<PAGE> 1
Filed Pursuant to Rule 424(b)(1)
PROSPECTUS Registration No. 333-48769
2,250,000 SHARES
[RAINBOW RENTAL LOGO]
COMMON STOCK
------------------------
All of the 2,250,000 shares of Common Stock, without par value (the "Common
Stock"), offered hereby (the "Offering") are being sold by Rainbow Rentals, Inc.
(the "Company").
Prior to the Offering, there has been no public market for the shares of
Common Stock. See "Underwriting" for information relating to the factors
considered in determining the initial public offering price. The shares of
Common Stock have been approved for listing on the Nasdaq National Market under
the symbol "RBOW."
SEE "RISK FACTORS" BEGINNING ON PAGE 7 FOR A DISCUSSION OF CERTAIN
INFORMATION THAT SHOULD BE CONSIDERED IN CONNECTION WITH AN INVESTMENT IN THE
COMMON STOCK OFFERED HEREBY.
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE
ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
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============================================================================================================
UNDERWRITING PROCEEDS TO
PRICE TO PUBLIC DISCOUNT(1) COMPANY(2)
<S> <C> <C> <C>
- ------------------------------------------------------------------------------------------------------------
Per Share...................................... $10.00 $0.70 $9.30
- ------------------------------------------------------------------------------------------------------------
Total(3)....................................... $22,500,000 $1,575,000 $20,925,000
============================================================================================================
</TABLE>
(1) See "Underwriting" for a description of the indemnification arrangements
with the Underwriters.
(2) Before deducting Offering expenses payable by the Company estimated to be
$600,000.
(3) The shareholders of the Company (the "Selling Shareholders") have granted
the Underwriters an option, exercisable within 30 days of the date hereof,
to purchase up to an aggregate of 337,500 additional shares of Common Stock,
solely to cover over-allotments, if any. If such option is exercised in
full, the total Price to Public, Underwriting Discount and Proceeds to
Company will be $25,875,000, $1,811,250, and $20,925,000, respectively, and
the Proceeds to Selling Shareholders will be $3,138,750. See "Underwriting."
------------------------
The shares of Common Stock are offered severally by the Underwriters named
herein, subject to prior sale, when, as and if received and accepted by them,
subject to their right to reject orders, in whole or in part, and to certain
other conditions. It is expected that delivery of the certificates representing
such shares will be made against payment therefor at the offices of The
Robinson-Humphrey Company, Atlanta, Georgia, on or about June 10, 1998.
THE ROBINSON-HUMPHREY COMPANY
DAIN RAUSCHER WESSELS
A DIVISION OF DAIN RAUSCHER INCORPORATED
SUNTRUST EQUITABLE SECURITIES
June 4, 1998
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[STORE LOCATIONS AND PHOTOS]
[PICTURES (INSIDE FRONT & BACK COVER)
MAP OF EASTERN U.S.
EXTERIOR OF STORE
INTERIOR OF STORE
DELIVERY TRUCK -- SHOWING DELIVERY]
------------------------
CERTAIN PERSONS PARTICIPATING IN THE OFFERING MAY ENGAGE IN TRANSACTIONS THAT
STABILIZE, MAINTAIN OR OTHERWISE AFFECT THE PRICE OF THE COMMON STOCK, INCLUDING
PURCHASES OF THE COMMON STOCK TO STABILIZE ITS MARKET PRICE, PURCHASES OF THE
COMMON STOCK TO COVER SOME OR ALL OF A SHORT POSITION MAINTAINED BY THE
UNDERWRITERS IN THE COMMON STOCK, AND THE IMPOSITION OF PENALTY BIDS. FOR A
DESCRIPTION OF THESE ACTIVITIES, SEE "UNDERWRITING."
<PAGE> 3
PROSPECTUS SUMMARY
The following summary is qualified in its entirety by reference to, and
should be read in conjunction with, the more detailed information and the
Company's Consolidated Financial Statements, including the related notes
thereto, appearing elsewhere in this Prospectus. Unless otherwise noted, the
information contained in this Prospectus assumes that the Underwriters'
over-allotment option has not been exercised.
All industry data set forth in this Prospectus is based on published
industry sources, as prepared by The Association of Progressive Rental
Organizations ("APRO"). The APRO 1997 Rental-Purchase Industry Survey is based
on numbers reported to APRO through December 31, 1996 by its members, and
represents the latest period for which such data are available.
THE COMPANY
The Company operates 66 rental-purchase stores in eight states:
Connecticut, Massachusetts, Michigan, New York, Ohio, Pennsylvania, Rhode Island
and Tennessee. The Company was founded in 1986 by four individuals, including
the three current shareholders-officers of the Company, who average over 18
years of experience in the rental-purchase industry. The Company offers quality,
name brand, durable merchandise, including home electronics, furniture,
appliances and computers. Generally, rental-purchase merchandise is rented to
individuals under flexible agreements that allow customers to own the
merchandise after making a specified number of rental payments (ranging from 12
to 24 months). Customers have the option to return the merchandise at any time
without further obligation and also have the option to purchase the merchandise
at any time during the rental term. The Company believes that its
rental-purchase program is an attractive alternative to a credit or installment
sale for persons who have difficulty obtaining credit or have a temporary,
short-term need for goods. Based on APRO estimates, the Company believes its
stores are among the industry's leaders in average monthly rental rate ("AMRR")
on its agreements, number of rental-purchase agreements per store and collection
performance. In addition, the Company believes its level of customer referrals
and repeat business are among the highest in the industry.
APRO estimated that gross revenue in the rental-purchase industry was
approximately $4.1 billion, and that there were over 2.9 million customers in
1996. The rental-purchase industry is highly fragmented. APRO estimated that
there were approximately 7,500 rental-purchase stores at the end of 1996, with
the majority of companies owning fewer than 20 stores. The rental-purchase
industry is experiencing increasing consolidation due to a combination of
increased competition from larger regional and national chains and decreased
availability of traditional financing to smaller rental-purchase companies. The
Company believes that its significant store base and regional presence make it
well positioned in the current industry environment.
The Company's operating strategy is to deliver a high degree of customer
satisfaction by providing an appealing store environment; quality, name brand,
durable merchandise; personal customer service; experienced, well-trained
associates; decentralized management; and sophisticated management information
systems. The Company believes its high levels of customer satisfaction allow the
Company to maintain a high AMRR on its agreements, a large number of
rental-purchase agreements per store and a significant level of customer
referrals and repeat business. By delivering high volume and superior operating
performance in each store, the Company is able to achieve increased
profitability by spreading fixed costs over higher revenues. In 1997, the
Company's average revenue in those stores opened three full years or more ("core
stores") was approximately $1.0 million. The Company attempts to differentiate
itself from its competitors and increase customer loyalty by not requiring
common industry fees, such as application, delivery, damage-waiver and insurance
fees. As a result, its customers are able to spend more of their payments on the
merchandise.
The Company's growth strategy is to accelerate its new store opening
program, increase comparable store revenue and profitability and pursue
opportunistic acquisitions. Beginning with six stores in 1986, the Company
opened 56 additional stores through April 30, 1998. The Company has increased
revenues from $0.6 million in 1986 to $55.3 million in 1997. The Company
believes the rental-purchase market is significantly under-penetrated and
provides substantial new store expansion potential, particularly within the
Midwest, Mid-Atlantic and New England markets. Because most of its public
competitors have grown primarily
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through acquisitions, management believes that the state of the industry
presents an opportunity for the Company to capitalize on its demonstrated
ability to open new stores. The Company has developed a consistent, replicable
model for opening new stores and management believes its strategy of opening new
stores provides controllable and predictable growth in revenue and operating
income. The Company expects to increase comparable store revenue and
profitability by increasing both the number of rental-purchase agreements per
store and the monthly rental rates of such agreements. In addition, the Company
strives to enhance profitability at its existing stores by empowering store
associates, leveraging fixed costs and marketing innovative, high margin product
offerings, such as computers. The Company intends to examine both fill-in
acquisitions (acquisitions in markets already served by the Company) and new
market acquisitions (acquisitions in markets not then served by the Company) on
an opportunistic basis.
The Company's principal executive offices are located at 3711 Starr Centre
Drive, Canfield, Ohio 44406, and its telephone number is (330)533-5363.
THE OFFERING
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Common Stock Offered....................................... 2,250,000 Shares
Common Stock to be outstanding after the Offering(1)....... 5,925,735 Shares
Use of Proceeds............................................ To repay outstanding indebtedness and for general
corporate purposes.
Nasdaq National Market Symbol.............................. RBOW
</TABLE>
- ---------------
(1) Excludes 400,000 shares of Common Stock reserved for issuance under the
Company's Stock Option Plan, including 305,000 shares issuable pursuant to
options outstanding at an exercise price equal to the initial public
offering price per share. See "Management -- Stock Option Plan."
RISK FACTORS
An investment in the shares of Common Stock involves significant risks that
a potential investor should carefully consider. See "Risk Factors" beginning on
page 7 for certain information that should be considered by prospective
purchasers of the Common Stock offered hereby.
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SUMMARY FINANCIAL AND OPERATING DATA
The summary historical financial and operating data set forth below should
be read in conjunction with the Selected Financial Data, Management's Discussion
and Analysis of Financial Condition and Results of Operations, and the
Consolidated Financial Statements and related notes thereto included elsewhere
herein. The as adjusted financial data give effect to the consummation of the
Offering and the application of the net proceeds therefrom. Effective as of the
close of business on December 31, 1994, the Company changed its method of
depreciating rental-purchase merchandise from the straight-line basis to the
units of activity method (see "Selected Financial Data," Note 3). Therefore, the
financial information presented for 1993 and 1994 reflects the Company's use of
the straight-line basis and has not been restated because such restatement was
deemed impractical. As a result, certain financial information for 1993 and 1994
may not be comparable to later periods.
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<CAPTION>
THREE MONTHS ENDED
YEAR ENDED DECEMBER 31, MARCH 31,
---------------------------------------------------------------- -----------------------
1993 1994 1995 1996 1997 1997 1998
---------- ---------- ---------- ---------- ---------- ---------- ----------
(UNAUDITED)
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AND OPERATING DATA)
<S> <C> <C> <C> <C> <C> <C> <C>
STATEMENT OF INCOME DATA:
Revenues:
Rental revenue..................... $ 29,909 $ 33,700 $ 39,721 $ 43,815 $ 52,153 $ 12,128 $ 14,168
Fees............................... 830 957 1,151 1,284 1,588 331 432
Merchandise sales.................. 1,357 1,626 1,687 1,461 1,587 500 536
---------- ---------- ---------- ---------- ---------- ---------- ----------
Total revenues................... 32,096 36,283 42,559 46,560 55,328 12,959 15,136
Operating expenses:
Merchandise costs:
Depreciation and other
merchandise costs................ 11,365 13,156 15,428 16,351 19,145 4,432 5,065
Amortization of acquired
rental-purchase agreements....... -- -- 807 652 -- -- --
---------- ---------- ---------- ---------- ---------- ---------- ----------
Total merchandise costs.......... 11,365 13,156 16,235 17,003 19,145 4,432 5,065
Store operating expenses:
Salaries and related expenses...... 7,010 7,020 9,136 9,655 11,532 2,627 3,301
Occupancy expenses................. 2,068 2,567 3,092 3,416 4,068 946 1,122
Advertising expenses............... 1,907 2,280 2,576 2,837 3,283 764 820
Other store expenses............... 3,353 3,980 4,746 5,437 6,554 1,470 1,772
---------- ---------- ---------- ---------- ---------- ---------- ----------
Total store operating expenses... 14,338 15,847 19,550 21,345 25,437 5,807 7,015
---------- ---------- ---------- ---------- ---------- ---------- ----------
Total merchandise costs and
store operating expenses....... 25,703 29,003 35,785 38,348 44,582 10,239 12,080
General and administrative
expenses........................... 2,170 2,662 3,216 3,934 3,946 1,045 1,196
---------- ---------- ---------- ---------- ---------- ---------- ----------
Total operating expenses......... 27,873 31,665 39,001 42,282 48,528 11,284 13,276
---------- ---------- ---------- ---------- ---------- ---------- ----------
Operating income................. 4,223 4,618 3,558 4,278 6,800 1,675 1,860
Interest expense..................... 526 726 898 834 1,822 224 470
Other expense (income), net.......... 283 52 183 453 329 (30) 33
---------- ---------- ---------- ---------- ---------- ---------- ----------
Income before income taxes......... 3,414 3,840 2,477 2,991 4,649 1,481 1,357
Income taxes......................... 1,445 1,642 1,253 972 1,968 630 577
---------- ---------- ---------- ---------- ---------- ---------- ----------
Net income......................... $ 1,969 $ 2,198 $ 1,224 $ 2,019 $ 2,681 $ 851 $ 780
========== ========== ========== ========== ========== ========== ==========
Basic net income per common share.... $ .31 $ .34 $ .19 $ .32 $ .59 $ .13 $ .21
========== ========== ========== ========== ========== ========== ==========
Weighted average common shares
outstanding........................ 6,392,610 6,392,610 6,392,610 6,392,610 4,509,406 6,392,610 3,675,735
OPERATING DATA:
Stores open at end of period....... 42 46 51 55 62 57 64
Comparable store revenue
growth (1)....................... 15.0% 6.7% 8.0% 2.0% 9.9% 10.2% 8.0%
</TABLE>
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AS OF MARCH 31, 1998
---------------------------
ACTUAL AS ADJUSTED(2)
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(UNAUDITED)
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BALANCE SHEET DATA:
Rental-purchase merchandise, net.......................... $ 23,958 $ 23,958
Total assets.............................................. 31,386 31,386
Total debt................................................ 21,445 1,120
Total liabilities......................................... 27,553 7,228
Shareholders' equity...................................... 3,833 24,158
</TABLE>
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(1) Comparable store revenue growth is the percentage increase in revenue from
the same number of stores over a two year period. Only stores that have been
open 12 months in both periods are included in the comparison.
(2) Adjusted to give effect to the application of estimated net proceeds to be
received by the Company from the sale of shares of Common Stock offered
hereby.
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RISK FACTORS
In addition to other information in this Prospectus, prospective purchasers
of the Common Stock offered hereby should consider carefully the following
factors before deciding to invest in the Common Stock. To the extent this
Prospectus contains certain forward-looking statements, actual results could
differ materially from those projected in the forward-looking statements as a
result of any number of factors, including the risk factors set forth below and
elsewhere in this Prospectus.
GOVERNMENT REGULATION
There are currently 45 states that have enacted laws specifically
regulating rental-purchase transactions, including all of the states in which
the Company operates. These laws generally require certain contractual and
advertising disclosures and also provide varying levels of substantive consumer
protection, such as requiring a grace period for late fees and contract
reinstatement rights in the event a rental-purchase agreement is terminated. The
rental-purchase laws of some states, including Michigan, New York, Ohio and
Pennsylvania, limit the total dollar amount of rentals that may be charged over
the life of a rental-purchase agreement. If the Company acquires or opens new
stores in states in which it does not currently operate, the Company will become
subject to the rental-purchase laws of such states, if any. Furthermore, there
can be no assurance that new or revised rental-purchase laws will not have a
material adverse effect on the Company's business, financial condition and
results of operations.
No federal legislation has been enacted regulating or otherwise governing
rental-purchase transactions. From time to time, legislation has been introduced
in Congress that would regulate rental-purchase transactions, including
legislation that would subject rental-purchase transactions to implied interest
rate, finance charge and fee limitations, as well as the Federal Truth in
Lending Act. During 1997, two bills were introduced in Congress that would
regulate the rental-purchase industry. One of the bills is supported by APRO,
and the Company does not believe that this bill, if enacted, would have a
material adverse effect upon the Company's business, financial condition and
results of operations. The other bill would regulate rental-purchase
transactions as credit sales and would require the Company to reposition itself
as a rent-to-rent business. Any such federal legislation, if enacted, could have
a material adverse effect on the Company's business, financial condition and
results of operations. See "Business -- Government Regulation."
EXPANSION RISKS
The inability of the Company to execute its expansion plans, make new
stores profitable or improve the profitability of acquired stores could have a
material adverse effect on the Company's business, financial condition and
results of operations. Accomplishing the Company's expansion plans will depend
on a number of factors, the most important of which is the Company's ability to
hire, train and retain managers and other personnel who satisfy the Company's
standards for performance, professionalism and service. Other risk factors
associated with the opening of new stores, some of which are beyond the control
of the Company, include: locating and obtaining acceptable sites, securing
favorable financing, obtaining necessary zoning or other regulatory approvals,
avoiding unexpected delays in opening due to construction delays or the failure
of vendors to deliver equipment, fixtures or rental-purchase merchandise,
incurring significant start-up costs before the viability of the stores is
established and integrating new stores into the Company's systems and
operations. In general, new stores operate at a loss for up to 15 months after
opening. There can be no assurance that future new stores will obtain
profitability in the expected time frame, if at all. In addition, the Company's
growth strategy will place significant demands on the Company's management. With
respect to acquisitions, there can be no assurance that the Company will be able
to locate or acquire suitable acquisition candidates, or that any operations,
once acquired, can be effectively and profitably integrated into the Company's
existing operations. Additionally, acquisitions may negatively impact the
Company's operating results, particularly during the period immediately
following an acquisition. The Company may acquire operations that are
unprofitable or have inconsistent profitability. See "Management's Discussion
and Analysis of Financial Condition and Results of Operations -- Liquidity and
Capital Resources."
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COMPETITION
The rental-purchase industry is extremely competitive. The Company competes
with other rental-purchase businesses, as well as rental stores that do not
offer their customers a purchase option. Competition is based primarily on
rental rates and terms, product selection and availability and customer service.
With respect to customers that are able to purchase a product for cash or on
credit, the Company also competes with department stores, discount stores and
other retail outlets. Several competitors in the rental-purchase business are
national or regional in scope. The Company has generally strived to open new
stores in markets with a lower concentration of rental-purchase stores. As the
Company's competitors expand geographically into the Company's existing markets,
the Company's competition in those markets may increase and there will be fewer
relatively underserved areas available for penetration by the Company. Many of
the Company's competitors have financial and operating resources exceeding those
of the Company. See "Business -- Competition."
RISK ASSOCIATED WITH THE RENTAL-PURCHASE BUSINESS
The operating success of the Company, like other participants in the
rental-purchase industry, depends upon a number of factors. These factors
include the ability to maintain and increase the number of units on rent, the
collection of rental payments when due and the control of inventory and other
costs. In addition, the failure of the Company's management information systems
to monitor the stores, the failure of the Company's internal audit personnel to
detect adequately any problems with a store, or the failure of store managers to
follow operating guidelines, could have a material adverse effect on the
Company's business, financial condition or results of operations. The
rental-purchase industry is also affected by changes in consumer confidence,
preferences and attitudes, as well as general economic factors. Failure to
respond to changing market trends could adversely affect the Company's business,
financial condition or results of operations. Additionally, a significant
portion of the Company's revenues are derived from the rental of computers and
peripherals. The failure of the Company to react to changes in consumer
preferences and technological advancements could adversely affect the value of
the Company's inventory and the Company's business, financial condition or
results of operations.
DEPENDENCE ON KEY INDIVIDUALS
The continued growth and success of the Company's business is highly
dependent upon the continued services of certain of its executive officers:
Wayland J. Russell, Lawrence S. Hendricks and Michael J. Viveiros. The loss of
the services of one or more of these individuals could have a material adverse
effect on the Company's business, financial condition and results of operations.
The Company carries key person insurance policies on the lives of each of these
individuals. The Company does not have employment contracts or noncompetition
agreements with any of its executive officers or employees.
VOTING CONTROL BY MANAGEMENT
Upon completion of the Offering, the three founding executive officers of
the Company will hold approximately 62.0% of the outstanding shares of Common
Stock (approximately 56.3% if the Underwriters' over-allotment option is
exercised in full). As a result, these shareholders, voting together, will
continue to control the outcome of matters requiring a shareholder vote,
including electing directors, adopting or amending provisions of the Company's
Articles of Incorporation or Code of Regulations and approving mergers or
similar transactions such as the sale of all or substantially all of the
Company's assets. Purchasers in this Offering will become minority shareholders
and will be unable to control the management or business policies of the
Company. See "Management" and "Principal and Selling Shareholders."
ABSENCE OF PRIOR PUBLIC MARKET
Prior to the Offering, there has been no public market for shares of Common
Stock. The shares of Common Stock have been approved for listing on the Nasdaq
National Market; however, there can be no assurance that an active market will
develop or be sustained following the Offering. The initial public offering
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<PAGE> 9
price of the Common Stock offered hereby has been determined through negotiation
between the Company and the Representatives and may not reflect the market price
of the Common Stock after the Offering. See "Underwriting" for information
relating to the factors considered in determining the initial public offering
price of the Common Stock. Market prices for the Common Stock following this
Offering will be influenced by a number of factors, including the Company's
operating results and other factors affecting the Company specifically and the
rental-purchase industry and the stock market generally, as well as the depth
and liquidity of the market for the Common Stock.
The Representatives have advised the Company that they intend to make a
market for the Common Stock, although they are under no obligation to do so.
Were such market making to be discontinued, investors would encounter difficulty
effecting purchase or sale transactions in the absence of alternative market
makers.
VOLATILITY OF SHARE PRICE; POTENTIAL FLUCTUATIONS IN QUARTERLY RESULTS
The Company believes that various factors such as general economic
conditions and changes or volatility in the financial markets, changing market
conditions in the rental-purchase industry and quarterly or annual variations in
the financial results of other public companies that are part of the
rental-purchase industry, all of which may be unrelated to the Company's
performance, could cause the market price of the Common Stock to fluctuate
substantially. Additionally, quarterly revenues and operating income are
difficult to forecast. The Company's expense levels are based, in part, on its
expectations as to future revenues and timing of new store openings. If revenue
levels are below expectations, the Company may be unable or unwilling to reduce
expenses proportionately and operating results would likely be adversely
affected. As a result, the Company believes that period-to-period comparisons of
its results of operations are not necessarily meaningful and should not be
relied upon as indications of future performance. Due to all of the foregoing
factors, it is likely that in some future quarter the Company's operating
results will differ from the expectations of public market analysts and
investors. In such event, the market price of the Common Stock would likely be
materially adversely affected.
LITIGATION
Due to the consumer-oriented nature of the rental-purchase industry and the
application of certain laws and regulations, industry participants may be named
as defendants in litigation alleging violations of state laws and regulations
and consumer law torts, including fraud. Many of these actions involve alleged
violations of consumer protection laws. As of the date of this Prospectus, the
Company is unaware of such litigation in those states in which the Company
operates. While the Company currently has no material litigation pending, in the
event a significant judgment is rendered in the future against the Company or
others within the rental-purchase industry in connection with any such
litigation, such judgment could have a material adverse effect on the Company's
business, financial condition or results of operations. See
"Business -- Regulation" and "Business -- Legal Proceedings."
SHARES ELIGIBLE FOR FUTURE SALE
Upon completion of the Offering, the Company will have 5,925,735 shares of
Common Stock outstanding, including 3,675,735 shares of Common Stock held by
executive officers. All of the shares of Common Stock held by the executive
officers are subject to lock-up agreements under which the holders of such
shares have agreed not to sell or otherwise dispose of any of their shares for a
period of 180 days after the date of this Prospectus without the prior written
consent of The Robinson-Humphrey Company. In addition, shares of Common Stock
issuable upon exercise of stock options granted under the Company's stock option
plan will be available for future sale in the public market, but no such shares
will become available for sale until after the first anniversary of the date of
this Offering. Sales of such shares in the public market, or the perception that
such sales may occur, could adversely affect the market price of the Common
Stock or impair the Company's ability to raise additional capital in the future
through the sale of equity securities. The 3,675,735 shares of Common Stock held
by the executive officers are deemed "restricted" securities within the meaning
of Rule 144 under the Securities Act and may not be sold in the absence of
registration under the
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<PAGE> 10
Securities Act unless an exemption from registration is available, including the
exemptions contained in Rule 144. See "Management -- Stock Option Plan," "Shares
Eligible for Future Sale" and "Underwriting."
PREFERRED SHARES; STATE ANTI-TAKEOVER LAWS
The Board of Directors of the Company is authorized to issue, from time to
time, without any further action on the part of the Company's shareholders, up
to 2,000,000 preferred shares in one or more series, with such relative rights,
powers, preferences and conversion rights as are determined by the Board of
Directors at the time of issuance. The issuance of preferred shares could
adversely affect the holders of Common Stock. In addition, certain statutory
provisions of Ohio law could have the effect of delaying, deferring or
preventing a change in control of the Company. See "Description of Capital
Stock -- Preferred Shares and Certain Provisions of Ohio Law."
DILUTION
Purchasers of Common Stock offered hereby will experience an immediate and
substantial dilution in the net tangible book value per share of Common Stock of
approximately $6.24 per share. See "Dilution."
DIVIDEND POLICY
The Company does not anticipate paying any cash dividends on its shares of
Common Stock in the foreseeable future. See "Dividend Policy."
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FORWARD-LOOKING STATEMENTS
This Prospectus contains certain forward-looking statements, including
statements with respect to the Company's operations, industry, financial
condition and liquidity. These forward-looking statements are subject to risks
and uncertainties, many of which are beyond the Company's control, which could
cause actual results to differ materially from those contemplated in such
forward-looking statements, including in particular the risks and uncertainties
described under "Risk Factors," including, among other things (i) changes in the
government's regulation of the industry and (ii) the ability of the Company to
execute effectively its expansion program. Prospective investors are cautioned
not to place undue reliance on these forward-looking statements, which speak
only as of the date hereof. The Company undertakes no obligation to publicly
update or revise any of these forward-looking statements, whether as a result of
new information, future events or circumstances or otherwise. There can be no
assurance that the events described in these forward-looking statements will
occur.
USE OF PROCEEDS
The net proceeds from the sale of the Common Stock being offered by the
Company are estimated to be approximately $20.3 million after deducting the
underwriting discount and estimated offering expenses payable by the Company.
The Company intends to use approximately $10.9 million to retire indebtedness
(including accrued interest) due a former shareholder-officer of the Company and
his affiliates (the "Redemption Debt") incurred in connection with the April
1997 redemption of shares owned by them (the "Redemption Transaction"). The
Redemption Transaction consisted of the repurchase of 2,716,875 shares for $11.1
million and $2.3 million in severance, non-competition and consulting payments,
of which $10.5 million was evidenced by the Redemption Debt. The Redemption Debt
bears interest at 8.0% and matures on various dates ranging from December 1,
1999 to December 1, 2012. See Notes 4 and 11 of the Consolidated Financial
Statements. The balance of the net proceeds, approximately $9.4 million, will be
used to reduce borrowings under the Company's existing revolving credit facility
with Bank of America Illinois (the "Credit Facility"), which had an outstanding
balance of $10.3 million as of March 31, 1998, and for general corporate
purposes. The Credit Facility bears interest at the rate of prime plus 0.25%
(presently 8.75%) and borrowings under the Credit Facility are due on May 21,
2000. The Company expects to enter into an amended $10.0 million Credit
Facility, conditioned on completion of the Offering. See "Management's
Discussion and Analysis of Financial Condition and Results of
Operations -- Liquidity and Capital Resources."
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CAPITALIZATION
The following table sets forth the actual capitalization of the Company (i)
as of March 31, 1998, and (ii) as adjusted to reflect the sale of the 2,250,000
shares of Common Stock by the Company, after deducting the underwriting discount
and estimated offering expenses payable by the Company and the application of
the net proceeds therefrom as described under "Use of Proceeds." This table
should be read in conjunction with "Management's Discussion and Analysis of
Financial Condition and Results of Operations" and the Company's Consolidated
Financial Statements and related notes thereto included elsewhere in this
Prospectus.
<TABLE>
<CAPTION>
AS OF MARCH 31, 1998
-----------------------
ACTUAL AS ADJUSTED
-------- -----------
(DOLLARS IN THOUSANDS)
(UNAUDITED)
<S> <C> <C>
Long-term debt:
Credit Facility........................................... $ 10,267 $ 883
Capitalized lease obligations............................. 237 237
Redemption Debt (including accrued interest of $453)...... 10,941(1) --
-------- -------
Total long-term debt................................... 21,445 1,120
-------- -------
Shareholders' equity:
Serial preferred stock, no par value, 2,000,000 shares
authorized, none issued................................ -- --
Common Stock, no par value, 10,000,000 shares authorized,
3,675,735 issued and outstanding at March 31, 1998 and
5,925,735 issued and outstanding, as adjusted.......... 60 11,196
-------- -------
Treasury stock, 2,716,875 shares of Common Stock at March
31, 1998 and 466,875, as adjusted, at cost............. (11,095)(1) (1,906)
-------- -------
Retained earnings......................................... 14,868 14,868
-------- -------
Total shareholders' equity............................. 3,833 24,158
-------- -------
Total capitalization................................. $ 25,278 $25,278
======== =======
</TABLE>
- ---------------
(1) Reflects the Redemption Transaction. See Note 4 of the Company's
Consolidated Financial Statements.
DIVIDEND POLICY
The Company has never paid cash dividends on its shares of Common Stock.
The Company currently intends to retain all earnings from its operations to
finance the growth and development of its business and, consequently, does not
expect to pay dividends on its shares of Common Stock in the foreseeable future.
The payment of future dividends will be at the sole discretion of the Company's
Board of Directors and will depend on, among other things, future earnings,
capital requirements, the general financial condition of the Company and general
business conditions. In addition, the payment of dividends by the Company is
limited by certain covenants in the Company's Credit Facility. See "Management's
Discussion and Analysis of Financial Condition and Results of
Operations -- Liquidity and Capital Resources."
12
<PAGE> 13
DILUTION
As of March 31, 1998, the net tangible book value of the Company was
approximately $2.0 million, or $0.54 per share. "Net tangible book value per
share" represents the total tangible assets of the Company, less all
liabilities, divided by the number of shares of Common Stock outstanding. After
giving effect to the sale by the Company of 2,250,000 shares of Common Stock
offered hereby and the application of the net proceeds as set forth under "Use
of Proceeds," the pro forma net tangible book value of the Company as of March
31, 1998 would be $22.3 million or $3.76 per share. This represents an immediate
increase in net tangible book value per share of $3.22 to current shareholders
and an immediate dilution of $6.24 per share to new investors. The following
table illustrates this per share dilution.
<TABLE>
<S> <C> <C>
Initial public offering price per share..................... $10.00
Net tangible book value per share before the Offering..... $0.54
Increase in pro forma net tangible book value attributable
to the Offering........................................ 3.22
-----
Pro forma net tangible book value per share after the
Offering.................................................. 3.76
------
Dilution per share to new investors......................... $ 6.24
======
</TABLE>
13
<PAGE> 14
SELECTED FINANCIAL DATA
The selected financial data presented below under the captions "Statement of
Income Data" and "Balance Sheet Data" for, and as of the end of, each of the
years in the five-year period ended December 31, 1997, are derived from the
consolidated financial statements of the Company and subsidiary, which financial
statements have been audited by KPMG Peat Marwick LLP, independent certified
public accountants. The selected financial data presented below under the
captions "Statement of Income Data" and "Balance Sheet Data" for, and as of the
end of the three months ended March 31, 1998 and 1997 are derived from the
unaudited consolidated financial statements of the Company and subsidiary,
which, in the opinion of the Company, reflect all adjustments necessary for a
fair presentation. The consolidated financial statements as of March 31, 1998
and 1997 and as of December 31, 1996 and 1997, and for the three month period
ended March 31, 1998 and 1997 and each of the years in the three-year period
ended December 31, 1997, and the report thereon, are included elsewhere in this
Prospectus. Results for the three-month period ended March 31, 1998 are not
necessarily indicative of results for the year ending December 31, 1998. The
information presented under the caption "Operating Data" is unaudited. Effective
as of the close of business on December 31, 1994, the Company changed its method
of depreciating rental-purchase merchandise from the straight-line basis to the
units of activity method. Therefore, the financial information presented for
1993 and 1994 reflects the Company's use of the straight-line basis and has not
been restated because such restatement was deemed impractical. As a result,
certain financial information for 1993 and 1994 may not be comparable to later
periods. The data presented below should be read in conjunction with
Management's Discussion and Analysis of Financial Condition and Results of
Operations, and the Consolidated Financial Statements and the related notes
thereto included elsewhere herein.
<TABLE>
<CAPTION>
THREE MONTHS ENDED
YEAR ENDED DECEMBER 31, MARCH 31,
------------------------------------------------------------ -----------------------
1993 1994 1995 1996 1997 1997 1998
---------- --------- --------- --------- --------- --------- -----------
(UNAUDITED)
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AND OPERATING DATA)
<S> <C> <C> <C> <C> <C> <C> <C>
STATEMENT OF INCOME DATA:
Revenues:
Rental revenue................ $ 29,909 $ 33,700 $ 39,721 $ 43,815 $ 52,153 $ 12,128 $ 14,168
Fees.......................... 830 957 1,151 1,284 1,588 331 432
Merchandise sales............. 1,357 1,626 1,687 1,461 1,587 500 536
---------- --------- --------- --------- --------- --------- ---------
Total revenues.............. 32,096 36,283 42,559 46,560 55,328 12,959 15,136
Operating expenses:
Merchandise costs:
Depreciation and other
merchandise costs........... 11,365 13,156 15,428 16,351 19,145 4,432 5,065
Amortization of acquired
rental-purchase
agreements.................. -- -- 807 652 -- -- --
---------- --------- --------- --------- --------- --------- ---------
Total merchandise costs..... 11,365 13,156 16,235 17,003 19,145 4,432 5,065
Store operating expenses:
Salaries and related
expenses.................... 7,010 7,020 9,136 9,655 11,532 2,627 3,301
Occupancy expenses............ 2,068 2,567 3,092 3,416 4,068 946 1,122
Advertising expenses.......... 1,907 2,280 2,576 2,837 3,283 764 820
Other store expenses.......... 3,353 3,980 4,746 5,437 6,554 1,470 1,772
---------- --------- --------- --------- --------- --------- ---------
Total store operating
expenses.................. 14,338 15,847 19,550 21,345 25,437 5,807 7,015
---------- --------- --------- --------- --------- --------- ---------
Total merchandise costs and
store operating
expenses.................. 25,703 29,003 35,785 38,348 44,582 10,239 12,080
General and administrative
expenses...................... 2,170 2,662 3,216 3,934 3,946 1,045 1,196
---------- --------- --------- --------- --------- --------- ---------
Total operating expenses.... 27,873 31,665 39,001 42,282 48,528 11,284 13,276
---------- --------- --------- --------- --------- --------- ---------
Operating income............ 4,223 4,618 3,558 4,278 6,800 1,675 1,860
Interest expense................ 526 726 898 834 1,822 224 470
Other expense (income), net..... 283 52 183 453 329 (30) 33
---------- --------- --------- --------- --------- --------- ---------
Income before income taxes.... 3,414 3,840 2,477 2,991 4,649 1,481 1,357
Income taxes.................... 1,445 1,642 1,253 972 1,968 630 577
---------- --------- --------- --------- --------- --------- ---------
Net income.................... $ 1,969 $ 2,198 $ 1,224 $ 2,019 $ 2,681 $ 851 $ 780
========== ========= ========= ========= ========= ========= =========
Basic net income per common
share....................... $ .31 $ .34 $ .19 $ .32 $ .59 $ .13 $ .21
========== ========= ========= ========= ========= ========= =========
Weighted average common shares
outstanding................. 6,392,610 6,392,610 6,392,610 6,392,610 4,509,406 6,392,610 3,675,735
OPERATING DATA:
Stores open at end of
period...................... 42 46 51 55 62 57 64
Comparable store revenue
growth(1)................... 15.0% 6.7% 8.0% 2.0% 9.9% 10.2% 8.0%
</TABLE>
14
<PAGE> 15
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, AS OF
------------------------------------------------------------ MARCH 31,
1993 1994 1995 1996 1997 1998
---------- --------- --------- --------- --------- -----------
(UNAUDITED)
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AND OPERATING DATA)
<S> <C> <C> <C> <C> <C> <C> <C>
BALANCE SHEET DATA:
Rental-purchase merchandise,
net......................... $ 10,362 $ 13,378(2) $ 15,676 $ 19,740 $ 23,411 $ 23,958
Total assets.................. 14,573 17,097(2) 20,932 25,401 31,240 31,386
Total debt.................... 6,578 6,843 8,651 9,850 23,844(3) 21,445
Total liabilities............. 10,155 8,873 11,484 13,934 28,187(3) 27,553
Shareholders' equity.......... 4,418 8,224(2) 9,448 11,467 3,053(3) 3,833
</TABLE>
- ---------------
(1) Comparable store revenue growth is the percentage increase in revenue from
the same number of stores over a two year period. Only stores that have been
open 12 months in both periods are included in the comparison.
(2) Includes the effect of the change in the method of depreciating
rental-purchase merchandise from the straight-line basis to the units of
activity method of $1.6 million at December 31, 1994. See Note 1(b) of the
Company's Consolidated Financial Statements.
(3) Includes the effect of the redemption of shares from a prior
shareholder-officer. See Note 4 of the Company's Consolidated Financial
Statements.
15
<PAGE> 16
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion should be read in conjunction with the Company's
Consolidated Financial Statements and related notes thereto and Selected
Financial Data included elsewhere in this Prospectus.
GENERAL
Primarily through the opening of new stores, the Company has increased its
number of stores from 42 as of December 31, 1993, to 62 as of December 31, 1997.
The Company currently operates 66 rental-purchase stores in eight states,
providing quality, name brand, durable merchandise, including home electronics,
furniture, appliances and computers. Generally, rental-purchase merchandise is
rented to individuals under flexible agreements that allow customers to own the
merchandise after making a specified number of rental payments (ranging from 12
to 24 months). Customers have the option to return the merchandise at any time
without further obligation, and also have the option to purchase the merchandise
at any time during the rental term.
On March 1, 1995, the Company acquired certain assets, including fixed
assets, inventory and customer rental-purchase agreements from an Ohio
competitor, Dial-To-Own ("DTO"). Immediately following the acquisition, three of
the DTO stores were consolidated into existing Company stores and the remaining
seven stores were integrated into the Company over the next 15 months. During
this time period, the Company devoted significant capital and human resources to
the turnaround and integration of these stores including efforts relating to:
store relocations and remodeling; the infusion of quality, name brand, durable
merchandise; the addition of more experienced and better trained associates; and
the implementation of the Company's operational policies and procedures.
During 1996 and 1997, the Company returned to its primary strategy of
opening new stores and opened four and seven stores, respectively. Virtually all
of the new stores were located in new or underserved markets in Nashville,
Tennessee; Hartford, Connecticut; Eastern Pennsylvania; and Springfield,
Massachusetts. Through April 30, 1998, the Company opened five additional stores
in existing markets.
COMPONENTS OF INCOME AND EXPENSES
Revenue. The Company collects rental payments in advance, generally on a
weekly or monthly basis. This rental revenue is recognized when collected. Fees
include fees for reinstatement of expired agreements and fees for in-home
collection. These fees are recognized when collected. Rental-purchase agreements
generally include an early purchase option. Merchandise sales include amounts
received upon sales of merchandise pursuant to such options and upon the sale of
used merchandise. These amounts are recognized as revenue when the merchandise
is sold.
Depreciation and Other Merchandise Costs. Under the units of activity
depreciation method, rental-purchase merchandise is depreciated as revenue is
collected. Rental-purchase merchandise is not depreciated during periods when it
is not on rent and therefore not generating rental revenue. Other merchandise
costs include the remaining book value of merchandise sold or otherwise
disposed, together with the cost of replacement parts and accessories.
Amortization of Acquired Rental-Purchase Agreements. The excess of the
purchase price over the fair market value of the assets acquired from the DTO
stores was amortized over an 18 month period utilizing the straight line method
and was fully amortized by August 1996.
Salaries and Related Expenses. Salaries and related expenses include all
salaries and wages paid to store level associates, related benefits, taxes and
workers' compensation premiums.
Occupancy Expenses. Occupancy expenses include rent, repairs and
maintenance of physical store locations, utility costs and depreciation of store
leasehold improvements. The Company has no leases that include percentage rent
provisions.
16
<PAGE> 17
Advertising Expenses. Advertising expenses include television, radio and
print media costs as well as the expenses (including payroll) of the Company's
internal advertising department.
Other Store Expenses. Other store expenses include delivery expenses,
insurance, costs associated with maintaining merchandise inventory, telephone
expenses, store computer and office expenses and personal property taxes, among
other items.
General and Administrative Expenses. General and administrative expenses
include all personnel, occupancy and other operating expenses associated with
maintaining the Company's corporate-level departments. In addition, all costs
associated with the Company's annual and semi-annual manager meetings and
committee meetings, as well as charitable contributions and state taxes not
based on income, are included.
For several years, the Company has made significant contributions to
charitable organizations, including organizations for which directors and
officers serve or have served as trustees or officers. The aggregate amount of
charitable contributions was approximately $227,000, $243,000 and $208,000 in
1995, 1996, and 1997, respectively, and the amount of contributions for 1998
will be approximately $230,000. For subsequent years, the Board of Directors has
determined to limit charitable contributions to an amount not to exceed 10% of
the prior year's net income.
Income Tax Expense. Income tax expense includes the combined effect of all
federal, state and local income taxes imposed upon the Company by various taxing
jurisdictions.
RESULTS OF OPERATIONS
The following table sets forth, for the periods indicated, certain
Statements of Income data as a percentage of total revenue.
<TABLE>
<CAPTION>
THREE MONTHS
YEAR ENDED DECEMBER 31, ENDED MARCH 31,
----------------------- ----------------
1995 1996 1997 1997 1998
----- ----- ----- ------ ------
<S> <C> <C> <C> <C> <C>
STATEMENT OF INCOME DATA:
Revenues:
Rental revenue.................................. 93.3% 94.1% 94.3% 93.6% 93.6%
Fees............................................ 2.7 2.8 2.9 2.6 2.9
Merchandise sales............................... 4.0 3.1 2.8 3.8 3.5
----- ----- ----- ----- -----
Total revenue........................... 100.0 100.0 100.0 100.0 100.0
Operating expenses:
Merchandise costs:
Depreciation and other merchandise costs........ 36.3 35.1 34.6 34.2 33.5
Amortization of acquired rental-purchase
agreements................................... 1.9 1.4 0.0 -- --
----- ----- ----- ----- -----
Total merchandise costs................. 38.2 36.5 34.6 34.2 33.5
Store operating expenses:
Salaries and related expenses................... 21.5 20.7 20.8 20.3 21.8
Occupancy expenses.............................. 7.3 7.3 7.4 7.3 7.4
Advertising expenses............................ 6.0 6.1 6.0 5.9 5.4
Other store expenses............................ 11.1 11.7 11.8 11.3 11.7
----- ----- ----- ----- -----
Total store operating expenses.......... 45.9 45.8 46.0 44.8 46.3
----- ----- ----- ----- -----
Total merchandise costs and store
operating expenses.................... 84.1 82.3 80.6 79.0 79.8
General and administrative expenses............... 7.5 8.4 7.1 8.1 7.9
----- ----- ----- ----- -----
Total operating expenses................ 91.6 90.7 87.7 87.1 87.7
----- ----- ----- ----- -----
Operating income........................ 8.4 9.3 12.3 12.9 12.3
Interest expense.................................. 2.1 1.8 3.3 1.7 3.1
Other expense (income), net....................... 0.4 1.0 0.6 (0.2) 0.2
----- ----- ----- ----- -----
Income before income taxes...................... 5.9 6.5 8.4 11.4 9.0
Income taxes...................................... 2.9 2.1 3.6 4.9 3.8
----- ----- ----- ----- -----
Net income...................................... 3.0% 4.4% 4.8% 6.5% 5.2%
===== ===== ===== ===== =====
</TABLE>
17
<PAGE> 18
COMPARISON OF THREE MONTHS ENDED MARCH 31, 1997 AND 1998
Total Revenue. For the quarter ended March 31, 1998, total revenue
increased from $13.0 million to $15.1 million, an increase of 16.8% over the
comparable 1997 period. This increase was due primarily to an improvement in
comparable store revenue and revenue derived from the seven stores opened in
1997. An increase in comparable store revenue of 8.0% accounted for 47.7% of the
increase, with revenue from new stores accounting for the remainder of the
increase.
Total Merchandise Costs. Total merchandise costs increased from $4.4
million to $5.1 million, an increase of 14.3% over the comparable 1997 period,
but decreased from 34.2% to 33.5% of total revenue due to improved margins.
Salaries and Related Expenses. Salaries and related expenses increased
from $2.6 million to $3.3 million, an increase of 25.7% over the same quarter in
1997. As a percentage of total revenue, salaries and related expenses increased
from 20.3% to 21.8%. This increase was due to additional personnel at the
Company's comparable core stores necessitated by the increase in rental-purchase
agreements in 1997, as well as the addition of personnel at the nine stores
opened since the beginning of 1997 that are operating at revenue levels below
those of core stores.
Occupancy Expenses. Occupancy expenses increased from $0.9 million to $1.1
million, an increase of 18.6% over the same quarter in 1997 reflecting an
increase in the number of stores. As a percentage of total revenue, occupancy
expenses remained relatively constant.
Advertising Expenses. Advertising expenses remained relatively constant at
$0.8 million, and as a percentage of total revenue decreased from 5.9% to 5.4%.
Other Store Expenses. Other store expenses increased from $1.5 million to
$1.7 million, an increase of 20.5% over the comparable 1997 period. This
increase was due primarily to the number of rental-purchase agreements added in
1997 and the impact of new stores openings. As a percentage of total revenue,
other store expenses increased from 11.3% to 11.7%
General and Administrative Expenses. General and administrative expenses
increased from $1.0 million to $1.2 million, an increase of 14.4% over the
comparable 1997 period, but decreased from 8.1% to 7.9% as a percentage of total
revenues. The increased costs associated with the addition of a fifth regional
manager, professional services and travel expenses, as well as additional
support service personnel, were partially offset by a decrease in executive
expenses associated with the Redemption Transaction.
Total Operating Expenses. As a result of all of the factors discussed
above, total operating expenses increased from $11.3 million to $13.3 million,
an increase of 17.7% over the 1997 comparable period, and increased from 87.1%
to 87.7% as a percentage of total revenue.
Operating Income. Operating income increased 11.1%, from $1.7 million in
the 1997 first quarter to $1.9 million in the 1998 period, but decreased as a
percentage of total revenue from 12.9% to 12.3%.
Interest Expense. Interest expense increased from $0.2 million to $0.5
million, an increase of 109.8% over the comparable period in 1997, and as a
percentage of total revenue increased from 1.7% to 3.1%. The increase is
attributable to increased indebtedness related to the Redemption Transaction.
Other Expense (Income), Net. The change of $0.1 million in other expense
(income) is due to amortization associated with the Redemption Debt, partially
offset by the gain recognized on the sale of delivery vehicles.
Income Tax Expense. Income tax expense remained relatively constant at
$0.6 million, but, as a percentage of total revenue, decreased from 4.9% in 1997
to 3.8% in 1998.
Net Income. As a result of all of the factors discussed above, net income
remained relatively constant at $0.8 million, but as a percentage of total
revenue decreased from 6.5% to 5.2%.
18
<PAGE> 19
COMPARISON OF YEARS ENDED DECEMBER 31, 1996 AND 1997
Total Revenue. For 1997, total revenue increased from $46.6 million to
$55.3 million, an increase of 18.8% over the prior year. The increase was due to
an increase in comparable store revenue, the inclusion of a full year's results
for stores opened in 1996, and new store openings. An increase in comparable
store revenue accounted for $4.5 million, or 51.7%, of the increase, stores
opened in 1996 accounted for $2.4 million, or 27.6% of the increase, and new
store openings accounted for $1.8 million, or 20.7%, of the increase. Comparable
store revenue increased 9.9%, consisting of core store revenue increases of $3.0
million or 7.4%, and increases in revenue of stores acquired in 1995 of $1.5
million or 33.1%.
Total Merchandise Costs. Total merchandise costs increased from $17.0
million to $19.1 million, an increase of 12.6% over the prior year. Depreciation
and other merchandise costs increased from $16.4 million to $19.1 million in
1997, an increase of 17.1% over the prior year, but decreased from 35.1% to
34.6% of total revenue due to improved margins. Amortization of acquired
rental-purchase agreements (related to the DTO acquisition) was $0.7 million in
1996. Amortization of acquired rental-purchase agreements from the acquisition
of DTO were fully amortized by August 1996.
Salaries and Related Expenses. Salaries and related expenses increased
from $9.7 million to $11.5 million, an increase of 19.4% over the prior year.
This increase was due to additional personnel at the new stores and an increase
in rental-purchase agreements at existing stores. As a percentage of total
revenue, salaries and related expenses remained relatively constant at 20.8%.
Occupancy Expenses. Occupancy expenses increased from $3.4 million to $4.1
million in 1997, an increase of 19.1% over the prior year. This increase was due
primarily to rent increases and new store openings. As a percentage of total
revenue, occupancy expenses remained relatively constant at 7.4%.
Advertising Expenses. Advertising expenses increased from $2.8 million to
$3.3 million, an increase of 15.7% over the prior year. This increase was due to
new store openings. As a percentage of total revenue, advertising expenses
remained relatively constant at 6.0%.
Other Store Expenses. Other store expenses increased from $5.4 million to
$6.6 million, an increase of 20.5% over the prior year. This increase was due
primarily to the increased number of stores opened, as well as increased number
of rental-purchase agreements in existing stores. As a percentage of total
revenue, other store expenses remained relatively constant at 11.8%.
General and Administrative Expenses. General and administrative expenses
remained constant at $3.9 million, and, as a percentage of total revenue,
decreased from 8.4% in 1996 to 7.1% in 1997. The increased costs associated with
the addition of a fourth regional manager, professional services and additional
support service personnel were offset by a decrease in executive expenses
associated with the Redemption Transaction.
Total Operating Expenses. As a result of all of the factors discussed
above, total operating expenses increased from $42.3 million to $48.5 million in
1997, an increase of 14.8% over the prior year, but decreased from 90.7% of
total revenue to 87.7%.
Operating Income. Operating income increased from $4.3 million to $6.8
million, an increase of 59.0% over the prior year, and increased from 9.3% to
12.3% of total revenue in 1996 and 1997, respectively. The $2.5 million increase
in operating income and the 3.0% increase in operating margins were due
primarily to the improved performance of the DTO stores, the maturation of
stores opened in 1996, growth of rental-purchase agreements in core stores and
the stabilization of corporate expenses, partially offset by operating losses
associated with new store openings.
Interest Expense. Interest expense increased from $0.8 million to $1.8
million, an increase of 118.5% over the prior year, and as a percentage of total
revenue increased from 1.8% in 1996 to 3.3% in 1997. The increase is
attributable to the increased indebtedness related to the Redemption
Transaction.
19
<PAGE> 20
Other Expense (Income), Net. Other expense decreased from $0.5 million to
$0.3 million. In 1996, the Company recognized a one time charge for the loss of
a lawsuit brought by a former associate as well as a charge associated with the
upgrade of the Company's management information systems and remodeling of the
Company's corporate headquarters. During 1997, the amortization of non-compete
and consulting agreements executed in connection with the Redemption Transaction
was offset by gains from the sale of delivery vehicles.
Income Tax Expense. Income tax expense increased from $1.0 million to $2.0
million, an increase of 102.5% over the prior year. The increase was due to
increased income before taxes in 1997 as well as a higher effective tax rate in
1997 as compared to 1996 caused by prior year refunds of state taxes recognized
during 1996.
Net Income. As a result of all of the factors discussed above, net income
increased from $2.0 million to $2.7 million, an increase of 32.8% over the prior
year, and increased from 4.4% to 4.8% of total revenue, in 1996 and 1997,
respectively.
COMPARISON OF YEARS ENDED DECEMBER 31, 1995 AND 1996
Total Revenue. For 1996 total revenue increased from $42.6 million to
$46.6 million, an increase of 9.4% over the prior year. The increase was due to
the inclusion in 1996 of a full year's revenue from DTO stores, new store
openings during 1996, and an increase in comparable store revenue. The increase
in revenue of the DTO stores acquired by the Company on March 1, 1995, accounted
for $1.9 million, or 48.3% of the increase, new store openings accounted for
$1.3 million, or 32.0% of the increase and comparable store revenue increased
$0.8 million, or 19.7% of the increase. Comparable store revenue increased 2.0%
in 1996 reflecting an increase in AMRR offset by a decrease in the number of
rental-purchase agreements per store.
Total Merchandise Costs. Total merchandise costs increased from $16.2
million to $17.0 million, an increase of 4.7% over the prior year. Depreciation
and other merchandise costs increased from $15.4 million to $16.4 million, an
increase of 6.0% over the prior year, due to new store openings, increases in
costs associated with the growth of the DTO stores and an increase in the
average cost per unit. Total merchandise costs decreased from 38.2% of total
revenue in 1995 to 36.5% in 1996 due to improved margins. Amortization of
acquired rental-purchase agreements (related to the DTO acquisition) decreased
from $0.8 million to $0.7 million, a 19.2% decrease from the prior year, as the
value of acquired rental-purchase agreements were fully amortized over an
18-month period ending in August 1996.
Salaries and Related Expenses. Salaries and related expenses increased
from $9.1 million to $9.7 million, an increase of 5.7% from the prior year, due
primarily to the hiring of personnel to support four new stores and the growth
of the DTO stores. Salaries and related expenses decreased as a percentage of
total revenue from 21.5% to 20.7% in 1995 and 1996, respectively.
Occupancy Expenses. Occupancy expenses increased from $3.1 million to $3.4
million, an increase of 10.5% over the prior year, but remained constant at 7.3%
of total revenue. The dollar increase reflects the cost of relocation of some
DTO stores and new store openings.
Advertising Expenses. Advertising expenses increased from $2.6 million to
$2.8 million, an increase of 10.1% over the prior year, due to new store
openings. As a percentage of total revenue, advertising expenses remained
relatively constant at 6.1%.
Other Store Expenses. Other store expenses increased from $4.7 million to
$5.4 million, an increase of 14.6% over the prior year. As a percentage of total
revenue, other store expenses increased from 11.1% of total revenue in 1995 to
11.7% in 1996, primarily due to the inclusion for the full year of the DTO
stores that generated lower revenues than the Company's existing stores.
General and Administrative Expenses. General and administrative expenses
increased from $3.2 million to $3.9 million, an increase of 22.3% over the prior
year. As a percentage of total revenue, these expenses increased from 7.5% of
total revenue in 1995 to 8.4% in 1996, primarily due to increased costs
associated with
20
<PAGE> 21
expanding the Company's infrastructure and increased travel expenses. Costs
associated with expansion of the Company's infrastructure included employment of
regional managers, upgrading the Company's computer hardware and software, and
the employment of a corporate controller.
Total Operating Expenses. As a result of all of the factors discussed
above, total operating expenses increased from $39.0 million to $42.3 million,
an increase of 8.4% over the prior year, but decreased from 91.6% of total
revenue in 1995 to 90.7% in 1996.
Operating Income. Operating income increased from $3.6 million to $4.3
million, an increase of 20.2% over the prior year, and increased from 8.4% to
9.3% of total revenue in 1995 and 1996, respectively. The increase is reflective
of the continued successful integration of the DTO stores and increased
profitability of comparable stores, partially offset by operating losses
associated with new store openings and increase in expenses associated with the
Company's internal growth.
Interest Expense. Interest expense decreased from $0.9 million to $0.8
million, a 7.1% decrease from the prior year, and as a percentage of total
revenue decreased from 2.1% in 1995 to 1.8% in 1996. The decrease is due to a
reduction in interest rates offsetting an increase in indebtedness.
Other Expense (Income), Net. Other expense increased from $0.2 million to
$0.5 million. The increase resulted from the Company recognizing a one time
charge for the loss of a lawsuit brought by a former associate as well as a
charge associated with the upgrade of the Company's management information
system and remodeling of the Company's corporate headquarters.
Income Tax Expense. Income tax expense decreased from $1.3 million to $1.0
million, a decrease of 22.4% from the prior year, and as a percentage of total
revenue decreased from 2.9% to 2.1%. The decrease is attributable to a lower
effective tax rate resulting from the 1996 receipt of state tax refunds from
prior years.
Net Income. As a result of all of the factors discussed above, net income
increased from $1.2 million to $2.0 million, an increase of 65.0% over the prior
year, and increased from 3.0% to 4.4% of total revenue.
LIQUIDITY AND CAPITAL RESOURCES
The Company's primary requirements for capital consist of purchasing
additional and replacement rental-purchase merchandise and expenditures relating
to new store openings. During the years ended December 31, 1996 and 1997, the
Company purchased merchandise for aggregate amounts of approximately $20.5
million and $22.5 million, respectively.
Cash provided by operating activities decreased from $1.6 million in 1996
to $0.7 million in 1997, primarily due to the opening of seven new stores and
the purchase of merchandise necessary to fund the increase in the number of
rental-purchase agreements. Cash used in investing activities decreased from
$2.4 million in 1996 to $0.8 million in 1997 because the Company began leasing
its delivery vehicles under operating leases as opposed to purchasing them
outright as in prior years. During 1997, cash used in financing activities was
$0.3 million compared to cash provided by financing activities in 1996 of $1.1
million.
Historically, the Company's growth was financed through cash flow from
operations, borrowings under the Credit Facility and trade credit. At March 31,
1998, the outstanding balance of the Credit Facility was approximately $10.3
million. The remaining portion of the net proceeds of this Offering will be used
to repay a portion of indebtedness due under the Credit Facility. Borrowings
under the Credit Facility bear interest at a variable rate equal to prime plus
0.25% (8.75% per annum at March 31, 1998), are secured by a lien on
substantially all of the Company's assets and are personally guaranteed by the
Company's Chairman and Chief Executive Officer. Borrowings under the Credit
Facility are due on May 21, 2000. The Credit Facility includes certain cash flow
and net worth requirements, as well as covenants which limit the ability of the
Company to incur additional indebtedness, grant liens, transfer assets out of
the ordinary course of business, pay dividends, engage in merger transactions
and make capital expenditures (which do not include the purchase of
rental-purchase merchandise) in excess of a specified amount. Following
completion of the Offering, the Company anticipates entering into an amended
$10.0 million Credit Facility.
21
<PAGE> 22
In April 1997, the Company completed the Redemption Transaction. The
Redemption Transaction, which included noncompete, consulting and severance
agreements, amounted to a payment by the Company of $13.5 million, of which
$10.5 million is evidenced by subordinated notes payable referred to as the
Redemption Debt. This Redemption Debt bears interest at a fixed rate of 8.0% and
is payable in 180 equal installments beginning January 1, 1998. Although the
Redemption Debt does not have a prepayment penalty, upon completion of the
Offering, pursuant to the terms of the Redemption Debt, all such indebtedness
becomes immediately due and payable. A portion of the net proceeds of the
Offering will be used to repay the Redemption Debt.
The Company plans to continue and expand its store opening program. In
1998, the Company expects to incur approximately $500,000 to open and operate
each new store until the store generates a positive cash flow. Included among
the cash requirements for a new store are expenditures of approximately $60,000
for leasehold improvements, furnishings and fixtures and computers;
approximately $425,000 for rental-purchase merchandise and approximately $15,000
to fund initial, anticipated operating losses. These costs do not include any
interest carrying charge or general corporate overhead. Stores generally become
profitable (excluding the store's share of corporate overhead) within 15 months.
On a continuous basis, the Company remodels and refurbishes stores. Store
opening expenses are charged to operations as incurred. The timing of store
openings and the number of stores in the maturation process will have an effect
on quarter-to-quarter comparisons. Each store needs a period of time to build
its customer base and develop a recurring revenue stream from rental-purchase
agreements' continuations and renewals.
In addition to new store openings, the Company may increase its number of
stores or rental-purchase agreements through selective acquisitions. Management
believes that there are currently a number of acquisition opportunities in the
rental-purchase industry, and that from time to time additional acquisition
opportunities may arise. Potential acquisitions may vary in size and the Company
may consider larger acquisitions that could be material to the Company.
Management believes that the proceeds of this Offering, together with cash flow
from operations and additional borrowings under the Credit Facility, as proposed
to be amended, will be adequate to fund its operations and expansion plans for
at least the next 12 months. Should the Company determine to accelerate its new
store openings, or should a large acquisition materialize, the Company may incur
additional bank indebtedness and may issue its equity or debt securities, the
availability and terms of which will depend upon market and other conditions.
There can be no assurance that such additional financing will be available or,
if available, will be on terms acceptable to the Company.
INFLATION
During the years ended December 31, 1995, 1996 and 1997, the cost of
rental-purchase merchandise, lease expense and salaries and wages have increased
modestly. The increases have not had a significant effect on the Company's
results of operations because the Company has been able to charge commensurately
higher rental rates for its rental-purchase merchandise.
22
<PAGE> 23
QUARTERLY RESULTS
The following table represents certain unaudited financial information for
the quarters indicated.
<TABLE>
<CAPTION>
1ST QUARTER 2ND QUARTER 3RD QUARTER 4TH QUARTER
----------- ----------- ----------- -----------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C>
Year ended December 31, 1998
Revenue................................. $ 15,136
Operating income........................ 1,860
Net income.............................. 780
Basic net income per common share....... $ .21
Weighted average
common shares outstanding............ 3,676
Year ended December 31, 1997
Revenue................................. $ 12,959 $ 13,686 $ 14,102 $ 14,581
Operating income........................ 1,675 1,705 1,805 1,615
Net income.............................. 851 638 628 564
Basic net income per common share....... $ .13 $ .15 $ .17 $ .15
Weighted average
common shares outstanding(1)......... 6,393 4,303 3,676 3,676
Year ended December 31, 1996
Revenue................................. $ 11,052 $ 11,571 $ 11,664 $ 12,273
Operating income........................ 961 878 1,180 1,259
Net income.............................. 474 407 647 491
Basic net income per common share....... $ .07 $ .06 $ .10 $ .08
Weighted average
common shares outstanding............ 6,393 6,393 6,393 6,393
</TABLE>
- ---------------
(1) Reflects the Redemption Transaction completed in April 1997. See Note 4 of
the Company's Consolidated Financial Statements.
YEAR 2000 CONSIDERATIONS
The Company currently is assessing its computer systems to ensure that they
are capable of processing periods for the year 2000 and beyond. The Company's
assessment of its computer systems will be complete by December, 1998. The
Company does not believe that the cost of compliance will have a material
adverse effect on its business, financial condition or results of operations.
The Company anticipates that it will be compliant prior to the year 2000.
23
<PAGE> 24
BUSINESS
GENERAL
The Company operates 66 rental-purchase stores primarily under the Rainbow
Rentals trade name in Connecticut, Massachusetts, Michigan, New York, Ohio,
Pennsylvania, Rhode Island and Tennessee. The Company offers quality, name
brand, durable merchandise, including home electronics, furniture, appliances
and computers. Generally, rental-purchase merchandise is rented to individuals
under flexible agreements that allow customers to own the merchandise after
making a specified number of rental payments (ranging from 12 to 24 months).
Customers have the option to return the merchandise at any time without further
obligation and also have the option to purchase the merchandise at any time
during the rental term.
Based on APRO estimates, the Company believes its stores are among the
industry's leaders in average monthly rental rate ("AMRR") on each agreement, in
the number of rental-purchase agreements per store and in collection
performance. In addition, the Company believes its level of customer referrals
and repeat business are among the highest in the industry. The Company believes
it has achieved these results by providing an appealing store environment,
quality merchandise, personal customer service, experienced associates,
decentralized store management and sophisticated management information systems.
The Company's higher level of revenues per store also enable it to achieve
increased profitability by leveraging a store's fixed costs. Since inception in
1986, the Company has grown primarily through implementation of its growth
strategy which includes: opening new stores, growing comparable store revenue
and profitability and, to a lesser extent, making opportunistic acquisitions.
INDUSTRY OVERVIEW
APRO estimated that the rental-purchase industry generated $4.1 billion in
revenues and that there were over 2.9 million customers in 1996. The
rental-purchase industry is highly fragmented. APRO estimated that there were
approximately 7,500 stores in operation at December 31, 1996 with a majority of
companies owning fewer than 20 stores and servicing small geographic areas.
Management believes the rental-purchase industry's potential market is
under-penetrated.
The industry is experiencing increased consolidation characterized by
multi-store companies gaining market share, primarily through acquisition and,
to a lesser extent, through internal growth, at the expense of smaller, often
highly leveraged, companies. Based on APRO estimates, the ten largest industry
participants account for less than 50% of rental-purchase industry stores. The
Company believes that growth will be concentrated in those national or regional
chains that are well-capitalized, with access to bank or other institutional
lenders and, in some instances, the public capital markets. Management believes
that the recent trend of consolidation will subside in the near future as the
number of acquisition targets declines and that, as a result, industry growth
will predominately occur through new store openings.
The rental-purchase industry provides an alternative to traditional retail
installment sales, appealing to individuals with poor or limited credit
histories and to individuals with an aversion to debt. Rental-purchase programs
permit customers to have immediate possession of products without the assumption
of debt. In addition, the industry serves customers having short-term needs or
seeking to try products, like computers, before committing to purchase them.
Rental-purchase transactions generally include delivery and pick-up service and
a repair warranty for the rental term. Most rental-purchase transactions are
made on a week-to-week or month-to-month basis and provide customers with the
opportunity for outright ownership if the merchandise is rented for a continuous
term, generally 12 to 24 months. Customers may cancel agreements at any time
without further obligation by returning the merchandise or requesting its
pick-up by the store. APRO estimates that, for chains with more than 20 stores,
approximately four out of five agreements terminate with the product being
returned. Returned merchandise is held for re-rental or sale. Rental payments
are generally made in person, in cash or by check, money order or credit card.
Successful rental-purchase operations are able to combine high levels of
rental-purchase agreements with high AMRR. Since a substantial portion of a
store's overhead is fixed, e.g., store and vehicle rent, salaries and insurance,
changes in AMRR or number of rental-purchase agreements can significantly impact
store-level
24
<PAGE> 25
revenue and profitability. According to APRO, the AMRR in 1996 for chains with
more than 20 stores was approximately $51 and the average number of
rental-purchase agreements per store totaled 621.
Companies in the rental-purchase industry generally market to customers
with income at or below the median family income level. According to U.S. Census
Bureau data, the median family income in 1995 (the latest date for which such
information is available) was approximately $34,000. Management believes that
the majority of rental-purchase customers are wage-earners.
OPERATING STRATEGY
The Company's operating strategy is to maintain a high AMRR on its
agreements, a high number of rental-purchase agreements per store and a high
level of customer referrals and repeat business, all accompanied by a low level
of delinquencies. The Company seeks to achieve these objectives by applying the
following operating techniques:
Store Environment. The Company believes it is essential that its
stores appeal to its customers and convey a sense of convenience, quality
and safety. Company stores are generally located on main arteries, near
residential or commercial areas and in strip shopping centers near national
discount retailers or grocery stores. The Company generally maintains a
uniform store size, color scheme, store layout and display signs. The
Company's parking areas and store fronts are well lighted. Stores are
intended to provide an appealing retail environment and are modeled to
resemble a quality electronics and furniture showroom. The Company believes
that the appearance and location of its stores are important factors in
attracting and retaining customers.
Quality Merchandise. The Company's merchandising strategy, "More,
Better, Different," is guided by its philosophy of providing its customers
with quality, name brand, durable merchandise. The Company believes this
type of merchandise attracts customers due to brand awareness and generates
excitement by providing customers the opportunity to rent nationally
recognized merchandise with popular features. Better quality merchandise
generally is more durable in the customers' homes, withstands multiple
pickups and deliveries and results in fewer service problems for the
Company. The Company's decision to rent quality, name brand, durable
merchandise has been instrumental in its ability to secure a high AMRR on
its agreements.
Customer Service. The Company's customer service policy is to treat
all customers with "Respect and Dignity." The Company strives to
distinguish itself from its competitors through its commitment to customer
service and professionalism at every stage of the rental process. Customers
are able to initiate transactions and obtain merchandise without visiting a
Company store by calling the Company's toll-free telephone number and
providing the necessary information over the telephone. The Company employs
bilingual associates who are able to facilitate transactions in Spanish.
Company associates deliver the merchandise to the customers' homes. The
Company imposes few fees in addition to the monthly rental rate. As a
result, its customers are able to spend more of their payments on the
merchandise. The Company operates a toll-free customer response line during
business hours to address any customer concerns. In addition, the Company
operates product service centers in most regions to service its products
and strives to respond to service requests the next business day after a
call. The Company believes its tactic of offering personal customer service
minimizes delinquencies and losses and maximizes its repeat and referral
business.
Experienced Associates. The Company's operations and profitability
are largely dependent on the services of its executive officers, senior
management and store level personnel (collectively, the "associates"). The
Company's founding executive officers have worked in the rental-purchase
industry for an average of over 18 years and co-founded the Company in
1986. The Company's regional managers and store managers also have
extensive experience in the industry and have worked with the Company for
an average of approximately 11 years and six years, respectively. The
Company has been able to attract and retain its quality associates through
compensation and benefits that exceed industry averages and through various
ongoing proprietary training programs. Management believes that its
associate develop-
25
<PAGE> 26
ment programs enhance the Company's operations by ensuring conformity to
established operating standards, reducing associate turnover, enhancing
associate productivity and improving associate morale.
Decentralized Management. The Company's decentralized entrepreneurial
approach provides store managers with a significant degree of autonomy and
accountability. Within guidelines set by the Company, store managers are
responsible for: (i) managing the development of customer relationships,
the service and collection of accounts, store inventory and growth of
number of rental-purchase agreements in their store; and (ii) monitoring
store-level financial statements. Performance goals are established for
each store and each store manager's incentive compensation is tied to the
pre-tax operating earnings of the store (after certain corporate
allocations). Store managers, therefore, operate much as "owners" of their
own small businesses. Management believes that this decentralized
operational structure results in better customer service, enhances personal
knowledge of local market conditions and improves collection rates because
collections are handled through direct contact with customers. The Company
supports its decentralized structure with strong management information
systems, internal audit procedures, operating guidelines and experienced
associates.
Management Information Systems. The Company utilizes a flexible,
proprietary, Windows NT-based management information system to support its
rental activities, to assist in compliance with applicable laws and
regulations and to monitor its decentralized store network. This system
provides store managers with relevant store-level financial and operating
data. In addition, this system provides individual profiles on each of the
stores' customers, enabling managers to focus their marketing efforts on a
localized and individualized basis. The Company's senior management has
immediate access to data from the management information systems that
provides them with the ability to analyze performance indicators at the
store and corporate level on a daily basis. Management believes that the
Company's information system is scalable and will support the Company's
growth plan.
GROWTH STRATEGY
The Company's growth strategy is to accelerate its new store opening
program and to increase comparable store revenue and profitability. In addition,
the Company will, to a lesser extent, make opportunistic acquisitions.
New Store Openings. Beginning with six stores in 1986, the Company
opened 56 additional stores through April 30, 1998, and has developed a
consistent, replicable model for opening new stores. The Company believes
the rental-purchase market is significantly under-penetrated and provides
substantial new store expansion potential. The Company currently plans to
continue opening new stores in current and new markets within the Midwest,
Mid-Atlantic and New England states. In investigating a new market, the
Company reviews demographic statistics, cost of advertising and the number
and nature of competitors. The Company believes that its model for opening
new stores has resulted in more predictable growth and greater operational
control than is typically achieved through acquisitions. Because the
Company's growth strategy emphasizes internal growth primarily through new
store openings and, only to a lesser extent, through acquisitions,
management believes that the state of the industry presents an opportunity
for the Company to capitalize on its demonstrated ability to open new
stores.
Increase Comparable Store Revenue and Profitability. The Company
continually strives to increase revenue per store by enhancing individual
store operations and offering a new and different product selection. The
Company has demonstrated an ability to recognize increasing customer demand
for products and to provide such products. For example, the Company
recognized its customers' desire for computers and has developed an
effective strategy to meet this demand. Accordingly, computers have become
a significant percentage of the Company's overall revenues. In addition,
the Company is able to achieve increased profitability by leveraging its
stores' fixed costs, such as advertising and purchasing, over the higher
revenues generated by existing stores and by placing new stores in existing
markets.
26
<PAGE> 27
Acquisitions. While the majority of the Company's growth is expected
to come from opening new stores, the Company also may make fill-in
acquisitions on an opportunistic basis and purchase agreements from
competitors exiting the business or a particular geographic area. The
Company believes that it will have the opportunity to consummate more
acquisitions due, in part, to potential store overlap among consolidating
competitors.
STORES
As of April 30, 1998, the Company operated 66 stores in eight states, as
set forth in the following table.
<TABLE>
<CAPTION>
LOCATION NUMBER OF STORES
-------- ----------------
<S> <C>
Pennsylvania................................................ 19
Ohio........................................................ 16
Massachusetts............................................... 10
Tennessee................................................... 6
Michigan.................................................... 5
New York.................................................... 5
Connecticut................................................. 3
Rhode Island................................................ 2
</TABLE>
The following table sets forth the number of stores opened, acquired and
consolidated or closed since the Company commenced operations in 1986. Several
stores have been enlarged or relocated.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
--------------------------------------------------------------------------------- APRIL 30,
1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998
---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ---------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Stores open at beginning
of period............... 0 6 15 20 24 28 36 38 42 46 51 55 62
Stores opened............. 6 9 5 4 4 8 2 4 4 0 4 7 5
Stores acquired........... 0 0 0 0 0 0 0 0 0 7* 0 0 0
Stores
consolidated/closed..... 0 0 0 0 0 0 0 0 0 2 0 0 1
-- -- -- -- -- -- -- -- -- -- -- -- --
Stores open at end of
period.................. 6 15 20 24 28 36 38 42 46 51 55 62 66
== == == == == == == == == == == == ==
</TABLE>
- ---------------
* The Company acquired ten DTO stores and immediately consolidated three into
existing Company stores.
The Company focuses on internal growth by opening new stores. In
investigating a new market, the Company reviews demographic statistics, cost of
advertising and the number and nature of competitors. In addition, the Company
investigates the regulatory environment of the state in which the new market
exists. It is the Company's policy to operate only in those states where there
is an absence of unfavorable legislation regarding rental-purchase transactions.
The Company has developed a number of criteria that are reviewed prior to
choosing a new store location. These criteria include, among others: proximity
to national discount retailers or grocery stores, shopping patterns, traffic
patterns, accessibility, availability of personnel and proximity to the
Company's other stores. The Company seeks to locate its stores on main arteries
near residential or commercial areas in strip shopping centers containing
national discount retailers or grocery stores. In general, the strip shopping
centers in which the Company's stores are located contain large storefronts on
street level. This enables potential customers to view and recognize the
Company's stores from the street, which the Company believes results in
increased recognition of the Company's name.
The most critical step in the selection of a new store location is a site
inspection by senior management. Once the Company's senior management selects a
market for a new store, a senior manager investigates a number of potential
store locations. The Company's construction manager accompanies a senior manager
to several of the most promising store locations to evaluate the construction
cost of a particular location and to design the layout of the store.
In order to enhance the early profitability of its new stores, the Company
employs a "new store" supervisor whose sole responsibility is to manage and
address issues inherent in new store operations. This supervisor assists new
store managers in developing customer relationships, monitoring store financial
27
<PAGE> 28
statements and increasing the number of agreements. Generally, within two years
after a store is opened, the store formally joins its geographic region and the
regional manager of that particular geographic region assumes oversight of the
store.
The Company has developed a new store format that it utilizes in all new
stores. Existing stores are refurbished consistent with this new store format,
as necessary. Existing stores are typically remodeled every five years. With
this new store format, the Company has modified the store layout by placing the
counter near the center of the store to facilitate visibility of the
merchandise, by positioning computers close to the counter and ready for
customer use, by improving store lighting to enhance in-store viewing of the
merchandise and by adding interior graphics, including lithograph images,
containing the Company name and product categories. At March 31, 1998, the
Company's rental-purchase stores averaged approximately 4,250 square feet.
MERCHANDISE
The Company's merchandising strategy is to carry a wide variety of quality,
name brand, durable merchandise in four major categories, including home
electronics, furniture, appliances and computers. Store managers may order
merchandise from the Company's authorized product and vendor list, which
contains approximately 500 products, with a variety of models and styles.
Choices of merchandise reflect the Company's belief that customers want to rent
the same quality of merchandise that is available from more traditional
retailers, and that customers are willing to pay for value and quality. In
addition, by focusing on its manufacturers' mid-point and better range products,
the Company avoids frequent service problems associated with inferior products.
The effect of offering the "higher end" products is an AMRR in 1996 of
approximately $77 and approximately $79 in 1997, which the Company believes is
significantly higher than its rental-purchase competitors. The Company purchases
merchandise directly from the manufacturers and through distributors, generally
at volume price discounts.
The following table shows the percentage product mix of rentals, based on
revenue, by major merchandise category.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-----------------------
1995 1996 1997
----- ----- -----
<S> <C> <C> <C>
Home Electronics............................................ 42.2% 39.1% 36.3%
Furniture................................................... 30.8 29.2 28.1
Appliances.................................................. 22.4 22.7 21.4
Computers................................................... 4.6 9.0 14.2
----- ----- -----
Total....................................................... 100.0% 100.0% 100.0%
===== ===== =====
</TABLE>
Home Electronics. The home electronics offered by the Company include
audio/video systems, stereo systems, portable stereos, CD players, video
cassette recorders, video cameras, TV/VCR combinations, big screen and
traditional size televisions and entertainment centers. Major home electronics
brands include Zenith, RCA, Magnavox, JVC and Pioneer. Weekly rental rates for
home electronics range from $4.99 to $49.99.
Furniture. Furniture includes living room and bedroom groups, dinettes,
curio cabinets, hutches, recliners, occasional tables, clocks and add-ons such
as lamps and paintings. Certain furniture may be special ordered by customers.
With these special orders, customers have a choice of fabric, style and product
mix. Typically, such orders are delivered within three to four weeks after the
order is placed. Major furniture brands include England-Corsair, Ashley,
Stoneville, Barn Door and Holland House. Weekly rental rates for furniture range
from $4.99 to $40.99.
Appliances. Appliances include refrigerators, freezers, ranges, microwave
ovens, air conditioners and clothes washers and dryers. Whirlpool is the
Company's primary vendor of appliances. Weekly rental rates for appliances range
from $7.99 to $28.99.
28
<PAGE> 29
Computers. The Company began the rental of computers in 1993. Currently,
this product category includes computers, printers, fax machines and scanners.
The Company believes it derives a greater percentage of rental revenue from
computers than any of its rental-purchase competitors. Computer rentals generate
higher rental rates per unit than other product categories. As new generations
of computers become available, the Company reduces the rental rates and/or
rental terms on older models, which make the computers affordable to a customer
base that would otherwise be unwilling or unable to afford the higher rates for
the new units. In addition, significant training is provided for customers to
maintain or increase the utility of the rental computer, and Company associates
receive extensive training in marketing personal computers. Major computer
brands in this category include Packard Bell, Acer and Canon. Weekly rental
rates for computers range from $19.99 to $39.99.
The Company has elected not to rent certain categories of merchandise, such
as pagers, cellular phones and jewelry. The Company believes these products do
not conform to its concept of renting durable consumer merchandise and because,
in many instances, it is difficult to differentiate value among these items.
Moreover, with pagers and cellular phones, revenue is generated primarily from
the sale of air time (which is not a part of the Company's business) rather than
from the rental of the hardware.
STORE OPERATIONS
A typical mature store has a store manager, an assistant manager, two or
three account managers, one or more full or part-time clerical staff associates
and may have a two-person delivery team. The store manager and assistant manager
are responsible for the operation of the store. Customers are assigned an
account manager who makes deliveries and monitors the accounts. The account
manager is responsible for securing timely rental renewal payments and will pick
up rental-purchase merchandise, as necessary. The clerical staff records
in-store and mailed payments, establishes and maintains customer files and
prepares reports necessary to the store's operations. All stores are open Monday
through Saturday with evening hours on Friday.
Store managers are given the authority to make operating decisions and to
hire non-management store personnel. Most of a store's inventory is ordered by
the store's manager from the Company's authorized product and vendor list. Once
ordered, merchandise is drop-shipped directly to each store by the manufacturer
or distributor. The Company believes that the latitude granted to its store
managers is a key to manager accountability. No approval by the Company's senior
management is required to order merchandise, except for non-stock items. With
respect to previously rented merchandise, individual store managers may vary the
number of months required for full ownership of such merchandise, but generally
not the rental rate. The Company has idle inventory standards that are closely
monitored and designed to provide for adequate display merchandise without
building up excess inventory. In the case of furniture, special delivery
schedules have been obtained so that managers have a designated delivery date.
All of these factors help keep store inventory as low as possible while
maintaining sufficient quantities for store displays and customer deliveries.
The Company believes open communication with store level management is
essential to understanding existing markets, increasing associate morale and
retaining associates. In order to facilitate open lines of communication, the
Company has formed a network of committees, a majority of whose members are
store managers. The Company currently has four committees: the Managers Advisory
Committee ("MAC"), the Product/Pricing Committee, the Advertising Committee and
the Computer Committee. The MAC consists of top performing store managers and is
designed to be a sounding board for new concepts and innovative operational and
sales techniques. Each of the Product/Pricing, Advertising and Computer
Committees consists of store managers. Committee assignments are for two year
terms. These managers have significant impact on their respective committee
assignments. In addition, the Company holds store managers' meetings twice
annually and all store managers, regional managers, department heads and
executive officers are required to attend. Finally, to address regional-specific
issues, senior management regularly travels to the individual markets to meet
with store associates.
29
<PAGE> 30
RECRUITING, RETENTION AND TRAINING OF ASSOCIATES
The rental-purchase industry is management intensive and the success of a
rental-purchase store is primarily the result of the store manager's
performance. In order to attract and retain quality personnel, the Company
endeavors to pay its associates more than the industry average and provides a
health benefits package paid entirely by the Company. The Company focuses on
promotions from within, and every Company associate has the opportunity to
advance due to the Company's growth. All but three current store managers began
their careers with the Company as account managers and the three who did not
begin their careers with the Company were managers of the DTO stores at the time
of its 1995 acquisition by the Company. The Company believes it has among the
lowest turnover rate of store managers in the industry, as the Company's
managers have been employed by the Company for an average of approximately six
years. In addition, the Company's five regional managers have been employed by
the Company for an average of approximately 11 years. All associates are trained
to provide a high level of personalized customer service and to maintain a
professional appearance. Because each customer has the opportunity to terminate
an agreement at any time, it is important that the Company maintain a high
degree of customer satisfaction.
In order to recruit quality personnel to staff existing and new stores, the
Company employs a personnel manager whose primary responsibility is to
coordinate recruiting efforts within the Company's markets. This individual
gives presentations regarding Company career opportunities at community colleges
and other institutions, coordinates with the career placement offices at the
colleges and institutions, receives and reviews resumes and conducts initial
telephone interviews. If the personnel manager believes a candidate is qualified
for a position with the Company, the personnel manager directs the candidate to
the appropriate regional manager for additional evaluation and interviews. This
recruiting system has proven adequate to satisfy the Company's on-going staffing
requirements and has produced a sufficient number of manager trainee candidates
to staff the Company's planned growth.
The Company places great importance on training quality personnel and
believes that its managers are among the best trained in the industry. Store
manager candidates, all of whom are assistant managers who have worked for the
Company for at least six months, are nominated by their respective store
managers. In order to become a store manager, a candidate must be selected by
executive officers and senior management and must graduate from the management
training program conducted by executive officers and senior management. Classes
of candidates for store manager positions are generally comprised of 10 to 12
candidates, and the Company conducts two or three classes per year. The training
program is conducted over a six-month period, during which time candidates
receive further experience as assistant managers and are frequently tested on
class materials. As manager opportunities arise, graduates of the training
program are assigned to their own stores.
After an associate becomes a store manager, the training continues. Twice
annually, the Company conducts a managers' meeting at a central location. All
store managers, regional managers, department heads and executive management of
the Company are required to attend. At such sessions, prior performance is
critiqued, operating procedures are reviewed and revised, new merchandise is
showcased and managers receive eight to 10 hours of classroom training in the
areas of financial management, product information, inventory management,
customer service, credit management and other areas of store operations.
The Company's philosophy is to treat store managers much as "owners" of
their stores, and therefore the Company has always provided extensive
operational and financial information to store managers. At the end of each
year, store managers prepare projections for the upcoming year that must be
approved by executive officers and senior management. Each month actual results
are compared to projected results, and managers must be able to explain
significant discrepancies. Because approximately 50% of the compensation of the
managers of mature stores is based on profitability, store managers are
attentive to their store's financial statements and play an active role in the
analysis of store performance.
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<PAGE> 31
THE RENTAL PROCESS
Marketing
The Company uses advertising to introduce and reinforce the benefits of its
rental-purchase program to existing and potential customers and to make such
customers aware of new products. The Company focuses on direct mail, radio and
television advertising that is designed to make existing and prospective
customers aware of special promotions and to encourage immediate customer
response. Substantially all of the design, production and placement of the
Company's advertising is performed by the Company's five member in-house
advertising department. The Company advertises in both English and Spanish,
making the Company's rental-purchase program and products accessible and
understandable to a wider range of customers. The Company currently operates in
21 different advertising markets and seeks to cluster stores, where appropriate,
to reach its target markets efficiently. Many of the Company's vendors
participate in a co-operative advertising program and contribute a certain
portion to the Company's advertising costs.
Direct mail is used extensively because it allows the Company to target
specific zip codes near its stores' locations and those areas where potential
customers reside. The Company's advertising department creates color flyers to
use as direct mail, which show many products in a menu-like format. In a typical
month, the Company distributes approximately 3.5 million color flyers in the
targeted zip codes. Television and radio are used in more mature markets where
the expense can be spread over a number of stores. The Company's vehicles are
adorned with the Company's distinctive color decals, effectively becoming
rolling billboards. In addition to mass marketing, several direct marketing
tools are employed to solicit the Company's existing customer base. In addition,
the Company has developed a preferred customer program, directed at current and
past customers, which currently contains approximately 54,000 names. Under this
program, special promotions, including significant discounts and new product
offerings, are periodically run for these customers to encourage additional
rentals.
The Company attempts to remove as many obstacles as possible to the
completion of rental-purchase transactions. Customers are not required to visit
the store to initiate transactions. Most of the Company's advertisements,
whether direct mail, television or radio, encourage customers to "shop by phone"
and feature the Company's toll-free telephone number. When the toll-free number
is dialed, the call is automatically routed to the Company store closest to the
source of the call. Each product displayed in the Company's direct mailing piece
is numbered for easy reference during telephone orders. Store managers and sales
associates are trained to explain the rental-purchase program clearly and to
obtain orders over the telephone. Customers may give all information required by
the order form to a Company representative over the telephone, and once the
requisite approval is obtained, delivery is scheduled. The Company initiates a
significant number of its customer rental-purchase agreements over the
telephone.
Approval
Although the Company does not conduct a formal credit review, the Company's
order approval process provides a mechanism for qualifying a customer. This
process is designed to verify a customer's stability in his or her community and
serves as a successful method of loss prevention. The Company's customer
qualification process consists of obtaining the customer's name, address,
landlord or mortgage holder, source of income and four personal references, two
of whom generally must be family members. Information is verified over the
telephone by store associates contacting the personal references and other
sources. Generally, the Company will verify employment and residence status.
Since merchandise is rented rather than purchased, the Company focuses on a
customer's credibility, not the customer's credit history. If a customer does
not pay promptly, the rental-purchase merchandise is simply returned or picked
up. The approval process is designed to take less than one hour.
The Rental-Purchase Agreement
The Company strives to make the rental-purchase transaction as simple and
as accessible as possible for the customer. This includes providing a complete
explanation of the entire rental-purchase program at the beginning of the rental
period. An agreement is intended to be straightforward and understandable by a
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<PAGE> 32
customer and includes the total amount required to be paid for ownership of the
merchandise, as well as all other required disclosures. The Company's flexible
payment program allows a customer to choose weekly, bi-weekly, semi-monthly or
monthly rentals. To facilitate timely payments, the Company attempts to match a
customer's payment schedule with his or her wage or other income schedule. At
the end of each rental period, a customer will renew the agreement, terminate
the agreement or purchase the merchandise. If a customer elects to continue to
rent the merchandise, the customer pays the next period's rental. If a customer
elects to terminate an agreement, the Company will pick up the merchandise or
the merchandise will be returned by the customer and in either case, will be
held by the Company for re-rental. If a customer terminates a rental, but
subsequently elects to re-rent the same item or a similar item within a
designated period of time, the customer generally will be granted a
reinstatement of the previously terminated agreement. A customer may purchase a
rented product at any time for a price based on a predetermined formula.
During the term of an agreement, all service and repair is provided by the
Company or an authorized manufacturer's service representative at no additional
cost to the customer, unless damage is caused by the customer's misuse or abuse.
Most products are covered by manufacturers' warranties for varying periods. The
Company also provides service and repair for 90 days after the merchandise is
purchased by a customer. The Company believes this benefit is not generally
offered by its rental-purchase competitors.
The Company seeks to establish long-term relationships with its customers.
Accordingly, unlike many of its rental-purchase competitors, the Company does
not require an application fee, nor does it charge for delivery and set-up. The
Company does not sell credit life, disability, unemployment, or damage-waiver
insurance. The Company charges only two fees: a reinstatement fee if an
agreement is terminated and then reinstated and a fee if a Company associate is
required to visit the customer's residence to collect a rental payment. By
limiting the add-on fees charged, the Company enables its customers to spend
more of their payment on the merchandise, which, the Company believes, directly
results in higher customer retention and repeat and referral business. Rental
income represented approximately 94% to 95% of the Company's total revenue in
each of 1996 and 1997.
Delivery and Installation
After an order is approved, it is assigned to an account manager. The
Company requires that, before merchandise is placed in a customer's residence,
the account manager or delivery team must ensure that the customer understands
all aspects of the agreement. Accordingly, the forms are explained in detail and
each section is initialed by a customer prior to his or her execution of the
rental-purchase agreement. The Company believes that a thorough understanding by
a customer of all the terms of the agreement is the first step of a successful
rental-purchase program. Merchandise is generally delivered by an account
manager or a delivery team on the same day that the order is approved, which is
generally the same day that the order is received. Deliveries are made in
vehicles that are leased new and regularly cleaned and maintained. All vehicles
have the Company's logo on the side in order to enhance name recognition in
local markets. Vehicles are generally retained for a period of not more than 36
months.
A delivery of home electronics, appliances or computers includes
installation by a Company associate enabling the customer to immediately enjoy
the benefits of the product. In addition, the Company offers an initial training
session to each customer who rents a personal computer to ensure that he or she
will be able to recognize the usefulness and utility of the computer. The
Company utilizes individuals in each market to assist customers on an ongoing
basis with computer training and troubleshooting at no additional charge. The
Company believes these services increase the likelihood that customers will
continue renting the merchandise.
Account managers and delivery associates receive extensive training on many
aspects of the rental-purchase transaction, including delivery and installation
of products, explanation of agreements and customer service throughout the
rental term. Along with two weeks of on-the-job training, all account managers
and delivery associates are given a detailed "Account Manager Training Manual"
that they are expected to learn and refer to in the performance of their duties.
In addition, both account managers and store managers are instructed to follow
up with customers after delivery to ensure they are satisfied with the
merchandise and installation.
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<PAGE> 33
Account Management
Once a customer accepts delivery of merchandise, the next priority is
ensuring that the customer continues renting and makes all payments in a timely
manner. The goal is to treat each customer with respect and dignity because it
is the Company's philosophy that "customers will pay you because they want to,
not because they have to." Most customers make rental payments in person. This
affords the Company an opportunity to enhance the customer relationship, while
displaying merchandise for future rentals. A customer pays in cash or by check,
money order, or credit card.
A significant portion of all rental-purchase payments are made without any
collection efforts by the Company. If rental payments are not made on or before
the agreement renewal date, an account manager first contacts the customer by
telephone. If the initial telephone contact does not lead to renewal or return
of the merchandise, then the account manager makes a personal visit to the
customer. Company procedures require that all account management efforts be
performed in a professional and courteous manner. Account managers receive
extensive training, and are expected to learn and refer to the "Account Manager
Training Manual" in the performance of their duties. In cases where the customer
chooses not to renew the agreement, the merchandise is returned to the store and
reconditioned for a subsequent re-rental. In cases where the customer refuses to
return the merchandise, the Company uses various legal methods to recover the
merchandise, including enlisting the personal references which were obtained on
the original order form. The Company believes its account management procedures
are responsible for its low charge-off rate of 1.8% of net revenues in 1996 and
1997.
MANAGEMENT INFORMATION SYSTEMS AND CONTROLS
The Company's proprietary computer software programs were originally
developed in 1989, have been upgraded, and continue to be upgraded and rewritten
by the Company on an ongoing basis in order to meet the Company's information
needs and to conform with the Company's philosophy of decentralization and
customer management. The Windows NT operating system and Company-wide Intranet
provide management with timely operational and financial information and
flexibility. In 1996, the Company invested approximately $200,000 to upgrade all
of its stores' computers and $250,000 to purchase and install hardware and
software at its corporate headquarters. The Company's corporate headquarters
operates under a client-server platform, utilizes a proprietary Windows NT-based
enterprise software system and licenses its accounting software. In 1997, the
Company installed a Company-wide Intranet which enables e-mail communications
from the corporate headquarters to the stores and between stores several times
daily. The Intranet also allows for a fast and cost effective transfer of data
from the stores to the corporate headquarters on a daily basis. The Company
believes that both its store and corporate information systems will be able to
meet its growth plans.
The Company's computer system maintains all standard agreements, and all
agreements are printed off the system on an as-needed basis at each store. The
Company has formatted all documents, including standard agreements, sales
material and collection material, to contain "customer-friendly" terminology. In
addition, when there is a change in state law, the Company can make
modifications on its system to the standard agreements in that particular state
and, since the Company does not pre-order its agreements but rather prints them
on an as-needed basis, the Company incurs minimal expense as a result of such
modification.
Customer payments are made at or mailed to the individual stores. Such
payments are deposited nightly. A record of each transaction is transmitted
overnight to the corporate headquarters. Critical data, such as outstanding
agreements, idle inventory, revenue, delinquency percentage and cash receipts
are available to management the following day on both a store-by-store basis and
an aggregate basis. Also, regional managers have remote access to this data each
morning by electronically transferring files to their laptop computers.
On a daily, weekly and monthly basis, reports are generated that provide
critical information for each of the Company's products, a detailed accounting
of total rent due and collected and customer information. On a monthly basis,
store operating results are compared to each other and ranked on 10 critical
operating statistics and eight key financial indicators. Operational and profit
"Rating Sheets" are generated each month and year
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to date, store managers are rated and annual awards are given to the top rated
stores for each year. In addition, stores are grouped by size and compared to
their own group by nine operational and financial statistics.
ACQUISITIONS
In March 1995, the Company acquired the Ohio operations of DTO. The DTO
acquisition provided the Company immediate access to three new markets:
Columbus, Dayton and Toledo, Ohio. Three stores in the Cleveland and Akron
markets were immediately consolidated into existing Company operations. The DTO
operations were significantly below Company standards in such areas as product
selection, store size, number of agreements per store and delinquency
percentages. The Company introduced its standard merchandise into the remaining
seven DTO stores and reduced weekly delinquencies. At March 31, 1995, the
average number of agreements at the seven former DTO stores was 513. At March
31, 1998, the average number of agreements at the seven former DTO stores was
1,017.
COMPETITION
The Company competes with other national and regional rental-purchase
businesses, as well as rental stores that do not offer their customers a
purchase option. With respect to customers desiring to purchase merchandise for
cash or on credit, the Company competes with department stores, consumer
electronic stores and discount stores. Competition is based primarily on product
selection and availability, customer service and rental rates and terms. Many of
the Company's largest national competitors have significantly greater financial
and operating resources and name recognition than the Company. See "Risk
Factors -- Competition."
PERSONNEL
As of March 31, 1998, the Company had approximately 576 associates,
including 374 full-time associates. Approximately 35 associates are located at
the Company's corporate headquarters in Canfield, Ohio. None of the Company's
associates is represented by a labor union. Management believes its relations
with its associates are good.
SERVICE MARKS
The Company owns the federally registered service marks "Rainbow Rentals"
and "Spectrum Rents." Currently some stores located in New York and Tennessee
operate under the Spectrum Rents name, and all other stores operate under the
Rainbow Rentals name. The Company intends to have all stores operating under the
Rainbow Rentals name by 1999. The Company believes that the Rainbow Rentals mark
has acquired significant market recognition and goodwill in the communities in
which its stores are located.
PROPERTIES
The Company currently leases all of its 66 stores and its corporate
headquarters. The corporate headquarters is leased through January 31, 2006 from
a company owned by the current shareholders of the Company. See "Certain
Transactions."
The Company's stores range in size from 2,400 square feet to 6,200 square
feet; several of the small stores were acquired in the DTO acquisition effected
in 1995. The various lease terms expire between May, 1998 and 2006; many of the
leases contain three to five year renewal options. All leases provide for fixed
rental amounts and no leases contain percentage rent clauses. The Company
believes its policy of renting its stores on short term leases gives it
flexibility to respond to shifting customer patterns, changing space
requirements and the availability of more desirable locations.
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GOVERNMENT REGULATION
State Regulation
There are currently 45 states that have legislation regulating
rental-purchase transactions, all of which require operators to provide certain
disclosure to customers regarding the terms of rental-purchase transactions.
Three states (Minnesota, North Carolina and Wisconsin) regulate rental-purchase
transactions as credit sales subject to interest rate limitations and other
consumer lending restrictions. In addition, recent court decisions in New Jersey
have created a legal environment in that state which is prohibitive to
rental-purchase transactions. The Company does not operate in, nor does the
Company intend to operate in, any of these four states. All of the eight states
in which the Company operates impose certain contractual and advertising
disclosure requirements concerning the nature of rental-purchase transactions
and also provide varying levels of substantive consumer protection.
With some variations in individual states, most state legislation requires
the lessor to make prescribed disclosures to customers about agreements and
rental-purchase transactions. Such legislation also prescribes grace periods for
nonpayment and time periods during which customers may reinstate agreements,
prohibits or limits certain types of collection or other practices and, in some
instances, limits certain fees that may be charged. Some states, including
Michigan and Ohio, limit the total rental payments that can be charged. Such
limitations, however, do not become applicable unless the total rental payments
required under agreements exceed 200% of the "disclosed cash price" in Ohio or,
in Michigan, 2.22 times the price that would have been charged had the product
been purchased rather than rented. If the Company opens or acquires new stores
in states in which it does not currently operate, the Company will become
subject to the rental-purchase laws of such states, if any. The Company operates
its stores only in states that have enacted laws specifically regulating
rental-purchase transactions. This policy provides the Company with a measure of
certainty regarding its legal obligations to its customers. There can be no
assurance against the enactment of new or revised rental-purchase laws that
would have a material adverse effect on the Company. See "Risk Factors --
Government Regulation."
Federal Legislation
No federal legislation has been enacted regulating or otherwise governing
rental-purchase transactions. From time to time legislation has been introduced
in Congress that would regulate rental-purchase transactions including
legislation that would subject rental-purchase transactions to implied interest
rate, finance charge and fee limitations, as well as the Federal Truth in
Lending Act. Recently, two bills have been introduced in Congress that would
regulate the rental-purchase industry. One of the bills is supported by APRO and
mandates certain disclosures to customers similar to those required by most
state legislation. The Company does not believe that this bill, if enacted,
would have a material adverse effect upon the Company's operations. The other
bill includes certain credit sale requirements and would subject rental-purchase
transactions to implied interest rate, finance charge and fee limitations, as
well as the Federal Truth in Lending Act, the Equal Credit Opportunity Act, the
Fair Debt Collection Practices Act and the Fair Credit Reporting Act. Any such
federal legislation, if enacted, could have a material adverse effect on the
Company and would require the Company to reposition itself as a rent-to-rent
business. See "Risk Factors -- Government Regulation."
Certain Tax Issues
The Company uses the units of activity method of depreciation for financial
reporting purposes. Under the units of activity method, which is widely used in
the industry, rental-purchase merchandise is depreciated as revenue is
collected. Rental-purchase merchandise is not depreciated during periods when it
is not on rent therefore not generating rental revenue. The Tax Relief Act of
1997 mandates the use of the three-year Modified Accelerated Cost Recovery
System ("MACRS") as the depreciation method for tax purposes of rental-purchase
merchandise purchased after August 5, 1997. As a result, the Company adopted the
three-year MACRS method for tax book purposes beginning with rental-purchase
merchandise purchased after August 5, 1997. The change caused no material change
in prior periods' earnings and the Company believes
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this change will not significantly impact the Company's financial condition or
results of operations in the future. The Company continues to use the units of
activity method of depreciation for financial reporting purposes in keeping with
industry convention. For additional information regarding the Company's method
of depreciating rental-purchase merchandise, see "Management's Discussion and
Analysis of Financial Conditions" and "Results of Operations -- Components of
Income and Expenses."
LEGAL PROCEEDINGS
In the ordinary course of business, the Company is party to various legal
actions that it believes are ordinary in nature and incidental to the operation
of its business. In the opinion of the Company the outcome of the proceedings to
which it is currently a party will not have a material adverse effect upon its
operations or financial condition.
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MANAGEMENT
DIRECTORS AND OFFICERS
The following table lists the executive officers, directors and director
designees of the Company, their ages and offices:
<TABLE>
<CAPTION>
NAME AGE OFFICE
---- --- ------
<S> <C> <C>
Wayland J. Russell........................ 46 Chairman of the Board of Directors and
Chief Executive Officer
Lawrence S. Hendricks..................... 40 Chief Operating Officer and Director
Michael J. Viveiros....................... 42 President and Director
Michael A. Pecchia........................ 37 Chief Financial Officer and Secretary
Brian L. Burton........................... 57 Director Designee(1)
Ivan J. Winfield.......................... 64 Director Designee(1)
</TABLE>
- ---------------
(1) Messrs. Burton and Winfield have consented to become members of the Board of
Directors immediately following completion of the Offering.
All directors hold office until the next annual meeting of shareholders or
the election and qualification of their successors. Executive officers are
elected by and serve at the discretion of the Board of Directors until their
successors are duly chosen and qualified. The Board of Directors has, in
anticipation of the Offering, been increased from three members to five members.
None of the above-named director designees is an employee of the Company.
WAYLAND J. RUSSELL, a co-founder of the Company, has been its Chairman of
the Board of Directors and Chief Executive Officer since February 1997, having
previously served as the Company's President since its inception in 1986. He has
been a director of the Company since 1986. Mr. Russell began his career in the
rental-purchase business in 1977 as a store manager for Remco, Inc. He joined
Rent-A-Center, Inc. in 1980 as an Operations Manager. Two years later, he
resigned to start his own rental-purchase operation, which he sold to Crown
Leasing Corp. in 1983. Following such sale, he held several positions with Crown
Leasing Corp., the last as Vice President in charge of Personnel and Operations
until April 1986.
LAWRENCE S. HENDRICKS, a co-founder of the Company, has been Chief
Operating Officer of the Company since February 1997, having previously served
as Vice President for Store Operations since the Company's inception in 1986. He
has been a director of the Company since 1986. From 1982 through April 1986, Mr.
Hendricks held various positions with Crown Leasing Corp., the last as a
Regional Manager.
MICHAEL J. VIVEIROS, a co-founder of the Company, has been President of the
Company since February 1997, having previously served as Vice President since
the Company's inception in 1986. He has been a director of the Company since
1986. Mr. Viveiros began his career in the rental-purchase business as an
Assistant Manager with Crown Leasing Corp. and received several promotions
therefrom, the last to Regional Manager.
MICHAEL A. PECCHIA, a certified public accountant, has been the Chief
Financial Officer of the Company since February 1997, having previously served
from 1991 through 1997 as the Company's Treasurer and Secretary. Mr. Pecchia
also served as a director of the Company from February 1997 to the effective
date of this Prospectus. Prior to joining the Company, Mr. Pecchia was a manager
with Hill, Barth and King, CPA, a regional certified public accounting firm
headquartered in Youngstown, Ohio, which he joined in January 1983.
BRIAN L. BURTON has consented to become a director of the Company upon
completion of the Offering. Mr. Burton has been President of Vertical
Merchandising Systems, Inc., a distributor of impulse merchandising systems to
supermarkets, for over six years. From 1987 to 1991, Mr. Burton was a private
consultant and worked on various assignments for several retailers. Prior
thereto, he was Executive Vice President and Chief
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<PAGE> 38
Operating and Financial Officer of Fabri-Centers of America, Inc., a publicly
traded fabric and craft retailer. Mr. Burton was employed at Fabri-Centers from
1968 to 1987.
IVAN J. WINFIELD has consented to become a director of the Company upon
completion of the Offering. Mr. Winfield was a Managing Partner of Coopers &
Lybrand from 1978 to 1994, and was a partner of the accounting firm from 1970
until his retirement. He has served since September 1995 as an Associate
Professor at Baldwin-Wallace College, Cleveland, Ohio, and as a business
consultant. He is a director of Boykin Lodging Co., HMI Industries, Inc.,
International Total Services, Inc. and OfficeMax, Inc. and a trustee of Fairport
Mutual Funds.
BOARD COMMITTEES AND INSIDER PARTICIPATION IN COMPENSATION DECISIONS
Previously, the Board of Directors had no committees. Decisions concerning
compensation of executive officers in 1997 were made by the executive officers.
Immediately after the Offering, the Company will establish two committees: (i) a
Compensation Committee to make recommendations to the Board concerning salaries,
incentive compensation and stock option grants for employees and consultants to
the Company; and (ii) an Audit Committee to review the results and scope of the
audit and other services provided by the Company's independent auditors and to
recommend and approve the selection of the auditors. Messrs. Russell, Burton and
Winfield will be the members of the Audit and Compensation Committees.
EXECUTIVE COMPENSATION
The following table sets forth certain information with respect to the
compensation earned during the year ended December 31, 1997 by the Chief
Executive Officer and each of the other executive officers of the Company whose
compensation exceeded $100,000.
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
ANNUAL COMPENSATION
--------------------------------------
NAME AND OTHER ANNUAL ALL OTHER
PRINCIPAL POSITION SALARY BONUS COMPENSATION(1) COMPENSATION(2)
------------------ -------- ------- --------------- ---------------
<S> <C> <C> <C> <C>
Wayland J. Russell..................... $278,250 $14,000 $26,458 $7,917
Lawrence S. Hendricks.................. 208,687 10,500 17,633 7,917
Michael J. Viveiros.................... 208,687 10,500 23,069 7,917
</TABLE>
- ---------------
(1) Includes the value of perquisites, reported as taxable wages for 1997. The
amount of perquisites for each of the above-named executive officers is not
expected to exceed SEC-reporting thresholds for 1998 and subsequent years.
(2) Amount represents contribution to the Company's 401(k) Plan.
STOCK OPTION PLAN
The Rainbow Rentals, Inc. 1998 Stock Option Plan (the "Option Plan") was
adopted by the Board of Directors and approved by the shareholders of the
Company effective May 1, 1998. Pursuant to the provisions of the Option Plan,
employees of the Company may be offered the opportunity to acquire shares of
Common Stock by the grant of stock options ("Options"), including both incentive
stock options ("ISOs"), within the meaning of Section 422 of the Internal
Revenue Code of 1986, as amended, and nonqualified stock options ("NQSOs").
Consultants and directors of the Company may receive only NQSOs under the Option
Plan. A total of 400,000 shares of Common Stock have been reserved for issuance
upon the exercise of Options under the Option Plan. The purchase price of a
share of Common Stock pursuant to an ISO shall not be less than the fair market
value of a share of Common Stock at the grant date. The purchase price of a
share of Common Stock pursuant to a NQSO may be less than the fair market value
of a share of Common Stock. As of the date of this Prospectus, no Options have
been granted under the Option Plan. The director designees will each receive
Options to purchase 10,000 shares of Common Stock under the Option Plan upon
their appointment to the Board, immediately following the Offering.
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DIRECTORS' FEES
Following completion of the Offering, the Company intends to pay each
outside director a fee of $10,000 for up to four meetings per year, together
with reimbursement of out-of-pocket expenses incurred in connection with the
directors' attendance at such meetings. In addition, each outside director will
receive $2,500 per meeting for each meeting attended in excess of four per year.
No additional compensation is to be paid for committee meetings held on the same
day as a Board of Directors' meeting. Officers of the Company who are also
directors receive no additional compensation for serving as directors.
CERTAIN TRANSACTIONS
Mr. Russell and his spouse have personally guaranteed the secured Credit
Facility provided by Bank of America Illinois. Proceeds of the Offering will be
used to reduce the indebtedness owed under the Credit Facility.
The Company's headquarters facility is leased from an entity owned by the
Company's existing shareholders under a ten-year triple-net lease, with three
two-year options. In 1997, the rental amount was $103,000. The Company believes
that the rental is at market rate and that the other provisions of the lease are
on terms no less favorable to the Company than could be obtained from unrelated
parties. The Company has adopted a policy that future transactions with
affiliates, if any, will be on terms no less favorable than could be obtained
from unrelated parties.
Mr. Russell has personally loaned certain amounts to the Company since the
Company's inception in 1986. At December 31, 1995 and December 31, 1996, the
amount of such indebtedness was $215,000 and $159,000, respectively. The Company
satisfied this obligation in full as of December 31, 1997.
Alex Russell, the father of Mr. Wayland Russell, personally loaned the
Company $142,000 pursuant to a promissory note dated December 17, 1991. The
Company satisfied this obligation in full as of December 31, 1997.
For several years, the Company has made significant contributions to
charitable organizations, including organizations for which directors and
officers serve or have served as trustees or officers. The aggregate amount of
charitable contributions was approximately $227,000, $243,000 and $208,000 in
1995, 1996 and 1997 respectively, and the amount of contributions for 1998 will
be approximately $230,000.
PRINCIPAL AND SELLING SHAREHOLDERS
The following sets forth certain information with respect to the ownership
of the Company's Common Stock on the date of this Prospectus and to reflect the
sale of the shares pursuant to the Offering. Unless otherwise indicated below,
the persons named below have the sole voting and investment power with respect
to the number of shares set forth opposite their names.
<TABLE>
<CAPTION>
SHARES BENEFICIALLY OWNED SHARES BENEFICIALLY OWNED
PRIOR TO OFFERING AFTER OFFERING(2)
------------------------- -------------------------
NAME OF BENEFICIAL OWNER(1) NUMBER PERCENTAGE NUMBER PERCENTAGE
--------------------------- ---------- ----------- ---------- -----------
<S> <C> <C> <C> <C>
Wayland J. Russell............................. 2,716,875 73.9% 2,716,875 45.8%
Lawrence S. Hendricks.......................... 639,240 17.4 639,240 10.8
Michael J. Viveiros............................ 319,620 8.7 319,620 5.4
All executive officers, directors and director
designees as a group (six persons)........... 3,675,735 100.0% 3,675,735 62.0%
</TABLE>
- ---------------
(1) Unless otherwise indicated, the address for all persons listed above is c/o
Rainbow Rentals, Inc., 3711 Starr Centre Drive, Canfield, Ohio 44406.
(2) Assumes that the over-allotment option is not exercised by the Underwriters.
Messrs. Russell, Hendricks and Viveiros have granted the Underwriters a
30-day option to purchase the following number of
39
<PAGE> 40
additional shares of Common Stock, solely for the purpose of covering
over-allotments: Mr. Russell, 182,500; Mr. Hendricks, 91,000; and Mr.
Viveiros, 64,000. If the option is exercised, the percentage of shares owned
after the Offering will be 42.8% for Mr. Russell, 9.3% for Mr. Hendricks,
and 4.3% for Mr. Viveiros.
SHARES ELIGIBLE FOR FUTURE SALE
Prior to the Offering, there has been no public market for the Common
Stock. No predictions can be made as to the effect, if any, that future sales of
Common Stock, and issuance of options to acquire shares of Common Stock, or the
availability of shares of Common Stock for future sale, will have on the market
price prevailing from time to time. Sales of substantial amounts of Common Stock
in the public market, or the perception that such sales may occur, could have a
material adverse effect on the market price of the Common Stock. See "Risk
Factors -- Shares Eligible for Future Sale" and "Management -- Stock Option
Plan."
Upon the consummation of the Offering, the Company will have 5,925,735
shares of Common Stock outstanding. Of these shares, the 2,250,000 shares of
Common Stock sold by the Company in the Offering will be freely tradeable
without restriction or further registration under the Securities Act, unless
held by an "affiliate" of the Company (as that term is defined under the
Securities Act). Any such affiliate will be subject to the resale limitations of
Rule 144 adopted under the Securities Act. The remaining 3,675,735 shares of
Common Stock outstanding are "restricted securities" for purposes of Rule 144
and are held by "affiliates" of the Company within the meaning of Rule 144 under
the Securities Act. Restricted securities may not be resold in a public
distribution except in compliance with the registration requirements of the
Securities Act or pursuant to an exemption therefrom, including the exemptions
provided by Rule 144.
In general, under Rule 144, a person (or persons whose shares are
aggregated), including a person who may be deemed to be an "affiliate" of the
Company, is entitled to sell within any three-month period a number of shares
beneficially owned for at least one year that does not exceed the greater of (i)
1.0% of the then outstanding shares of Common Stock or (ii) the average weekly
trading volume of the outstanding shares of Common Stock during the four
calendar weeks preceding such sale. Sales under Rule 144 are also subject to
certain requirements as to the manner of sale, notice and the availability of
current public information about the Company. However, a person (or persons
whose shares are aggregated) who is not an "affiliate" of the Company during the
90 days preceding a proposed sale by such person and who has beneficially owned
"restricted securities" for at least two years is entitled to sell such shares
under Rule 144 without regard to the volume, manner of sale or notice
requirements.
The Company and each of its executive officers, directors and shareholders
have entered into lock-up agreements with the Representatives, pursuant to which
they have agreed not to, directly or indirectly, sell, offer to sell, contract
to sell, solicit an offer to buy, grant any option for the purchase or sale of,
assign, pledge, distribute or otherwise transfer, dispose of or encumber (or
make any announcement with respect to any of the foregoing), any of their shares
of Common Stock (other than those being sold pursuant to this Offering) or any
options, rights, warrants or other securities convertible into or exercisable or
exchangeable for shares of Common Stock or evidencing any right to purchase or
subscribe for shares of Common Stock for a period of 180 days following the date
of this Prospectus without the prior written consent of The Robinson-Humphrey
Company, LLC.
The Company has reserved 400,000 shares of Common Stock for issuance under
its Option Plan. Currently, there are 305,000 options granted. See
"Management -- Stock Option Plan." The Company intends to file a registration
statement on Form S-8 under the Securities Act to register all of the shares of
Common Stock reserved for issuance under the Option Plan. Such registration
statement is expected to be filed as soon as practicable after the date of the
Offering and will automatically become effective upon filing. Shares of Common
Stock issued under the Option Plan after the registration statement is filed may
thereafter be sold in the public market, subject, in the case of the various
holders, to the Rule 144 volume limitations applicable to affiliates, the
lock-up agreement described above and any transfer or vesting restrictions
imposed on the date of the grant.
40
<PAGE> 41
DESCRIPTION OF CAPITAL STOCK
The following summary description of the capital stock of the Company is
qualified in its entirety by reference to the Company's Amended and Restated
Articles of Incorporation (the "Articles") and Amended and Restated Code of
Regulations (the "Regulations"), each to become effective upon consummation of
the Offering and each filed as an exhibit to the Registration Statement of which
this Prospectus forms a part.
The Company's authorized capital stock consists of 10,000,000 shares of
Common Stock, without par value, 1,000,000 Voting Preferred Shares, without par
value and 1,000,000 Non-Voting Preferred Shares, without par value.
COMMON STOCK
Holders of shares of Common Stock are entitled to one vote for each share
held on all matters submitted to a vote of shareholders. Shareholders have no
right to cumulate their votes in the election of directors. The holders of
shares of Common Stock have no preemptive or other rights to subscribe for
additional shares. All outstanding shares of Common Stock are, and those offered
hereby will be, validly issued, fully paid and nonassessable. Subject to
preferences that may be applicable to holders of any outstanding Preferred
Shares, holders of shares of Common Stock are entitled to such dividends as may
be declared by the Board of Directors out of funds legally available therefor.
Upon liquidation, dissolution or winding-up of the Company, the assets legally
available for distribution to shareholders are distributable ratably among the
holders of outstanding Common Stock, subject to prior distribution rights of
creditors of the Company and to the preferential rights of any outstanding
Preferred Shares.
At present, there is no established trading market for the Common Stock.
The Common Stock is expected to be approved for inclusion in the Nasdaq National
Market under the symbol "RBOW".
The transfer agent and registrar for the Common Stock is National City
Bank, Cleveland, Ohio.
PREFERRED SHARES
The Company's Articles provide that, subject to certain limitations
prescribed by law, the Board of Directors, without further action by the
shareholders, may issue up to an aggregate of 1,000,000 Voting Preferred Shares
and up to an aggregate of 1,000,000 Non-Voting Preferred Shares (together,
without distinction, the "Preferred Shares") in one or more series and may fix
or alter the relative, participating, optional or other rights, preferences,
privileges and restrictions, including the redemption provisions (including
sinking fund provisions), dividend rights, dividend rates, liquidation
preferences and conversion rights and the description of and number of shares
constituting any wholly unissued series of Preferred Shares. The Board of
Directors, without further shareholder approval, can issue Preferred Shares with
conversion rights, which could adversely affect the voting power of the holders
of Common Stock. Voting Preferred Shares vote together with Common Stock as one
class on all matters, except where a class vote is required by law. No Preferred
Shares are presently outstanding and the Company currently has no plans to issue
Preferred Shares. These additional Preferred Shares may be used for a variety of
corporate purposes, including future public offerings to raise additional
capital or to facilitate corporate acquisitions. The issuance of Preferred
Shares in certain circumstances may have the effect of delaying or preventing a
change of control of the Company without further action by the shareholders, may
discourage bids for the Company's Common Stock at a premium over the market
price and may adversely affect the market price and the voting and other rights
of the holders of Common Stock.
LIMITATION OF DIRECTOR LIABILITY
Under Ohio law, a director's liability to the Company or its shareholders
for damages is limited to only those situations where it is proved by clear and
convincing evidence that the director's action or failure to act was undertaken
with deliberate intent to cause injury to the Company or undertaken with
reckless disregard for the best interests of the Company, and those situations
involving unlawful loans, asset distributions, dividend payments or share
repurchases. As a result, shareholders may be unable to recover monetary
41
<PAGE> 42
damages against directors for actions which constitute gross negligence or which
are in violation of their fiduciary duties, although it may be possible to
obtain injunctive or other equitable relief with respect to such actions.
The Company's Regulations contain provisions indemnifying Directors and
officers of the Company to the fullest extent permitted by law and providing for
the advancement of expenses incurred in connection with an action upon the
receipt of an appropriate undertaking to repay said amount if it is determined
that the individual in question is not entitled to indemnification.
CERTAIN PROVISIONS OF OHIO LAW
As an Ohio corporation, the Company is subject to certain provisions of
Ohio law which may discourage or render more difficult an unsolicited takeover
of the Company. Among these are provisions that: (i) prohibit certain mergers,
sales of assets, issuances or purchases of securities, liquidation or
dissolution, or reclassification of the then outstanding shares of an Ohio
corporation involving certain holders of stock representing 10% or more of the
voting power, unless such transactions are either approved by the Directors in
office prior to the 10% shareholder becoming such or involve a 10% shareholder
which has been such for at least three years and certain requirements related to
the price and form of consideration to be received by shareholders are met; and
(ii) provide Ohio corporations with the right to recover profits realized under
certain circumstances by persons engaged in "greenmailing" or who otherwise sell
securities of a corporation within 18 months of proposing to acquire such
corporation.
In addition, pursuant to Section 1701.831 of the Ohio Revised Code, the
purchase of certain levels of voting power of the Company (one-fifth or more,
one-third or more, or a majority) can be made only with the prior authorization
of the holders of at least a majority of the total voting power of the Company
and the separate prior authorization of the holders of at least a majority of
the voting power held by shareholders other than the proposed purchaser,
officers of the Company and Directors of the Company who are also employees. In
light of the fact that, upon completion of the Offering, the three current
shareholders of the Company will own over 50% of the Company's outstanding
shares of Common Stock, acquisition of the foregoing levels of voting power by
third parties may not be possible unless the current shareholders vote in favor
thereof.
42
<PAGE> 43
UNDERWRITING
Subject to the terms and conditions of the Underwriting Agreement (the
"Underwriting Agreement"), among the Company and the Underwriters named below
(the "Underwriters"), the Company has agreed to sell to each of the
Underwriters, and each of the Underwriters, for whom The Robinson-Humphrey
Company, LLC, Dain Rauscher Wessels, a division of Dain Rauscher Incorporated
("Dain Rauscher Wessels") and SunTrust Equitable Securities Corporation are
acting as representatives (the "Representatives"), have severally agreed to
purchase from the Company, the number of shares of Common Stock set forth
opposite their respective names. The Underwriters are committed to purchase all
of such shares if any are purchased. Under certain circumstances, the
commitments of non-defaulting Underwriters may be increased as set forth in the
Underwriting Agreement.
<TABLE>
<CAPTION>
NUMBER
UNDERWRITERS OF SHARES
------------ ---------
<S> <C>
The Robinson-Humphrey Company, LLC.......................... 512,500
Dain Rauscher Wessels....................................... 512,500
SunTrust Equitable Securities Corporation................... 512,500
Advest, Inc................................................. 37,500
George K. Baum & Company.................................... 37,500
J.C. Bradford & Co.......................................... 37,500
First Albany Corporation.................................... 37,500
First of Michigan Corporation............................... 37,500
J.J.B. Hilliard, W.L. Lyons, Inc............................ 37,500
Interstate/Johnson Lane Corporation......................... 37,500
Janney Montgomery Scott Inc................................. 37,500
C.L. King & Associates, Inc................................. 37,500
McDonald & Company Securities, Inc.......................... 37,500
Morgan Keegan & Company, Inc................................ 37,500
David A. Noyes & Company.................................... 37,500
The Ohio Company............................................ 37,500
Parker/Hunter Incorporated.................................. 37,500
Pennsylvania Merchant Group Ltd. ........................... 37,500
Stephens Inc................................................ 37,500
Tucker Anthony Incorporated................................. 37,500
Wheat First Securities, Inc................................. 37,500
Wit Capital Corporation..................................... 37,500
---------
Total............................................. 2,250,000
=========
</TABLE>
The Representatives have advised the Company that the Underwriters propose
to offer the Common Stock directly to the public at the initial public offering
price set forth on the cover page of this Prospectus and to certain dealers at
such price less a concession not in excess of $0.40 per share. The Underwriters
may allow, and such dealers may reallow, a concession not in excess of $0.10 per
share in sales to certain other dealers. After the Offering, the public offering
price and other selling terms may be changed.
The Selling Shareholders have granted to the Underwriters an option,
exercisable by the Representatives for 30 days after the date of the Prospectus,
to purchase up to an additional 337,500 shares of Common Stock at the initial
public offering price less the underwriting discount. Such option may be
exercised solely to cover over-allotments, if any. To the extent the
Representatives exercise such option, the Underwriters have severally agreed,
subject to certain conditions, to purchase approximately the same percentage
thereof that the number of shares of Common Stock to be purchased by each of
them as shown in the table above bears to the 2,250,000 shares of Common Stock
offered hereby.
Prior to the Offering, there has been no public market for the Common
Stock. The initial public offering price for the Common Stock was determined
through negotiations among the Company and the Representatives and was not based
upon any independent appraisal or valuation of the Company. Among the factors
43
<PAGE> 44
which were considered in making such determination were prevailing market and
general economic conditions, the market capitalization of publicly-traded
companies that the Company and the Representatives believed to be comparable to
the Company, the revenues and earnings of the Company in recent periods, the
experience of the Company's management, the economic characteristics of the
business in which the Company competes, estimates of the business potential of
the Company, the present state of the Company's development and other factors
deemed relevant.
The Underwriters do not intend to confirm sales of Common Stock to any
account over which they exercise discretionary authority. The Representatives
intend to make a market in the Common Stock after completion of the Offering.
In connection with the Offering, the Company's officers and directors and
its shareholders have agreed that, during a period of 180 days from the date of
this Prospectus, such holders will not, without the prior written consent of The
Robinson-Humphrey Company, LLC, directly or indirectly, offer, sell, contract to
sell, grant any option with respect to, pledge, hypothecate or otherwise dispose
of, any shares of Common Stock except for a bona fide gift provided that the
donee agrees to be bound by the terms of the donor's lockup agreement. In
addition, the Company has agreed that, during a period of 180 days from the date
of this Prospectus, the Company will not, without the prior written consent of
The Robinson-Humphrey Company, LLC, directly or indirectly, offer, sell,
contract to sell, grant any option with respect to, pledge, hypothecate or
otherwise dispose of any shares of Common Stock except for shares of Common
Stock to be issued in the Offering and upon the exercise of stock options which
are issued under the Company's Stock Option Plan.
The Company and, if the over-allotment option is exercised, the Selling
Shareholders have agreed to indemnify the several Underwriters against certain
liabilities, including liabilities under the Securities Act, or to contribute to
payments the Underwriters may be required to make in respect thereof.
The Representatives, on behalf of the Underwriters, may engage in
over-allotment, stabilizing transactions, syndicate covering transactions and
penalty bids in accordance with Regulation M under the Exchange Act.
Over-allotment involves syndicate sales in excess of the offering size, which
creates a syndicate short position. Stabilizing transactions permit bids to
purchase the underlying security so long as the stabilizing bids do not exceed a
specified maximum. Syndicate covering transactions involve purchases of the
Common Stock in the open market after the distribution has been completed in
order to cover syndicate short positions. Penalty bids permit the
Representatives to reclaim a selling concession from a syndicate member when
shares of Common Stock originally sold by such syndicate member are purchased in
a syndicate covering transaction to cover syndicate short positions. Such
stabilizing transactions, syndicate covering transactions and penalty bids may
cause the price of the Common Stock to be higher than it would otherwise be in
the absence of such transactions. These transactions may be effected on the
Nasdaq National Market or otherwise and, if commenced, may be discontinued at
any time.
44
<PAGE> 45
LEGAL MATTERS
The legality of the shares of Common Stock offered hereby will be passed
upon for the Company by Kahn, Kleinman, Yanowitz & Arnson Co., L.P.A.,
Cleveland, Ohio. Certain legal matters will be passed upon for the Underwriters
by Nelson Mullins Riley & Scarborough L.L.P., Atlanta, Georgia.
EXPERTS
The consolidated financial statements of Rainbow Rentals, Inc. and
subsidiary as of December 31, 1996 and 1997, and for each of the years in the
three-year period ended December 31, 1997, have been included herein and in the
registration statement in reliance upon the report of KPMG Peat Marwick LLP,
independent certified public accountants, appearing elsewhere herein, and upon
the authority of said firm as experts in accounting and auditing.
AVAILABLE INFORMATION
The Company has filed with the Commission a Registration Statement under
the Securities Act with respect to the Common Stock offered hereby. This
Prospectus, which is part of the Registration Statement, does not contain all of
the information set forth in the Registration Statement and the exhibits and
schedules thereto, certain items of which are omitted as permitted by the rules
and regulations of the Commission. For further information with respect to the
Company or the Common Stock, reference is made to the Registration Statement and
the exhibits and schedules filed as a part thereof. While all material elements
of the contracts or documents referenced herein are contained in this
Prospectus, statements contained in this Prospectus regarding the contents of
any contract or any other document are not necessarily complete and, in each
instance, reference is hereby made to the copy of such contract or other
document filed as an exhibit to such Registration Statement. The Registration
Statement, including exhibits thereto, may be inspected, without charge, and
copies of all or any part thereof may be obtained upon payment of prescribed
fees at the public reference facilities of the Commission, maintained by the
Commission at its principal office located at 450 Fifth Street, N.W.,
Washington, D.C. 20549, the New York Regional Office located at Seven World
Trade Center, 13th Floor, New York, New York 10048 and the Chicago Regional
Office located at Northwestern Atrium Center, 500 West Madison Street, Suite
1400, Chicago, Illinois 60661. Such material may also be accessed electronically
by means of the Commission's home page on the Internet at http:\\www.sec.gov.
The Company intends to furnish its shareholders with annual reports
containing financial statements audited by independent accountants and with
quarterly reports containing unaudited financial information for each of the
first three quarters of each fiscal year.
45
<PAGE> 46
RAINBOW RENTALS, INC. AND SUBSIDIARY
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
<TABLE>
<S> <C>
Independent Auditors' Report................................ F-2
Consolidated Balance Sheets................................. F-3
Consolidated Statements of Income........................... F-4
Consolidated Statements of Shareholders' Equity............. F-5
Consolidated Statements of Cash Flows....................... F-6
Notes to Consolidated Financial Statements.................. F-7
</TABLE>
F-1
<PAGE> 47
INDEPENDENT AUDITORS' REPORT
The Board of Directors
Rainbow Rentals, Inc.:
We have audited the accompanying consolidated balance sheets of Rainbow
Rentals, Inc. and subsidiary (Company) as of December 31, 1996 and 1997, and the
related consolidated statements of income, shareholders' equity, and cash flows
for each of the years in the three-year period ended December 31, 1997. These
consolidated financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these consolidated
financial statements 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, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Rainbow
Rentals, Inc. and subsidiary as of December 31, 1996 and 1997, and the results
of their operations and their cash flows for each of the years in the three-year
period ended December 31, 1997, in conformity with generally accepted accounting
principles.
/s/ KPMG Peat Marwick LLP
KPMG Peat Marwick LLP
Cleveland, OH
March 13, 1998, except as to Note 12,
which is as of March 23, 1998
F-2
<PAGE> 48
RAINBOW RENTALS, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
DECEMBER 31,
------------------ MARCH 31,
1996 1997 1998
------- ------- -----------
(UNAUDITED)
<S> <C> <C> <C>
ASSETS
Current assets
Cash...................................................... $ 472 $ 77 $ --
Short-term investments.................................... 27 -- --
Rental-purchase merchandise, net (note 2)................. 19,740 23,411 23,958
Prepaid expenses and other current assets................. 494 771 470
Income tax receivable (note 6)............................ -- 399 330
Deferred income taxes (note 6)............................ 14 -- --
------- ------- -------
Total current assets................................... 20,747 24,658 24,758
Property and equipment, net (note 3)........................ 3,620 3,441 3,390
Deferred income taxes (note 6).............................. 819 1,041 1,090
Other assets, net (notes 10 and 11)......................... 215 2,100 2,148
------- ------- -------
Total assets (note 4).................................. $25,401 $31,240 $31,386
======= ======= =======
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities
Current installments of long-term debt (note 4)........... $ 333 $ -- $ --
Current installments of obligations under capital leases
(note 7)............................................... -- 80 80
Accounts payable.......................................... 1,917 1,000 2,132
Accrued income taxes (note 6)............................. 232 129 107
Accrued compensation and related costs.................... 942 1,091 1,025
Other liabilities and accrued expenses.................... 993 1,563 1,556
Deferred income taxes (note 6)............................ -- 1,201 1,741
Notes payable (note 5).................................... 132 -- --
Note payable to shareholder (note 5)...................... 159 -- --
------- ------- -------
Total current liabilities.............................. 4,708 5,064 6,641
Long-term debt, excluding current installments (note 4)..... 9,226 12,464 10,267
Notes payable (note 4)...................................... -- 10,488 10,488
Obligations under capital leases, excluding current
installments (note 7)..................................... -- 171 157
------- ------- -------
Total liabilities...................................... 13,934 28,187 27,553
Shareholders' equity (notes 4, 11 and 12)
Serial preferred stock, no par value, 2,000,000 shares
authorized, none issued................................ -- -- --
Common stock, no par value; 10,000,000 shares authorized,
6,392,610 and 3,675,735 shares issued and outstanding
at December 31, 1996 and 1997, respectively............ 60 60 60
Retained earnings......................................... 11,407 14,088 14,868
Treasury stock, -0- and 2,716,875 common shares at
December 31, 1996 and 1997, respectively, at cost...... -- (11,095) (11,095)
------- ------- -------
Total shareholders' equity............................. 11,467 3,053 3,833
Commitments (note 7)........................................
------- ------- -------
Total liabilities and shareholders' equity............. $25,401 $31,240 $31,386
======= ======= =======
</TABLE>
See accompanying notes to consolidated financial statements.
F-3
<PAGE> 49
RAINBOW RENTALS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
YEARS ENDED DECEMBER 31, MARCH 31,
----------------------------- --------------------------
1995 1996 1997 1997 1998
------- ------- ------- ----------- -----------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C> <C>
Revenue
Rental revenue...................... $39,721 $43,815 $52,153 $12,128 $14,168
Fees................................ 1,151 1,284 1,588 331 432
Merchandise sales................... 1,687 1,461 1,587 500 536
------- ------- ------- ------- -------
Total revenues.............. 42,559 46,560 55,328 12,959 15,136
Operating expenses
Merchandise costs
Depreciation and other
merchandise costs.............. 15,428 16,351 19,145 4,432 5,065
Amortization of acquired rental-
purchase agreements............ 807 652 -- -- --
------- ------- ------- ------- -------
Total merchandise costs..... 16,235 17,003 19,145 4,432 5,065
Store operating expenses
Salaries and related expenses.... 9,136 9,655 11,532 2,627 3,301
Occupancy expenses............... 3,092 3,416 4,068 946 1,122
Advertising expenses............. 2,576 2,837 3,283 764 820
Other store expenses............. 4,746 5,437 6,554 1,470 1,772
------- ------- ------- ------- -------
Total store operating
expenses.................. 19,550 21,345 25,437 5,807 7,015
------- ------- ------- ------- -------
Total merchandise costs and
store operating
expenses.................. 35,785 38,348 44,582 10,239 12,080
General and administrative expenses
(notes 5 and 11)................. 3,216 3,934 3,946 1,045 1,196
------- ------- ------- ------- -------
Total operating expenses.... 39,001 42,282 48,528 11,284 13,276
------- ------- ------- ------- -------
Operating income............ 3,558 4,278 6,800 1,675 1,860
Interest expense...................... 898 834 1,822 224 470
Other expense (income), net........... 183 453 329 (30) 33
------- ------- ------- ------- -------
Income before income
taxes..................... 2,477 2,991 4,649 1,481 1,357
Income taxes (note 6)................. 1,253 972 1,968 630 577
------- ------- ------- ------- -------
Net income.................. $ 1,224 $ 2,019 $ 2,681 $ 851 $ 780
======= ======= ======= ======= =======
Basic net income per common share
(note 12)........................... $ .19 $ .32 $ .59 $ .13 $ .21
======= ======= ======= ======= =======
</TABLE>
See accompanying notes to consolidated financial statements.
F-4
<PAGE> 50
RAINBOW RENTALS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
TOTAL
COMMON RETAINED TREASURY SHAREHOLDERS'
STOCK EARNINGS STOCK EQUITY
------ -------- -------- -------------
<S> <C> <C> <C> <C>
Balance at December 31, 1994.................... $ 60 $ 8,164 $ -- $ 8,224
Net income.................................... -- 1,224 -- 1,224
---- ------- -------- --------
Balance at December 31, 1995.................... 60 9,388 -- 9,448
Net income.................................... -- 2,019 -- 2,019
---- ------- -------- --------
Balance at December 31, 1996.................... 60 11,407 -- 11,467
Net income.................................... -- 2,681 -- 2,681
Acquisition of 2,716,875 common shares (notes
4 and 11).................................. -- -- (11,095) (11,095)
---- ------- -------- --------
Balance at December 31, 1997.................... 60 14,088 (11,095) 3,053
Net income (unaudited)........................ -- 780 -- 780
---- ------- -------- --------
Balance at March 31, 1998 (unaudited)........... $ 60 $14,868 $(11,095) $ 3,833
==== ======= ======== ========
</TABLE>
See accompanying notes to consolidated financial statements.
F-5
<PAGE> 51
RAINBOW RENTALS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
YEARS ENDED DECEMBER 31, MARCH 31,
-------------------------------- --------------------------
1995 1996 1997 1997 1998
-------- -------- -------- ----------- -----------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C> <C>
Cash flows from operating activities
Net income.................................... $ 1,224 $ 2,019 $ 2,681 $ 851 $ 780
Reconciliation of net income to net cash
provided by operating activities
Depreciation of property and equipment and
amortization of loan fees, customer rental
agreements, noncompete and consulting
agreements................................ 2,162 2,024 1,858 393 478
Depreciation of merchandise inventory....... 13,490 14,475 16,994 3,879 4,489
Deferred income taxes....................... (276) (335) 993 281 491
(Gain) loss on disposal of property and
equipment................................. -- 120 (187) (2) (85)
Purchases of merchandise inventory.......... (17,134) (20,546) (22,499) (6,394) (5,566)
Merchandise inventory disposed, net......... 1,746 2,092 1,834 521 530
(Increase) decrease in
Short-term investments.................... -- (2) 27 -- --
Prepaid expenses and other current
assets.................................. (228) 179 (277) (52) 301
Income tax receivable..................... (314) 314 (399) -- 69
Increase (decrease) in
Accounts payable.......................... 729 571 (917) (201) 1,133
Accrued income taxes...................... (78) 232 (103) (83) (22)
Accrued compensation and related costs.... 7 298 149 (33) (66)
Other liabilities and accrued expenses.... 371 150 570 (233) (7)
-------- -------- -------- -------- --------
Net cash provided by (used in) operating
activities............................ 1,699 1,591 724 (1,073) 2,525
-------- -------- -------- -------- --------
Cash flows from investing activities
Purchase of property and equipment, net....... (1,359) (2,371) (1,106) (339) (360)
Proceeds on the sale of property and
equipment................................... -- 3 250 2 140
Acquisition of assets (note 8)................ (2,007) -- -- -- --
Other, net.................................... (51) (30) 9 -- --
-------- -------- -------- -------- --------
Net cash used in investing activities... (3,417) (2,398) (847) (337) (220)
-------- -------- -------- -------- --------
Cash flows from financing activities
Proceeds from long-term debt borrowings....... 46,645 53,644 63,827 15,805 13,835
Current installments and repayments of
long-term debt.............................. (44,843) (52,379) (60,922) (14,869) (16,032)
Increase (decrease) in notes payable.......... 7 (66) (291) 2 --
Loan origination fees paid.................... (107) (63) (147) -- --
Payment in connection with Redemption
Agreement (note 11)......................... -- -- (2,700) -- --
Principal payments under capital lease
obligations................................. -- -- (39) -- (14)
Other......................................... -- -- -- -- (171)
-------- -------- -------- -------- --------
Net cash provided by (used in) financing
activities................................ 1,702 1,136 (272) 938 (2,382)
-------- -------- -------- -------- --------
Net increase (decrease) in cash................. (16) 329 (395) (472) (77)
Cash at beginning of period..................... 159 143 472 472 77
-------- -------- -------- -------- --------
Cash at end of period........................... $ 143 $ 472 $ 77 $ -- $ --
======== ======== ======== ======== ========
Supplemental cash flow information:
Net cash paid during the year for
Interest.................................... $ 896 $ 795 $ 1,066 $ 178 $ 585
Income taxes................................ 2,007 884 1,477 470 69
Supplemental disclosures of noncash financing
activities:
</TABLE>
As discussed in notes 4, 10, and 11, in connection with the 1997 repurchase of
2,716,875 common shares, the Company entered into notes payable of $10,488 and
recorded other assets totaling $2,093.
The noncash addition for vans under capital leases of $290 in 1997 (note 7) has
been excluded from purchases of property and equipment.
See accompanying notes to consolidated financial statements.
F-6
<PAGE> 52
RAINBOW RENTALS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The significant accounting policies of Rainbow Rentals, Inc. and subsidiary
(Company), which are summarized below, are consistent with generally accepted
accounting principles and reflect practices appropriate to the industry in which
the Company operates.
(a) Reporting Entity and Principles of Consolidation
The Company is engaged in the rental and sale of home electronics,
furniture, appliances, and computers to the general public. The Company operates
62 stores in eight states: Connecticut, Massachusetts, Michigan, New York, Ohio,
Pennsylvania, Rhode Island, and Tennessee. The Company's corporate headquarters
is located in Canfield, Ohio.
The consolidated financial statements include the accounts of Rainbow
Rentals, Inc. and its wholly owned subsidiary, Rainbow Advertising, Inc. All
significant intercompany profits, transactions, and balances have been
eliminated in consolidation.
(b) Rental-purchase Merchandise
Rental-purchase merchandise consists of merchandise rented to customers or
in the stores available for rent or sale. Merchandise is rented to customers
pursuant to rental agreements which provide for either weekly or monthly rental
terms with rental payments collected in advance. The rental agreements may be
terminated at any time by the customers; if terminated, the merchandise is
returned to the Company.
Rental-purchase merchandise is stated at the lower of cost or market. The
Company depreciates inventory using the units of activity method. Under the
units of activity method, merchandise held for rent is not depreciated, and
merchandise on rent is depreciated in the proportion of rents received to total
expected rents provided over the rental contract term. Amounts previously
reported for 1995 and 1996 have been restated to reflect the Company's decision
to change its method of depreciating merchandise from the straight-line basis to
the units of activity method. The Company believes the units of activity method
more accurately matches the recognition of depreciation expense with the
estimated timing of revenue receipts over the rental-purchase agreement period.
The units of activity method is recognized in the rental-purchase industry and
does not consider salvage value.
(c) Property and Equipment
Property and equipment are recorded at cost. Depreciation is computed on
the straight-line method over the estimated useful lives of the respective
assets. Leasehold improvements and vehicles held under capital lease
arrangements are amortized over the term of the applicable leases.
(d) Loan Fees
Amortization of capitalized loan fees is computed using the straight-line
method, which approximates the level-yield method, over the term of the
revolving loan (see note 4).
(e) Other Assets
Other assets consist primarily of noncompete and consulting agreements
which arose in connection with the share repurchase from a former officer of the
Company, (see notes 10 and 11). These costs are amortized over the estimated
agreement lives of seven years and three years, respectively.
F-7
<PAGE> 53
RAINBOW RENTALS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(f) Income Taxes
Income taxes are accounted for under the asset and liability method.
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases and operating loss and tax credit carryforwards. Deferred tax assets and
liabilities are measured using enacted tax rates expected to apply to taxable
income in the years in which those temporary differences are expected to be
recovered or settled. The effect on deferred tax assets and liabilities of a
change in tax rates is recognized in income in the period that includes the
enactment date.
(g) Rental Revenue
Merchandise is rented to customers pursuant to rental-purchase agreements
which provide for weekly or monthly rental terms with nonrefundable rental
payments. Rental income is recognized as collected, because at the time of
collection the merchandise has been placed in service and costs of installation
and delivery have been incurred. A customer may elect to renew the
rental-purchase agreement for a specified number of continuous terms and has the
right to acquire title either through payment of all required rentals or through
a purchase option. Amounts received from such sales, as well as sales of new and
used merchandise available for rent in the stores, are included in merchandise
sales.
(h) Advertising Expenses
Costs incurred for producing and communicating advertising are charged to
expense as incurred.
(i) Acquired Rental-Purchase Agreements
Rental agreements purchased in connection with a 1995 acquisition were
amortized over their estimated remaining life of 18 months. These agreements
became fully amortized in 1996.
(j) Basic Net Income per Common Share
Basic net income per common share are based on the weighted average number
of common shares outstanding during each year. Average shares used in the
calculations were 6,392,610, 6,392,610, and 4,509,406 for the years ended 1995,
1996, and 1997, respectively, and 6,392,610 and 3,675,735 for the three months
ended March 31, 1997 and 1998 (unaudited), respectively.
(k) Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
(l) Reclassification
Certain amounts in the 1995 and 1996 consolidated financial statements have
been reclassified to conform with the 1997 presentation.
F-8
<PAGE> 54
RAINBOW RENTALS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(2) RENTAL-PURCHASE MERCHANDISE
Following is a summary of rental-purchase merchandise:
<TABLE>
<CAPTION>
DECEMBER 31,
------------------ MARCH 31,
1996 1997 1998
------- ------- -----------
(UNAUDITED)
<S> <C> <C> <C>
Rental-purchase merchandise, at original
cost...................................... $33,133 $39,926 $40,961
Less: accumulated depreciation.............. (13,393) (16,515) (17,003)
------- ------- -------
$19,740 $23,411 $23,958
======= ======= =======
</TABLE>
(3) PROPERTY AND EQUIPMENT
Property and equipment consists of the following:
<TABLE>
<CAPTION>
DECEMBER 31,
------------------ MARCH 31,
1996 1997 1998
------- ------- -----------
(UNAUDITED)
<S> <C> <C> <C>
Vehicles.................................... $ 2,768 $ 2,142 $ 1,810
Leasehold improvements...................... 2,685 3,286 3,346
Computer equipment.......................... 665 688 795
Office equipment............................ 995 1,133 1,238
Vehicles held under capital lease........... -- 290 290
------- ------- -------
7,113 7,539 7,479
Less accumulated depreciation and
amortization.............................. 3,493 4,098 4,089
------- ------- -------
Property and equipment, net............ $ 3,620 $ 3,441 $ 3,390
======= ======= =======
</TABLE>
(4) LONG-TERM DEBT AND NOTES PAYABLE
Following is a summary of long-term debt:
<TABLE>
<CAPTION>
DECEMBER 31,
------------------ MARCH 31,
1996 1997 1998
------- ------- -----------
(UNAUDITED)
<S> <C> <C> <C>
Bank borrowings under secured revolving
loan...................................... $ 7,726 $12,464 $10,267
Bank term loan under secured revolving loan
agreement payable to bank in monthly
installments through May 1999, interest at
prime plus 0.25% 1,833 -- --
------- ------- -------
9,559 12,464 10,267
Less current installments................... 333 -- --
------- ------- -------
Long-term debt, excluding current
installments.............................. $ 9,226 $12,464 $10,267
======= ======= =======
</TABLE>
On October 5, 1992, the Company entered into a revolving loan agreement
with a lending institution; the originally established maximum revolving loan
amount was $6,000. Between that date and the most recent amendment on May 21,
1997, the agreement was amended several times. Such amendments provided for
changes to the originally established maximum revolving loan amount as well as
the scheduled maturity date and the interest rate charged on the outstanding
revolving loan balance. On May 21, 1997, the revolving loan agreement was
further amended to increase the maximum revolving loan amount to $16,000 and
extend the loan agreement to May 21, 2000, at which time any outstanding balance
will be payable in full. Interest is charged on the outstanding loan balance at
prime plus 0.25%, or 8.75% at December 31, 1997. The Company
F-9
<PAGE> 55
RAINBOW RENTALS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
can request to have portions of the outstanding principal designated as "IBOR
Portions," which under the terms of the revolving loan agreement would bear
interest at the Interbank Offering Rate (IBOR Rate), plus 3.00%. The IBOR Rate
at December 31, 1997 was 5.72%. At December 31, 1997 no part of the outstanding
principal is designated as an "IBOR Portion."
The revolving loan agreement is secured by substantially all assets,
contract rights, documents, and all rental agreements of the Company; in
addition, the agreement is personally guaranteed by the Company's majority
shareholder. The revolving loan agreement contains various covenants, with which
the Company was in compliance at December 31, 1996 and 1997. The revolving loan
agreement calls for a nonuse fee equal to 0.375% per annum on the daily average
amount by which the maximum revolving amount exceeds the outstanding loan
balance.
In 1996, the financial institution had made available to the Company a term
loan of up to $3,000, which had an outstanding balance of $1,833 at December 31,
1996. The loan was paid in full during 1997.
In April 1997, the Company entered into a Stock Redemption Agreement
(Redemption Agreement) with a former shareholder-officer of the Company. The
Redemption Agreement required the Company to repurchase all 2,716,875 shares of
stock owned by the former shareholder-officer and affiliates. The Company
entered into note payable agreements (Redemption Debt) with the
shareholder-officer and certain affiliates of the shareholder-officer amounting
to $10,488. The Redemption Debt, which accrues interest at a rate of 8.0%, is
payable in 180 equal monthly installments of $104, beginning January 1998. The
Company's obligations under the Redemption Debt, for payments of both principal
and interest, are subordinated to the Company's obligations under the revolving
loan agreement described above.
The aggregate amount of principal payments for long-term debt and notes
payable in each of the years following December 31, 1997 are as follows:
1998 -- $-0-; 1999 -- $294; 2000 -- $12,938; 2001 -- $512; and 2002 -- $553.
(5) RELATED PARTY TRANSACTIONS
In February 1995, the building which serves as the Company's corporate
headquarters was purchased by a partnership, owned by the Company's
shareholders. The Company entered into a 10-year building lease agreement with
the partnership at a rental rate which approximates market rates. Total rent
expense paid to the partnership in 1995, 1996, and 1997 was approximately $75,
$100, and $103, respectively.
The Company had a note payable to a shareholder in the amount of $159 at
December 31, 1996 which was repaid during 1997. Interest accrued at a rate equal
to 0.5% below the interest rate paid on the revolving loan at December 31, 1996
and was added to the face value of the note as it accrued.
The Company also had a note payable to a member of a shareholder's family
in the amount of $132 at December 31, 1996 which was repaid during 1997.
Interest accrued at 8.75% per annum and was payable on the first day of each
month.
F-10
<PAGE> 56
RAINBOW RENTALS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(6) INCOME TAXES
The provision for income taxes consisted of the following components:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
--------------------------
1995 1996 1997
------ ------ ------
<S> <C> <C> <C>
Current
Federal........................................ $1,193 $1,203 $ 738
State and local................................ 336 104 237
------ ------ ------
1,529 1,307 975
Deferred
Federal........................................ (231) (284) 837
State and local................................ (45) (51) 156
------ ------ ------
(276) (335) 993
------ ------ ------
$1,253 $ 972 $1,968
====== ====== ======
</TABLE>
Deferred income tax expense (benefit) resulted from the following:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
--------------------------
1995 1996 1997
------ ------ ------
<S> <C> <C> <C>
Tax depreciation and amortization of more than
(less than) book:
Rental-purchase merchandise.................... $ (65) $ (4) $1,108
Property and equipment......................... (149) (27) (90)
Noncompete and consulting agreements........... 1 (1) (79)
Customer rental agreements..................... (88) (185) 29
Other, net....................................... 25 (118) 25
------ ------ ------
$ (276) $ (335) $ 993
====== ====== ======
</TABLE>
A reconciliation between income tax expense reported and income tax expense
computed by applying the federal statutory rate is as follows:
<TABLE>
<CAPTION>
THREE MONTHS ENDED
YEAR ENDED DECEMBER 31, MARCH 31,
-------------------------- --------------------------
1995 1996 1997 1997 1998
------ ------ ------ ----------- -----------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C> <C>
Income before income taxes............... $2,477 $2,991 $4,649 $1,481 $1,357
Federal statutory tax rate............... 34% 34% 34% 34% 34%
------ ------ ------ ------ ------
842 1,017 1,581 504 461
State and local income taxes, net of
federal income tax benefit............. 191 37 262 126 115
Meals and entertainment and officers'
insurance premiums..................... 43 20 33 8 7
Other, net............................... 177 (102) 92 (8) (6)
------ ------ ------ ------ ------
$1,253 $ 972 $1,968 $ 630 $ 577
====== ====== ====== ====== ======
</TABLE>
F-11
<PAGE> 57
RAINBOW RENTALS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The following deferred tax assets (liabilities) are reflected in the
consolidated balance sheets as follows:
<TABLE>
<CAPTION>
DECEMBER 31,
------------------
1996 1997
------- -------
<S> <C> <C>
Rental-purchase merchandise.............................. $ (216) $(1,324)
Property and equipment................................... 613 703
Customer rental agreements............................... 273 244
Noncompete and consulting agreements..................... 3 82
Other.................................................... 160 135
------- -------
Net deferred tax asset (liability) $ 833 $ (160)
======= =======
</TABLE>
The net amount of current and noncurrent deferred tax assets (liabilities)
was $833 as of December 31, 1996 and $(160) as of December 31, 1997,
representing deferred tax assets and deferred tax liabilities of $1,119 and
$286, respectively, at December 31, 1996 and $1,178 and $1,338, respectively, at
December 31, 1997. No valuation allowance was required for the deferred tax
assets.
(7) LEASES
The Company has entered into a capital lease arrangement in 1997 for the
financing of new vans. The gross amount of vehicles and the related accumulated
amortization are recorded in property and equipment (see note 3).
The Company operates its retail stores and offices under noncancelable
operating leases with terms extending to 2006 and additional option periods
renewable at the request of the Company. Additionally, the Company leases a
number of delivery and general use vehicles under operating lease arrangements.
Rental expense charged to operations totaled $2,175, $2,389, and $3,180 for the
years ended December 31, 1995, 1996, and 1997, respectively. Future minimum
lease payments under noncancelable operating leases (with initial or remaining
lease terms in excess of one year) and future minimum capital lease payments as
of December 31, 1997 are as follows:
<TABLE>
<CAPTION>
CAPITAL OPERATING
YEAR ENDING DECEMBER 31, LEASES LEASES
- ------------------------ ------- ---------
<S> <C> <C>
1998........................................... $ 84 $2,753
1999........................................... 84 2,171
2000........................................... 127 1,740
2001........................................... -- 1,154
2002........................................... -- 566
Thereafter........................................ -- 554
------ ------
Total minimum lease payments........................... 295 $8,938
======
Less amount representing interest...................... 44
------
Present value of net minimum capital lease payments.... 251
Less current installments of obligations under capital
leases.............................................. 80
------
Obligations under capital leases, excluding current
installments........................................... $ 171
======
</TABLE>
(8) ACQUISITION
On March 1, 1995, the Company acquired certain assets of an Ohio competitor
for approximately $2,000. The assets acquired included the fixed assets,
inventory, and customer rental agreements of the competitor's 10 Ohio stores.
This transaction was financed under the amended terms of the Company's existing
revolving loan agreement (see note 4). The acquisition was accounted for as a
purchase; accordingly, the acquired assets
F-12
<PAGE> 58
RAINBOW RENTALS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
were recorded at estimated fair values at the date of acquisition. The results
of operations are included from the date of acquisition.
(9) RETIREMENT PLAN
The Company maintains a qualified defined contribution retirement plan
under Section 401(k) of the Internal Revenue Code. The plan, which covers
substantially all employees, provides for the Company to make discretionary
contributions based on salaries of eligible employees plus additional
contributions based upon voluntary employee salary deferrals. Payments upon
retirement or termination of employment are based on vested amounts credited to
individual accounts. No retirement plan expenses were incurred in 1995 or 1996;
in 1997, the Company contributed $25.
(10) OTHER ASSETS
Following is a summary of other assets:
<TABLE>
<CAPTION>
DECEMBER 31,
---------------- MARCH 31,
1996 1997 1998
------ ------ -----------
(UNAUDITED)
<S> <C> <C> <C>
Noncompete and consulting agreements.......... $ -- $2,093 $2,093
Loan origination fees......................... 157 304 304
------ ------ ------
157 2,397 2,397
Less accumulated amortization................. 74 418 531
------ ------ ------
83 1,979 1,866
Other......................................... 132 121 282
------ ------ ------
$ 215 $2,100 $2,148
====== ====== ======
</TABLE>
(11) SHAREHOLDER TRANSACTIONS
In connection with the Redemption Agreement (note 4), the Company entered
into noncompete, consulting, and severance agreements with the former
shareholder-officer (see notes 4 and 10), and agreed to pay a total of $13,436
payable as follows (cash payment of $2,948 and notes payable of $10,488)
allocated as follows:
<TABLE>
<S> <C>
Stock repurchase.................................. $11,095
Noncompete and consulting agreements.............. 2,093
Severance agreement............................... 248
-------
$13,436
=======
</TABLE>
The full amount paid for the acquisition of shares has been recorded as
treasury stock, consistent with the cost method of accounting for treasury
stock. As indicated in note 10, the amount allocated to the noncompete and
consulting agreements was recorded in other assets. The severance payment was
charged fully to general and administrative expense in 1997.
(12) SUBSEQUENT EVENTS
On March 23, 1998, the Company's Board of Directors (Board) approved an
increase in the number of authorized shares and the conversion of all
outstanding shares of common nonvoting stock for an equal number of common
voting stock. Additionally, the Board authorized 2,000,000 shares of Serial
Preferred Stock (consisting of 1,000,000 Voting Preferred Shares and 1,000,000
Non-Voting Preferred Shares). This Board action was taken in contemplation of a
planned initial public offering of the Company's securities
F-13
<PAGE> 59
RAINBOW RENTALS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(Offering). The conversion of nonvoting shares has been reflected retroactively,
by removing reference to common nonvoting shares from shareholder's equity and
calculating net income per common share based on the combined weighted average
common shares outstanding after considering the conversion.
Also on March 23, 1998, the Board approved a 10,500 for one stock split
distributed in the form of a stock dividend. As a result of this action, an
additional 3,675,384.93 shares of Common Stock will be issued on the effective
date of the Offering to shareholders of record on March 23, 1998. All references
throughout these consolidated financial statements and notes thereto to number
of shares and per share amounts of the Company's Common Stock have been restated
to reflect the stock split.
F-14
<PAGE> 60
======================================================
NO DEALER, SALES REPRESENTATIVE OR OTHER PERSON HAS BEEN AUTHORIZED TO GIVE
ANY INFORMATION OR TO MAKE ANY REPRESENTATIONS NOT CONTAINED IN THIS PROSPECTUS
AND, IF GIVEN OR MADE, SUCH INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED
UPON AS HAVING BEEN AUTHORIZED BY THE COMPANY, THE SELLING SHAREHOLDERS, ANY OF
THE UNDERWRITERS OR ANY OTHER PERSON. NEITHER THE DELIVERY OF THIS PROSPECTUS
NOR ANY SALE MADE HEREUNDER SHALL, UNDER ANY CIRCUMSTANCES, CREATE ANY
IMPLICATION THAT THERE HAS BEEN NO CHANGE IN THE AFFAIRS OF THE COMPANY SINCE
THE DATE HEREOF OR THAT THE INFORMATION CONTAINED HEREIN IS CORRECT AS OF ANY
TIME SUBSEQUENT TO THE DATE HEREOF. THIS PROSPECTUS DOES NOT CONSTITUTE AN OFFER
TO SELL, OR A SOLICITATION OF AN OFFER TO BUY, ANY SECURITIES OTHER THAN THE
SHARES OF COMMON STOCK OFFERED HEREBY, NOR DOES IT CONSTITUTE AN OFFER TO SELL
OR A SOLICITATION OF AN OFFER TO BUY ANY OF THE SHARES OF COMMON STOCK OFFERED
HEREBY BY ANYONE IN ANY JURISDICTION IN WHICH SUCH OFFER OR SOLICITATION IS NOT
AUTHORIZED OR IN WHICH THE PERSON MAKING SUCH OFFER OR SOLICITATION IS NOT
QUALIFIED TO DO SO OR TO ANYONE TO WHOM IT IS UNLAWFUL TO MAKE SUCH OFFER OR
SOLICITATION.
------------------------
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Prospectus Summary.................... 3
Risk Factors.......................... 7
Forward-Looking Statements............ 11
Use of Proceeds....................... 11
Capitalization........................ 12
Dividend Policy....................... 12
Dilution.............................. 13
Selected Financial Data............... 14
Management's Discussion and Analysis
of Financial Condition and Results
of Operations....................... 16
Business.............................. 24
Management............................ 37
Certain Transactions.................. 39
Principal and Selling Shareholders.... 39
Shares Eligible for Future Sale....... 40
Description of Capital Stock.......... 41
Underwriting.......................... 43
Legal Matters......................... 45
Experts............................... 45
Available Information................. 45
Index to Consolidated Financial
Statements.......................... F-1
</TABLE>
------------------------
Until June 29, 1998 (25 days after the date of this Prospectus), all dealers
effecting transactions in the Common Stock offered hereby, whether or not
participating in this distribution, may be required to deliver a Prospectus.
This delivery requirement is in addition to the obligation of dealers to deliver
a Prospectus when acting as underwriters and with respect to their unsold
allotments or subscriptions.
======================================================
======================================================
2,250,000 SHARES
[RAINBOW RENTALS LOGO]
COMMON STOCK
------------------------
PROSPECTUS
------------------------
THE ROBINSON-HUMPHREY
COMPANY
DAIN RAUSCHER WESSELS
A DIVISION OF DAIN RAUSCHER INCORPORATED
SUNTRUST EQUITABLE SECURITIES
June 4, 1998
======================================================
