
materially from those anticipated or expressed in such statements. Potential
risks and uncertainties include, among others, those set forth under the caption
"Factors That May Affect Future Results and Financial Condition" included within
this section. Particular attention should be paid to the cautionary statements
involving the industry's rapid technological change and exposure to inventory
obsolescence, availability and allocations of goods, reliance on vendor support
and relationships, continued sales of Mac products, competitive risks, pricing
risks, Year 2000 compliance issues and economic risks. Except as required by
law, the Company undertakes no obligation to update any forward-looking
statement, whether as a result of new information, future events or otherwise.
Readers, however, should carefully review the factors set forth in other reports
or documents that the Company files from time to time with the SEC.
GENERAL
The Company was founded in 1982 as a mail-order business offering a broad range
of software and accessories for IBM and IBM-compatible personal computers. The
founders' goal was to provide consumers with superior service and high quality
branded products at competitive prices. The Company initially sought customers
through advertising in selected computer industry publications and the use of
inbound toll free telemarketing. Currently, the Company seeks to generate sales
through (i) outbound telemarketing by account managers focused on the business,
education and government markets, (ii) inbound calls from customers responding
to the Company's catalogs and other advertising, and (iii) the Company's
Internet web site. In late 1996 the Company commenced selling products through
its Internet Web site.
The Company offers both PC compatible products and Mac compatible products.
Reliance on Mac product sales has decreased over the last three years, from
23.0% of net sales in 1996 to 19.9% of net sales for the year ended December 31,
1998. Although net sales attributable to Mac products increased in the year
ended December 31, 1998, as compared to the comparable period in 1997, the
Company believes that such sales will continue to decrease as a percentage of
net sales and may decline in dollar volume in 1999 and future years.
All of the Company's product categories experienced strong growth in the year
ended December 31, 1998 with sales of computer systems representing the fastest
growing category. Sales of computer systems result in a relatively high dollar
sales order, as reflected in the increase in the Company's average order size
from $453 in the year ended December 31, 1996 to $580 in the year ended December
31, 1998. Computer system sales generally provide the largest gross profit
dollar contribution per order of all of the Company's products, although they
generally yield the lowest gross margin percentage. Partially as a result of
higher system sales, the Company's gross margin percentage has declined over the
last two years while the operating income margin has increased due to the
leveraging of selling, general and administrative expenses over a larger sales
base.
The Company's profit margins are also influenced by, among other things,
industry pricing and the relative mix of inbound versus outbound sales.
Generally, pricing in the computer and related products market is very
aggressive, and the Company intends to maintain prices at competitive levels.
Since outbound sales are typically to corporate accounts that purchase at volume
discounts, the gross margin on such sales is generally lower than inbound sales.
However, the gross profit dollar contribution per order is generally higher as
average order sizes of orders to corporate accounts are usually larger. The
Company believes that outbound sales will continue to represent a larger portion
of its business mix in future periods.
The direct marketing of personal computers and related products is highly
competitive. In addition to other direct marketers and manufacturers who sell
direct, such as Dell Computer Corporation ("Dell") and Gateway, Inc.
("Gateway"), manufacturers of PCs sold by the Company, such as Compaq and IBM,
have also announced varying plans to sell PCs directly to end users. Separately,
both Compaq and IBM have announced plans to increase their
12
<PAGE>
reliance on reseller arrangements with direct marketers such as the Company as
part of their own marketing programs designed to compete more effectively with
Dell and Gateway. The Company currently believes that direct sales by Compaq and
IBM will not have a significant adverse effect upon the Company's net sales.
Most product manufacturers provide the Company with co-op advertising support in
exchange for product coverage in the Company's catalogs. Although the level of
co-op advertising support available to the Company from certain manufacturers
has declined, and may decline further in the future, the overall level of co-op
advertising revenues has continued to increase consistent with the Company's
increased levels of spending for catalog and other advertising programs. The
Company believes that the overall levels of co-op advertising revenues available
over the next twelve months will be consistent with the Company's planned
advertising programs.
In connection with the relocation of its headquarters facility beginning in
October 1998, the Company incurred certain one-time moving and other costs of
approximately $300,000, which were charged to operating costs. In connection
with the Offering of the Company's Common Stock that closed in March 1998, the
Company reported certain non-recurring, non-cash items in the year ended
December 31, 1998. See "Initial Public Offering" and "Pro Forma and Other
Adjustments" below.
INITIAL PUBLIC OFFERING
On March 6, 1998, the Company closed its Offering of 3,593,750 shares (including
468,750 shares issued upon the exercise of an underwriters' overallotment
option) of Common Stock at an offering price of $17.50 per share. Net proceeds
to the Company after deducting expenses of the Offering were approximately $57.3
million. See "Liquidity and Capital Resources."
PRO FORMA AND OTHER ADJUSTMENTS
The pro forma income statements presented below have been determined by applying
the following pro forma and other adjustments to the Company's historical income
statements containing periods prior to March 6, 1998:
Pro Forma Adjustments
- ---------------------
1. Elimination of stockholder/officer compensation in excess of aggregate
established 1998 annual base salaries ($600,000) for all periods prior to
March 6, 1998. The amounts eliminated generally represent Company-related S
Corporation tax obligations payable by the stockholder/officers for periods
prior to March 6, 1998.
2. Elimination of the historical income tax benefit/provision for all periods
prior to March 6, 1998 (including elimination of the $4.2 million income
tax benefit related to the establishment of additional deferred tax assets
for future tax deductions resulting from the termination of the Company's
Subchapter S Corporation status) and establishment of a provision for
federal and state income taxes that would have been payable by the Company
if taxed under Subchapter C of the Internal Revenue Code, assuming an
effective tax rate of approximately 39% after an adjustment for
stockholder/officer compensation described in Paragraph 1 above.
Other Adjustments
- -----------------
1. Elimination for the year ended December 31, 1998 of an $870,000 one-time
charge for stock option compensation expense relating to the acceleration
in the vesting period of certain of the Company's stock options from seven
years to four years in connection with the Offering.
13
<PAGE>
PRO FORMA INCOME STATEMENTS, AS ADJUSTED
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
----------------------------------------
% OF % OF
(Amounts in thousands, except per share data) 1998 NET SALES 1997 NET SALES
----------------------------------------
<S> <C> <C> <C> <C>
Net sales $732,370 100.00% $550,575 100.00%
Cost of sales 639,096 87.26 474,609 86.20
-------- ------ -------- ------
GROSS PROFIT 93,274 12.74 75,966 13.80
Selling, general and administrative expenses 67,651 9.24 56,596 10.28
Additional stockholder/officer compensation - - 120 .02
-------- ------ -------- ------
Income from operations 25,623 3.50 19,250 3.50
Interest expense (415) (.06) (1,355) (.25)
Other, net 565 .08 (42) (.01)
-------- ------ -------- ------
Income before income taxes 25,773 3.52 17,853 3.24
Income taxes (9,971) (1.36) (6,963) (1.26)
-------- ------ -------- ------
PRO FORMA NET INCOME, AS ADJUSTED $ 15,802 2.16% $ 10,890 1.98%
======== ====== ======== ======
Weighted average shares outstanding:
Basic 15,165 13,861
======== ========
Diluted 15,669 14,244
======== ========
Pro forma earnings per share, as adjusted:
Basic $ 1.05 $ .79
======== ========
Diluted $ 1.02 $ .76
======== ========
</TABLE>
RESULTS OF OPERATIONS
The following table sets forth for the periods indicated information derived
from the Company's statements of income expressed as a percentage of net sales.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------
1998 1997 1996
------------------------
<S> <C> <C> <C>
Net sales (in millions) $732.4 $550.6 $333.3
====== ====== ======
Net sales 100.0% 100.0% 100.0%
Gross profit 12.7 13.8 15.4
Selling, general and administrative expenses 9.4 10.3 13.1
Additional stockholder/officer compensation 0.3 2.2 0.4
Income from operations 3.1 1.3 1.9
Interest expense (0.0) (0.2) (0.4)
Income before income taxes 3.1 1.0 1.5
Income taxes (0.5) (0.1) (0.1)
Net income 2.6 0.9 1.4
Pro forma net income 2.1 2.0
</TABLE>
The following table sets forth for the periods indicated the Company's
percentage of net sales (in dollars) of computer systems/memory, peripherals,
software and networking and communications products.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
----------------------
1998 1997 1996
----------------------
<S> <C> <C> <C>
PRODUCT CATEGORIES
- ------------------
Computer Systems/Memory 43.7% 42.2% 34.8%
Peripherals 34.5 34.3 38.0
Software 14.0 15.8 17.6
Networking and Communications 7.8 7.7 9.6
----- ----- -----
Total 100.0% 100.0% 100.0%
===== ===== =====
</TABLE>
14
<PAGE>
YEAR ENDED DECEMBER 31, 1998 COMPARED TO YEAR ENDED DECEMBER 31, 1997
Net sales increased $181.8 million, or 33.0%, to $732.4 million in 1998 from
$550.6 million in 1997. The growth in net sales, which included a 10.7% increase
in average order size, was primarily attributable to (i) continued improvements
in merchandising and product mix, including the stocking and sale of computer
systems; (ii) continued expansion and increased productivity of the Company's
outbound telemarketing group; and (iii) an increase in the number of catalog
mailings. System/memory sales increased to 43.7% of net sales in 1998 from 42.2%
in 1997. Outbound sales increased $133.7 million, or 52.0%, to $390.9 million in
1998 from $257.2 million in 1997. The number of catalogs mailed increased by
24.9%, from 33.8 million catalogs in 1997 to 42.2 million catalogs in 1998.
Gross profit increased $17.3 million, or 22.8%, to $93.3 million in 1998 from
$76.0 million in 1997. The increase in gross profit dollars was primarily
attributable to the increase in net sales described above. Gross profit margin
decreased from 13.8% in 1997 to 12.7% in 1998 due primarily to a higher rate of
growth in sales of lower margin computer systems, increased price competition,
decreases in average unit selling prices and an increase in the rate of charges
to cost of sales for slow-moving and obsolete inventory. However, the Company
continued to generate higher gross profit dollars per order, enabling it to
leverage its operating expenses, as described below. The Company's gross profit
margin may vary based upon vendor support programs, product mix, pricing
strategies, market conditions and other factors.
Selling, general and administrative expenses increased $11.9 million, or 21.1%,
to $68.5 million in 1998 from $56.6 million in 1997, but decreased as a
percentage of sales to 9.4% in 1998 from 10.3% in 1997. The increase in expense
was attributable to increases in volume-sensitive costs such as sales personnel
and credit card fees. The decrease as a percentage of net sales was primarily
attributable to the continued leveraging of selling, general and administrative
expenses over a larger sales base.
Selling, general and administrative expenses, excluding the one-time charge for
stock option compensation expense, increased by $11.1 million, or 19.5%, to
$67.7 million for the year ended December 31, 1998 from $56.6 million for the
comparable period in 1997, but decreased as a percentage of sales from 10.3% in
1997 to 9.2% in 1998.
Additional stockholder/officer compensation paid to the Company's two principal
stockholders, who also serve as officers and directors, represents amounts
accrued or distributed in excess of aggregate annual base salaries ($600,000
aggregate base salaries for 1998 and $480,000 for each of 1997 and 1996)
approved by the Board of Directors of the Company and generally represent
Company-related federal income tax obligations payable by the stockholders.
Effective upon the closing of the Offering, these stockholder/officers were paid
annual base salaries aggregating $600,000. Selling, general and administrative
expenses on a pro forma basis were $56.7 million, or 10.3% of net sales, for
1997, as adjusted to give effect to $600,000 of aggregate base salaries payable
to the Company's two stockholder/officers. Additional stockholder/officer
compensation decreased by $9.8 million, or 80.6% to $2.4 million in 1998 from
$12.1 million in 1997. This decrease is attributable to the Company's
termination of its S Corporation status upon consummation of the Offering, which
eliminated the need to make further distributions to the stockholder/officers
for payment of Company-related federal income tax obligations.
Income from operations increased by $15.2 million, or 209.4%, to $22.4 million
for the year ended December 31, 1998 from $7.2 million for the comparable period
in 1997. Income from operations as a percentage of net sales increased from 1.3%
in 1997 to 3.1% in 1998 for the reasons discussed above. Income from operations,
excluding additional stockholder/officer compensation, for the year ended
December 31, 1998 was $24.8 million, an increase of $5.4 million, or 27.8%, over
the prior year income of $19.4 million. Income from operations as a percentage
of net sales, excluding additional stockholder/officer compensation, decreased
from 3.5% in 1997 to 3.4% in 1998.
Income from operations, excluding both the one-time charge for stock option
compensation expense in 1998 ($870,000) and the additional stockholder/officer
compensation in excess of their aggregate annual base salaries of $600,000 ($2.4
million and $12.0 million for the year ended December 31, 1998 and 1997,
respectively), increased by $6.3 million, or 33.1%, to $25.6 million for the
year ended December 31, 1998 from $19.3 million for the comparable period in
1997. Such income from operations as a percentage of net sales was 3.5% for 1998
and 1997.
Interest expense decreased by $940,000, or 69.4%, to $400,000 in 1998 from $1.4
million in 1997, primarily due to the repayment of all outstanding borrowings
under the Company's line of credit in March 1998 upon the closing of the
Offering.
Net income increased by $13.4 million, or 258.3%, to $18.6 million in 1998 from
$5.2 million in 1997, principally as a result of the increase in income from
operations.
15
<PAGE>
Pro forma net income for 1998 and 1997 is determined by (i) eliminating
stockholder/officer compensation in excess of the aggregate base salaries
($600,000) described above under "selling, general and administrative expenses"
and (ii) adding a provision for federal income taxes that would have been
payable by the Company if taxed under Subchapter C of the Internal Revenue Code.
Net income on a pro forma basis as described above would have been $15.3 million
for 1998, compared to $10.9 million for 1997. The difference in pro forma net
income compared to historical net income represents the elimination of $2.4
million and $12.0 million in stockholder/officer compensation in 1998 and 1997,
respectively, offset by higher provisions for federal income taxes of $5.7
million and $6.3 million, respectively.
Excluding a one-time charge for the acceleration of certain stock option
compensation expense (described above), the Company would have reported pro
forma net income of $15.8 million, or $1.02 per share, for the year ended
December 31, 1998, compared to pro forma net income of $10.9 million, or $.76
per share, for the comparable period in 1997, an increase of $.26 per share, or
34%.
YEAR ENDED DECEMBER 31, 1997 COMPARED TO YEAR ENDED DECEMBER 31, 1996
Net Sales increased $217.3 million, or 65.2%, to $550.6 million in 1997 from
$333.3 million in 1996. Growth in net sales, which included a 15.7% increase in
average order size, was primarily attributable to: (i) improvements in
merchandising and product mix, especially a greater emphasis on the stocking and
sale of computer systems; (ii) continued expansion and increased productivity of
the Company's outbound telemarketing group; (iii) an increase in the number of
catalog mailings; and (iv) improved inbound sales conversion ratios.
System/memory sales increased to 42.2% of net sales in 1997 from 34.8% in 1996.
Outbound sales increased by $130.5 million, or 103.1%, to $257.2 million in 1997
from $126.7 million in 1996. The number of catalogs mailed increased by 81.7%,
from 18.6 million catalogs in 1996 to 33.8 million catalogs in 1997.
Gross Profit increased by $24.8 million, or 48.4%, to $76.0 million in 1997 from
$51.2 million in 1996. The increase in gross profit dollars was primarily
attributable to the increase in net sales described above. Gross profit margin
decreased from 15.4% in 1996 to 13.8% in 1997 due primarily to a higher rate of
growth in sales of lower margin computer systems, increased price competition,
decreases in average unit selling prices and an increase in the rate of charges
to cost of sales for slow-moving and obsolete inventory. However, the Company
generated higher gross profit dollars per order, enabling it to leverage its
operating expenses.
Selling, general and administrative expenses increased by $12.8 million, or
29.4%, to $56.6 million in 1997 from $43.7 million in 1996, but decreased as a
percentage of sales to 10.3% in 1997 from 13.1% in 1996. The increase in
expenses was primarily attributable to increases in volume-sensitive costs such
as sales personnel and credit card fees. The decrease as a percentage of net
sales was primarily attributable to improved expense control and the leveraging
of selling, general and administrative expenses over a larger sales base.
Selling, general and administrative expenses on a pro forma basis, after
elimination of stockholder/officer compensation in excess of $600,000 were $56.7
million (or 10.3% of net sales) for 1997, compared to $43.9 million for 1996.
Additional stockholder/officer compensation increased by $10.8 million, or
863.5%, to $12.1 million in 1997 from $1.3 million in 1996. This increase is
attributable to increases in net income.
Income from operations increased by $1.0 million, or 16.6%, to $7.2 million in
1997 from $6.2 million in 1996. Income from operations as a percentage of net
sales decreased from 1.9% to 1.3% for the reasons discussed above. Income from
operations, excluding additional stockholder/officer compensation, for the years
ended December 31, 1997 and 1996 was $19.4 million and $7.5 million,
respectively, an increase of $11.9 million, or 159.4%. Income from operations as
a percentage of net sales, excluding additional stockholder/officer
compensation, increased from 2.2% to 3.5% for the reasons discussed above.
Interest expense in 1997 increased by $86,000, or 6.8%, to $1.4 million in 1997
from $1.3 million in 1996, primarily due to higher average outstanding
borrowings under the Company's line of credit.
Net income increased $448,000, or 9.4%, to $5.2 million in 1997 from $4.8
million in 1996, principally as a result of the increase in income from
operations.
Pro forma net income would have been $10.9 million for 1997, based on the pro
forma adjustments referred to above. The difference in pro forma net income
compared to historical net income represents the elimination of $12.0 million in
stockholder/officer compensation offset by a $6.3 million higher provision for
federal income taxes.
16
<PAGE>
SELECTED QUARTERLY FINANCIAL RESULTS
The following table sets forth certain unaudited quarterly data of the Company
for each of the quarters since January 1, 1997. This information has been
prepared on the same basis as the annual financial statements and all necessary
adjustments, consisting only of normal recurring adjustments, have been included
in the amounts stated below to present fairly the selected quarterly information
when read in conjunction with the annual financial statements and the notes
thereto included elsewhere in this document. The quarterly operating results are
not necessarily indicative of future results of operations. See "Factors That
May Affect Future Results and Financial Condition - Historical Net Losses;
Variability of Quarterly Results."
<TABLE>
<CAPTION>
QUARTERS ENDED
--------------------------------------------------
MARCH 31, JUNE 30, SEPT. 30, DEC. 31,
1998 1998 1998 1998
--------------------------------------------------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C>
Net sales $168,643 $174,349 $169,089 $220,289
Cost of sales 146,694 151,768 147,837 192,797
-------- -------- -------- --------
Gross profit 21,949 22,581 21,252 27,492
Selling, general and administrative expenses 16,858 16,042 16,317 19,304
Additional stockholder/officer compensation 2,354 -- -- --
-------- -------- -------- --------
Income from operations 2,737 6,539 4,935 8,188
Interest expense (206) (51) (10) (148)
Other, net 86 213 233 33
-------- -------- -------- --------
Income before income taxes 2,617 6,701 5,158 8,073
Income tax benefit (provision)/(1)/ 3,788 (2,613) (2,012) (3,068)
-------- -------- -------- --------
Net Income $ 6,405 $ 4,088 $ 3,146 $ 5,005
======== ======== ======== ========
Weighted average common shares outstanding:
Basic 15,414 15,443 15,548
======== ======== ========
Diluted 15,938 16,000 15,963
======== ======== ========
Earnings per common share:
Basic $ .27 $ 20 $ .33
======== ======== ========
Diluted $ .26 $ .20 $ .32
======== ======== ========
Pro forma data:
Historical income before income taxes $ 2,617
Pro forma adjustment - stockholder/officer compen-
sation in excess of the aggregate base salaries 2,354
--------
Pro forma income before taxes 4,971
Pro forma income taxes 1,938
--------
Pro forma net income/(2)/ $ 3,033
========
Pro forma weighted average shares outstanding:
Basic 14,236
========
Diluted 14,835
========
Pro forma earnings per share:
Basic $ .21
========
Diluted $ .20
========
</TABLE>
17
<PAGE>
<TABLE>
<CAPTION>
QUARTERS ENDED
--------------------------------------------------
MARCH 31, JUNE 30, SEPT. 30, DEC. 31,
1997 1997 1997 1997
--------------------------------------------------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C>
Net sales $122,823 $121,500 $139,137 $167,115
Cost of sales 105,444 104,723 119,841 144,601
-------- -------- -------- --------
Gross profit 17,379 16,777 19,296 22,514
Selling, general and administrative expenses 13,637 12,791 14,537 15,631
Additional stockholder/officer compensation 2,450 2,980 3,200 3,500
-------- -------- -------- --------
Income from operations 1,292 1,006 1,559 3,383
Interest expense (367) (299) (267) (422)
Other, net 5 (11) (37) 1
-------- -------- -------- --------
Income before income taxes 930 696 1,255 2,962
Income tax provision/(1)/ (130) (134) (165) (210)
-------- -------- -------- --------
Net income $ 800 $ 562 $ 1,090 $ 2,752
======== ======== ======== ========
Pro forma data:
Historical income before income taxes $ 930 $ 696 $ 1,255 $ 2,962
Pro forma adjustment - stockholder/officer
compensation in excess of the aggregate
base salaries 2,420 2,950 3,170 3,470
-------- -------- -------- --------
Pro forma income before taxes 3,350 3,646 4,425 6,432
Pro forma income taxes 1,307 1,422 1,726 2,508
-------- -------- -------- --------
Pro forma net income/(2)/ $ 2,043 $ 2,224 $ 2,699 $ 3,924
======== ======== ======== ========
Pro forma weighted average shares outstanding:
Basic 13,861 13,861 13,861 13,861
======== ======== ======== ========
Diluted 14,149 14,124 14,259 14,393
======== ======== ======== ========
Pro forma earnings per share:
Basic $ .15 $ .16 $ .20 $ .28
======== ======== ======== ========
Diluted $ .14 $ .16 $ .19 $ .27
======== ======== ======== ========
</TABLE>
/(1)/ For all periods prior to March 6, 1998 described herein, the Company
elected to be treated as an S Corporation under Subchapter S of the Code,
and applicable state laws. Effective March 6, 1998, the closing of the
Company's initial public offering, the Company's S Corporation election
was automatically terminated, and the Company became subject to federal
and state income taxes as a C Corporation from that date forward. For the
quarter ended March 31, 1998, the income tax provision includes a $4.2
million tax benefit related to the establishment of additional deferred
tax assets for future tax deductions resulting from the termination of
the Company's Subchapter S Corporation status.
/(2)/ Pro forma net income is determined by (i) eliminating stockholder/officer
compensation in excess of the aggregate base salaries ($600,000) per year
and (ii) by eliminating the actual income tax provision and adding a
provision for Federal and state income taxes that would have been payable
by the Company if taxed under Subchapter C of the Code for all periods
prior to March 6, 1998.
LIQUIDITY AND CAPITAL RESOURCES
The Company has historically financed its operations and capital expenditures
through cash flow from operations and bank borrowings. The Company believes that
funds generated from operations, together with the net proceeds from the
Offering and available credit under its bank line of credit, will be sufficient
to finance its working capital and capital expenditure requirements at least
through 1999. The Company's ability to continue funding its planned growth is
dependent upon its ability to generate sufficient cash flow from operations or
to obtain additional funds through equity or debt financing, or from other
sources of financing, as may be required.
At December 31, 1998, the Company had cash and cash equivalents of $11.9 million
and working capital of $53.8 million. At December 31, 1997, the Company had
working capital of $18.9 million.
Net cash provided by operating activities was $29.4 million in the year ended
December 1998, compared to $10.4 million and $4.5 million used in the years
ended December 31, 1997, and 1996, respectively. The primary factors
historically affecting cash flows from operations are the Company's net income
and changes in the levels of accounts receivable, inventories and accounts
payable. Historically, inventories and accounts payable have increased as a
result of the sales growth of the Company. Accounts receivable have increased
primarily due to an increase in open account sales to commercial customers
resulting from the Company's continued efforts to increase its sales to such
customers offset in part by a higher rate of increase in accounts receivable
allowances for sales returns and doubtful accounts related to the growth in
sales. Additionally, receivables from vendors increased due to the increased
activity in vendor rebate and other programs.
18
<PAGE>
Capital expenditures were $9.9 million and $4.5 million in the years ended
December 31, 1998 and 1997, respectively. The Company expects capital
expenditures, primarily for the purchase of computer hardware and software and
other fixed assets, to be approximately $10.0 million for the year ending
December 31, 1999.
As of December 31, 1998, the Company had a credit agreement with a bank
providing for short-term borrowings equal to the lesser of $45.0 million or an
amount determined by a formula based on accounts receivable and inventory
balances. Borrowings under this agreement are collateralized by the Company's
accounts receivable and inventories (other than inventories pledged to secure
trade credit arrangements) and bear interest at the bank's prime rate (7.75% at
December 31, 1998) or LIBOR plus 2.0% at the Company's option. No amounts were
outstanding under this agreement as of December 31, 1998. The credit agreement
includes various customary financial and operating covenants, including
restrictions on the payment of dividends, except for dividends to stockholders
in respect of income taxes, none of which the Company believes significantly
restricts the Company's operations.
At December 31, 1998, the Company had $77.6 million in outstanding accounts
payable. Such accounts are generally paid within 30 days of incurrence and will
be financed by cash flows from operations or short-term borrowings under the
line of credit. This amount includes $21.8 million payable to two financial
institutions under security agreements to facilitate the purchase of inventory.
YEAR 2000 COMPLIANT INFORMATION SYSTEMS
The change in date from 1999 to 2000 poses potential problems for many computer
and electro-mechanical systems around the world. Some of the Company's systems
could be affected by this problem which could have a material adverse effect on
the Company's business, financial condition and results of operations.
In order to minimize any potential disruption to the Company's business, the
Company has an active, on-going program to evaluate its systems and take
corrective action prior to the millennium change. A full-time senior manager is
responsible for managing the Year 2000 Project, which is comprised of five
phases: awareness, assessment, renovation, validation and implementation. For
each system that is determined to be non-compliant, the Company is taking one of
the following three courses of action to achieve date compliance: (i) renovate
(convert) the current system; (ii) replace the current system with a new date
compliant system; or (iii) retire the current system because it no longer
serves a valid business need.
The Company recently replaced its order management and fulfillment software with
new software and converted its principal computer equipment to new IBM AS400
platform systems, both of which are better suited to the Company's expected
scale of operations and are designed to be Year 2000 compliant. The Company is
investigating the extent to which its other systems may be affected and
communicating to all of its system vendors concerning timely and completed
remedies for those systems requiring modification. The Company currently
believes it will be able to modify or replace any affected systems in time to
minimize any detrimental effect on operations.
The Company is also communicating with all third parties on which it relies to
assess their progress in evaluating their systems and implementing appropriate
corrective measures. Furthermore, the Company is actively encouraging its
customers to undertake their own Year 2000 compliance projects in order to
ensure the continued viability of the Company's commercial business pursuits.
The Company has been taking, and will continue to pursue, all reasonably
necessary steps to protect its operations, assets and the interests of its
customers, shareholders, employees and community partners.
Utilizing both internal and external resources to identify and assess needed
Year 2000 remediation, the Company currently anticipates that its Year 2000
awareness, assessment, renovation and validation efforts, which began in 1996,
will be completed by June 30, 1999, and that such efforts will be completed
prior to any currently anticipated impact on its computer equipment and
software. The Company estimates that as of December 31, 1998 it had completed
approximately 80% of the initiatives that it believes will be necessary to fully
address potential Year 2000 issues relating to its computer equipment and
software. The majority of the projects comprising the remaining 20% of the
initiatives are in process and expected to be substantially completed by June
30, 1999.
19
<PAGE>
<TABLE>
<CAPTION>
TIME PERCENT
FRAME COMPLETED
----- ---------
<S> <C> <C>
Status of overall Year 2000 Project:
Awareness 10/97 - 06/98 100%
Assessment 10/97 - 12/98 100%
Renovation 04/98 - 09/99 75%
Validation 05/98 - 11/99 65%
Implementation 05/98 - 12/99 75%
Summary of significant Year 2000 projects completed:
Conversion to new IBM AS400 10/96 - 09/98 100%
Conversion to new order management and fulfillment software 10/96 - 09/98 100%
</TABLE>
The primary objectives of the Year 2000 Project relating to the Company's
internal systems were met when the Company implemented its new order management
and fulfillment software and upgraded its IBM AS400 data processing platform.
The majority of the costs (approximately $5.5 million) of the new software and
hardware were capitalized during the period October 1, 1997 to September 30,
1998. The Company believes that the costs of its Year 2000 awareness,
assessment, renovation, validation and implementation for all other computer
equipment and software, as well as currently anticipated costs to be incurred by
the Company with respect to Year 2000 issues of third parties, will not exceed
$500,000, which will be funded from operating cash flow. These costs will be
expensed as incurred.
The Company presently believes that the Year 2000 issue will not pose
significant operational problems for the Company. However, for all Year 2000
issues that are not properly identified, or assessments, renovation, validation
and implementation are not effected timely with respect to Year 2000 problems,
there can be no assurance that the Year 2000 issues of other entities will not
have a material adverse impact on the Company's systems or results of
operations.
The Company is presently undertaking, a comprehensive analysis of the
operational problems and costs (including loss of revenues) that would be
reasonably likely to result from the failure by the Company and certain third
parties to complete efforts necessary to achieve Year 2000 compliance on a
timely basis. A contingency plan has not been developed for dealing with worst
case scenarios, and such scenarios have not yet been clearly identified. The
Company currently plans to complete such analysis and contingency planning
before December 31, 1999.
The costs of the Company's Year 2000 awareness, assessment, renovation,
validation and implementation efforts and the dates on which the Company
believes it will complete such efforts are based upon management's best
estimates, which were derived using numerous assumptions regarding future
events, including the continued availability of certain resources, third-party
remediation plans, and other factors. There can be no assurance that these
estimates will prove to be accurate and actual results could differ materially
from those currently anticipated. Specific factors that could cause such
material differences include, but are not limited to, the availability and cost
of personnel trained in Year 2000 issues, the ability to assess, renovate and
implement all relevant computer codes and embedded technology and similar
uncertainties. In addition, variability of definitions of "Year 2000 Compliance"
and the myriad of different products and services and combinations thereof, sold
by the Company may lead to claims whose impact on the Company is not currently
estimable. No assurance can be given that the aggregate cost of defending and
resolving such claims, if any, will not materially adversely affect the
Company's results of operations. Although some of the Company's agreements with
manufacturers and others from whom it purchases products for resale contain
provisions requiring such parties to indemnify the Company under some
circumstances, there can be no assurance that such indemnification arrangements
will cover all of the Company's liabilities and costs related to claims by third
parties related to the Year 2000 issue.
RECENTLY ISSUED FINANCIAL ACCOUNTING STANDARDS
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities", effective for fiscal years beginning after
June 15, 1999. The new standard requires that all companies record derivatives
on the balance sheet as assets or liabilities, measured at fair value. Gains or
losses resulting from changes in the values of those derivatives would be
accounted for depending on the use of the derivative and whether it qualifies
for hedge accounting. Management is currently assessing the impact of SFAS No.
133 on the financial statements of the Company. The Company will adopt this
accounting standard on January 1, 2000, as required.
INFLATION
The Company has historically offset any inflation in operating costs by a
combination of increased productivity and price increases, where appropriate.
The Company does not expect inflation to have a significant impact on its
business in the future.
20
<PAGE>
FACTORS THAT MAY AFFECT FUTURE RESULTS AND FINANCIAL CONDITION
The Company's future results and financial condition are dependent on the
Company's ability to continue to successfully market, sell, and distribute
computers, hardware and software. Inherent in this process are a number of
factors that the Company must successfully manage in order to achieve favorable
operating results and financial condition. Potential risks and uncertainties
that could affect the Company's future operating results and financial condition
include, without limitation, the factors discussed below:
No Assurance of Future Growth
- ------------------------------
Net sales have grown from $196.7 million for the year ended December 31, 1994 to
$732.4 million for the year ended December 31, 1998. This growth has placed
increasing demands on the Company's management resources and facilities. The
Company's business strategy is to pursue additional growth and expand its
customer base, which is likely to result in additional demands on the Company's
resources. The Company's future success will depend in part on the ability of
the Company to manage any future growth effectively. There can be no assurance
that the Company will realize future growth in net sales or will not experience
decreases in net sales.
Risks Related to Transition or Expansion of Facilities
- -------------------------------------------------------
Additional and/or alternative facilities for distribution and sales may be
required to support significant future growth in the Company's net sales, if
realized. There can be no assurance that suitable facilities will be available,
and in the absence of such facilities, future growth could be impaired.
Dependence on Management Information Systems
- ---------------------------------------------
The Company's success is dependent on the accuracy, reliability and proper use
of its management information systems, including its telephone system, and the
information generated by its management information systems. The Company does
not currently have redundant systems for all functions performed by its
management information systems or a redundant or back-up telephone system. Any
interruption in these systems or in telephone service could have a material
adverse effect on the Company's financial position, results of operations and
cash flows.
Rapid Technological Change and Exposure to Inventory Obsolescence
- ------------------------------------------------------------------
The market for personal computer products is characterized by rapid
technological change and the frequent introduction of new products and product
enhancements. The Company's success depends in part on its ability to identify
and market products that meet the needs of the marketplace. In order to satisfy
customer demand and to obtain favorable purchasing discounts, the Company may
carry increased inventory levels of certain products in the future, which will
subject it to increased risk of inventory obsolescence. In the implementation of
its business strategy, the Company intends, among other things, to place larger
than typical inventory stocking orders, increase its participation in first-to-
market purchase opportunities, and may in the future participate in end-of-life-
cycle purchase opportunities and market products on a private-label basis, all
of which will further increase the risk of inventory obsolescence. Special
purchase products are sometimes acquired without return privileges and there can
be no assurance that the Company will be able to avoid losses related to
obsolete inventory. In addition, some manufacturers provide the Company with co-
op advertising support in the form of products, for which there may be no return
privileges. Finally, certain build-to-order programs currently being implemented
by some computer systems manufacturers will likely include reductions in the
levels of price protection and product returns made available by such
manufacturers. See "Business--Products and Merchandising."
Availability and Allocation of Goods
- -------------------------------------
The Company acquires products for resale from manufacturers as well as from
distributors. Purchases of products from the five vendors supplying the greatest
amount of goods to the Company constituted 44.5% and 46.5% of the Company's
total product purchases in the years ended December 31, 1998 and 1997,
respectively. Among these five vendors, purchases from Ingram Micro, Inc.
("Ingram Micro") represented 20.3% and 28.0% of the Company's total product
purchases in the years ended December 31, 1998 and 1997, respectively. No other
vendor supplied more than 10% of the Company's total product purchases in the
year ended December 31, 1998. The loss of Ingram Micro could cause a short-term
disruption in the availability of products and could have a material adverse
effect on the Company's financial position, results of operations and cash
flows.
21
<PAGE>
Substantially all of the Company's contracts and arrangements with its vendors
that supply significant quantities of products are terminable by such vendors or
the Company without notice or upon short notice. Most of the Company's product
vendors provide the Company with trade credit, of which the net amount
outstanding at December 31, 1998 was $72.2 million. Termination, interruption or
contraction of the Company's relationships with its vendors, including a
reduction in the level of trade credit provided to the Company, could have a
material adverse effect on the Company's financial position, results of
operations and cash flows. See "Business--Purchasing and Vendor Relations."
Certain product manufacturers either do not permit the Company to sell the full
line of their products or limit the number of product units available to direct
marketers such as the Company. An element of the Company's business strategy is
to increase its participation in first-to-market purchase opportunities. In the
past, availability of certain desired products, especially in the direct
marketing channel, has been constrained. The inability to source first-to-market
purchase or similar opportunities, or the reemergence of significant
availability constraints, could have a material adverse effect on the Company's
financial position, results of operations and cash flows.
Reliance on Vendor Support and Relationships
- ---------------------------------------------
Some product manufacturers and distributors provide the Company with substantial
incentives in the form of payment discounts, supplier reimbursements, price
protection and rebates. No assurance can be given that the Company will continue
to receive such incentives in the future or that it will be able to collect
outstanding amounts relating to any future incentives in a timely manner or at
all.
Most product manufacturers provide the Company with co-op advertising support in
exchange for product coverage in the Company's catalogs. This support
significantly defrays the expense of catalog production. The level of co-op
advertising support available to the Company from certain manufacturers has
declined. The level of support from some manufacturers may further decline in
the future. Such a decline could increase the Company's selling, general and
administrative expenses as a percentage of sales and have a material adverse
effect on the Company's financial position, results of operations and cash
flows. See "Business--Purchasing and Vendor Relations."
Competitive Risks
- ------------------
The Company competes with national and international direct marketers; product
manufacturers that sell directly to end users; specialty personal computer
retailers; personal computer and general merchandise superstores; consumer
electronic and office supply stores; and shopping services on television, the
Internet and commercial on-line networks. The Company competes not only for
customers, but also for co-op advertising support from personal computer product
manufacturers. Some of the Company's competitors are larger and have
substantially greater financial resources, superior operating results, and
larger catalog circulations and customer bases than the Company. In addition,
several direct marketers have recently been acquired by larger competitors. This
industry consolidation could result in short-term price-cutting in certain
markets. There can be no assurance that the Company will be able to compete
effectively with existing competitors or any new competitors that may enter the
market, or that the Company's financial position, results of operations and cash
flows will not be adversely affected by intensified competition. See "Business--
Competition."
Pricing Risks
- --------------
The personal computer industry has experienced intense price competition. The
Company believes that price competition may increase in the future and that such
competition could result in a reduction of the Company's profit margins. Also,
the Company has recently increased its sales of personal computer hardware
products that generally produce lower profit margins than those associated with
software products. Significant margin decreases could have a material adverse
effect on the Company's financial position, results of operations and cash
flows.
Economic Risks
- ---------------
The market for personal computers and related products has grown rapidly in
recent years. Recent statements by industry observers have indicated that there
may be a slowdown in the growth rate of the personal computing industry. If the
growth of this market or the direct marketing channel were to cease or decrease,
the Company's financial position, results of operations and cash flows would be
materially adversely affected. Demand for many of the products carried by the
Company may be subject to economic cycles. The Company's business and growth
could be affected by the spending patterns of existing or prospective customers,
a recession or prolonged economic slowdown, the cyclical nature of capital
expenditures of businesses, continued competition and pricing pressures and
other trends in the general economy, any one of which could have a material
adverse effect on the Company's financial position, results of operations and
cash flows.
22
<PAGE>
Dependence on Third Party Shippers
- -----------------------------------
The Company ships approximately 75% of its products to customers by Airborne
Freight Corporation D/B/A "Airborne Express" ("Airborne Express"), with the
remainder being shipped by United Parcel Service of America, Inc. and other
overnight delivery and surface services. Strikes or other service interruptions
by such shippers could adversely affect the Company's ability to market or
deliver product on a timely basis and have a material adverse effect on the
Company's financial position, results of operations and cash flows. See
"Business--Distribution."
Potential Increases in Shipping, Paper and Postage Costs
- ---------------------------------------------------------
Shipping costs are a significant expense in the operation of the Company's
business. The Company has a long-term contract with Airborne Express for
shipment of its products under which the Company believes it has negotiated
favorable shipping rates. The Company generally invoices customers for shipping
and handling charges. There can be no assurance that the full cost, including
any future increases in the cost, of commercial delivery services can be passed
on to the Company's customers, which could have a material adverse effect on the
Company's financial position, results of operations and cash flows. In addition,
the current shipping rates under the Airborne Express contract are subject to
renegotiation in 1999, and there can be no assurance that such renegotiated
rates will continue to be as favorable to the Company, which could have a
material adverse effect on the Company's financial position, results of
operations and cash flows. See "Business--Distribution" and "Business--Marketing
and Sales."
The Company also incurs substantial paper and postage costs related to its
marketing activities, including its catalog production and mailings. Any
increases in postal or paper costs could have a material adverse effect on the
Company's financial position, results of operations and cash flows.
No Assurance of Future Profitability; Variability of Quarterly Results
- -----------------------------------------------------------------------
The Company has experienced significant fluctuations in its operating results,
and these fluctuations may continue in the future. The Company incurred net
losses in the year ended December 31, 1994. The Company's results of operations
are significantly affected by many factors, including seasonal and other
fluctuations in demand for personal computer products and in profit margins on
products sold, catalog timing and circulation, product availability, and timing
of releases of new and upgraded products. Many of these factors are outside the
control of the Company. The Company's operating results are heavily dependent
upon its ability to predict sales levels, monitor and control associated
expenses, and carefully manage all aspects of its operations, including product
selection and pricing, purchasing and payables practices, inventory management,
and catalog funding, production and circulation. If revenues do not meet
expectations in any given quarter, or if the Company experiences difficulty in
monitoring or controlling associated expenses, the Company's financial position,
results of operations and cash flows may be materially adversely affected. There
can be no assurance that the Company will be profitable on a quarterly or annual
basis. It is possible that in some future quarter the expectations of public
market analysts and investors will exceed the Company's operating results. In
such event, the price of the Common Stock would likely be materially adversely
affected. See "Selected Quarterly Financial Results" within this section.
Changing Methods of Distribution
- ---------------------------------
The manner in which personal computers and related products are distributed and
sold is changing, and new methods of distribution and sale, such as on-line
shopping services, have emerged. Hardware and software manufacturers have sold,
and may intensify their efforts to sell, their products directly to end users.
From time to time, certain manufacturers have instituted programs for the direct
sales of large order quantities of hardware and software to certain major
corporate accounts. These types of programs may continue to be developed and
used by various manufacturers. Certain of the Company's vendors, including
Apple, Compaq and IBM, currently sell some of their products directly to end
users. In addition, manufacturers may attempt to increase the volume of software
products distributed electronically to end users. An increase in the volume of
products sold through or used by consumers of any of these competitive programs
or distributed electronically to end users could have a material adverse effect
on the Company's financial position, results of operations and cash flows.
23
<PAGE>
State Sales or Use Tax Collection Uncertainties
- ------------------------------------------------
The Company presently collects sales tax only on sales of products to residents
of the State of Ohio. Sales to customers located within the State of Ohio were
less than 2% of the Company's net sales during the year ended December 31, 1998.
Various states have sought to impose on direct marketers the burden of
collecting state sales taxes on the sales of products shipped to their
residents. In 1992, the United States Supreme Court affirmed its position that
it is unconstitutional for a state to impose sales or use tax collection
obligations on an out-of-state mail order company whose only contacts with the
state are limited to the distribution of catalogs and other advertising
materials through the mail and the subsequent delivery of purchased goods by
United States mail or by interstate common carrier. However, legislation that
would expand the ability of states to impose sales tax collection obligations on
direct marketers has been introduced in Congress on many occasions. Due to its
presence on various forms of electronic media and other factors, the Company's
contact with many states may exceed the contact involved in the Supreme Court
case. The Company cannot predict the level of contact that is sufficient to
permit a state to impose on the Company a sales tax collection obligation. If
the Supreme Court changes its position or if legislation is passed to overturn
the Supreme Court's decision, the imposition of a sales or use tax collection
obligation on the Company in states to which it ships products would result in
additional administrative expenses to the Company, could result in price
increases to the customer, and could reduce demand for the Company's products or
could otherwise have a material adverse effect on the Company's financial
position, results of operations and cash flows.
Dependence on Key Personnel
- ----------------------------
The Company's future performance will depend to a significant extent upon the
efforts and abilities of its senior executives. The competition for qualified
management personnel in the personal computer products industry is very intense,
and the loss of service of one or more of these persons could have an adverse
effect on the Company's business. The Company's success and plans for future
growth will also depend on its ability to hire, train and retain skilled
personnel in all areas of its business, including account managers and technical
support personnel. There can be no assurance that the Company will be able to
attract, train and retain sufficient qualified personnel to achieve its business
objectives.
Control by Principal Stockholders
- ----------------------------------
Patricia Gallup and David Hall, the principal stockholders of the Company,
beneficially own or control, in the aggregate, approximately 75% of the
outstanding shares of Common Stock. Because of their beneficial stock ownership,
these stockholders can continue to elect the members of the Board of Directors
and decide all matters requiring stockholder approval at a meeting or by a
written consent in lieu of a meeting. Similarly, such stockholders can (i)
control decisions to adopt, amend or repeal the Restated Certificate and the
Company's Bylaws, or take other actions requiring the vote or consent of the
Company's stockholders and (ii) prevent a takeover of the Company by one or more
third parties, or sell or otherwise transfer their stock to a third party, which
could deprive the Company's stockholders of a control premium that might
otherwise be realized by them in connection with an acquisition of the Company.
Such control may result in decisions that are not in the best interest of the
public stockholders of the Company. In connection with the Offering, the
principal stockholders placed all except 40,000 of the shares of Common Stock of
the Company that they beneficially own into a voting trust, pursuant to which
they are required to agree as to the manner of voting such shares in order for
the shares to be voted. Such provisions could discourage bids for the shares of
Common Stock at a premium as well as have a negative impact on the market price
of the shares of Common Stock.
================================================================================
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
================================================================================
The Company invests cash balances in excess of operating requirements in short-
term securities, generally with maturities of 90 days or less. In addition, the
Company's Credit Agreement provides for borrowings which bear interest at
variable rates based on the prime rate. The Company had no borrowings
outstanding pursuant to the Credit Agreement as of December 31, 1998. The
Company believes that the effect, if any, of reasonably possible near-term
changes in interest rates on the Company's financial position, results of
operations and cash flows should not be material.
24
<PAGE>
================================================================================
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
================================================================================
The information required by this Item is included in this Report beginning at
page F-1.
================================================================================
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
================================================================================
Not applicable.
PART III
================================================================================
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
================================================================================
The information included under the captions "Information Concerning Directors,
Nominees and Executive Officers" and "Section 16(a) Beneficial Ownership
Reporting Compliance" in the Company's definitive Proxy Statement for its 1999
Annual Meeting of Stockholders to be held May 26, 1999 (the "Proxy Statement")
is incorporated herein by reference. The Company anticipates filing the Proxy
Statement within 120 days after December 31, 1998. With the exception of the
foregoing information and other information specifically incorporated by
reference into this Form 10-K, the Proxy Statement is not being filed as a part
hereof.
================================================================================
ITEM 11. EXECUTIVE COMPENSATION
================================================================================
The information under the caption "Executive Compensation" in the Proxy
Statement is incorporated herein by reference.
================================================================================
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
================================================================================
The information under the heading "Security Ownership of Certain Beneficial
Owners and Management" in the Proxy Statement is incorporated herein by
reference.
================================================================================
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
================================================================================
The information under the heading "Certain Transactions and Relationships" in
the Proxy Statement is incorporated herein by reference.
25
<PAGE>
PART IV
================================================================================
ITEM 14. EXHIBITS, FINANCIAL STATEMENTS, SCHEDULE, AND REPORTS ON FORM 8-K
================================================================================
(a) List of Documents Filed as Part of This Report:
(1) Financial Statements
The financial statements listed below are included in this document.
FINANCIAL STATEMENTS PAGE REFERENCES
-------------------- ---------------
Report of Management....................................... F-2
Independent Auditors' Report............................... F-3
Balance Sheets............................................. F-4
Statements of Income....................................... F-5
Statement of Changes in Stockholders' Equity............... F-6
Statements of Cash Flows................................... F-7
Notes to Financial Statements.............................. F-8
(2) Financial Statement Schedule:
The following Financial Statement Schedule of the Company as set forth
below is filed with this report:
SCHEDULE PAGE REFERENCE
-------- --------------
Schedule II - Valuation and Qualifying Accounts............ S-1
(3) Supplementary Data
Not applicable.
(b) Reports on Form 8-K
Not applicable
(c) Exhibits
The exhibits listed below are filed herewith or are incorporated herein by
reference to other filings.
EXHIBIT INDEX
<TABLE>
<CAPTION>
EXHIBITS PAGE REFERENCE
-------- --------------
<S> <C>
*2.1 Form of Agreement and Plan of Merger between PC Connection, Inc.
a New Hampshire corporation, and the Registrant.
*2.2 Form of Certificate of Merger of PC Connection, Inc. A New
Hampshire corporation, and the Registrant to be filed with the
Secretary of State of the State of Delaware.
*2.3 Form of Articles of Merger of Domestic and Foreign Corporation
between PC Connection, Inc., a New Hampshire corporation, and the
Registrant to be filed with the Secretary of State of New
Hampshire.
*3.1 Restated Articles of Incorporation of Registrant to be effective
on or prior to the date of the consummation of the Offering
contemplated by this Registration Statement.
*3.2 Amended and Restated Certificate of Incorporation of Registrant
to be effective on or prior to the date of the consummation of
the Offering contemplated by this Registration Statement.
*3.3 Bylaws of Registrant, as amended to date.
*3.4 Bylaws of Registrant effective on or prior to the date of the
consummation of the Offering.
*4.1 Form of specimen certificate for shares of Common Stock, $0.01
par value per share, of the Registrant.
*9.1 Form of 1998 PC Connection Voting Trust Agreement among the
Registrant, Patricia Gallup individually and as a trustee, and
David Hall individually and as
</TABLE>
26
<PAGE>
trustee, to be entered into on or prior to the date of the
consummation of the Offering contemplated by this Registration
Statement.
*10.1 1993 Incentive and Non-Statutory Stock Option Plan, as amended.
*10.2 1997 Stock Incentive Plan.
*10.3 Lease between the Registrant and Miller-Valentine Partners, dated
September 24, 1990, as amended, for property located at 2870 Old
State Route 73, Wilmington, Ohio.
*10.4 Lease between the Registrant and Lower Bellbrook Company, dated
September 26, 1997, for property located at 643-651 Lower
Bellbrook Avenue, Xenia, Ohio.
*10.5 Lease between the Registrant and Gallup & Hall partnership, dated
May 1, 1997, for property located at 442 Marlboro Street, Keene,
New Hampshire.
*10.6 Lease between the Registrant and Gallup & Hall partnership, dated
June 1, 1987, as amended, for property located in Marlow, New
Hampshire.
*10.7 Lease between the Registrant and Gallup & Hall partnership, dated
July 22, 1998, for property located at 450 Marlboro Street,
Keene, New Hampshire.
*10.8 Lease between the Registrant and Dataproducts Corporation, dated
June 22, 1993, as amended, for property located at 528 Route 13
South, Milford, New Hampshire.
*10.9 Lease between the Registrant and Century Park, LLC, dated October
1, 1997 for property located at Route 111, Hudson, New Hampshire.
*10.10 Amended and Restated Lease between the Registrant and G&H Post,
LLC, dated December 29, 1997 for property located at Route 101A,
Merrimack, New Hampshire.
*10.11 Sublease between the Registrant and ABX Air Inc., dated June 7,
1995, for property located at 2870 Old State Route 73,
Wilmington, Ohio.
*10.12 Employment Agreement between the Registrant and Wayne L. Wilson,
dated August 16, 1995.
*10.13 Employment Agreement between the Registrant and Robert F.
Wilkins, dated December 23, 1995.
10.14 Severance Agreement between the Registrant and R. Wayne Roland,
dated January 7, 1999.
*10.15 Letter Agreement between the Registrant and Airborne Freight
Corporation D/B/A "Airborne Express," dated April 30, 1990, as
amended.
*10.16 Agreement between the Registrant and Ingram Micro, Inc., dated
October 30, 1997, as amended.
*10.17 State Street Bank and Trust Company Revolving Line of Credit and
Term Loan, dated March 31, 1997, as amended.
*10.18 Employment Agreement, dated as of January 1, 1998, between the
Registrant and Patricia Gallup.
*10.19 Employment Agreement, dated as of January 1, 1998, between the
Registrant and David Hall.
*10.20 Form of Registration Rights Agreement among the Registrant,
Patricia Gallup, David Hall and the 1998 PC Connection Voting
Trust.
10.21 Amendment No. 1 to Amended and Restrated Lease between the
Registrant and G&H Post, LLC, dated December 29, 1998 for
property located at Route 101A, Merrimack, New Hampshire.
10.22 Lease between Registrant and Dover Mills, LLC, dated August 1,
1998 for property located at Cocheco Falls Millworks, Dover, New
Hampshire.
10.23 Amended Lease Agreement between the Registrant and Dover Mills,
LLC dated August 1, 1998.
10.24 Employment Agreement between the Registrant and John L. Bomba,
dated March 28, 1997.
10.25 Employment Agreement between the Registrant and Mark A. Gavin,
dated February 5, 1998.
23.1 Consent of Deloitte & Touche LLP
*23.3 Consent of PC World Communications, Inc.
*23.4 Consent of PC Magazine.
27.1 Financial Data Schedule.
_______________________________
* Incorporated by reference from the exhibits filed with the Company's
registration statement (333-41171) on Form S-1 filed under the Securities Act
of 1933.
27
<PAGE>
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.
PC Connection, Inc.
Date: March 26, 1999 By: /s/ Patricia Gallup
------------------------------------------
Patricia Gallup, Chairman and CEO
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.
Name Title Date
---- ----- ----
/s/ PETER J. BAXTER Director March 26, 1999
- -------------------------
Peter J. Baxter
/s/ DAVID BEFFA-NEGRINI Director March 26, 1999
- -------------------------
David Beffa-Negrini
/s/ PATRICIA GALLUP CEO and Director March 26, 1999
- -------------------------
Patricia Gallup (Principal Executive Officer)
/s/ DAVID HALL Vice Chairman and Director March 26, 1999
- -------------------------
David Hall
/s/ MARK A. GAVIN Chief Financial Officer March 26, 1999
- -------------------------
Mark A. Gavin (Principal Financial and
Accounting Officer)
/s/ MARTIN C. MURRER Director March 26, 1999
- -------------------------
Martin C. Murrer
/s/ WAYNE L. WILSON President and COO March 26, 1999
- -------------------------
Wayne L. Wilson (Principal Operating Officer)
28
<PAGE>
PC CONNECTION, INC.
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Report of Management......................................................................... F-2
Independent Auditors' Report................................................................. F-3
Balance Sheets as of December 31, 1998 and 1997.............................................. F-4
Statements of Income for the years ended December 31, 1998, 1997, and 1996................... F-5
Statement of Changes in Stockholders' Equity for the years ended December 31, 1998,
1997, and 1996........................................................................... F-6
Statements of Cash Flows for the years ended December 31, 1998, 1997, and 1996............... F-7
Notes to Financial Statements................................................................ F-8
</TABLE>
F-1
<PAGE>
REPORT OF MANAGEMENT
Responsibility for the integrity and objectivity of the financial information
presented in this Annual Report on Form 10-K rests with PC Connection, Inc. (the
"Company") management. The accompanying financial statements have been prepared
in conformity with generally accepted accounting principles, applying certain
estimates and judgments as required.
The Company maintains an effective internal control structure. It consists, in
part, of an organization with clearly defined lines of responsibility and
delegation of authority, comprehensive systems and control procedures. We
believe this structure provides reasonable assurance that transactions are
executed in accordance with management authorization and generally accepted
accounting principles.
To assure the effective administration of internal control, we carefully select
and train our employees, develop and disseminate written policies and
procedures, provide appropriate communication channels and foster an environment
conducive to the effective functioning of controls. We believe that it is
essential for the Company to conduct its business affairs in accordance with the
highest ethical standards.
Deloitte & Touche LLP, independent auditors, is retained to audit the Company's
financial statements. Its accompanying report is based on an audit conducted in
accordance with generally accepted auditing standards.
The Audit Committee of the Board of Directors is composed solely of outside
directors and is responsible for recommending to the Board of Directors the
independent accounting firm to be retained for the coming year. The Audit
Committee meets periodically and privately with the independent auditors, as
well as with Company management, to review accounting, auditing, internal
control structure and financial reporting matters.
Patricia Gallup Wayne L. Wilson Mark A. Gavin
Chairman and President and Chief Chief Financial Officer
Chief Executive Officer Operating Officer
F-2
<PAGE>
INDEPENDENT AUDITORS' REPORT
To the Board of Directors of
PC Connection, Inc.
Merrimack, New Hampshire
We have audited the accompanying balance sheets of PC Connection, Inc. as of
December 31, 1998 and 1997, and the related statements of income, changes in
stockholders' equity, and cash flows for each of the three years in the period
ended December 31, 1998. Our audits also included the financial statement
schedule listed in Item 14(a)(2). These financial statements and financial
statement schedule are the responsibility of the Company's management. Our
responsibility is to express an opinion on the financial statements and
financial statement schedule based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such financial statements present fairly, in all material
respects, the financial position of PC Connection, Inc. as of December 31, 1998
and 1997, and the results of its operations and its cash flows for each of the
three years in the period ended December 31, 1998, in conformity with generally
accepted accounting principles. Also, in our opinion, such financial statement
schedule, when considered in relation to the basic financial statements taken as
a whole, presents fairly in all material respects the information set forth
therein.
/s/ Deloitte & Touche LLP
Deloitte & Touche LLP
Boston, Massachusetts
February 8, 1999
F-3
<PAGE>
PC CONNECTION, INC.
BALANCE SHEETS
(amounts in thousands, except per share data)
<TABLE>
<CAPTION>
DECEMBER 31,
-----------------------
1998 1997
---- ----
<S> <C> <C>
ASSETS
Current Assets:
Cash and cash equivalents.......................................... $ 11,910 $ 758
Accounts receivable, net........................................... 58,890 29,921
Inventories - merchandise.......................................... 63,425 63,720
Deferred income taxes.............................................. 3,181 375
Prepaid expenses and other current assets.......................... 4,115 2,205
-------- --------
Total current assets 141,521 96,979
Property and equipment, net......................................... 22,675 8,463
Deferred income taxes............................................... 314 -
-------- --------
TOTAL ASSETS................................................. $164,510 $105,442
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Short-term borrowings.............................................. $ - $ 28,318
Current maturities of capital lease obligation
to affiliate.................................................... 123 -
Current maturities of long-term debt............................... - 1,250
Amounts payable to stockholders.................................... - 1,185
Accounts payable................................................... 77,561 38,174
Accrued expenses and other liabilities............................. 10,069 9,145
-------- --------
Total current liabilities.................................... 87,753 78,072
Term loan, less current maturities.................................. - 3,250
Capital lease obligation to affiliate, less current maturities...... 7,081 -
-------- --------
TOTAL LIABILITIES........................................... 94,834 81,322
-------- --------
Commitments and Contingencies (Note 11)
Stockholders' Equity:
Preferred stock:
$.01 par value, 7,500 shares authorized, none issued
and outstanding................................................ - -
Common stock:
Series A Non-Voting, $.01 par value, 22,500 shares
authorized, 8,849 shares issued and outstanding
at December 31, 1997........................................... - 88
Series B Voting, $.01 par value, 7,500 shares
authorized, 2,950 shares issued and outstanding
at December 31, 1997........................................... - 30
$.01 par value, 30,000 shares authorized, 15,605
issued and outstanding at December 31, 1998.................... 156 -
Additional paid-in capital......................................... 56,812 4,097
Retained earnings.................................................. 12,708 19,905
-------- --------
TOTAL STOCKHOLDERS' EQUITY.................................... 69,676 24,120
-------- --------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY.................... $164,510 $105,442
======== ========
</TABLE>
See notes to financial statements.
F-4
<PAGE>
PC CONNECTION, INC.
STATEMENTS OF INCOME
(amounts in thousands, except per share data)
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-------------------------------
1998 1997 1996
--------- --------- ---------
<S> <C> <C> <C>
Net sales..................................... $732,370 $550,575 $333,322
Cost of sales................................. 639,096 474,609 282,117
-------- -------- --------
Gross Profit................................. 93,274 75,966 51,205
Selling, general and administrative expenses.. 68,521 56,596 43,739
Additional stockholder/officer compensation... 2,354 12,130 1,259
-------- -------- --------
Income from operations...................... 22,399 7,240 6,207
Interest expense.............................. (415) (1,355) (1,269)
Other, net.................................... 565 (42) 70
-------- -------- --------
Income before taxes........................... 22,549 5,843 5,008
Income taxes.................................. (3,905) (639) (252)
-------- -------- --------
Net income.................................. $ 18,644 $ 5,204 $ 4,756
======== ======== ========
Pro forma data:
Historical income before income taxes........ $ 22,549 $ 5,843
Pro forma other adjustments.................. 2,354 12,010
-------- --------
Pro forma income before income taxes......... 24,903 17,853
Pro forma income taxes....................... 9,631 6,963
-------- --------
Pro forma net income......................... $ 15,272 $ 10,890
======== ========
Pro forma basic net income per share......... $ 1.01 $ .79
======== ========
Pro forma diluted net income per share....... $ .98 $ .76
======== ========
</TABLE>
See notes to financial statements.
F-5
<PAGE>
PC CONNECTION, INC.
STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
(AMOUNTS IN THOUSANDS)
<TABLE>
<CAPTION>
COMMON STOCK ADDITIONAL
-------------- PAID-IN RETAINED
SHARES AMOUNT CAPITAL EARNINGS TOTAL
------ ------ ----------- --------- ---------
<S> <C> <C> <C> <C> <C>
BALANCE, JANUARY 1, 1996................... 11,799 $118 $ 2,994 $ 9,945 $ 13,057
Compensation under nonstatutory
stock option agreements................... - - 230 - 230
Net income................................. - - - 4,756 4,756
------ ------ ------- -------- --------
BALANCE, DECEMBER 31, 1996................. 11,799 118 3,224 $ 14,701 18,043
------ ------ ------- -------- --------
Compensation under nonstatutory
stock option agreements................... - - 873 - 873
Net income................................. - - - 5,204 5,204
------ ------ ------- -------- --------
BALANCE, DECEMBER 31, 1997................. 11,799 118 4,097 19,905 24,120
------ ------ ------- -------- --------
Net proceeds from initial public offering.. 3,594 36 57,217 - 57,253
Dividend................................... - - (7,196) (25,841) (33,037)
Exercise of stock options, including
income tax benefits....................... 212 2 1,397 - 1,399
Compensation under nonstatutory
stock option agreements................... - - 1,297 - 1,297
Net income................................. - - - 18,644 18,644
------ ------ ------- -------- --------
BALANCE, DECEMBER 31, 1998................. 15,605 $156 $56,812 $ 12,708 $ 69,676
====== ====== ======= ======== ========
</TABLE>
See notes to financial statements.
F-6
<PAGE>
PC CONNECTION, INC.
STATEMENTS OF CASH FLOWS
(AMOUNTS IN THOUSANDS)
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
---------------------------------
1998 1997 1996
---------- ---------- ---------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income.................................................. $ 18,644 $ 5,204 $ 4,756
Adjustments to reconcile net income to net cash provided
by (used for) operating activities:
Depreciation and amortization............................ 2,866 3,660 2,815
Deferred income taxes.................................... (1,945) (154) 48
Compensation under nonstatutory stock option agreements.. 1,297 873 230
Provision for doubtful accounts.......................... 6,296 3,339 1,389
Loss (gain) on disposal of fixed assets................. - 54 (53)
Changes in assets and liabilities:
Accounts receivable...................................... (35,265) (10,097) (7,410)
Inventories.............................................. 295 (19,301) (22,157)
Prepaid expenses and other current assets................ (1,910) (483) 529
Accounts payable......................................... 39,387 1,269 14,610
Amounts payable to stockholders.......................... (1,185) 1,185 -
Accrued expenses and other liabilities................... 926 4,042 727
--------- --------- --------
Net cash provided by (used for) operating activities........ 29,406 (10,409) (4,516)
--------- --------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment......................... (9,922) (4,528) (3,433)
Proceeds from sale of property and equipment................ 58 22 63
--------- --------- --------
Net cash used for investing activities...................... (9,864) (4,506) (3,370)
--------- --------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from short-term borrowings......................... 160,098 178,362 84,484
Repayment of short-term borrowings.......................... (188,416) (162,351) (77,110)
Repayment of term loan...................................... (4,500) (500) -
Repayment of capital lease obligation to affiliate.......... (11) - -
Issuance of stock upon exercise of stock options............ 223 - -
Net proceeds from initial public offering................... 57,253 - -
Payment of dividend......................................... (33,037) - -
--------- --------- --------
Net cash provided by (used for) financing activities........ (8,390) 15,511 7,374
--------- --------- --------
Increase (decrease) in cash and cash equivalents............ 11,152 596 (512)
Cash and cash equivalents, beginning of period.............. 758 162 674
--------- --------- --------
Cash and cash equivalents, end of period.................... $ 11,910 $ 758 $ 162
========= ========= ========
SUPPLEMENTAL CASH FLOW INFORMATION:
Interest paid............................................... $ 497 $ 1,334 $ 1,247
Income taxes paid........................................... 7,275 550 96
NON-CASH TRANSACTIONS:
Assets acquired under capital lease......................... 7,215 - -
</TABLE>
See notes to financial statements.
F-7
<PAGE>
PC CONNECTION, INC.
NOTES TO FINANCIAL STATEMENTS
(AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
PC Connection, Inc. (the "Company") is a direct marketer of brand-name personal
computers and related peripherals, software, and networking products to
business, education, government, and consumer end users located primarily in the
United States. The following is a summary of significant accounting policies.
USE OF ESTIMATES IN THE PREPARATION OF FINANCIAL STATEMENTS
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions.
These estimates and assumptions affect the amounts reported in the accompanying
financial statements. Actual results could differ from those estimates.
REVENUE RECOGNITION
Revenue on product sales is recognized at the point of shipment. A reserve for
sales returns is established based upon historical trends.
CASH AND CASH EQUIVALENTS
The Company considers all highly liquid short-term investments with original
maturities of 90 days or less to be cash equivalents. The carrying value of the
Company's cash equivalents approximates fair value
INVENTORIES - MERCHANDISE
Inventories (all finished goods) consisting of software packages, computer
systems and peripheral equipment, are stated at cost (determined under the
first-in, first-out method) or market, whichever is lower.
ADVERTISING COSTS AND REVENUES
Costs of producing and distributing catalogs are deferred and charged to expense
over the period that each catalog remains the most current selling vehicle
(generally one to two months). Other advertising costs are expensed as incurred.
Vendors have the ability to place advertisements in the catalogs for which the
Company receives advertising allowances and incentives. These revenues are
recognized on the same basis as the catalog costs.
Advertising costs charged to expense were $32,498, $27,859 and $19,878 for the
years ended December 31, 1998, 1997 and 1996, respectively. Deferred advertising
revenues at December 31, 1998 and 1997 exceeded deferred advertising costs of
$325 and $498 at those respective dates, and, accordingly, such net deferred
amounts are included in accrued expenses and other liabilities.
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost. Depreciation and amortization is
provided for both financial and income tax reporting purposes over the estimated
useful lives of the assets ranging from three to seven years. Internally
developed software is capitalized and amortized over lives ranging from three to
five years. Depreciation was provided using accelerated methods for property
acquired prior to 1996 and on the straight-line method for property acquired
thereafter. The effect of this change in accounting policy was to increase 1996
income before income taxes by approximately $330. Leasehold improvements and
capital leases are amortized over the terms of the related leases or their
useful lives, whichever is shorter, whereas for income tax reporting purposes,
they are amortized over the applicable tax lives. The Company periodically
evaluates the carrying value of property and equipment based upon current and
anticipated undiscounted cash flows, and recognizes an impairment when it is
probable that such estimated future net income and/or cash flows will be less
than the asset carrying value.
F-8
<PAGE>
TAX STATUS AND INCOME TAXES
For periods prior to March 6, 1998, the Company elected to be treated as an S
Corporation under Subchapter S of the Internal Revenue Code (the "Code"), and
applicable state laws. Effective with the consummation of the Company's initial
public offering of its common stock on March 6, 1998 (the "Offering"), the
Company's S Corporation election was automatically terminated and the Company
became subject to federal and state income taxes as a C Corporation from that
date forward.
Deferred income tax assets and liabilities are computed for differences between
the financial statement and tax basis of assets and liabilities that will result
in taxable or deductible amounts in the future, based on enacted tax laws and
rates applicable to the periods in which the differences are expected to affect
taxable income. Valuation allowances are established when necessary to reduce
deferred tax assets to the amount that is more likely than not to be realized.
Income taxes comprise the tax payable or refundable for the period plus or minus
the change during the period in deferred tax assets and liabilities.
ADDITIONAL STOCKHOLDER/OFFICER COMPENSATION
Additional stockholder/officer compensation represents amounts accrued or
distributed in excess of aggregate annual base salaries approved by the Board of
Directors (the "Board") and generally represents Company-related federal income
tax obligations payable by the stockholders for periods during which the Company
was an S Corporation.
CONCENTRATION OF CREDIT RISK
Concentrations of credit risk with respect to trade account receivables are
limited due to the large number of customers comprising the Company's customer
base. Ongoing credit evaluations of customers' financial condition are
performed.
EARNINGS PER SHARE
In 1997, the Financial Accounting Standards Board ("FASB") issued Statement of
Financial Accounting Standards ("SFAS") No. 128, "Earnings Per Share". SFAS No.
128 replaced the calculation of primary and fully diluted earnings per share
with basic and diluted earnings per share. Basic earnings per common share is
computed using the weighted average number of shares outstanding. Diluted
earnings per common share is computed using the weighted average number of
shares outstanding adjusted for the incremental shares attributed to outstanding
options to purchase common stock. All earnings per share amounts for all periods
have been presented in accordance with SFAS No. 128 requirements. The
denominator to determine pro forma basic earnings per share for all periods
prior to March 6, 1998 includes the weighted average shares required to pay the
S Corporation dividend (assuming a price per share of $17.50 for the year ended
December 31, 1998 and $16.00 for the year ended December 31, 1997).
STOCK-BASED COMPENSATION
Compensation expense associated with awards of stock or options to employees is
measured using the intrinsic value method in accordance with APB Opinion No. 25.
The Board estimated the fair value of the Company's stock for awards made prior
to the Offering using market valuations of comparable publicly traded companies,
among other factors.
COMPREHENSIVE INCOME
Effective January 1, 1998, the Company adopted SFAS No. 130, "Reporting
Comprehensive Income", which requires businesses to disclose comprehensive
income and its components in their general-purpose financial statements. The
Company has no comprehensive income.
RECENTLY ISSUED FINANCIAL ACCOUNTING STANDARDS
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities", effective for fiscal years beginning after
June 15, 1999. The new standard requires that all companies record derivatives
on the balance sheet as assets or liabilities, measured at fair value. Gains or
losses resulting from changes in the values of those derivatives would be
accounted for depending on the use of the derivative and whether it qualifies
for hedge accounting. Management is currently assessing the impact of SFAS No.
133 on the financial statements of the Company. The Company will adopt this
accounting standard on January 1, 2000, as required.
F-9
<PAGE>
RECLASSIFICATIONS
Certain amounts in the 1997 and 1996 financial statements have been reclassified
to conform to the 1998 presentation.
2. PRO FORMA INCOME STATEMENT DATA
PRO FORMA INCOME STATEMENT DATA (UNAUDITED)
The following pro forma adjustments have been made to the historical results of
operations for the period from January 1 through March 5, 1998 and the year
ended December 31, 1997 to make the pro forma presentation comparable to what
would have been reported had the Company operated as a C Corporation:
(i) Elimination of stockholder/officer compensation in excess of aggregate
annual base salaries of $600 that were in effect during 1998 in
accordance with employment agreements; and
(ii) Computation of income tax expense assuming an effective tax rate of
approximately 39% (see Note 9) and after adjusting stockholder/officer
compensation expense described in (i) above.
The following table presents a reconciliation of the numerators and denominators
of pro forma basic and diluted net income per share:
<TABLE>
<CAPTION>
INCOME SHARES PER SHARE
(NUMERATOR) (DENOMINATOR) AMOUNT
----------- ------------- ---------
<S> <C> <C> <C>
FOR THE YEAR ENDED DECEMBER 31, 1998:
Pro forma net income.......................................... $ 15,272
Weighted average shares outstanding........................... 14,849
Weighted average shares required to pay stockholder dividend.. 316
--------- ---------
Pro forma basic net income per share.......................... 15,272 15,165 $ 1.01
=========
Effect of dilutive securities................................. 504
--------- ---------
Pro forma diluted earnings per share.......................... $ 15,272 15,669 $ .98
========= ========= =========
</TABLE>
<TABLE>
<CAPTION>
INCOME SHARES PER SHARE
(NUMERATOR) (DENOMINATOR) AMOUNT
---------- ------------ ---------
<S> <C> <C> <C>
FOR THE YEAR ENDED DECEMBER 31, 1997:
Pro forma net income.......................................... $10,890
Weighted average shares outstanding........................... 11,799
Weighted average shares required to pay stockholder dividend.. 2,062
------- ------------
Pro forma basic net income per share.......................... 10,890 13,861 $ .79
=========
Effect of dilutive securities................................. 383
------- ------------
Pro forma diluted earnings per share.......................... $10,890 14,244 $ .76
======= ============ =========
</TABLE>
Stock options excluded from the computation of diluted earnings per share,
because their inclusion would be anti-dilutive, were 78 and nil for the years
ended December 31, 1998 and 1997, respectively.
3. ACCOUNTS RECEIVABLE
Accounts receivable consisted of the following:
<TABLE>
<CAPTION>
DECEMBER 31,
------------------
1998 1997
-------- --------
<S> <C> <C>
Trade.............................. $47,667 $28,885
Co-op advertising.................. 6,131 2,880
Vendor returns, rebates and other.. 14,243 3,516
------- -------
Total......................... 68,041 35,281
Less allowances for:
Sales returns................. (4,030) (2,701)
Doubtful accounts............. (5,121) (2,659)
------- -------
Accounts receivable, net........... $58,890 $29,921
======= =======
</TABLE>
F-10
<PAGE>
4. PROPERTY AND EQUIPMENT
Property and equipment consisted of the following:
<TABLE>
<CAPTION>
DECEMBER 31,
----------------------
1998 1997
-------- --------
<S> <C> <C>
Facilities under capital lease.................................. $ 7,215 $ -
Leasehold improvements.......................................... 5,225 3,857
Furniture and equipment......................................... 22,484 19,967
Computer software, including licenses and internally-developed
software....................................................... 7,873 2,041
Automobiles..................................................... 192 175
-------- --------
Total...................................................... 42,989 26,040
Less accumulated depreciation and amortization.................. (20,314) (17,577)
-------- --------
Property and equipment, net..................................... $ 22,675 $ 8,463
======== ========
</TABLE>
5. BANK BORROWINGS
At December 31, 1998, the Company had a revolving credit agreement with a bank
providing for short-term borrowing equal to the lesser of $45,000 or an amount
determined by a formula based on accounts receivable and inventory balances
through March 31, 2002. Short-term borrowings were collateralized by all
accounts receivable and inventories (other than inventories pledged to secure
trade credit arrangements) and bear interest at either the prime rate (7.75% at
December 31, 1998) or the adjusted LIBOR rate plus 2.0%. The revolving credit
agreement includes various customary financial and operating covenants,
including working capital requirements, debt-to-net worth ratios, minimum net
income requirements and restrictions on the payment of dividends, except for
distributions in respect of income taxes, none of which, in the opinion of
management, significantly restricts the Company's operations. No amounts were
outstanding under this agreement at December 31, 1998.
Certain information with respect to short-term borrowings were as follows:
<TABLE>
<CAPTION>
WEIGHTED AVERAGE MAXIMUM AMOUNT AVERAGE AMOUNT
INTEREST RATE OUTSTANDING OUTSTANDING
------------- ----------- -----------
<S> <C> <C> <C>
Year ended December 31,
1998................. 8.2% $28,307 $4,145
1997................. 8.6 31,890 9,458
1996................. 9.0 23,527 7,921
</TABLE>
6. TRADE CREDIT ARRANGEMENTS
At December 31, 1998 and 1997, the Company had security agreements with two
financial institutions to facilitate the purchase of inventory from various
suppliers under certain terms and conditions. The agreements allow a
collateralized position in inventory financed by the financial institutions up
to an aggregated amount of $24,900 (with seasonal increases to $37,350 from
October 1, 1998 through January 31, 1999). The cost of such financing under
these agreements is borne by the suppliers. At December 31, 1998 and 1997,
accounts payable included $21,820 and $5,394, respectively owed to these
financial institutions.
7. CAPITAL LEASE
In November 1997, the Company entered into a fifteen-year lease for a new
corporate headquarters with an affiliated company related to the Company through
common ownership. The Company occupied the facility upon completion of
construction in late November 1998, and the lease payments commenced in December
1998. Annual lease payments under the terms of the lease, as amended, will be
approximately $911 for the first five years of the lease, increasing to $1,025
for years six through ten and $1,139 for years eleven through fifteen. The lease
requires the Company to pay its proportionate share of real estate taxes and
common area maintenance charges as additional rent and also to pay insurance
premiums for the leased property. The Company has the option to renew the lease
for two additional terms of five years each.
F-11
<PAGE>
In December 1998, the Company recorded the lease as a capital lease. The
recorded value of the asset (facilities under capital lease) and the related
liability (capital lease obligation to affiliate) was $7,215, and during 1998,
the Company made principal and interest payments under this lease aggregating
$76.
Future aggregate minimum annual lease payments under this lease at December 31,
1998 are as follows:
<TABLE>
<CAPTION>
YEAR ENDING DECEMBER 31 PAYMENTS
----------------------- --------
<S> <C>
1999 ................................................................ $ 911
2000................................................................. 911
2001................................................................. 911
2002................................................................. 911
2003................................................................. 921
2004 and thereafter.................................................. 10,738
-------
Total minimum payments (excluding taxes, maintenance and insurance).. 15,303
Less amount representing interest.................................... (8,099)
-------
Present value of minimum lease payments.............................. 7,204
Less current maturities.............................................. (123)
-------
Long-term portion.................................................... $ 7,081
=======
</TABLE>
8. STOCKHOLDERS' EQUITY
RECAPITALIZATION AND STOCK SPLIT
On February 4, 1998, the Company amended its Articles of Incorporation to
increase the authorized shares of the Company's Series A Non-Voting Common
Stock, $.01 par value per share, and Series B Voting Common Stock, $.01 par
value per share to 22,500,000 and 7,500,000 shares, respectively. The Company
also, through a 1.310977-for-one stock split, increased the total number of
Series A Non-Voting and Series B Voting shares issued and outstanding to
8,849,095 shares and 2,949,698 shares, respectively. The effect of this
recapitalization and stock split has been reflected in the Company's financial
statements and related notes thereto for all periods presented.
REINCORPORATION OF THE COMPANY
Prior to the consummation of the Offering, the Company was incorporated in New
Hampshire. Contemporaneous with the consummation of the Offering, the Company
was reincorporated in Delaware. All of the issued and outstanding shares of
Series A Non-Voting Common Stock, $0.1 par value per share, and Series B Voting
Common Stock, $.01 par value per share, of the New Hampshire corporation were
converted into 11,798,793 shares of Common Stock, $.01 par value, of the
Delaware corporation on a one-for-one basis, and the Series A and Series B
shares were canceled. The effect of the conversion has been reflected in the
Statement of Changes in Stockholders' Equity for all periods presented.
PREFERRED STOCK
The Amended and Restated Certificate of Incorporation of the Delaware
Corporation (the "Restated Certificate") authorized the issuance of up to
7,500,000 shares of preferred stock, $.01 par value per share (the "Preferred
Stock"). Under the terms of the Restated Certificate, the Board is authorized,
subject to any limitations prescribed by law, without stockholder approval, to
issue by a unanimous vote such shares of Preferred Stock in one or more series.
Each such series of Preferred Stock shall have such rights, preferences,
privileges and restrictions, including voting rights, dividend rights,
redemption privileges and liquidation preferences, as shall be determined by
the Board.
INCENTIVE AND NON-STATUTORY STOCK OPTION PLANS
In December 1993, the Board adopted and the stockholders approved the 1993
Incentive and Non-Statutory Stock Option Plan (the "1993 Plan"). Under the terms
of the 1993 Plan, the Company is authorized to make awards of restricted stock
and to grant incentive and non-statutory options to employees of, and
consultants and advisors to, the Company to purchase shares of the Company's
stock. A total of 1,124,163 shares of the Company's Common Stock may be issued
upon exercise of options granted or awards made under the 1993 Plan. Options
vest over varying periods up to four years and have contractual lives up to ten
years.
F-12
<PAGE>
In November 1997, the Board adopted and the stockholders approved the 1997 Stock
Incentive Plan (the "1997 Plan"), which became effective on the closing of the
Offering. The 1997 Plan provides for the grant of incentive stock options, non-
statutory stock options, stock appreciation rights, performance shares and
awards of restricted stock and unrestricted stock. An aggregate of 800,000
shares of Common Stock has been reserved for issuance under the 1997 Plan.
Information regarding the 1993 and 1997 Plans is as follows:
<TABLE>
<CAPTION>
WEIGHTED
AVERAGE WEIGHTED
OPTION EXERCISE AVERAGE
SHARES PRICE VALUE FAIR
------ -------- ----------
<S> <C> <C> <C>
Outstanding, January 1, 1996...................... 655,489 $2.45
Granted...................................... 117,988 1.44 $ 2.86
Forfeited.................................... (183,537) 3.59
---------
Outstanding, December 31, 1996 589,940 1.89
Granted...................................... 504,070 4.97 4.22
---------
Outstanding, December 31, 1997.................... 1,094,010 3.31
Granted...................................... 780,363 17.77 8.11
Exercised.................................... (212,648) 1.05
Forfeited.................................... (56,155) 7.66
---------
Outstanding, December 31, 1998.................... 1,605,570 10.53
=========
</TABLE>
The following table summarizes the status of outstanding stock options as of
December 31, 1998:
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
----------------------------------------- --------------------------
WEIGHTED
WEIGHTED AVERAGE WEIGHTED
EXERCISE NO. OF AVERAGE REMAINING NO. OF AVERAGE
PRICE RANGE SHARES EXERCISE PRICE LIFE (YEARS) SHARES EXERCISE PRICE
----------- ------ -------------- ------------ ------ --------------
<S> <C> <C> <C> <C> <C>
$.76 - $5.72 790,573 $ 3.07 6.9 632,598 $ 2.69
$ 17.50 737,247 17.50 7.9 29,548 17.50
$17.75 - 24.75 77,750 20.20 9.3 3,250 18.50
-------------- --------- ------ --------- ------- ------
$ 0.76 - 24.75 1,605,570 $10.53 7.5 665,396 $ 3.43
============== ========= ====== ========= ======= ======
</TABLE>
There were no options exercisable at December 31, 1997 or 1996.
The Company has adopted the disclosure-only provisions of SFAS No. 123,
"Accounting for Stock-Based Compensation". Accordingly, compensation expense
for options awarded under the Plans in 1998, 1997 and 1996, has been recognized
using the intrinsic value method.
The fair value of options granted prior to the consummation of the Offering was
estimated using the minimum value method and risk-free interest rates and
expected option lives of 6% and seven years, respectively. The minimum value
pricing method was designed to value stock options of non-public companies;
accordingly, the minimum value method assumed zero volatility.
The Black-Scholes model was used to value options granted subsequent to the
Offering using a volatility factor of 50%, estimated option lives of four years,
and a risk-free interest rate of 6%. Management believes that the assumptions
used and the models applied to value the awards yield a reasonable estimate of
the fair value of the grants made under the circumstances, given the
alternatives under SFAS No. 123.
Effective upon the consummation of the Offering, certain restrictions as to the
exercise of options granted under the Company's 1993 Plan expired. Prior to the
consummation of the Offering, the Company recorded compensation expense for
certain options granted at prices less than their fair market value ratably over
seven years from the dates granted, because such options were not exercisable
except upon the occurrence of certain events, including a public offering of the
Company's Common Stock. Effective upon the consummation of the Offering, the
Company recorded a one-time charge for stock-option compensation expense of
approximately $870, relating to the acceleration of the vesting period of
certain of the Company's stock options from seven to four years.
Compensation expense charged to operations using the intrinsic value method
totaled $1,297 (including the one-time charge of $870 referred to above), $873
and $230 for the years ended December 31, 1998, 1997 and 1996, respectively.
Had the Company recorded compensation expense using the fair value method under
SFAS No. 123, pro forma net income and diluted net income per share for the
years ended December 31 would have been as follows:
F-13
<PAGE>
<TABLE>
<CAPTION>
1998 1997
------- -------
<S> <C> <C>
Pro forma net income, as reported $15,272 $10,890
Pro forma net income, under SFAS No. 123 14,423 10,824
Pro forma diluted net income per share, as reported .98 .76
Pro forma diluted net income, under SFAS No. 123 .93 .76
</TABLE>
Had the Company recorded compensation expense under SFAS No. 123, net income
would have decreased by $6 for the year ended December 31, 1996.
1997 EMPLOYEE STOCK PURCHASE PLAN
In November 1997, the Board adopted and the stockholders approved the 1997
Employee Stock Purchase Plan (the "Purchase Plan"), which became effective on
February 1, 1999. The Purchase Plan authorizes the issuance of Common Stock to
participating employees. Under the terms of the Purchase Plan, the purchase
price is an amount equal to 85% of the fair market value per share of the Common
Stock on either the first day or the last day of the offering period, whichever
is lower. An aggregate of 225,000 shares of Common Stock has been reserved for
issuance under the Purchase Plan.
9. INCOME TAXES
The provisions for income taxes prior to March 6, 1998 were based on the state
income tax obligations of the Company as an S Corporation and were $639 and $252
for the years ended December 31, 1997 and 1996, respectively. Effective with the
consummation of the Offering, the Company's S Corporation election was
terminated and the Company began to account for income taxes as a C Corporation.
The 1998 provision for income taxes and unaudited 1998 and 1997 pro forma
provision (benefit) for income taxes consisted of the following:
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
---------------------------------
(PRO FORMA) (PRO FORMA)
1998 1998 1997
---- ---- ----
<S> <C> <C> <C>
Paid or currently payable:
- -------------------------
Federal....................................................................... $ 6,390 $7,706 $ 9,214
State......................................................................... 842 766 793
------- ------ -------
Total current............................................................... 7,232 8,472 10,007
------- ------ -------
Deferred:
Recognition of deferred tax asset upon termination of S Corporation election.. (4,200) - -
Federal....................................................................... 795 1,054 (2,890)
State......................................................................... 78 105 (154)
------- ------ -------
Net deferred................................................................ (3,327) 1,159 (3,044)
------- ------ -------
Net provision............................................................... $ 3,905 $9,631 $ 6,963
======= ====== =======
The components of the deferred taxes at December 31, 1998 are as follows:
Assets:
- ------
Provisions for doubtful accounts.............................................. $ 2,197
Inventory costs capitalized for tax purposes.................................. 517
Inventory and sales returns reserves.......................................... 1,365
Deductible expenses, primarily employee-benefit related....................... 421
Compensation under non-statutory stock option agreements...................... 709
-------
Deferred tax assets......................................................... 5,209
Liabilities:
- -----------
Accumulated depreciation...................................................... (395)
Other liabilities............................................................. (1,319)
-------
Net deferred tax asset...................................................... $ 3,495
=======
</TABLE>
The net deferred tax asset at December 31, 1997 was $375.
F-14
<PAGE>
The reconciliation of the Company's 1998 income tax provision and its 1998 and
1997 unaudited pro forma income tax provision to the statutory federal tax rate
is as follows:
<TABLE>
<CAPTION>
(PRO FORMA) (PRO FORMA)
1998 1998 1997
------ ----------- -----------
<S> <C> <C> <C>
Statutory tax rate............................................. 35.0% 35.0% 35.0%
Recognition of deferred tax asset upon termination of
S Corporation election..................................... (18.6) - -
1998 S Corporation income not subject to federal income taxes.. (2.8) - -
State income taxes, net of federal benefit..................... 2.6 2.6 2.6
Nondeductible expenses......................................... 0.2 0.2 0.2
Other - net.................................................... 0.9 0.9 1.2
----- ---- ----
Effective income tax rate.................................... 17.3% 38.7% 39.0%
===== ==== ====
</TABLE>
10. EMPLOYEE BENEFIT PLAN
The Company has a contributory profit-sharing and employee savings plan covering
all qualified employees. No contributions to the profit-sharing element of the
plan were made by the Company in 1998, 1997 or 1996. The Company made matching
contributions to the employee savings element of the plan of approximately $361,
$171, and $177 in 1998, 1997 and 1996, respectively.
11. COMMITMENTS AND CONTINGENCIES
Operating Leases
The Company leases certain office facilities from its principal stockholders
under 20-year noncancelable operating leases. The lease agreement for one
facility requires the Company to pay all real estate taxes and insurance
premiums related thereto. The Company also leases several other buildings from
its principal stockholders on a month-to-month basis.
In addition, the Company leases office and warehouse facilities from unrelated
parties with remaining terms of one to four years.
Future aggregate minimum annual lease payments under these leases at December
31, 1998 are as follows:
<TABLE>
<CAPTION>
YEAR ENDING DECEMBER 31 RELATED PARTIES OTHERS TOTAL
----------------------- --------------- ------ -----
<S> <C> <C> <C>
1999.......................... $251 $633 $884
2000.......................... 251 453 704
2001.......................... 251 - 251
2002.......................... 221 - 221
2003.......................... 206 - 206
2004 and thereafter........... 819 - 819
</TABLE>
Total rent expense aggregated $1,521, $1,398 and $1,057 for the years ended
December 31, 1998, 1997 and 1996, respectively, under the terms of the leases
described above. Such amounts included $327, $311 and $111 (net of a $200 lease
termination payment received) in 1998, 1997 and 1996, respectively, paid to
related parties.
CONTINGENCIES
The Company is subject to various legal proceedings and claims which have arisen
during the ordinary course of business. In the opinion of management, the
outcome of such matters is not expected to have a material effect on the
Company's financial position, results of operations and cash flows.
F-15
<PAGE>
12. OTHER RELATED PARTY TRANSACTIONS
Other related-party transactions include the transactions summarized below.
Related parties consist primarily of affiliated companies related to the Company
through common ownership.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
--------------------------
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Revenue:
Sales of various products....................... $ 13 $ 38 $ 37
Sales of property and equipment:
Net book value................................ - (14) -
Proceeds...................................... - 16 19
Costs:
Purchase of services from affiliated companies.. 2 1,280 763
</TABLE>
12. SEGMENT AND RELATED DISCLOSURES
SFAS No. 131, "Disclosures About Segments of an Enterprise and Related
Information", requires that public companies report profits and losses and
certain other information on its "reportable operating segments" in its annual
and interim financial statements.
Management has determined that the Company has only one "reportable operating
segment", given the financial information provided to and used by the "chief
decision maker" of the Company to allocate and assess the Company's performance.
However, senior management does monitor revenue by platform (PC vs Mac), sales
channel (Inbound Telesales, Corporate Outbound, On-line Internet), and product
mix, (Computer Systems and Memory, Peripherals, Software, and Networking and
Communications).
Net sales by platform, sales channel, and product mix are presented below:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
----------------------------
1998 1997 1996
-------- -------- --------
<S> <C> <C> <C>
Platform
--------
PC and Multi Platform $587,100 $439,286 $256,661
Mac 145,270 111,289 76,661
-------- -------- --------
Total $732,370 $550,575 $333,322
======== ======== ========
Sales Channel
-------------
Corporate Outbound $390,922 $257,215 $126,660
Inbound Telesales 312,356 288,113 206,662
On-Line Internet 29,092 5,247 -
-------- -------- --------
Total $732,370 $550,575 $333,322
======== ======== ========
Product Mix
-----------
Computer Systems and Memory $319,759 $232,343 $115,996
Peripherals 252,966 188,847 126,662
Software 102,451 86,991 58,665
Networking and Communications 57,194 42,394 31,999
-------- -------- --------
Total $732,370 $550,575 $333,322
======== ======== ========
</TABLE>
Substantially, all of the Company's net sales in 1998, 1997 and 1996 were made
to customers located in the United States. Shipments to customers located in
foreign countries aggregated less than 2% in 1998, 1997 and 1996. All of the
Company's assets at December 31, 1998 and 1997 were located in the United
States. The Company's primary target customers are small- to medium-size
businesses ("SMBs") comprised of 20 to 1,000 employees, although its customers
also include individual consumers, larger companies, federal, state and local
governmental agencies and educational institutions. No single customer
(including the federal government) accounted for more than 1% of total net sales
in 1998, 1997 or 1996.
F-16
<PAGE>
PC CONNECTION, INC.
SCHEDULE II--VALUATION AND QUALIFYING ACCOUNTS
(AMOUNTS IN THOUSANDS)
<TABLE>
<CAPTION>
BALANCE AT CHARGED TO BALANCE AT
BEGINNING COSTS AND DEDUCTIONS- END OF
DESCRIPTION OF PERIOD EXPENSES WRITE-OFFS PERIOD
----------- ---------- ------------- ------------ ----------
<S> <C> <C> <C> <C>
Allowance for Sales Returns
Year Ended December 31, 1996............... $ 359 $ 508 $ - $ 867
Year Ended December 31, 1997............... 867 1,834 - 2,701
Year Ended December 31, 1998............... 2,701 1,329 - 4,030
Allowance for Doubtful Accounts
Year Ended December 31, 1996............... 765 1,389(1) (870) 1,284
Year Ended December 31, 1997............... 1,284 3,339(1) (1,964) 2,659
Year Ended December 31, 1998............... 2,659 6,296(1) (3,834) 5,121
Inventory Valuation Reserve
Year Ended December 31, 1996............... 1,056 1,508 (859) 1,705
Year Ended December 31 1997................ 1,705 3,315 (3,124) 1,896
Year Ended December 31, 1998............... 1,896 6,017 (5,323) 2,590
</TABLE>
____________________
(1) Additions to the provision for doubtful accounts include charges to
advertising and cost of sales aggregating $3,063, $2,127 and $361 for the
years ended December 31, 1998, 1997, and 1996, respectively.
S-1
<PAGE>
EXHIBIT 10.14
SEPARATION AGREEMENT
This Agreement, with an effective date of January 7, 1999 by and between PC
Connection, Inc., a Delaware corporation with offices at 730 Milford Road,
Merrimack, New Hampshire 03054 ("PC Connection") and R. Wayne Roland, residing
at 22 Federation Drive, Bedford, New Hampshire 03110 ("Roland" or "you").
WHEREAS, Roland has been employed by PC Connection since March, 1996 as Vice
President of Fulfillment Operations; and
WHEREAS, Roland and PC Connection mutually desire to terminate the current
employment relationship; and
WHEREAS, Roland and PC Connection desire to set forth severance and other terms;
NOW, THEREFORE, the parties hereby agree as follows:
1. SEVERANCE BENEFITS. The following are in lieu of any severance benefits
that you would otherwise be entitled to under any other agreement, letter,
policy, or verbal communication, including the letter agreement dated March 4,
1997.
(a) PC Connection will pay you severance at your base rate of $175,000 per
annum through January 6, 2000. In addition, PC Connection will (i) continue to
provide you with life insurance and medical and health benefits through December
31, 1999, (ii) pay you the bonus under your 1998 plan, the net amount of which
is $29,075, and (iii) pay you for accrued but unused vacation for 1998 and 1999,
the amount of which is $13,461.54. You will not be eligible for any additional
bonuses or payments.
(b) PC Connection represents that you are currently vested in 19,665 stock
options under your Incentive Stock Option Agreement ("Option Agreement") with an
exercise price of $5.72 per share. As provided in your Option Agreement, you
shall have 30 days in which to exercise the vested stock options.
(c) PC Connection represents that you are currently not vested in 24,164
additional stock options under the Option Agreement and these non-vested options
will terminate.
2. COOPERATION.
(a) During the period of your pay continuation period, as provided above,
you agree to provide reasonable cooperation to PC Connection, at its request,
for the purpose of completing projects on which you have worked. You agree not
to contact employees of PC Connection unless specifically requested by Wayne
Wilson, President.
(b) You agree that you will not at any time through January 6, 2001, make
any statements that are derogatory of PC Connection or its affiliates, their
owners, management, business, or products, or take any actions or omit to take
any actions that will harm the reputation of the same, and you will not during
that time make any statements to the media
<PAGE>
regarding PC Connection or your separation. PC Connection will prepare a
statement regarding your separation that is acceptable to you and said statement
will be the only communication or explanation either you or PC Connection will
use regarding your separation. A draft of such a statement for your approval is
attached hereto.
3. RETURN OF COMPANY PROPERTY. You acknowledge that you have returned all
keys, ID badges, credit cards, cellular phones, computers, diskettes, and other
data storage and retrieval devices, software and other materials and documents
belonging to PC Connection or any affiliate. You also acknowledge that you have
not retained any copies of any such materials.
4. RIGHTS IN WORK PRODUCT. You confirm that you have disclosed to PC
Connection all ideas and inventions and intellectual property (collectively,
"Inventions") that arose from work performed by you for, on behalf of, at the
expense of, or on the premises of PC Connection or any other affiliate.
Inventions include, without limitation, any ideas for improvements or
alternatives to PC Connection's operations and technology. You understand that
under the terms of your agreements with PC Connection, PC Connection owns all
rights in the Inventions and you agree to cooperate with PC Connection in
executing any necessary applications, assignments or similar forms respecting
the Inventions.
5. CONTINUING EFFECT AND EXTENSION OF COVENANT. You confirm that you remain
bound under the terms of the Covenant executed by you on March 11, 1997 and
agree further, in consideration of the extended severance payments set forth
above, that the period of no competition with PC Connection is extended through
January 6, 2001. You agree to keep the terms of this Agreement confidential,
except as required by law, provided that you may disclose the terms of this
Agreement to your immediate family, attorneys and tax advisors who agree to keep
the terms of this Agreement confidential.
6. OUTPLACEMENT SERVICES. PC Connection will pay Lee Hecht Harrison for 3
months of outplacement services on your behalf. If you have not secured
employment at the end of this period, then PC Connection may, in its sole
discretion, pay Lee Hecht Harrison for an additional 3 months of outplacement
services on your behalf.
7. COMPLETE AGREEMENT; RELEASE, ADEA WAIVER.
(a) This Agreement together with the Covenant and the Option Agreement
constitute the parties' entire agreement with respect to its subject matter and
supersedes all prior negotiations, discussions, and agreements with respect to
the same subject matter.
(b) You agree to accept this Agreement as a full and complete accord and
satisfaction of all amounts, options, and other obligations owing to you by PC
Connection or its affiliates or owners. Except for the obligations arising
under this Agreement, you hereby release
2
<PAGE>
PC Connection from any and all liabilities, obligations, debts, demands,
actions, torts, breaches, causes of action, suits, accounts, covenants,
agreements, contingencies, promises, understandings, damages, expenses,
compensation, or claims that you now have, may have or ever had, whether in law
or in equity, or whether known or unknown, during all relevant time periods,
including any claims under the Age Discrimination in Employment Act (ADEA) and
the Older Workers Benefit Protection Act (OWBPA).
(c) You have been advised to seek legal counsel of your choice before
entering into this Agreement, and have been further advised that you may take up
to 21 days to do so. You acknowledge that you were so advised and that this
Agreement was presented to you on January 7, 1999.
(d) You may revoke this Agreement in writing within seven (7) days of its
execution, and this Agreement shall only become effective if you have not
revoked this Agreement and the seven day period has expired.
Agreed:
PC Connection, Inc.
by: /s/ WAYNE WILSON /s/ R. WAYNE ROLAND
-------------------------- --------------------------
Wayne Wilson, President R. Wayne Roland
February 15, 1999 February 15, 1999
-------------------------- --------------------------
Date Date
3
<PAGE>
EXHIBIT 10.21
AMENDMENT NO. 1 TO LEASE
------------------------
This Amendment No. 1 is made as of this 29th day of December, 1998 by and
between G & H Post, LLC, a New Hampshire Limited Liability Company and PC
Connection, Inc., a Delaware Corporation (successor to PC Connection, Inc., a
New Hampshire corporation) to that certain Amended and Restated Lease dated
December 29, 1997 pertaining to property located at Post Road Plaza, Route 101A,
Merrimack, New Hampshire (the "Lease").
For good and valuable consideration received the parties agree as follows:
1. Section 1.1 of the Lease shall be amended by increasing the square
footage of the Premises from 102,874 square feet to 113,928 square
feet.
2. Section 3.2 of the Lease shall be replaced in its entirety with the
following:
The base rent ("Base Rent") for the years 1 through 5 of the term
hereof shall be the sum of Eight Dollars ($8.00) per square foot or
Nine Hundred Eleven Thousand, Four Hundred Twenty-Four Dollars
($911,424) per year payable monthly, in advance, in installments of
Seventy-Five Thousand, Nine Hundred Fifty-Two Dollars ($75,952) (the
"Base Rent"). The Base Rent for years 6 through 10 of the term hereof
shall be the sum of Nine Dollars ($9.00) per square foot or One
Million, Twenty-Five Thousand, Three Hundred Fifty-Two Dollars
($1,025,352) per year payable monthly, in advance in installments of
Eight-Five Thousand, Four Hundred Forty-Six ($85,446). The Base Rent
for years 11 through 15 of the term hereof shall be the sum of Ten
Dollars ($10.00) per square foot or One Million, One Hundred Thirty-
Nine Thousand, Two Hundred Eighty ($1,139,280) per year payable
monthly, in advance, in installments of Ninety-Four Thousand, Nine
Hundred Forty Dollars ($94,940).
3. In all other respects the Lease shall remain in full force and effect.
Executed this 29th day of December, 1998 to be effective as of December 1, 1998.
LESSOR; G & H POST, LLC
/s/ Jack Ferguson By: /s/ Patricia Gallup
- ---------------------------- -------------------------------
Witness Its:
<PAGE>
LESSEE: PC CONNECTION, INC.
/s/ Jack L. Ferguson By: /s/ Mark A. Gavin
- --------------------- ----------------------------------
Witness Its: Chief Financial Officer
STATE OF NEW HAMPSHIRE
COUNTY OF HILLSBOROUGH
On this the 29th day of December, 1998, before me, the undersigned officer,
personally appeared Patricia Gallup, who acknowledged him/herself to be a Member
of G&H Post, LLC, a New Hampshire limited liability company, and as such
executed the within instrument for the purposes therein contained on behalf of
the company.
/s/ Eileen A. Gagnon
-----------------------------------
Notary Public/Justice of the Peace
My Commission Expires:
August 28, 1999
STATE OF NEW HAMPSHIRE
COUNTY OF HILLSBOROUGH
On this the 29th day of December, 1998, before me, the undersigned officer,
personally appeared Mark A. Gavin, who acknowledged him/herself to be Chief
Financial Officer of PC Connection, Inc, a Delaware corporation, and as such
executed the within instrument for the purposes therein contained on behalf of
the corporation.
/s/ Eileen A. Gagnon
---------------------------------
Notary Public/Justice of the Peace
My Commission Expires:
August 28, 1999
<PAGE>
Exhibit 10.22
LEASE AGREEMENT
Lease made the first day of August, 1998, by and between Dover Mills
L.L.C., Joseph Sawtelle Enterprises, Inc., President, hereinafter referred to as
"Lessor", and PC Connection, Inc., hereinafter referred to as "Lessee".
WITNESSETH
That the Lessor, for and in consideration and upon the terms, conditions,
and provisions hereinafter set forth, does hereby agree to lease to the Lessee,
its successors, heirs, and assigns, the following described premises: 10,000
square feet of space on the second floor, southerly extent of Mill Number 3,
Cocheco Falls Millworks, Dover, New Hampshire, as set forth on Exhibit A.
1. TERM. The term of this lease shall be for one (1) year, beginning of
September 1, 1998 and ending on August 31, 1999. Lessee shall have the option to
renew this Lease Agreement for two (2) additional option periods. The first
option would be for one (1) year, beginning September 1, 1999 and ending on
August 31, 2000. The second option period would be for five (5) years, beginning
September 1, 2000 and ending on August 31, 2005. If the Lessee has not vacated
the leased premises at the close of the lease or any option period, it shall be
considered a holdover tenant and shall serve at the will of the Lessor. As such,
Lessee shall be governed by the same terms and obligations as set forth herein.
2. RENT. The Lessee agrees to pay to the Lessor as rent for the leased
premises for the first year of this lease the annual sum of $52,500. Said sum
shall be paid to the Lessor in six equal monthly installments beginning on March
1, 1999 and ending on August 31, 1999. The rent for the first option period of
this Lease shall be $105,000. Twelve equal monthly payments of $8,750 shall be
paid to Lessor beginning September 1, 1999 and ending on August 31, 2000.
The rent for any subsequent option year shall be increased by the increase of
the Boston Metro Region Consumer Price Index (CPI) from the preceding year or
five percent (5%), whichever is less.
Rent shall be paid to the Lessor on the first day of each and every calendar
month. If the rent or any other payment due Lessor from the Lessee has not been
received by the Lessor within ten (10) days after notice of nonpayment from
Lessor, then Lessee shall be charged a late payment penalty equal to 10% of the
late payment.
3. IMPROVEMENTS BY LESSOR. Lessor shall lease the premises "as is", with the
exception of the following improvements:
-Install utility metering on electrical distribution system.
4. IMPROVEMENTS BY LESSEE. Lessee shall be fully responsible for all other
improvements to the leased premises not specified above.
<PAGE>
5. MASTER KEY. Lessee shall provide Lessor with one copy of an entry key for
use by the Lessor to gain emergency access into the leased premises. If Lessee
has a security system monitoring the leased premises, Lessor shall be given an
entry number so that emergency access can be gained.
6. LIENS. Lessee shall keep all of the leased premises and Dover Mills,
L.L.C. free and clear of mechanics', materialmen's and other liens in connection
with work and/or labor done or services provided to the leased premises by
Lessee.
7. UTILITIES. Lessee shall be solely responsible for the cost of
heating/cooling the leased premises. The Lessee agrees to pay to the Lessor a
heating/cooling charge of $1.00 per square foot. Accordingly, a monthly
heating/cooling charge of $833.33 shall be paid Lessor along with the monthly
rental payment. This charge shall remain fixed over the initial lease term and
the first of the two option periods. The building standard for heating/cooling
runs between 68 - 73 degrees.
Lessee shall be solely responsible for the cost of electrical usage
resulting from business operations within the leased premises. Lessor shall
install a sub meter (demand and conventional metering) on the electrical service
that serves the leased premises. Lessor shall read the meter(s) every month and
Lessee shall be responsible for reimbursing Lessor for usage. Lessee shall
reimburse Lessor within ten (10) days from the date invoice is received.
8. ALTERATIONS. All planned improvements by the Lessee within the leased
premises shall be reviewed and approved by the Lessor prior to their
undertaking, which approval Lessor shall not reasonably withhold. All
improvements shall meet the rules and regulations and applicable Code
requirements that are in force by local and State development and building
authorities. Lessor reserves the right to enter onto the leased premises, at
reasonable times after reasonable prior notice, to inspect, maintain, and
construct/expand the buildings utility infrastructure. Any planned expansion of
utilities within the leased premises shall first be reviewed with the Lessee and
any construction will be scheduled so as not to impede or disrupt business
activities.
9. MAINTENANCE. Lessor shall be responsible for all exterior repairs to the
building to include, but not necessarily limited to structural, roof walls, and
HVAC units. Lessor shall be responsible for installing doors and windows in the
leased premises that are in good working order. Lessee shall, however, be
responsible for their repairs (windows, glass, and doors) necessitated by
Lessee's usage. Lessor shall be responsible for all snow and ice clearing of on-
site parking spaces and walkways. Lessor shall keep all interior common access
ways free and clear of debris and in a clean state. Exterior grounds shall also
be adequately maintained, with landscaping kept trimmed and neat by the Lessor.
10. PROPERTY OF LESSEE. It is hereby covenanted and agreed between the parties
hereto that unless otherwise stipulated by agreement in writing from time to
time, all trade fixtures, machinery, and equipment installed on the leased
premises by the Lessee shall be deemed to be the property of the Lessee.
Accordingly, Lessor hereby waives all its rights, title, and interest in and to
the same at the expiration thereof, except that Lessor does not waive the rights
<PAGE>
of attachment of the same if Lessee be in default of its covenants at the time
of such expiration or termination, and written notice of such default shall have
been given by the Lessor to the Lessee not less than thirty (30) days before the
end of the term hereof. At the termination of this Lease Agreement such
improvements or alterations as may have been made by the Lessee may be removed
therefrom at Lessee's own expense, except such alterations or improvements that
are integral to the structural and/or infra structural integrity of the leased
premises or the building at large. At the termination of this Lease Agreement
all improvements or alterations so characterized shall revert to the Lessor at
no cost to or payment by the Lessor.
11. DESTRUCTION OF PREMISES. In case said leased premises or any substantial
part thereof shall at any time during the term of this Lease Agreement be so
destroyed or damaged by fire and/or water or other unavoidable casualties as to
be unfit for occupation or use by Lessee for Lessee's business, then the rent,
herein before reserved, or a fair and just proportion thereof, according to the
nature and extent of the damage sustained, shall be suspended and cease to be
payable until said premises are rebuilt and put in proper condition by said
Lessor for use and occupancy by said Lessee; provided that unless the Lessor
shall give to the Lessee written notice of its intention to rebuild/reconstitute
said premises within thirty (30) days after such destruction or damage, the
Lessee shall have the option by written notice to the Lessor given within ten
(10) days after the expiration of thirty (30) days from such destruction or
damage to cancel and terminate this Lease Agreement. In case Lessor shall have
given such written notice of its intention to rebuild, it shall proceed to
rebuild as soon as reasonably possible, but Lessee may terminate this Lease
Agreement if the premises are not tenant able by Lessee for the carrying on of
its business within ninety (90) days after the receipt of such notice from
Lessor.
12. HOLD HARMLESS. The Lessee covenants and agrees with the Lessor that
Lessee will indemnify and save harmless the Lessor from any and all loss, cost,
damage and expense pertaining to, connected with, or resulting from the use and
occupancy of the leased premises by the Lessee, or arising out of any accident
or other occurrence causing injury to any person or to property by reason of or
in connection with the use and occupation of the demised premises by said
Lessee, or Lessee's agents, employees, or guests, or which may arise out of
business which the Lessee may carry on in said demised premises. It is
understood that the provisions of this section do not apply to any loss, cost
damage or expense attributable to the negligent, intentional or tortuous acts or
omissions of the Lessor, its agents, employees or assigns and Lessor hereby
agrees to indemnify and save Lessee harmless from same.
13. USE OF PREMISES. The Lessee covenants and agrees that the Lessee will
not carry on therein any offensive trade or business, not do any act, not
transact any business by which the insurance on said premises may be affected.
With respect to acts or transactions as a result of which the insurance on said
premises may be affected, Lessee shall consult in advance with Lessor who in
turn shall consult with its insurers for a determination of the facts and to
resolve whether said acts or transactions shall be undertaken, and if any
additional insurance cost or coverage is required it shall be at the expense of
the Lessee. Lessee shall be responsible for the increase in insurance above use
for normal business offices that results from the Lessee's use of the premises.
Lessor shall bill the Lessee for the additional insurance cost and Lessee shall
pay the bill within seven (7) days of its receipt.
<PAGE>
14. PEACEFUL ENJOYMENT. The Lessor covenants and agrees with the Lessee that
the Lessee, paying the rent herein reserved and observing, keeping and
performing the covenants and agreements herein contained, and on the Lessee's
part to be observed, kept and performed, shall and may peaceably and quietly
have, hold, occupy, possess and enjoy the demised premises and all of the
rights, privileges, easements and fixtures thereto belonging for and during the
full term of this Lease Agreement.
15. SURRENDER OF PREMISES. The Lessee covenants and agrees with the Lessor
that at the expiration or sooner termination of the lease or renewal or
extension thereof, the Lessee will quietly and peaceably surrender up possession
of the demised premises to the Lessor in as good a condition as the demised
premises were in the beginning of this lease, ordinary wear and tear or damage
by fire or other casualty excepted.
16. SUBORDINATION. This Lease Agreement shall be subject to any mortgage that
now effects the demised premises or that the Lessor or any owner of the premises
may hereafter at any time elect to place on such premises, and to all advances
already made or that may be hereafter made on account of any such mortgage, to
the I full extent of the principal sum secured thereby and interest thereon.
Furthermore, Lessee shall on request hereafter execute any paper or papers that
Lessor's counsel may reasonably deem necessary to accomplish such subordination
of Lessee's interest in this Lease. Lessor agrees to obtain a nondisturbance
agreement with respect to any mortgage to which this Lease agreement is
subordinated, and in a form reasonably acceptable to Lessee's counsel.
17. DEFAULT. If the Lessee either:
(a) Shall fail to pay to Lessor any installment of rent due, and such
default shall continue for ten (10) days after receipt of written
notice from Lessor; or
(b) Shall fail to comply with any other covenant or obligation on its part
to be performed hereunder and shall fail within thirty (30) days after
receipt by Lessee from Lessor of written notice specifying the nature
of such default, either to cure such default or in good faith and with
reasonable diligence to commence remedy of such default, then in
either such event Lessor may at its option either:
(i) Terminate the possession and right of possession of Lessee,
and in such case Lessee shall be liable for and shall pay
the Lessor damages in an amount equal to any rent past due
on the date of such termination; or
(ii) Take possession of said property and rent the same as agent
for and for the account of the Lessee, in which case the
Lessee shall be liable for and shall pay to the Lessor the
difference between the rent herein stipulated and the
amount, if any, for which the Lessor is able to re-rent said
property;
(iii) Terminate this Lease Agreement and take possession of the
property.
said bankruptcy, assignment or receivership is not cured within thirty (30)
days, or if the interest of the Lease in said leased premises shall be sold
under execution or other legal process, voluntarily or involuntarily, then in
such event Lessor may at its option either:
<PAGE>
(i) Terminate the possession and right of possession of Lessee,
and in such case Lessee shall be liable for and shall pay
the Lessor damages in an amount equal to any rent past due
on the date of such termination; or
(ii) Take possession of said property and rent the same as agent
for and for the account of the Lessee, in which case the
Lessee shall be liable for and shall pay to the Lessor the
difference between the rent herein stipulated and the
amount, if any, for which the Lessor is able to re-rent said
property,
(iii) Terminate this Lease Agreement and take possession of the
property.
18. ASSIGNMENT. It is hereby covenanted and agree between the parties, hereto,
that Lessee shall be permitted to assign this Lease Agreement to another party,
with the written consent of the Lessor, said consent shall not be unreasonably
withheld. Lessor shall make its decision based on the financial strength of the
proposed sublet party and on the basis of the proposed use of the premises.
Lessor agrees to respond to any request to assign or sublet within five (5)
business days.
19. USE OF CAFETERIA. The Millworks cafeteria located on the third floor of
Mill 3 will be made available to all employees of the Lessee between the hours
of 7:00 AM and 2:00 PM, Monday through Friday, holidays excluded.
20. INSURANCE. The Lessee shall procure and maintain in force at Lessee's
expense during the term of this lease and any extension thereof public liability
insurance. Such insurance shall be adequate against liability for damage claims
through public use or arising out of accidents occurring in the leased premises,
in an amount not less than $1,000,000.00 combined single limits. The insurance
policies shall provide coverage for contingent liability of Lessor on any claims
or losses. All insurance provided by the Lessee as required by this section
shall be carried in favor of Lessor (as additional insured, but only as respects
operations of Lessee) and Lessee as their respective interest may appear. All
policies shall require ten (10) days notice to Lessor of any cancellation or
change effecting any interest of Lessor. If the insurance policies are not kept
in force during the term of this lease or any extension thereof, Lessor may
procure the necessary insurance and pay the premium thereof, and the premium
shall be repaid to the Lessor as an additional rent installment for the month
following the date on which the premiums were paid by Lessor. Lessor shall be
responsible for carrying general liability and fire coverage on Mill #3.
21. NOTICE. Any notice required under the terms of this Lease Agreement shall
be sent by certified mail or hand delivered to the signers of this Lease
Agreement. The address of the Lessor is Dover Mills L.L.C., c/o Joseph Sawtelle,
P.O. Box 368, New Castle, New Hampshire, 03854.
22. NOISE, SMOKE, ETC. The Lessee agrees that in conducting Lessee's business
in or on the premises by itself or those in Lessee's employ, due regard shall be
given to limiting the noise and vibration generated by such business operation.
The discharge of smoke, soot, fumes, vapors, waste material, or other irritants,
contaminants, or pollutants into or upon the premises,
<PAGE>
land, the atmosphere, sewer connections or pipes, or any water course or
adjacent body of water shall not be permitted. The Lessee represents that with
respect to the operation of the Lessee's business there shall be no discharge
from Lessee's operation which would adversely affect the property of others,
including, but not limited to property of the City of Dover including its sewer
system and water/sewer treatment facility. Furthermore, in the event the
Lessee's operation in or on the leased premises shall cause damage to such
property of others, the Lessee agrees to save the Lessor harmless from any
claims, liability, costs, attorney's fees, or exposure arising out of or in
connection with such damage.
23. MISUSE. The Lessee agrees to be responsible and pay for all damages and
assessments, and or other charges to the City of Dover for any misuse made or
suffered on the premises by the Lessee, or its agents or employees.
24. SECURITY DEPOSIT. The Lessor shall waive security deposit for Lessee.
25. INTEGRATION. This Lease set forth the entire agreement by the parties, and
no custom, act, forbearance or words or silence at any time by any party shall
waive or release either party from any default in the performance or fulfillment
of any obligation or liability or operate against either party as a supplement,
alteration, amendment or change of any term or provision set forth herein,
including this clause, unless set forth in written instrument duly executed by
both parties stating that it is intended to impose such an additional obligation
or liability or to constitute such a waiver or release, or that it is intended
to operate as such supplement, alteration, amendment or change.
26. INVALID PROVISIONS. If any term or provision of this Lease Agreement or
the application there of to any person, property or circumstance shall to any
extent be invalid or unenforceable, the remainder of this Lease Agreement, or
the application of such term or revisions to person or property and
circumstances other than as to which it is invalid or unenforceable, shall not
be affected thereby, and each term and provision of this Lease Agreement shall
be valid and enforced to the full extent permitted by law.
The provisions of the Indenture and Lease Agreement shall be binding upon the
inure to the benefit of the successors and assigns of the Lessor and Lessee.
27. OPTION TO RENEW. Written notice of the exercise of the option to renew
this Lease Agreement by the Lessee shall be given to the Lessor at least 120
days prior to the expiration of the original lease term or the expiration of the
term of an option period previously exercised and provided that said option may
be exercised by Lessee only in the event that rents or other payments due Lessor
as set forth by this Lease Agreement (including any applicable grace periods
have been paid in full and that all material provisions of this Lease Agreement
have been fully observed. A new Lease Agreement shall be unnecessary as this
agreement constitutes a present demise for the original and any extended terms.
28. SOLID WASTE. Lessor shall require Lessee to remove any solid waste/trash
generated from business operations. Lessor does operate an on-site trash
compactor and Lessee
<PAGE>
may dispose of its trash via this facility, the price to be negotiated once
occupancy takes place and a quantifiable trash volume can be determined by
Lessor.
29. PARKING. Lessor shall reserve fifty-five (55) parking spaces. Fifty (50)
shall be allocated in the Steam Plant parking lot and five (5) parking spaces
allocated in the Central Towers parking lot. Refer to Attachment B. For
enforcement purposes, Lessee shall be responsible for signage designating these
spaces. Signs shall be approved by the Lessor as to size and language. Lessor
shall be responsible for snow and ice clearance. The balance of the parking
demand shall be located at the B & M Railroad Parking Lot. Said parking lot is
accessible by Lessor's 34 seat trolley that operates between the hours of 6:15 -
9:30 AM and 3:30 - 7:30 PM, five days a week. The 475 car parking lot has a
police security substation on-site. Lessee shall provide an identification tag
for all employees utilizing the B & M lot.
Lessor proposes to construct a multilevel parking facility over the Main Street
and Steam Plant parking lots at a future date. During said construction, Lessor
shall provide an alternative location for any reserved parking spaced impacted
by said construction. Said interim parking shall be located as close to the
lease premises as possible.
30. LOADING ACCESS. Lessee has the right to utilize the existing Central
Avenue loading docks and freight elevator at the southerly end of the leased
space for the transport of goods to and from the leased premises. Lessee shall
be responsible for keeping all loading areas free and clear of refuse that may
be generated via business operations.
31. RIGHTS TO LEASE ADJACENT SPACE. Lessor agrees to reserve the balance of
the second floor of Mill Number 3 (approximately 24,000 square feet) for the
expansion of Lessee's business operations. Refer to Attachment C. Said
reservation shall begin on September 1, 1998 and end on August 31, 1999. Upon
expiration of this one year reservation period, Lessee shall be granted a first
right of refusal on said space. Upon Lessor's receipt of a written offer for the
lease of all or a portion of said space, Lessor shall notify Lessee in writing
of such offer and Lessee shall have ten (10) days to exercise their right to
lease said additional space.
Lessor shall further grant Lessee a second right of refusal on a 22,000 square
foot adjacent space located on the third floor of Mill Number 3. This second
right of refusal shall begin upon Lease execution and shall be subject to terms
and conditions established above. Refer to Attachment D.
32. IMPROVEMENTS WITHIN RESERVED/ADDITIONAL SPACE. Commercial grade carpeting
shall be replaced, where necessary. Partition walls shall be removed, where
specified, and HVAC, electrical distribution/lighting and ceilings systems shall
be modified to accommodate the alterations. Interior walls shall be painted,
where necessary. Any additional renovations and improvements within said
additional leased space shall be the sole cost, expense and responsibility of
the Lessee.
33. SIGNAGE. Lessee shall be permitted to place directional signs within the
Mill 3 entryways directing employees and visitors to the leased premises. The
size, location, design and content of said signs shall be reviewed and approved
by the Lessor. Lessee shall also be permitted to place an exterior wall sign on
the fascade of the Mill 3 building. The design and location of the sign shall be
reviewed and approved by the Lessor, said approval shall not be unreasonably
withheld.
<PAGE>
IN WITNESS WHEREOF, the parties do hereby agree to the terms and conditions of
this Lease Agreement on the day and year first written above.
DOVER MILLS L.L.C.
JOSEPH SAWTELLE ENTERPRISES, INC.
/S/ T. C. SHELDON /S/ JOSEPEH SAWTELLE
- ------------------- ---------------------
Witness Joseph Sawtelle, President
PC CONNECTION, INC.
/S/ PHILIP F. BLAISDELL /S/ MARK A. GAVIN
- ------------------------- ------------------
Witness Duly Authorized Officer
<PAGE>
[ARCHITECTUAL RENDERING OF SECOND FLOOR APPEARS HERE]
<PAGE>
[RENDERING OF SITE PLAN APPEARS HERE]
<PAGE>
[ARCHITECTURAL RENDERING APPEARS HERE]
<PAGE>
[ARCHITECTURAL RENDERING OF THIRD FLOOR APPEARS HERE]
<PAGE>
Exhibit 10.23
LEASE AGREEMENT
---------------
PC CONNECTION, INC.
-------------------
Whereas PC Connection, Inc. entered into a Lease Agreement, dated August 1,
1998, with Dover Mills, LLC. for space on the second floor of Mill 3 at the
Cocheco Falls Millworks in Dover, New Hampshire, and
Whereas, PC Connection, Inc. and Dover Mills LLC. desire to amend said Lease
Agreement,
NOW, THEREFORE, BE IT RESOLVED, that the parties heretofore mentioned hereby
agree to amend said Lease Agreement as follows:
1. At the end of the second paragraph on page one insert the following new
language:
"An additional 5,100 square feet of space ("additional space") shall be
added to the original leased premises. Said are shall be located on the second
floor of Mill Building #3 and lies adjacent to the original leased premises.
Refer to Attachment A for a graphic depiction of said additional space."
2. Section 1 entitled "TERM", shall be amended by adding the following new
sentence to the end of the first paragraph:
"The term for the additional space shall begin on March 1, 1999 and shall
then run consecutively with the term of the original leased premises."
3. Section 2. entitled "RENT", shall be amended by deleting the first
paragraph in its entirety and replacing it with the following new paragraph:
"The Lessee agrees to pay to the Lessor as rent for the leased premises and
additional leased premises for the first year of this lease the annual sum of
$79,227.75. Said sum shall be paid in six equal monthly installments of
$13,204.63 beginning on March 1, 1999 and ending on August 31, 1999. The rent
for the first option period of this Lease shall be $158,550. Twelve equal
monthly installments of $13,212.50 shall be paid to the Lessor beginning
September 1, 1999 and ending on August 31, 2000."
4. Lessor shall be responsible for making the following improvements to the
additional leased premises:
<PAGE>
- Demolish three interior offices, on (1) 60' dividing partition and
create a doorway from the original premises into the additional leased
premises.
- Install new carpeting
- Rewire lighting and switching in those areas where the offices were
removed
- Install electric metering for additional leased premises
5. Lessee shall be responsible for all other improvements planned within the
additional leased premises.
6. Section 7 entitled "UTILITIES" shall be amended by adding the following new
sentence at the end of the first paragraph:
"The additional leased premises shall have a monthly heating/cooling charge
of $416.66."
DOVER MILLS L.L.C.
JOSEPH SAWTELLE ENTERPRISES, INC.
/S/ T. C. SHELDON /S/ JOSEPEH SAWTELLE
- ------------------- ---------------------
Witness Joseph Sawtelle, President
PC CONNECTION, INC.
/S/ EILEEN A. GAGNON /S/ MARK A. GAVIN
- ---------------------- ------------------
Witness Duly Authorized Officer
Relative to shuttle service to an from the offsite parking area designated
as the B & M Railroad Parking Lot;
Dover Mills LLC (Lessor) will modify previous trolley schedule to allow
continuous service from 6:15 am to 7:30 pm, five days a week, commencing
Monday the 15th of March 1999, and continuing through the duration of the
lease. In exchange for this service, PC Connection (Lessee) agrees to an
increase adjustment of the monthly lease value in the amount of $3,000.00.
Either party shall have the right to revert to the original lease terms
(relative to the trolley schedule and lease value), following a thirty day
written notice, by the other party.
Initialized by: /s/ TCS
-------
Dover Mills LLC
Joseph Sawtelle Enterprises, Inc.
/s/ MAG
-------
PC Connection, Inc.
<PAGE>
[ARCHITECTURAL RENDERING OF SECOND FLOOR APPEARS HERE]
<PAGE>
EXHIBIT 10.24
[PC Connection, Inc. Letterhead]
Via Airborne Express
March 28, 1997
John L. Bomba Jr.
32 Aaron's Court
Ridgefield, CT 06877
Dear John,
I take pleasure in extending to you this revised offer to join PC
Connection, Inc. in the position of Vice President and Chief
Information Officer, reporting to me. This letter supersedes my letter
dated March 24, 1997. Your annual base salary will be $150,000.00
payable twice monthly at a gross rate of $6,250.00. In addition, you
will be eligible to earn a bonus of up to $50,000.00 annually, with a
portion payable quarterly, based on mutually agreed upon goals and
objectives.
In anticipation of your contributions to the continued growth and
success of the company and your senior managerial role, PC Connection
intends to provide you with the option to purchase 20,000 shares of PC
Connection stock. This grant will be subject to approval by our Board
of Directors and will be issued under our standard employee stock
option plan.
We have made this offer with the understanding that you and your
family will be relocating to New Hampshire as soon as possible. To
assist you with your relocation to the area the company will reimburse
you for direct relocation expenses incurred in a total amount not to
exceed $65,000.00 ( net of taxes ) upon your presentation of receipts
for such costs to the VP of Human Resources. Such expenses would
include real estate commissions, traditional closing costs ( excluding
pre-payments ), house hunting trips, moving of household goods and a
temporary housing allowance of up to $3,000.00. In order to be
eligible for such reimbursement, you will need to sign a relocation
agreement which provides that you must repay such costs in the event
that you voluntarily resign within twelve months of your initial
employment date.
You will also be eligible to participate in our group insurance
programs which include medical, dental, life and disability income
insurance and the company's 401K and profit sharing plans, all as
described in the enclosed memorandum. To ensure insurance coverage
during the thirty day waiting period, we urge you to extend any
applicable benefit coverages with your current employer and PC
Connection will reimburse you for the cost of such temporary coverage
until you become eligible to participate in our company plans. You
will receive three weeks of vacation annually, as well as any future
benefits regularly and customarily available to company employees
having comparable positions and seniority.
In the event the company terminates your employment for any reason
other than cause, or change of control, you shall receive nine months
severance pay at the base salary level then applicable to you. In the
event that there is a change in control of the corporation ( being
defined as a change in the ownership of more than fifty percent of the
shares then outstanding ) and your position is either eliminated, or
you are not offered a comparable position with comparable
responsibilities, compensation and benefits, you shall receive twelve
months of severance pay at the base salary then applicable to you.
Cause shall include, without limitation: failure to comply with rules,
standards or procedures promulgated by the
<PAGE>
Mr. John Bomba
Page Two
company; neglect or substandard performance of your assigned
responsibilities; breach of the terms of the Covenant identified
below; falsification of company records or documents; or any act of
dishonesty or moral turpitude. A reorganization or modification of
your duties shall not constitute termination.
Please complete the enclosed Form I-9 and be prepared to provide the
documentation outlined in the form. Federal law requires that each
employee establish his or her identity and legal right to work in the
United States. Additionally, as a condition of your employment, PC
Connection requires that you agree to the terms of the enclosed
Covenant Not To Compete and Disclose Confidential Information and
-----------------------------------------------------------------
Assignment of Rights document, which needs to be signed and returned
--------------------
with your offer letter. You will be considered and "employee-at-will"
and nothing in this letter, or any other PC Connection document, is
intended to create an employment contract, unless it explicitly states
to the contrary. In addition, please note that all insurance plans and
policies and company procedures are subject to change, without notice.
We hope you will find this opportunity both attractive and exciting
and we are confident that you will be a strong addition to our team.
Our offer is valid until March 31, 1997, and assumes a start date no
later than May 1, 1997, but preferably sooner. Please indicate your
acceptance of this offer by signing the enclosed copy of this letter
and returning it, along with the other signed documents mentioned
above, in the envelope provided. I would appreciate if you would call
me as soon as possible to confirm your actual starting date.
John, we very much look forward to having you join PC Connection.
Sincerely,
/s/ WAYNE L. WILSON
Wayne L. Wilson
Senior Vice President and COO
Offer Accepted:
/s/ JOHN L. BOMBA, JR. 4/10/97
------------------------------ ------------------
John L. Bomba, Jr. Date
Enclosures
<PAGE>
Exhibit 10.25
[PC CONNECTION, INC. LETTERHEAD APPEARS HERE]
February 5, 1998
Mr. Mark A. Gavin
11 Morgan Lane
Keene, New Hampshire
Dear Mark,
I am pleased you have decided to join PC Connection, Inc. as Vice President of
Finance and Chief Financial Officer on March 2 or sooner. Everyone on our
management team who met with you believes your skills, background and personal
style will be valuable assets to the company as we move forward.
Your monthly salary will be $13,750. In addition, you will be eligible to earn a
bonus of up to $50,000 annually, with a portion payable quarterly, based upon
mutually agreed upon goals and objectives. In anticipation of your contributions
to the continued growth and success of the company and your senior managerial
role, PC Connection intends to provide you with the option to purchase 20,000
shares of the common stock of PC Connection, Inc. at an exercise price equal to
the price of the company's shares in its planned initial public offering. This
grant will be subject to approval by the company's Board of Directors and will
be issued under our standard employee stock option plan.
You will also be eligible to participate in our group insurance programs which
include medical, dental, life and disability income insurance and the company's
401 (k). To ensure insurance coverage during the thirty-day waiting period, we
urge you to extend any applicable benefit coverage with your current employer.
You will receive three weeks of vacation annually, prorated in your first year.
Please be aware that our insurance plans and policies, as well as our company
procedures, are subject to change without notice.
We have decided to offer you the following severance agreement. In the event the
company terminates your employment for any reason other than cause, or change in
control, you will receive six months severance pay at the base salary level then
applicable to you. Cause would include, without limitation, failure to comply
with rules, standards or procedures promulgated by the company; neglect or
substandard performance of your assigned responsibilities; breach of the terms
of the Covenant mentioned below; falsification of company records or documents;
or any act of dishonesty or moral turpitude. In the event there is a change in
control of the company (being defined as a change in the ownership of more than
fifty percent of the shares then outstanding) after your first year of
employment, and you are not offered a position with comparable compensation and
benefits, you will receive twelve months of severance pay at the base salary
then applicable to you. A reorganization or modification of your duties would
not constitute termination. During your employment, you will be considered an
"employee-at-will".
<PAGE>
page 2 of 2
PC Connection, Inc.
February 5, 1998
The HR department will send you a Form I-9 within the next few days. You will
need to sign and return it to us with the required documentation as outlined in
the form. As you know, federal law requires that each employee establish his or
her identity and legal right to work in the United States. Also, as a condition
of your employment, we ask that you agree to the terms of and sign the Covenant
Not To Compete and Disclose Confidential Information and Assignment of Rights
document we gave you last week. We would appreciate it if you would return a
signed copy, along with a signed copy of this letter by February 11, should the
terms outlined meet your understanding of what Wayne and I discussed with you.
This letter does not constitute an employment contract. Please send the signed
copy of this letter and the signed covenant to Wayne Wilson at the above
address. Wayne will call you next week to discuss your official start date as
well as the possibility of your working with us this month on a part-time or
advisory basis.
Mark, we feel confident you will be a strong addition to our team, and we look
forward to having your input during the next phase of PC Connection's
development.
Sincerely,
/S/ PATRICIA GALLUP
Patricia Gallup
Chairman and CEO
Offer accepted:
/S/ MARK A. GAVIN February 11, 1998
- ----------------- -----------------
Mark A. Gavin Date
<PAGE>
EXHIBIT 23.1
March 29, 1999
Deloitte & Touche LLP
125 Summer Street
Boston, MA 02110
The following representations, made to the best of our knowledge and belief, are
being provided to you in connection with your review of financial and accounting
matters of PC Connection, Inc. (the "COMPANY") as to transactions and events
after December 31, 1998 and to the date of this letter, your review having been
performed in connection with our Annual Report on Form 10-K filed by the Company
with the Securities and Exchange Commission on or about March 29, 1999:
1. No events have occurred subsequent to December 31, 1998 that have a
material effect on the financial statements that are in the filing or that
should be disclosed in order to keep those statements from being
misleading.
2. The company has made available to you (a) all financial records and related
data that would have a bearing on the purpose of your review and (b) all
minutes of the meetings of stockholders, directors, and committees of
directors, or summaries of actions of recent meetings for which minutes
have not yet been prepared.
3. In connection with your audit of the Company's annual financial statements
for the year ended December 31, 1998, we have previously provided
representations to you dated February 8, 1999. No matters have since come
to our attention that would cause us to believe that any of those
representations are no longer true.
/s/ PATRICIA GALLUP
- --------------------------------------
Patricia Gallup
Chairman and Chief Executive
Officer
/s/ WAYNE WILSON
- --------------------------------------
Wayne Wilson
President and Chief Operating Officer
/s/ MARK GAVIN
- --------------------------------------
Mark Gavin
Chief Financial Officer
/s/ JACK FERGUSON
- -------------------------------------
Jack Ferguson
Director of Finance and Treasurer
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY INFORMATION EXTRACTED FROM THE COMPANY'S ANNUAL
FIINANCIAL STATEMENTS ON FORM 10-K AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE
TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 11,910
<SECURITIES> 0
<RECEIVABLES> 68,041
<ALLOWANCES> 9,151
<INVENTORY> 63,425
<CURRENT-ASSETS> 141,521
<PP&E> 42,989
<DEPRECIATION> 20,314
<TOTAL-ASSETS> 164,510
<CURRENT-LIABILITIES> 87,753
<BONDS> 0
0
0
<COMMON> 156
<OTHER-SE> 69,520
<TOTAL-LIABILITY-AND-EQUITY> 164,510
<SALES> 732,370
<TOTAL-REVENUES> 732,370
<CGS> 639,096
<TOTAL-COSTS> 639,096
<OTHER-EXPENSES> (565)
<LOSS-PROVISION> 6,296
<INTEREST-EXPENSE> 415
<INCOME-PRETAX> 22,549
<INCOME-TAX> 3,905
<INCOME-CONTINUING> 18,644
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 18,644
<EPS-PRIMARY> 1.01
<EPS-DILUTED> .98
</TABLE>
