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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------
FORM 10-K
(MARK ONE)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934 (NO FEE REQUIRED)
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1998 OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934 (NO FEE REQUIRED)
FOR THE TRANSITION PERIOD FROM TO
------------------------
COMMISSION FILE NUMBER 2-20910
TRUSERV CORPORATION
(PRIOR TO JULY 1, 1997 KNOWN AS COTTER & COMPANY)
(Exact name of Registrant as specified in its charter)
<TABLE>
<S> <C>
DELAWARE 36-2099896
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
</TABLE>
<TABLE>
<S> <C>
8600 WEST BRYN MAWR AVENUE, CHICAGO, ILLINOIS 60631-3505
(Address of principal executive offices) (Zip Code)
</TABLE>
Registrant's telephone number, including area code: (773) 695-5000
Securities registered pursuant to Section 12(b) of the Act: NONE
Securities registered pursuant to Section 12(g) of the Act: NONE
INDICATE BY CHECK MARK WHETHER THE REGISTRANT (1) HAS FILED ALL REPORTS
REQUIRED TO BE FILED BY SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF
1934 DURING THE PRECEDING 12 MONTHS (OR FOR SUCH SHORTER PERIOD THAT THE
REGISTRANT WAS REQUIRED TO FILE SUCH REPORTS), AND (2) HAS BEEN SUBJECT TO SUCH
FILING REQUIREMENTS FOR THE PAST 90 DAYS. YES X . NO __.
INDICATE BY CHECK MARK IF DISCLOSURE OF DELINQUENT FILERS PURSUANT TO ITEM
405 OF REGULATION S-K (SEC.229.405 OF THIS CHAPTER) IS NOT CONTAINED HEREIN, AND
WILL NOT BE CONTAINED, TO THE BEST OF REGISTRANT'S KNOWLEDGE, IN DEFINITIVE
PROXY OR INFORMATION STATEMENTS INCORPORATED BY REFERENCE IN PART III OF THIS
FORM 10-K OR ANY AMENDMENT TO THIS FORM 10-K. [X]
STATE THE AGGREGATE MARKET VALUE OF THE VOTING STOCK HELD BY NON-AFFILIATES
OF THE REGISTRANT.
THERE IS NO PUBLIC MARKET FOR REGISTRANT'S CLASS A COMMON STOCK. SUCH
SHARES ARE OFFERED BY THE REGISTRANT IN SIXTY-SHARE UNITS, EXCLUSIVELY TO
RETAILERS OF HARDWARE AND RELATED MERCHANDISE, IN CONNECTION WITH BECOMING
MEMBERS OF THE COMPANY. SAID STOCK IS LIMITED AS TO TRANSFERABILITY BY ITS
TERMS.
INDICATE THE NUMBER OF SHARES OUTSTANDING OF EACH OF THE REGISTRANT'S
CLASSES OF COMMON STOCK, AS OF THE LATEST PRACTICABLE DATE.
<TABLE>
<CAPTION>
OUTSTANDING AT
CLASS FEBRUARY 27, 1999
----- -----------------
<S> <C>
CLASS A COMMON STOCK, $100 PAR VALUE................ 547,200
CLASS B NONVOTING COMMON STOCK, $100 PAR VALUE...... 1,921,031
</TABLE>
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PART I
THIS ANNUAL REPORT AND THE DOCUMENTS INCORPORATED HEREIN BY REFERENCE
CONTAIN FORWARD-LOOKING STATEMENTS ABOUT FUTURE RESULTS THAT ARE SUBJECT TO
RISKS AND UNCERTAINTIES. TRUSERV'S ACTUAL RESULTS MAY DIFFER SIGNIFICANTLY FROM
THE RESULTS DISCUSSED IN THE FORWARD-LOOKING STATEMENTS.
ITEM 1. BUSINESS.
TruServ Corporation ("TruServ" or the "Company") was organized as Cotter &
Company ("Cotter"), a Delaware corporation, in 1953. Upon its organization, it
succeeded to the business of Cotter & Company, an Illinois corporation organized
in 1948. On July 1, 1997 Cotter & Company merged with ServiStar Coast to Coast
Corporation ("SCC") (the "Merger"). SCC was a hardware wholesaler organized in
1935 with a strong presence in retail lumber and building materials. Following
the Merger, the Company was renamed TruServ Corporation. The Company's principal
executive offices are located at 8600 West Bryn Mawr Avenue, Chicago, Illinois,
60631-3505. Its telephone number is (773) 695-5000.
The Company is a Member-owned wholesaler of hardware, lumber/building
materials and related merchandise. It is the largest wholesaler of hardware,
lumber/building materials and related merchandise in the United States. The
Company also manufactures paint and paint applicators. For reporting purposes,
the Company operates in a single industry as a Member-owned wholesaler
cooperative.
Membership, depending on the terms of the Member's Retail Member Agreement
with TruServ (the "Retail Member Agreement"), entitles TruServ Members to use
certain TruServ trademarks and trade names, including the federally registered
Coast to Coast(R), ServiStar(R) and True Value(R) trademarks, service marks and
collective membership marks. The True Value(R) collective membership mark has a
present expiration date of January 2, 2003; the ServiStar(R) mark has a present
expiration date of September 13, 2003; the Coast to Coast(R) mark expires on
November 3, 2004; the InduServe Supply(R) mark has a present expiration date of
February 13, 2000; the Grand Rental Station(R) mark has a present expiration
date of June 4, 2005; the Taylor Rental(R) mark has a present expiration date of
January 15, 2004; the Home & Garden Showplace(R) mark has a present expiration
date of February 13, 2000 and the Commercial Sales(R) mark has a present
expiration date of December 16, 2007. Members are continuing to conduct their
businesses under the same retail banners as before the Merger, except to the
extent permitted by TruServ on a case by case basis. Members have access to all
private labels, except with respect to paint, outdoor power equipment, the
private labels which will be limited to use by their respective retail
organizations. Membership also entitles the Member to receive annual patronage
dividends based upon the Member's purchases from TruServ. In accordance with
TruServ's By-Laws and the Retail Member Agreements, the annual patronage
dividend is paid to Members out of the gross margins from operations and other
patronage source income, after deduction for expenses, reserves and provisions
authorized by the Board of Directors.
The Company serves approximately 9,800 Coast to Coast(R), ServiStar(R) and
True Value(R) Hardware Stores throughout the United States. Primary
concentrations of Members exist in New York (approximately 8%), Pennsylvania
(approximately 7%), California and Texas (approximately 5% each) and Illinois,
Michigan and Ohio (approximately 4% each).
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The Company's total sales of merchandise to its U.S. Members were divided
among the following general classes of merchandise:
<TABLE>
<CAPTION>
FOR THE FISCAL YEARS
------------------------
1998 1997 1996
------ ------ ------
<S> <C> <C> <C>
Lumber and Building Materials.................. 30.2% 24.5% 12.8%
Hardware Goods................................. 17.8% 19.5% 22.4%
Farm and Garden................................ 14.5% 13.1% 13.8%
Electrical and Plumbing........................ 13.4% 15.8% 18.2%
Painting and Cleaning.......................... 10.8% 12.0% 14.0%
Appliances and Housewares...................... 8.4% 9.4% 11.2%
Sporting Goods and Toys........................ 4.9% 5.7% 7.6%
</TABLE>
The Company serves its Members by functioning as a low cost distributor of
goods and maximizing its volume purchasing abilities, primarily through vendor
rebates and discount programs, for the benefit of its Members. These benefits
are passed along to its Members in the form of lower prices and/or patronage
dividends. The Company has numerous individual agreements or commitments from
its suppliers, virtually all of which are terminable by such suppliers or the
Company without cause. Such provisions, either individually or in the aggregate,
have not had any material adverse effect on the Company's ability to conduct its
business. The goods and services purchased by the Company from these suppliers
are generally available from a wide variety of sources. The Company is not
dependent upon any one supplier or group of suppliers and has not experienced a
problem in obtaining necessary goods. The Company holds conventions and meetings
for its Members in order to keep them better informed as to industry trends and
the availability of new merchandise. The Company also provides each of its
Members with an illustrated price catalog showing the products available from
the Company. The Company's sales to its Members are divided into three
categories, as follows: (1) warehouse shipment sales (approximately 40% of total
sales); (2) direct shipment sales (approximately 54% of total sales); and (3)
relay sales (approximately 6% of total sales). Warehouse shipment sales are
sales of products purchased, warehoused, and resold by the Company upon orders
from the Members. Direct shipment sales are sales of products purchased by the
Company but delivered directly to Members from manufacturers. Relay sales are
sales of products purchased by the Company in response to the requests of
several Members for a product which is (i) included in future promotions, (ii)
not normally held in inventory and (iii) is not susceptible to direct shipment.
Generally, the Company will give notice to all Members of its intention to
purchase products for relay shipment and then purchases only so many of such
products as the Members order. When the product shipment arrives at the Company,
it is not warehoused; rather, the Company breaks up the shipment and "relays"
the appropriate quantities to the Members who placed orders.
The Company also manufactures paint and paint applicators. The principal
raw materials used by the Company are chemicals. All raw materials are purchased
from outside sources. The Company has been able to obtain adequate sources of
raw materials and other items used in production and no shortages of such
materials which will materially impact operations are currently anticipated.
The Company annually sponsors two "markets" (one in the Spring and one in
the Fall). In fiscal year 1999, these markets will be held in Atlanta, Georgia
and Las Vegas, Nevada. Members are invited to the markets and generally place
substantial orders for delivery during the period prior to the next market.
During such markets, new merchandise and seasonal merchandise for the coming
season is displayed to attending Members.
As of February 27, 1999 and February 28, 1998, respectively, the Company
had a backlog of firm orders (including relay orders) of approximately
$18,700,000 and $16,000,000. It is anticipated that the entire backlog existing
at February 27, 1999 will be filled by April 30, 1999. The Company's backlog at
any given time is made up of two principal components: (i) normal resupply
orders and (ii) market orders for future delivery. Resupply orders are orders
from Members for merchandise to keep inventories at normal levels. Generally,
such orders are filled the day following receipt, except that relay orders for
future delivery (which
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are in the nature of resupply orders) are not intended to be filled for several
months. Market orders for future delivery are Member orders for new or seasonal
merchandise given at the Company's two markets, for delivery during the several
months subsequent to the markets. Thus, the Company will have a relatively high
backlog at the end of each market which will diminish in subsequent months until
the next market.
The retail hardware industry is characterized by intense competition.
Independent retail hardware businesses served by the Company continue to face
intense competition from chain stores, discount stores, home centers, and
warehouse operations. Increased operating expenses for the retail stores,
including increased costs due to longer open-store hours and higher rental costs
of retail space, have cut into operating margins and brought pressures for lower
merchandise costs, to which the Company has been responsive through a
retail-oriented competitive pricing strategy on high-turnover, price-sensitive
items. The trueAdvantage(R) program was introduced in 1995 and upgraded in 1997
to promote higher retail standards in order to build consumer goodwill and
create a positive image for all Member stores.
The Company competes with other Member-owned and non-member-owned
wholesalers as a source of supply and merchandising support for independent
retailers. Competitive factors considered by independent retailers in choosing a
source of supply include pricing, servicing capabilities, promotional support
and merchandise selection and quality. Increased operating expenses and
decreased margins have resulted in several non-member-owned wholesalers
withdrawing from business.
The Company, through a Canadian subsidiary, owns a majority equity interest
in Cotter Canada Hardware and Variety Cooperative, Inc., a Canadian wholesaler
of hardware, variety and related merchandise. This cooperative serves
approximately 540 True Value(R) and V&S(R) Stores, all located in Canada. The
cooperative has approximately 350 employees and generated less than 5% of the
Company's consolidated revenue in fiscal year 1998.
The Company operates several other subsidiaries, most of which are engaged
in businesses providing additional services to the Company's Members. In the
aggregate, these subsidiaries are not significant to the Company's results of
operations.
The Company employs approximately 6,500 persons in the United States on a
full-time basis. Due to the widespread geographical distribution of the
Company's operations, employee relations are governed by the practices
prevailing in the particular area and are generally dealt with locally.
Approximately 31% of the Company's hourly-wage employees are covered by
collective bargaining agreements which are generally effective for periods of
three or four years. In general, the Company considers its relationship with its
employees to be good.
RETAIL MEMBER AGREEMENT; FRANCHISE AND LICENSE AGREEMENTS
The TruServ Retail Member Agreement provides, among other things, that each
Member:
(i) will be required to own 60 shares of Class A common stock of
TruServ for each store owned by such Member (up to a maximum of 300 shares
for five or more stores);
(ii) will conduct its businesses under the True Value(R), ServiStar(R)
or Coast to Coast(R) names (or other affiliated names or marks) subject to
the terms of the Retail Member Agreement;
(iii) will conduct a retail hardware, lumber, building materials, home
center, rental or industrial/ commercial operation at a designated
location;
(iv) will comply with TruServ's By-Laws as in effect from time to
time;
(v) will accept patronage dividends in a form complying with the
requirement of the Internal Revenue Code for deduction from gross income by
TruServ;
(vi) may receive different services and pay different charges based on
the volume of merchandise purchased by the Member;
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(vii) agrees to have its Retail Member Agreement terminated in certain
circumstances by unilateral action by TruServ's Board of Directors;
(viii) agrees to have its Retail Member Agreement automatically
modified upon notice to the Member by TruServ of any change in its
Certificate of Incorporation or By-Laws or any resolution of the Board of
Directors;
(ix) agrees to have its Retail Member Agreement governed by Illinois
law, and enforced or interpreted only in courts located in Cook County,
Illinois or any contiguous county; and
(x) may terminate the Retail Member Agreement upon 60 days written
notice to TruServ.
Some of the licenses and franchise agreements of former SCC Members have
been assigned by TruServ to a new wholly-owned limited liability company which
was created for the purpose of continuing to operate any license or franchise
activities which have been continued in that format after July 1. TruServ will
review any retail activities which continue to be carried out as franchises. It
is anticipated that additional licenses may be entered into periodically with
respect to the Taylor Rental Centers and Grand Rental Stations. It is less
likely that any additional franchise or license agreements will be entered into
with respect to the other retail programs operated as franchises by SCC prior to
the Merger. Rather, it is contemplated that these programs will initially be
operated as part of the cooperative activities of TruServ.
DISTRIBUTION OF PATRONAGE DIVIDENDS
TruServ operates on a cooperative basis with respect to business done with
or for Members. All Members are entitled to receive patronage dividend
distributions from TruServ on the basis of gross margins of merchandise and/or
services purchased by each Member. In accordance with TruServ's By-Laws and
Retail Member Agreement, the annual patronage dividend is paid to Members out of
the gross margins from operations and other patronage source income, after
deduction for expenses, reserves and provisions authorized by the Board of
Directors.
Patronage dividends are usually paid to Members within 90 days after the
close of TruServ's fiscal year; however, the Internal Revenue Code (the "Code")
permits distribution of patronage dividends as late as the 15th day of the ninth
month after the close of TruServ's fiscal year, and TruServ may elect to
distribute the annual patronage dividend at a later time than usual in
accordance with the provisions of the Code.
TruServ's By-Laws provide for the payment of year-end patronage dividends,
after payment of at least 20% of such patronage dividends in cash, in qualified
written notices of allocation including (i) Class B common stock based on par
value thereof, to a maximum of 2% of the Member's net purchases of merchandise
from TruServ for the year (except in unusual circumstances of individual
hardships, in which case the Board of Directors reserves the right to make
payments in cash), (ii) promissory (subordinated) notes, or (iii) other
property. Such promissory (subordinated) notes are for a five year term, bear
interest at a fixed rate based on a premium spread above comparable U.S.
Treasury notes as approved by the Board of Directors, and are subordinated to
all other debt of TruServ. TruServ may also issue nonqualified written notices
of allocation to its Members as part of its annual patronage dividend. See
"Payment of Patronage Dividends in Accordance with the Internal Revenue Code."
In determining the form of the annual patronage dividend, a Member's
required investment in Class B common stock of TruServ had historically been
limited by the Board of Directors to an amount, the cumulative value of which
will not exceed two percent (2%) of the Member's net purchases of merchandise
from the Company. Commencing in 1996, the Board established minimum Class B
ownership requirements (currently $25,000 for hardware stores and $15,000 for
lumber stores) which may be varied from time to time and is comprised of the
aggregate of a Member's various types of annual purchases multiplied by a
specific percentage, that varies from 1% to 14%, decreasing as total dollar
purchases by category increase. The amount of such required investment is
determined by majority vote of the Board of Directors, and may be increased or
decreased by such vote. The basis for determining the necessity of an increase
or decrease is through evaluation of the financial needs of TruServ, while
considering the needs of its membership. The consideration
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and method of payment for such shares is by way of the required amount being
calculated as part of the annual patronage dividend distribution amount.
Until at least December 31, 1999, new Members who join TruServ will have
their patronage dividend computed and distributed in accordance with the method
used prior to the Merger by the constituent corporation thereof offering the
retail program (e.g., Coast to Coast(R), ServiStar(R) or True Value(R)) chosen
by such new Members.
PAYMENT OF PATRONAGE DIVIDENDS IN ACCORDANCE WITH THE INTERNAL REVENUE CODE
The Code specifically provides for the taxation of cooperatives (such as
TruServ) and their patrons (such as TruServ's Members) so as to ensure that the
business earnings of cooperatives are currently taxable either to the
cooperatives or to the patrons.
The shares of Class B nonvoting common stock and other written notices,
which disclose to the recipient the stated amount allocated to him by TruServ
and the portion thereof which is a patronage dividend, distributed by TruServ to
its Members are "written notices of allocation" within the meaning of that
phrase as used in the Code. For such written notices to be "qualified written
notices of allocation" within the meaning of the Code, it is necessary that
TruServ pay 20% or more of the annual patronage dividend in cash and that the
Members consent to having the allocations (at their stated dollar amount)
treated as being constructively received by them and includable in their gross
income. Such written notices that do not meet these requirements are
"nonqualified written notices of allocation" within the meaning of the Code.
Cash, qualified written notices, and other property (except nonqualified written
notices of allocation) are currently deducted from earnings in determining the
taxable income of TruServ and, accordingly such qualified written notices of
allocation are includable in gross income of the patron (Member). Section
1385(a) of the Code provides, in substance, that the amount of any patronage
dividend which is paid in cash, qualified written notices of allocation or other
property (except nonqualified written notices of allocation) shall be included
in the gross income of the patron (Member) for the taxable year in which it
receives such cash or such qualified written notices of allocation. In general,
with respect to nonqualified written notices of allocation, no amounts are
deductible by TruServ or includable in gross income of the patron (Member) until
redeemed by TruServ.
Thus, every year each Member may receive, as part of the Member's patronage
dividend, non-cash "qualified written notices of allocation", which may include
Class B nonvoting common stock, the stated dollar amount of which must be
recognized as gross income for the taxable year in which received. The portion
of the patronage dividend paid in cash (at least 20%) may be insufficient,
depending on the tax bracket in each Member's case, to provide funds for the
payment of income taxes for which the Member will be liable as a result of the
receipt of the entire patronage dividend, including cash and Class B nonvoting
common stock.
In response to the provisions of the Code, TruServ's By-Laws provide for
the treatment of the shares of Class B nonvoting common stock and such other
notices as the Board of Directors may determine, distributed in payment of
patronage dividends as "qualified written notices of allocation." The By-Laws
provide in effect:
(i) for payment of patronage dividends partly in cash, partly in
qualified written notices of allocation (including the Class B nonvoting
common stock as described above), other property or in nonqualified written
notices of allocation, and
(ii) that membership in the organization (i.e. the status of being a
Member of TruServ) shall constitute consent by the Member to take the
qualified written notices of allocation or other property into account in
the Member's gross income as provided in Section 1385(a) of the Code.
Under the provisions of the Code, persons who become or became Members of
TruServ or who retained their status as Members after adoption of the By-Laws
providing that membership in the organization constitutes consent, and after
receiving written notification and a copy of the By-Laws are deemed to have
consented to the tax treatment of the cash and the qualified written notices of
allocation in which the patronage dividends are paid, in accordance with Section
1385(a) of the Code. Written notification of the adoption of the By-Laws and its
significance, and a copy of the By-Laws, were sent to each then existing Member
and have been, and will continue to be, delivered to each party that became, or
becomes a Member
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thereafter. Such consent is then effective except as to patronage occurring
after the distributee ceases to be a Member of the organization or after the
By-Laws of the organization cease to contain the provision with respect to the
above described consent. Such consent may be revoked by the Member only by
terminating its membership in TruServ in the manner provided in its Retail
Member Agreement.
Each year since 1978, TruServ has paid its Members 30% of the annual
patronage dividend in cash in respect to patronage (excluding nonqualified
written notices of allocation) occurring in the preceding year. It is the
judgment of management that the payment of 30% or more of patronage dividends in
cash will not have a material adverse effect on the operations of TruServ or its
ability to maintain adequate working capital for the normal requirements of its
business. However, TruServ is obligated to distribute only 20% of the annual
patronage dividend (excluding nonqualified written notices of allocation) in
cash and it may distribute this lesser percentage in future years.
In order to avoid the administrative inconvenience and expense of issuing
separate certificates representing shares of Class B nonvoting common stock to
each Member, TruServ deposits a bulk certificate with Harris Trust and Savings
Bank, Chicago, Illinois for safekeeping for and on behalf of its Members and
sends a written notice to each Member of these deposits and the allocation
thereof to such Member.
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ITEM 2. PROPERTIES.
The Company's national headquarters is located in Chicago, Illinois.
Information with respect to the Company's owned and leased warehousing and
office facilities is set forth below:
<TABLE>
<CAPTION>
SQUARE FEET OF LEASE
WAREHOUSE AND EXPIRATION
LOCATION OFFICE AREA INTEREST DATE
-------- -------------- -------- ----------
<S> <C> <C> <C>
Brookings, South Dakota....................... 518,000 Owned
Butler, Pennsylvania.......................... 72,000 Owned
Chicago, Illinois............................. 228,100 Leased December 31, 2010
Chicago, Illinois............................. 83,000 Leased October 31, 2000
Corsicana, Texas.............................. 450,000 Owned
Denver, Colorado.............................. 360,000 Leased June 30, 2004
East Butler, Pennsylvania..................... 476,200 Owned
Fogelsville (Allentown), Pennsylvania......... 600,000 Owned
Ft. Smith, Arkansas........................... 206,500 Leased November 30, 2002
Harvard, Illinois............................. 1,310,000 Leased August 23, 2013
Harvard, Illinois............................. 160,000 Leased August 23, 2005
Henderson, North Carolina..................... 300,000 Owned
Indianapolis, Indiana......................... 420,000 Owned
Jonesboro (Atlanta), Georgia.................. 360,000 Owned
Kansas City, Missouri......................... 415,000 Owned
Kingman, Arizona.............................. 375,000 Owned
Manchester, New Hampshire..................... 525,000 Owned
Mankato, Minnesota............................ 320,000 Owned
Parkesburg, Pennsylvania...................... 567,200 Owned
Peachtree City, Georgia....................... 60,500 Leased November 24, 2005
Piedmont, South Carolina...................... 350,400 Owned
Portland, Oregon.............................. 405,000 Owned
Schiller Park, Illinois....................... 42,500 Leased April 30, 2001
Springfield, Oregon........................... 504,000 Owned
Westfield, Massachusetts...................... 448,700 Owned
Westlake (Cleveland), Ohio.................... 405,000 Owned
Winnipeg, Manitoba............................ 432,000 Owned
Woodland, California.......................... 350,000 Owned
</TABLE>
No location owned by the Company is subject to a mortgage.
In December 1983, the Company completed construction of a 150,000 square
foot addition to its regional distribution center in Manchester, New Hampshire.
This addition was financed with the proceeds from the sale of $4,000,000 State
of New Hampshire Industrial Development Authority Revenue Bonds (TruServ
Corporation Project) Series 1982. On October 1, 1997, and every three-year
period thereafter, the interest rate on the 4.50% industrial revenue bonds will
be adjusted based on a bond index. These bonds may be redeemed at face value at
either the option of the Company or the bondholders at each interest reset date
through maturity in 2003.
In 1998, the Company announced the closing of three distribution centers.
These are located in Parkesburg, Pennsylvania; Piedmont, South Carolina and
Portland, Oregon. In 1997, the Company announced the closing of four
distribution centers located in Ocala, Florida; Charleston, Illinois; Peachtree
City, Georgia; and Ft. Smith, Arkansas. The Charleston, Illinois and Ocala,
Florida properties were sold in 1998. The Fort Smith and Peachtree City
properties are under lease and are currently under a sublease. The Butler,
Pennsylvania office building was closed in 1997 and is available for sale.
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Information with respect to the Company's manufacturing facilities is set
forth below:
<TABLE>
<CAPTION>
SQUARE FEET OF
MANUFACTURING PRINCIPAL
LOCATION AREA PRODUCT INTEREST
-------- -------------- --------- --------
<S> <C> <C> <C>
Chicago, Illinois............................. 105,000 Paint Owned
Cary, Illinois................................ 580,000 Paint and Owned
Paint Applicators
</TABLE>
The Company's facilities are suitable for their respective uses and are, in
general, adequate for the Company's present needs.
The Company owns and leases transportation equipment for use at its
regional distribution centers for the primary purpose of delivering merchandise
from the Company's regional distribution centers to its Members. Additional
information concerning these leases can be found in note 5 to the consolidated
financial statements included elsewhere herein.
ITEM 3. LEGAL PROCEEDINGS.
There are no material pending legal proceedings, other than ordinary
routine litigation incidental to the business, to which the Company or any of
its subsidiaries is a party or of which any of their property is the subject.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
There is no existing market for the common stock of the Company and there
is no expectation that any market will develop. The Company's Class A common
stock is owned almost exclusively by retailers of hardware, lumber/building
materials and related products each of whom is a Member of the Company and
purchases sixty shares of the Company's Class A common stock (the only class of
voting stock) upon becoming a Member. The Company is organized as a Delaware
stock corporation and operates as a Member-owned wholesaler cooperative
corporation. The shares of the Company's Class B nonvoting common stock now
outstanding were issued to Members in partial payment of the annual patronage
dividend to which they became entitled as a result of patronage business done by
such Members with the Company. In accordance with the Company's By-Laws, the
annual patronage dividend is paid to Members out of the gross margins from
operations and other patronage source income, after deduction for expenses,
reserves and provisions authorized by the Board of Directors.
The number of holders of record (as of February 27, 1999) of each class of
stock of the Company is as follows:
<TABLE>
<CAPTION>
NUMBER OF
HOLDERS OF
RECORD
TITLE OF CLASS ----------
<S> <C>
Class A common stock, $100 Par Value........................ 8,178
Class B nonvoting common stock, $100 Par Value.............. 8,173
</TABLE>
Dividends (other than patronage dividends) on the Class A common stock and
Class B nonvoting common stock, subject to the provisions of the Company's
Certificate of Incorporation, may be declared out of gross margins of the
Company, other than gross margins from operations with or for Members and other
patronage source income, after deduction for expenses, reserves and provisions
authorized by the Board of Directors. Dividends may be paid in cash, in
property, or in shares of the common stock, subject to the
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provisions of the Certificate of Incorporation. Other than the payment of
patronage dividends, including the redemption of all nonqualified written
notices of allocation, the Company has not paid dividends on its Class A common
stock or Class B nonvoting common stock. The Board of Directors does not plan to
pay dividends on either class of stock. See the discussion of patronage
dividends under Item 1--Business.
ITEM 6. SELECTED FINANCIAL DATA.
SELECTED FINANCIAL DATA
<TABLE>
<CAPTION>
FOR THE FISCAL YEARS
------------------------------------------------------------------
1998 1997 1996 1995 1994
---------- ---------- ---------- ---------- ----------
(IN THOUSANDS EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C> <C>
Revenues........................... $4,328,238 $3,331,686 $2,441,707 $2,437,002 $2,574,445
Gross margins...................... 298,135 241,020 196,636 202,068 223,331
Net margins(a)..................... 20,480 42,716 52,410 59,037 60,318
Patronage dividends................ 35,024 43,782 53,320 60,140 60,421
Total assets....................... 1,600,764 1,438,913 853,985 819,576 868,785
Long-term debt..................... 316,959 169,209 80,145 79,213 75,756
Promissory (subordinated) and
installment notes payable........ 124,422 172,579 185,366 186,335 199,099
Redeemable Class A common stock.... 49,880 47,423 4,876 5,294 6,370
Redeemable Class B nonvoting common
stock............................ 195,643 187,259 114,053 113,062 116,663
</TABLE>
- ---------------
(a) The net margins for fiscal years 1998 and 1997 include deductions of
$20,034,000 and $13,650,000, respectively, for non-recurring merger
integration costs.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
BUSINESS COMBINATION
On July 1, 1997, TruServ Corporation (the "Company"), formerly Cotter &
Company ("Cotter") merged with Servistar Coast to Coast Corporation ("SCC") (the
"Merger"). The transaction was accounted for using the purchase accounting
method. Accordingly, the financial information for the year ended December 31,
1998 reflects the results of the post-Merger Company and the financial
information for the year ended December 31,1997 reflects the results of the
pre-Merger Company for the twenty-six weeks ended June 28, 1997 and the results
of the post-Merger Company for the twenty-six weeks ended December 31, 1997. To
facilitate the comparison of results for 1998 and 1997, supplemental comparisons
have been provided using pro forma financial information. This pro forma
information has been prepared for comparative purposes only and does not purport
to be indicative of the results of operations that actually would have resulted
had the Merger been in effect on the dates indicated, or which may result in the
future.
<TABLE>
<CAPTION>
YEAR ENDED YEAR ENDED
DECEMBER 31, 1998 DECEMBER 31, 1997
----------------- --------------------------
ACTUAL ACTUAL PRO FORMA(1)
----------------- ---------- ------------
(000'S OMITTED)
<S> <C> <C> <C>
Revenue.............................................. $4,328,238 $3,331,686 $4,224,215
Gross margin......................................... 298,135 241,020 284,356
Warehouse, general and administrative expense........ 204,520 148,767 175,774
Interest expense..................................... 55,100 36,965 43,459
Merger integration cost.............................. 20,034 13,650 --
Net margin........................................... 20,480 42,716 67,357
</TABLE>
- ---------------
(1) Assumes the Merger was consummated at January 1, 1997.
9
<PAGE> 11
FISCAL YEAR 1998 COMPARED TO FISCAL YEAR 1997
RESULTS OF OPERATIONS
Revenues in fiscal year 1998 totaled $4,328,238,000. This represented an
increase of $996,552,000 or 29.9% compared to the comparable period last year.
The increase was primarily due to the addition of Servistar Coast to Coast
revenues that resulted from the July 1, 1997 merger of Cotter and SCC. The
departments with the largest increase are the lumber/building material
department, manufactured products, and the Canadian business. In the hardware
department the largest increase was reflected in the direct shipment categories
with TruServ Members responding to improved pricing programs.
Gross margins increased by $57,115,000 or 23.7% but as a percentage of
revenues decreased to 6.9% from 7.2% for the comparable period last year. This
is the seventh year in a row that the gross margin as a percentage of revenue
has decreased. The decrease in gross margin percentage resulted primarily from a
change in the sales mix. The change in sales mix consisted of large volume
increases in Lumber/Building Materials and Direct Shipments, which have lower
gross margins. Pricing improvements resulted in lower direct shipment markups
and a lower pricing on manufactured products.
Warehouse, general and administrative expenses as a percentage of revenues
increased to 4.7% from 4.5% compared with the prior year. The Company incurred
additional warehousing expenses in association with commonizing inventory
assortments, increased inventory levels, and the implementation of the
distribution network strategy. Many of the potential cost efficiencies related
to the Merger have not yet been realized and costs should be reduced as the
Merger strategy is further implemented.
Certain estimates of warehouse, general and administrative expenses are
recorded throughout the year including expenses related to capitalizable
inventory related costs and other expense items. During the fourth quarter of
fiscal 1998, the Company recorded approximately $60,000,000 of net reductions in
warehouse, general and administrative expenses relating to the refinement of
these estimates recorded in the prior three quarters.
Interest paid to Members decreased by $1,475,000 or 8.3% primarily due to a
lower average interest rate and lower principal balance. Other interest expense
increased $19,610,000 due to higher borrowings compared to the same period last
year. The higher borrowings were required because of the increased cash
requirement resulting from the merger and increased inventory levels. The
effective borrowing rate for 1998 was lowered due to the renegotiation of the
rates since the date of the Merger. The Company is required to meet certain
financial ratios and covenants pertaining to certain debt arrangements. The
Company's lenders have waived compliance with a covenant as of December 31, 1998
in lieu of amendments to the debt agreements, which were finalized by the
Company during the first quarter of 1999.
The combination of increased gross margins, offset by increased expenses
and increased borrowing costs, resulted in a net margin before Merger
integration costs of $40,514,000 in fiscal year 1998 compared to $56,366,000 in
fiscal year 1997. Merger integration costs consist of one time non-recurring
expenses directly attributable to the Merger including distribution center
closings, severance pay, information systems costs and general and
administrative costs. Merger integrations costs were $20,034,000 and $13,650,000
for fiscal years 1998 and 1997, respectively. The net margin after Merger
integration cost was $20,480,000 and $42,716,000 for fiscal year 1998 and 1997,
respectively.
ACTUAL FISCAL 1998 COMPARED TO PRO FORMA FISCAL 1997
RESULTS OF OPERATIONS
Revenues for the fiscal year totaled $4,328,238,000. This represented an
increase of $104,023,000 or 2.5% compared to the prior year on a pro forma
basis. The increase was attributable to revenue increases in lumber/ building
materials and direct shipments.
Gross margins increased by $13,779,000 or 4.8% and as a percentage of
revenues, increased to 6.9% from 6.7% for the prior year on a pro forma basis.
The increased gross margins came about primarily from the increase in revenue
along with a reduction in the estimated capitalizable inventory-related costs.
10
<PAGE> 12
Warehouse, general and administrative expenses increased by $28,746,000 or
16.4% and as a percentage of revenues increased to 4.7% from 4.2% for the prior
year on a pro forma basis. The Company incurred additional warehousing expenses
in association with commonizing inventory assortments, increased inventory
levels, and the implementation of the distribution network strategy. Many of the
potential cost efficiencies related to the Merger have not yet been realized and
costs should be reduced as the Merger strategy is further implemented.
Interest expense increased from $43,459,000 to $55,100,000 primarily due to
higher short-term borrowings because of the increased cash requirement resulting
from increased inventory levels.
Integration costs consist of costs associated with the implementation of
the Merger plan.
The combination of increased gross margin partially offset by higher
warehouse, general and administrative expense and higher interest expense,
resulted in a net margin of $20,480,000 compared to $67,357,000 for the prior
year on a pro forma basis.
FISCAL YEAR 1997 COMPARED TO FISCAL YEAR 1996
RESULTS OF OPERATIONS
In fiscal year 1997, TruServ Corporation revenues were $3,331,686,000, an
increase of 36.4% from fiscal year 1996. The majority of the increase was due
directly to the addition of SCC revenues since the July 1, 1997 Merger. The
department with the largest increase is the lumber/building material department
which is directly connected to the enhanced lumber program effective with the
Merger. In the hardware segment the largest increase was reflected in the direct
shipment categories with TruServ Members responding to the improved pricing
programs. Additionally, TruServ Corporation continued to pursue business
opportunities such as trueAdvantage, which increased 3.3% and the Canadian
business which increased 6.6%.
Overall gross margins as a percentage of revenues decreased for the sixth
year in a row to 7.2% from 8.1% last year. The reduction in the gross margin
percent was due to a combination of changes in sales mix, pricing improvements
and conforming accounting policies. The change in sales mix consisted of large
volume increases in lumber/building materials and direct shipments, which have
lower gross margins. Pricing improvements resulted in lower direct shipment
markups and a lower pricing on manufactured products.
Warehouse, general and administrative expenses as a percentage of revenues
were 4.5%, the lowest in over 10 years. The decrease in operating expenses was
attributable to continued efforts to reduce operating costs.
Certain estimates of warehouse, general and administrative expenses are
recorded throughout the year including expenses related to capitalizable
inventory-related costs and other expense items. During the fourth quarter of
fiscal 1997, the Company recorded approximately $4,000,000 of net reductions in
warehouse, general and administrative expenses relating to the refinement of
these estimates recorded in the prior three quarters and cost recoveries from
manufacturers of approximately $8,000,000 related to the Fall market.
Interest paid to Members decreased by $595,000 or 3.2% primarily due to a
lower average interest rate and the lower principal balance. Other interest
expense increased $8,925,000 due to higher borrowings compared to the same
period last year. The higher borrowings were required because of the increased
cash requirements and inventory levels resulting from the Merger. The effective
borrowing rate was lower due to the renegotiations of the rates since the date
of the Merger.
As a result, the net margin before Merger integration costs is $56,366,000
in fiscal year 1997 compared to $52,410,000 in fiscal year 1996. Merger
integration costs of $13,650,000 consist of one time non-recurring expenses
directly attributable to the Merger including distribution center closings,
severance pay, information systems costs and general and administrative costs.
These one time costs reduced the net margin to $42,716,000 for the year ended
December 31, 1997.
11
<PAGE> 13
LIQUIDITY AND CAPITAL RESOURCES
Cash and cash equivalents decreased from $2,224,000 at December 31, 1997 to
$1,650,000 at December 31, 1998. The decrease was primarily due to the cash
requirements of the Company's operating activities. Cash used for operating
activities was $102,092,000 for the year ended December 31, 1998 compared to
cash provided for operating activities of $19,771,000 for the year ended
December 31, 1997. The decrease resulted from an increase in accounts and notes
receivable of $69,585,000 due to the seasonal payment terms extended to the
Company's Members. During fiscal year 1998, inventories increased by $52,572,000
to support anticipated future orders of seasonal merchandise, the commonization
of inventory and the implementation of the Distribution Network Strategic plan..
Cash flows used for investing activities were $44,011,000. Total capital
expenditures, including those made under capital leases, were $71,343,000 for
the fiscal year 1998 compared to $38,493,000 during the comparable period in
1997. These capital expenditures relate to additional equipment and
technological improvements at the regional distribution centers and at the
corporate headquarters, in addition to capital requirements resulting from the
Merger. Funding of 1999 capital expenditures is anticipated to come from
operations and external sources, if necessary. Proceeds from the sale of
properties were $32,645,000. The Charleston, Illinois and Ocala, Florida
distribution centers were sold in 1998. The Harvard, Illinois distribution
center was also sold in 1998 and is currently being leased back to the company.
The cash flows used for operating and investing activities were funded by
various financing activities. The financing activities provided cash flow of
$145,529,000. Short-term borrowings increased by $42,680,000. The Company's
long-term borrowings increased by $158,821,000. At July 1, 1997, the Company had
established a $300,000,000 five-year revolving credit facility with a group of
banks. In addition, on September 30, 1998, the Company established a
$100,000,000 three hundred sixty four day revolving credit facility. The
borrowings under these agreements were $227,000,000 and $210,000,000 at December
31, 1998 and December 31, 1997, respectively. A commitment fee of .025% per
annum is paid on the unused portion of the commitments. Also the Company has
borrowings from a Commercial Paper program of $25,000,000 at December 31, 1998.
The weighted average interest rate on these borrowings was 6.0% and 6.4%,
respectively. Included in the financing activities were payments for patronage
dividends of $12,142,000 and payments of debt obligations of $41,966,000.
At December 31, 1998, net working capital increased to $241,533,000 from
$175,975,000 at December 31, 1997. The current ratio was 1.26 at December 31,
1998 and 1.20 at December 31, 1997.
The Company's capital is primarily derived from Class A common stock and
retained earnings, together with promissory (subordinated) notes and nonvoting
Class B common stock issued in connection with the Company's annual patronage
dividend. The Company believes the funds derived from these capital resources,
as well as operations and the credit facilities noted above, will be sufficient
to satisfy capital needs.
YEAR 2000
A portion of the Company's information systems are not "Year 2000 Ready".
The definition of the term "Year 2000 Readiness" is that neither performance nor
functionality, to the best of our knowledge, is affected by dates prior to,
during or after the Year 2000: In particular (1) No value for current date will
cause any interruption in operation, (2) Date-based functionality must behave
consistently for dates prior to, during and after year 2000, (3) In all
interfaces and data storage, the century in any date must be specified either
explicitly or by unambiguous algorithms or inferencing rules, (4) Year 2000 must
be recognized as a leap year. This means that the Company will need to incur
certain costs to modify these systems prior to the Year 2000 in order to ensure
that those systems continue to serve the needs of the Company and its
Membership. Based upon current FASB guidelines, costs incurred to modify systems
to be Year 2000 Ready must be expensed. Accordingly, such costs will reduce
patronage dividends in years in which they are incurred.
12
<PAGE> 14
The Company relies on both information technology and non-information
technology computer systems in its operations. The mission critical information
technology systems include the Company's operating, telecommunications and
accounting systems. The non-information technology computer systems include such
items as security systems, elevators and climate control at all warehouse
locations and remote facilities.
There can be no assurance that all systems needing modification prior to
the Year 2000 will be properly and timely completed by the Company or third
parties. Failure to do so could have a material adverse effect on the Company's
financial condition. The Company cannot predict the actual effects on the
Company of all Year 2000 issues because of a number of uncertainties such as:
(1) whether major third parties address this issue properly and timely and (2)
whether broad-based economic failures may occur. The Company is currently
unaware of any events, trends, or conditions regarding this issue that may have
a material effect on the Company's results of operations, liquidity or financial
position. If the Year 2000 issue is not resolved by January 1, 2000 the adverse
affect on the Company's results of operations or financial condition could be
material.
TruServ has established a corporate-wide Year 2000 program to help assure
that TruServ is able to conduct business in a Year 2000 compliant environment.
As a part of this effort, we are requiring our suppliers to assess their ability
to continue trading with the Company as we approach the new millennium. In
addition, the Company is planning to establish an alternative supplier plan in
the event our key vendors have difficulty providing product to us. The program
is on schedule for a completion date of July 1, 1999. The Year 2000 budget has
been established at $16,900,000. Actual costs to date are $12,144,000. The
approximate percentage of the Year 2000 costs to the total Information Services
budget is 14%. The source of these funds will be provided by the normal
operating and financing activities of TruServ Corporation.
The expense for the Year 2000 program is as follows:
<TABLE>
<S> <C>
1996................................................... $ 1.0 million
1997................................................... $ 3.2 million
1998................................................... $ 7.9 million
1999................................................... $ 4.6 million projected
2000................................................... $ 0.2 million projected
-----------------------
Total.................................................. $16.9 million
=======================
</TABLE>
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company's operations are subject to certain market risks, primarily
interest rate risk and credit risk. Interest rate risk pertains to the Company's
variable rate debt which totals approximately $200 million at December 31, 1998.
A 50 basis point movement in the interest rates would result in an approximate
$1 million annualized increase or decrease in interest expense and cash flows.
For the most part, interest rate risk is managed through a combination of
variable and fixed-rate debt instruments with varying maturities. Credit risk
pertains mostly to the Company's trade receivables. The Company extends credit
to its members as part of its day-to-day operations. The Company believes that
as no specific receivable or group of receivables comprises a significant
percentage of total trade accounts, its risk in respect to trade receivables is
limited. Additionally, the Company believes that its allowance for doubtful
accounts is adequate in respect to member credit risks.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
The Company's consolidated financial statements and report of independent
auditors are listed on Page F-1.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
None.
13
<PAGE> 15
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
The directors and senior and executive officers of the Company are:
<TABLE>
<CAPTION>
POSITION(S) HELD AND
NAME AGE BUSINESS EXPERIENCE
---- --- --------------------
<S> <C> <C>
Donald C. Belt..................... 52 Senior Vice President, Strategic and Business Initiatives
since July, 1997. Prior position was with SCC as Senior
Vice President, Marketing and Strategic Planning since
1985.
Joe W. Blagg....................... 49 Director since April, 1996. Term expires April, 2001.
James D. Burnett................... 63 Director since April, 1998. Term expires April, 2000.
Daniel T. Burns.................... 48 Senior Vice President and General Counsel since July, 1997.
Vice President and General Counsel since November, 1990 and
Corporate Secretary since February, 1995.
William M. Claypool, III........... 76 Director since March, 1970. Term expires April, 2000.
Daniel A. Cotter................... 64 Chairman since July, 1997; Chief Executive Officer since
January 1983, President from January 1983 to June 1997, and
Director since September, 1989. Term expires April, 2001.
Bernard D. Day..................... 51 Senior Vice President, Lumber/Building Materials since
July, 1997. Prior position was Senior Vice President of
Lumber/Building Materials for SCC.
Jay B. Feinsod..................... 55 Director since July, 1997. Term expires April, 2001.
Formerly Director of SCC since October, 1986.
William M. Halterman............... 51 Director since June, 1990. Term expires April, 1999.
Nominated by the Board of Directors for reelection to a
three-year term.
William H. Hood.................... 59 Director since July, 1997. Term expires April, 2000.
Formerly Director of SCC since July, 1996.
James D. Howenstine................ 55 Director since July, 1997. Term expires April, 1999.
Formerly Director of SCC since October, 1995. Nominated by
the Board of Directors for reelection to a three-year term.
Donald J. Hoye..................... 50 President and Chief Operating Officer since January, 1999.
Director since January 1999. Term expires April, 2002.
Executive Vice President, Business Development since July,
1997. Prior position was with SCC as Executive Vice
President.
Jerrald T. Kabelin................. 61 Director since April, 1985. Term expires April, 1999.
Nominated by the Board of Directors for reelection to a
three-year term.
Peter G. Kelly..................... 55 Vice Chairman and Director since July, 1997. Term expires
April, 1999. Formerly Director and Chairman of SCC since
January, 1981. Nominated by the Board of Directors for
reelection to a three-year term.
</TABLE>
14
<PAGE> 16
<TABLE>
<CAPTION>
POSITION(S) HELD AND
NAME AGE BUSINESS EXPERIENCE
---- --- --------------------
<S> <C> <C>
Kerry J. Kirby..................... 52 Executive Vice President, Finance and Chief Financial
Officer since July, 1997. Prior position was Vice Presi-
dent, Treasurer and Chief Financial Officer.
Robert J. Ladner................... 53 Vice Chairman and Director since April, 1994. Term expires
April, 1999. Nominated by the Board of Directors for
reelection to a three-year term. Formerly chairman of the
Company.
Eugene J. O'Donnell................ 52 Executive Vice President, Merchandising since July 1997.
Prior position was with SCC as Executive Vice President.
Robert Ostrov...................... 50 Senior Vice President, Human Resources since February,
1997. Prior position was Vice President of Human Re-
sources and Benefits Organization for a retail company.
Brian T. Schnabel.................. 46 Executive Vice President, Business Development since
October, 1998. Prior position was President, and Chief
Executive Officer for a manufacturing company.
John P. Semkus..................... 53 Senior Vice President, Operations since July, 1997. Prior
position was Vice President Distribution and Transporta-
tion.
George V. Sheffer.................. 46 Director since July, 1994. Term expires April, 2000.
Dennis A. Swanson.................. 59 Director since April, 1995. Term expires April, 2001.
Timothy N. Troy.................... 52 Executive Vice President, Logistics since October, 1998.
Prior position was Vice President, Full Line Store Logis-
tics for a retail company.
John B. Wake, Jr. ................ 43 Director since July, 1997. Term expires April, 2000.
Formerly Director of SCC since May, 1996.
John M. West, Jr. ................. 46 Director since October, 1991. Term expires April, 2001.
Barbara B. Wilkerson............... 50 Director since July, 1997. Term expires April, 2001.
Formerly Director of SCC since October, 1986.
</TABLE>
- ---------------
During the past five years, the principal occupation of each director of the
Company, other than Daniel A. Cotter and Donald J. Hoye, was the operation of
retail hardware stores or lumber/building materials stores.
ITEM 11. EXECUTIVE COMPENSATION.
COMPENSATION COMMITTEE
The Management Development and Compensation Committee of the Board of
Directors (the "Committee") consists of four non-employee directors: James D.
Howenstine, Jerrald T. Kabelin, Peter G. Kelly and Robert J. Ladner. In
addition, Daniel A. Cotter, Chairman of the Board of Directors, and Chief
Executive Officer, served as an ex-officio member of the Committee. The
Committee assists the Board of Directors in fulfilling its responsibilities for
setting and administering the policies which govern annual compensation and
monitoring the Company's pension and certain other benefit plans. The Committee
calls upon outside consultants for assistance, as necessary.
The Committee meets at least annually. Primary responsibilities of the
Committee include:
- Establishing the Chairman and President's salary and annual and long-term
incentive opportunities.
- Approving other executive officer salaries recommended by the President.
- Setting performance goals for the annual and long-term incentive plans.
15
<PAGE> 17
- Assessing performance achievement relative to goals and approving
incentive payments.
The Committee makes recommendations to the Board of Directors regarding
compensation of the Company's executive officers. The philosophy of the
Committee is to maintain an executive compensation program to help the Company
attract, retain and motivate the executive resources needed to maintain industry
leadership, provide high levels of service to Members, and achieve the financial
objectives as determined by the Board of Directors.
To achieve its stated goals, the Company has developed three executive
compensation policies.
- The Company provides levels of salaried compensation that are
competitive.
- The Company provides annual incentive compensation for executives that
vary in a consistent and predictable manner with the performance of the
Company.
- The Company provides an incentive program which enables selected
executives to achieve incentive awards based on the long-term (multiple
year) performance of the Company.
The combination of these three compensation policies is intended to provide
competitive earnings opportunities when performance reaches desired levels. Both
the annual and long-term incentive plans are cancelable by the Board of
Directors at any time.
The Company provides salary levels that are competitive with the median
(50th percentile) of the executive marketplace. The industry comparison groups
used to evaluate competitiveness include: member owned organizations, wholesale
distribution firms, mass merchandising firms and general industry and
manufacturing organizations. Competitiveness is measured using data from a
number of sources, including published information, proxies and surveys by
consulting firms.
The annual incentive plan is designed to ensure that executive compensation
varies in relation to achievement of annual performance goals. Each executive's
incentive award is determined by Company results and individual goals.
The long-term incentive plan assures a continuing focus on the Company's
future. Goals are set for performance achievement over three-year intervals. A
new performance period starts each year and goals for each three-year cycle
currently underway are related to achievement of financial goals.
Both the Chairman and the CEO are eligible for the annual and long-term
incentive compensation programs described above, consistent with the Company's
policy of linking variable compensation to Company performance and achievement
of specific individual goals. Variable compensation realized from these
incentive programs comprises a significant portion of their annual remuneration.
In addition, the Chairman and CEO each receive a base salary competitive with
similar positions within like industries.
16
<PAGE> 18
EXECUTIVE COMPENSATION
The following table sets forth the total annual compensation paid to the
Company's five most highly compensated executive officers during fiscal year
1998 and the total compensation paid to each such individual for the Company's
two previous fiscal years:
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
NAME AND OTHER LONG-TERM
PRINCIPAL POSITION YEAR SALARY(1) BONUS(2) COMPENSATION(3) INCENTIVE(4)
------------------ ---- --------- -------- --------------- ------------
<S> <C> <C> <C> <C> <C>
Daniel A. Cotter........................ 1998 $655,000 $ -- $ 29,786 $ --
Chairman of the Board and 1997 612,500 345,000 13,100 843,750
Chief Executive Officer 1996 575,000 310,500 6,656 --
Paul E. Pentz(5)........................ 1998 555,000 -- 165,595 --
President and Chief Operating Officer 1997 262,500 240,000 539,700 52,500
1996 -- -- -- --
Donald J. Hoye.......................... 1998 408,750 -- 58,395 --
Executive Vice President, 1997 180,000 144,300 89,000 29,880
Business Development 1996 -- -- -- --
Eugene J. O'Donnell..................... 1998 355,302 75,000 58,395 --
Executive Vice President, 1997 170,000 149,500 128,700 28,000
Merchandising 1996 -- -- -- --
Kerry J. Kirby.......................... 1998 310,125 -- 17,892 --
Executive Vice President, Finance and 1997 295,000 215,600 12,700 174,900
Chief Financial Officer 1996 262,500 85,100 5,719 --
</TABLE>
- ---------------
(1) Fiscal 1997 salary for Paul E. Pentz, Donald J. Hoye and Eugene J. O'Donnell
is for the period from July 1, 1997 to December 31, 1997.
(2) Annual bonus amounts are earned and accrued during the fiscal years
indicated, and paid subsequent to the end of each fiscal year. In 1997
special one-time bonuses were granted for the successful completion of the
merger.
(3) Other compensation consists of Company contributions to the TruServ
Corporation Employee's Savings and Compensation Deferral Plan (the "Savings
Plan") and automobile allowances. Under the Savings Plan, each participant
may elect to make a contribution in an amount of up to fifteen percent (15%)
of his annual compensation, not to exceed $30,000 (including Company
contributions) a year, of which $10,000 of the executive officer's salary in
fiscal year 1998 may be deferred. The Company's contribution to the Savings
Plan is equal to seventy-five percent (75%) of the participant's
contribution, but not to exceed four and one-half percent (4 1/2%) of the
participant's annual compensation.
In 1998 other compensation for Mr. Pentz consists primarily of a transition
bonus and vacation benefits of $75,000 and $54,327, respectively. For both
Mr. Hoye and Mr. O'Donnell the 1998 other compensation consists primarily of
a transition bonus of $40,000 that each of them received.
In 1997 other compensation for Mr. Pentz consists primarily of life
insurance premiums payable under his executive retirement plan and
relocation payments of $427,697 and $76,569 respectively. Mr. Hoye's 1997
other compensation consists of $61,491 for relocation payments. Mr.
O'Donnell's 1997 other compensation consists of $87,430 for relocation
payments.
(4) Long-term incentives for each open three year cycle were computed as of the
effective date of the merger and paid on a pro-rata basis during the fiscal
year.
Daniel A. Cotter is employed under a long-term contract which commenced
January 1, 1985 for a period of 15 years terminating December 31, 1999. Mr.
Cotter has announced that he plans to retire at the end of December 1999.
(5) Paul E. Pentz retired on December 31, 1998.
17
<PAGE> 19
The Company has a severance policy providing termination benefits based
upon annual compensation and years of service. Officers of the Company are also
offered agreements providing for severance in the event of termination with the
imposition of certain restrictions regarding competition and confidentiality.
No loans were made by the Company to its executive officers or to its
directors during the last three fiscal years.
LONG-TERM PERFORMANCE CASH AWARDS
The Board of Directors adopted a long-term incentive plan for the officers
of the Company. Officers are eligible for cash payouts based on a percentage of
their annual salary if performance goals established for the plan are met.
Performance goals for the current plans relate to the achievement of financial
goals of sales growth, net earnings and cash flow.
A new plan starts each year with goals set for the next three year period.
Target payouts which could be earned by the individuals listed in the Summary
Compensation Table in fiscal year 2000 and paid in fiscal year 2001 are as
follows: Daniel A. Cotter at 60%; Donald J. Hoye, Eugene J. O'Donnell and Kerry
J. Kirby at 50%.
DEFINED BENEFIT RETIREMENT PLANS
The Company has a defined benefit pension plan, the TruServ Corporation
Defined Lump Sum Pension Plan (the "Plan"), which is qualified under the Code.
The Plan was amended and restated effective January 1, 1996. The amount of the
Company's annual contribution to the Plan is determined for the total of all
participants covered by the Plan, and the amount of payment with respect to a
specified person is not and cannot readily be separated or individually
calculated by the actuaries for the Plan. The Plan provides fully vested lump
sum benefits to eligible employees who have served a minimum of five years of
service. Annuities are also available and are the actuarial equivalent of the
lump sum payment. Each of the executive officers listed in the foregoing Summary
Compensation Table is a participant in the Plan.
For each year of service, a participant receives a percentage of his or her
"average compensation" in the form of a lump sum. The percentages range from two
percent of average compensation for years of service performed prior to age 26,
to twelve percent of average compensation for years of service performed at or
after age 61. Participants with average compensation in excess of two-thirds of
the Social Security Taxable Wage Base in the year of termination of employment
or retirement receive an additional benefit on this excess compensation equal to
half of the percentage applied to their full average compensation. Participants
who were age 50 with at least fifteen years of service as of January 1, 1996
receive an additional 25% of their average compensation. The benefits under the
Plan cannot be less than benefits already earned by the participant under the
Plan as it existed prior to its amendment.
The Plan was amended effective January 2, 1998 to include former employees
of SERVISTAR/Coast to Coast. These employees get credit under the Plan for all
years for which they received credit under the SERVISTAR/Coast to Coast
Retirement Income Plan ("the SERVISTAR Plan"). In addition, any of these
employees who had attained age 50 and completed 15 years of service as of
January 1, 1998 receive an additional 25% of their average compensation. Also,
the benefits under this Plan cannot be less than benefits already earned by the
participant under the SERVISTAR Plan as of December 31, 1997.
"Average compensation" means the average of the compensation paid to an
eligible employee during the three highest consecutive calendar years within the
ten consecutive calendar years immediately preceding the date of termination of
employment. Compensation considered in determining benefits includes salary,
overtime pay, commissions, bonuses, deferral contributions under the Savings
Plan, and pre-tax medical premiums.
The Company amended and restated effective July 24, 1998, a Supplemental
Retirement Plan (the "Supplemental Plan") for certain employees as designated by
the Company's President and Chief Executive Officer. The Plan was amended on
July 1, 1997 to include certain former SCC employees. For each year of
18
<PAGE> 20
service, participants receive a percentage of their "average compensation" in
the form of a lump sum. The percentages are 33 percent of average compensation
for years of service performed prior to age 55, to
18.1
<PAGE> 21
42 percent of average compensation for years of service performed at or after
age 55. Service is limited to 20 years, and the maximum aggregate percentage is
660%. This amount is reduced by any benefits payable under the Plan and eight
times the participant's primary Social Security benefit. "Average Compensation"
for the Supplemental Plan is defined the same as for the Plan, as discussed
above. The benefits under the Supplemental Plan cannot be less than benefits
already earned by the participant under the Supplemental Plan as it existed
prior to its amendment.
The Supplemental Plan is not a qualified plan under the Code. Benefits
payable under the Supplemental Plan will be financed through internal
operations. The estimated annual retirement benefits which may be payable
pursuant to the Plan to the officers named in the Summary Compensation Table is
currently limited under Section 401(a)(17) of the Code, which outlines the
maximum earnings amounts which may be considered under the Plan in determining
retirement benefits. This limit was $160,000 for 1998. Section 415 of the Code
outlines the maximum annual benefit which may be payable from the Plan during
the year; the dollar limit is $130,000 for 1999 for a participant retiring at
age 65, with reduced amounts at younger ages. The actuarial equivalent of the
annual amount may be payable as a lump sum.
The following table reflects the combined estimated annual retirement
benefits which may be payable pursuant to the Plan and the Supplemental Plan to
the officers named in the Summary Compensation Table at retirement under various
assumed conditions, assuming retirement at age 65.
<TABLE>
<CAPTION>
YEARS OF SERVICE
AVERAGE --------------------------------------------------------
COMPENSATION 10 15 20 25 30
- ------------------------------------------ -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C>
$1,000,000................................ $365,211 $507,994 $571,132 $571,132 $571,132
900,000................................. 328,043 456,225 512,726 512,726 512,726
800,000................................. 290,876 404,456 454,320 454,320 454,320
700,000................................. 253,708 352,687 395,914 395,914 395,914
600,000................................. 216,541 300,918 337,507 337,507 337,507
500,000................................. 179,373 249,148 279,101 279,101 279,101
400,000................................. 142,205 197,379 220,695 220,695 220,695
300,000................................. 105,038 145,610 162,289 162,289 162,289
200,000................................. 67,870 93,841 103,882 103,882 103,882
100,000................................. 30,703 42,072 45,476 45,476 45,476
</TABLE>
The present credited years of service for the officers listed in the above
table are as follows: Daniel A. Cotter, 32 years; Paul E. Pentz, 20 years;
Donald J. Hoye, 28 years; Eugene J. O'Donnell, 6 years; Kerry J. Kirby, 23
years.
There is no existing market for the Company's common stock and there is no
expectation that any market will develop. There are no broad market or peer
group indexes the Company believes would render meaningful comparisons.
Accordingly, a performance graph of the Company's cumulative total shareholder
return for the previous five years, with a performance indicator of the overall
stock market for the Company's peer group, has not been prepared.
In fiscal year 1998 directors of the Company were each paid $2,000 per
month and advisory board members received $1,000 per month. The two Vice
Chairmen of the Board are each paid to a maximum of $54,000 per year, when
serving in the capacity as Vice Chairmen.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
As of February 28, 1999, each of the directors of the Company was the
beneficial owner of 60 shares of Class A common stock of the Company comprising
.3% of such shares issued and outstanding. No executive officer owns any shares
of Class A common stock.
The directors own in the aggregate approximately .5% of Class B nonvoting
common stock as of February 28, 1999. No executive officer owns any shares of
Class B nonvoting common stock.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
[None]
19
<PAGE> 22
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.
(A) 1. FINANCIAL STATEMENTS
The consolidated financial statements listed in the accompanying
index (page F-1) to the consolidated financial statements are filed
as part of this annual report.
2. FINANCIAL STATEMENT SCHEDULES
No schedules have been filed because the required information is not
applicable or is not material or because the required information is
included in the consolidated financial statements or the notes
thereto.
3. EXHIBITS
The exhibits listed on the accompanying index to exhibits (pages E-1
and E-2) are filed as part of this annual report.
(B) REPORTS ON FORM 8-K
None.
20
<PAGE> 23
SIGNATURES
PURSUANT TO THE REQUIREMENTS OF SECTION 13 OR 15 (D) OF THE SECURITIES
EXCHANGE ACT OF 1934, THE REGISTRANT HAS DULY CAUSED THIS ANNUAL REPORT TO BE
SIGNED ON ITS BEHALF BY THE UNDERSIGNED, THEREUNTO DULY AUTHORIZED.
TRUSERV CORPORATION
By: /s/ KERRY J. KIRBY
--------------------------------------
Kerry J. Kirby,
Executive Vice President and
Chief Financial Officer
DATED: March 30, 1999
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES EXCHANGE ACT OF 1934, THIS
ANNUAL REPORT HAS BEEN SIGNED BELOW BY THE FOLLOWING PERSONS ON BEHALF OF THE
REGISTRANT AND IN THE CAPACITIES AND ON THE DATES INDICATED.
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
--------- ----- ----
<C> <S> <C>
/s/ DANIEL A. COTTER Chairman, Chief Executive March 30, 1999
- ----------------------------------------------------- Officer and Director
Daniel A. Cotter
/s/ DONALD J. HOYE President, Chief Operating March 30, 1999
- ----------------------------------------------------- Officer and Director
Donald J. Hoye
/s/ KERRY J. KIRBY Executive Vice President and March 30, 1999
- ----------------------------------------------------- Chief Financial Officer
Kerry J. Kirby
/s/ JOE W. BLAGG Director March 30, 1999
- -----------------------------------------------------
Joe W. Blagg
/s/ JAMES D. BURNETT Director March 30, 1999
- -----------------------------------------------------
James D. Burnett
/s/ WILLIAM M. CLAYPOOL, III Director March 30, 1999
- -----------------------------------------------------
William M. Claypool, III
/s/ JAY B. FEINSOD Director March 30, 1999
- -----------------------------------------------------
Jay B. Feinsod
/s/ WILLIAM M. HALTERMAN Director March 30, 1999
- -----------------------------------------------------
William M. Halterman
/s/ WILLIAM H. HOOD Director March 30, 1999
- -----------------------------------------------------
William H. Hood
/s/ JAMES D. HOWENSTINE Director March 30, 1999
- -----------------------------------------------------
James D. Howenstine
/s/ JERRALD T. KABELIN Director March 30, 1999
- -----------------------------------------------------
Jerrald T. Kabelin
</TABLE>
21
<PAGE> 24
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
--------- ----- ----
<C> <S> <C>
/s/ PETER G. KELLY Director March 30, 1999
- -----------------------------------------------------
Peter G. Kelly
/s/ ROBERT J. LADNER Director March 30, 1999
- -----------------------------------------------------
Robert J. Ladner
/s/ GEORGE V. SHEFFER Director March 30, 1999
- -----------------------------------------------------
George V. Sheffer
/s/ DENNIS A. SWANSON Director March 30, 1999
- -----------------------------------------------------
Dennis A. Swanson
/s/ JOHN B. WAKE, JR. Director March 30, 1999
- -----------------------------------------------------
John B. Wake, Jr.
/s/ JOHN M. WEST, JR. Director March 30, 1999
- -----------------------------------------------------
John M. West, Jr.
/s/ BARBARA B. WILKERSON Director March 30, 1999
- -----------------------------------------------------
Barbara B. Wilkerson
</TABLE>
22
<PAGE> 25
ITEM 14(A). INDEX TO CONSOLIDATED FINANCIAL STATEMENTS.
<TABLE>
<CAPTION>
PAGE(S)
-------
<S> <C>
Report of Independent Auditors.............................. F-2
Consolidated Balance Sheet at December 31, 1998 and December
31, 1997.................................................. F-3
Consolidated Statement of Operations for each of the three
years in the period ended December 31, 1998............... F-4
Consolidated Statement of Cash Flows for each of the three
years in the period ended December 31, 1998............... F-5
Consolidated Statement of Capital Stock and Retained
Earnings for each of the three years in the period ended
December 31, 1998......................................... F-6
Notes to Consolidated Financial Statements.................. F-7 to F-19
</TABLE>
F-1
<PAGE> 26
REPORT OF INDEPENDENT AUDITORS
To the Members and the Board of Directors
TruServ Corporation
We have audited the accompanying consolidated balance sheet of TruServ
Corporation (formerly Cotter & Company) as of December 31, 1998 and 1997, and
the related consolidated statements of operations, cash flows, and capital stock
and retained earnings for each of the three years in the period ended December
31, 1998. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our 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 financial statements referred to above present fairly,
in all material respects, the consolidated financial position of TruServ
Corporation at December 31, 1998 and 1997 and the consolidated results of its
operations and its cash flows for each of the three years in the period ended
December 31, 1998, in conformity with generally accepted accounting principles.
/s/ ERNST & YOUNG LLP
Chicago, Illinois
March 25, 1999
F-2
<PAGE> 27
TRUSERV CORPORATION
CONSOLIDATED BALANCE SHEET
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31,
1998 1997
------------ ------------
(000'S OMITTED)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents................................. $ 1,650 $ 2,224
Accounts and notes receivable, net........................ 537,811 476,527
Inventories............................................... 595,118 543,946
Other current assets...................................... 36,047 16,092
---------- ----------
Total current assets.............................. 1,170,626 1,038,789
Properties, less accumulated depreciation................... 255,405 241,236
Goodwill, net............................................... 117,468 107,711
Other assets................................................ 57,265 51,177
---------- ----------
Total assets...................................... $1,600,764 $1,438,913
========== ==========
LIABILITIES AND CAPITALIZATION
Current liabilities:
Accounts payable.......................................... $ 492,729 $ 455,906
Accrued expenses.......................................... 73,092 116,659
Short-term borrowings..................................... 258,147 215,467
Current maturities of notes, long-term debt and capital
lease obligations...................................... 90,618 62,640
Patronage dividend payable in cash........................ 14,507 12,142
---------- ----------
Total current liabilities......................... 929,093 862,814
Long-term debt, including capital lease obligations......... 316,959 169,209
Capitalization:
Promissory (subordinated) and installment notes........... 124,422 172,579
Class A common stock, net of subscriptions receivable;
authorized 750,000 shares; issued and fully paid
379,680 and 387,240 shares; issued 178,020 shares and
149,875 shares (net of receivable of $5,890,000 and
$6,289,000)............................................ 49,880 47,423
Class B nonvoting common stock and paid-in capital;
authorized 4,000,000 shares; issued and fully paid
1,748,326 and 1,681,934 shares; issuable as partial
payment of patronage dividends 195,118 and 177,655
shares................................................. 195,643 187,259
Deferred patronage........................................ (14,438) --
Retained earnings......................................... 579 685
---------- ----------
356,086 407,946
Accumulated other comprehensive income.................... (1,374) (1,056)
---------- ----------
Total capitalization.............................. 354,712 406,890
---------- ----------
Total liabilities and capitalization.............. $1,600,764 $1,438,913
========== ==========
</TABLE>
See Notes to Consolidated Financial Statements.
F-3
<PAGE> 28
TRUSERV CORPORATION
CONSOLIDATED STATEMENT OF OPERATIONS
<TABLE>
<CAPTION>
FOR THE YEARS ENDED
------------------------------------------
DECEMBER 31, DECEMBER 31, DECEMBER 28,
1998 1997 1996
------------ ------------ ------------
(000'S OMITTED)
<S> <C> <C> <C>
Revenues................................................. $4,328,238 $3,331,686 $2,441,707
---------- ---------- ----------
Cost and expenses:
Cost of revenues....................................... 4,030,103 3,090,666 2,245,071
Warehouse, general and administrative.................. 204,520 148,767 115,457
Interest paid to Members............................... 16,390 17,865 18,460
Other interest expense................................. 38,710 19,100 10,175
Gain on sale of properties............................. (954) (990) --
Other income, net...................................... (1,642) (1,688) (228)
Income tax expense..................................... 597 1,600 362
---------- ---------- ----------
4,287,724 3,275,320 2,389,297
---------- ---------- ----------
Net margins before merger integration costs.............. 40,514 56,366 52,410
Merger integration costs................................. 20,034 13,650 --
---------- ---------- ----------
Net margins.............................................. $ 20,480 $ 42,716 $ 52,410
========== ========== ==========
</TABLE>
See Notes to Consolidated Financial Statements.
F-4
<PAGE> 29
TRUSERV CORPORATION
CONSOLIDATED STATEMENT OF CASH FLOWS
<TABLE>
<CAPTION>
FOR THE YEARS ENDED
--------------------------------------------
DECEMBER 31, DECEMBER 31, DECEMBER 28,
1998 1997 1996
------------ ------------ ------------
(000'S OMITTED)
<S> <C> <C> <C>
Operating activities:
Net margins........................................... $ 20,480 $ 42,716 $ 52,410
Adjustments to reconcile net margins to cash and cash
equivalents from operating activities:
Depreciation and amortization...................... 32,452 25,451 20,561
Provision for losses on accounts and notes
receivable....................................... 2,808 2,361 3,201
Changes in operating assets and liabilities -- net
of acquisition in 1997:
Accounts and notes receivable.................... (69,585) 47,288 (38,581)
Inventories...................................... (52,572) (33,953) (32,243)
Accounts payable................................. 36,823 (28,464) (10,593)
Other current assets............................. (19,795) 1,277 (2,337)
Accrued expenses................................. (50,498) (35,463) (2,563)
Other adjustments, net............................. (2,205) (1,442) 536
--------- --------- --------
Net cash and cash equivalents provided by (used
for) operating activities..................... (102,092) 19,771 (9,609)
--------- --------- --------
Investing activities:
Additions to properties owned......................... (70,733) (38,493) (23,530)
Proceeds from sale of properties owned................ 32,645 2,628 3,151
Changes in other assets............................... (5,923) (8,494) (1,388)
--------- --------- --------
Net cash and cash equivalents used for investing
activities.................................... (44,011) (44,359) (21,767)
--------- --------- --------
Financing activities:
Payment of patronage dividend......................... (12,142) (20,619) (18,315)
Payment of notes, long-term debt and lease
obligations........................................ (41,966) (179,363) (40,271)
Proceeds from long-term borrowings.................... 158,821 102,897 1,693
Increase in short-term borrowings..................... 42,680 142,755 67,937
Purchase of common stock.............................. (3,618) (24,585) (660)
Proceeds from sale of Class A common stock............ 1,754 4,065 181
--------- --------- --------
Net cash and cash equivalents provided by
financing activities.......................... 145,529 25,150 10,565
--------- --------- --------
Net increase (decrease) in cash and cash equivalents.... (574) 562 (20,811)
Cash and cash equivalents at beginning of year.......... 2,224 1,662 22,473
--------- --------- --------
Cash and cash equivalents at end of year................ $ 1,650 $ 2,224 $ 1,662
========= ========= ========
</TABLE>
See Notes to Consolidated Financial Statements.
F-5
<PAGE> 30
TRUSERV CORPORATION
CONSOLIDATED STATEMENT OF CAPITAL STOCK AND RETAINED EARNINGS
<TABLE>
<CAPTION>
COMMON STOCK ACCUMULATED
$100 PAR VALUE OTHER TOTAL
------------------- DEFERRED RETAINED COMPREHENSIVE COMPREHENSIVE
CLASS A CLASS B PATRONAGE EARNINGS INCOME INCOME
------- -------- --------- -------- ------------- -------------
(000'S OMITTED)
<S> <C> <C> <C> <C> <C> <C>
Balances at December 30,
1995...................... $ 5,294 $113,062 $ -- $ 2,661 $ (842)
Net margins............... 52,410 $52,410
Foreign currency
translation
adjustment............. 2 2
Patronage dividend........ 8,645 (53,320)
Stock subscriptions....... 189
Stock purchased and
retired................ (607) (7,654)
------- -------- -------- -------- ------- -------
Balances at December 28,
1996...................... 4,876 114,053 -- 1,751 (840) $52,412
=======
Net margins............... 42,716 $42,716
Foreign currency
translation
adjustment............. (216) (216)
Patronage dividend........ 26,304 (43,782)
Stock issued for increase
in Class A
requirements........... 23,100 (23,100)
Stock issued for paid-up
subscriptions.......... 8,386
Stock issued due to
acquisition, net of
stock subscription
receivable............. 13,608 117,067
Stock purchased and
retired................ (2,547) (47,065)
------- -------- -------- -------- ------- -------
Balances at December 31,
1997...................... 47,423 187,259 -- 685 (1,056) $42,500
=======
Net margins............... 20,480 $20,480
Foreign currency
translation
adjustment............. (318) (318)
Patronage dividend........ 19,512 (14,438) (20,586)
Stock issued for increase
in Class A
requirements........... 781 (781)
Stock issued for paid-up
subscriptions.......... 6,637
Stock purchased and
retired................ (4,961) (10,347)
------- -------- -------- -------- ------- -------
Balances at December 31,
1998...................... $49,880 $195,643 $(14,438) $ 579 $(1,374) $20,162
======= ======== ======== ======== ======= =======
</TABLE>
Class A common stock amounts are net of unpaid amounts of $5,890,000
relating to 178,020 issued shares at December 31, 1998, $6,289,000 relating to
149,875 issued shares at December 31, 1997 and $1,000 at December 28, 1996 and
December 30, 1995 for 290 and 240 subscribed shares, respectively.
See Notes to Consolidated Financial Statements.
F-6
<PAGE> 31
TRUSERV CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. DESCRIPTION OF BUSINESS AND ACCOUNTING POLICIES
TruServ Corporation ("TruServ" or the "Company") is a Member-owned
wholesaler of hardware, lumber/building materials and related merchandise. The
Company also manufactures paint and paint applicators. The Company's goods and
services are sold predominantly within the United States, primarily to retailers
of hardware, lumber/building materials and related lines, each of whom has
purchased 60 shares per store (up to a maximum of 5 stores) of the Company's
Class A common stock upon becoming a Member. The Company operates in a single
industry as a Member-owned wholesaler cooperative. All Members are entitled to
receive patronage dividend distributions from the Company on the basis of gross
margins of merchandise and/or services purchased by each Member. In accordance
with the Company's By-laws, the annual patronage dividend is paid to Members out
of gross margins from operations and other patronage source income, after
deduction for expenses and provisions authorized by the Board of Directors.
On July 1, 1997, TruServ Corporation, formerly Cotter & Company ("Cotter"),
merged with ServiStar Coast to Coast Corporation ("SCC") (the "Merger"). SCC was
a hardware wholesaler with a strong presence in retail lumber and building
materials. The transaction was accounted for using the purchase accounting
method. The Consolidated Balance Sheet reflects the post-Merger Company. The
Consolidated Statements of Operations and Cash Flows for the year ended December
31, 1998 reflect the results of the post-Merger Company. The Consolidated
Statements of Operations and Cash Flows for the year ended December 31, 1997
reflect the results of the post-Merger Company, which include the results of the
former SCC since July 1, 1997. The Consolidated Statements of Operations and
Cash Flows for the year ended December 28, 1996 reflect the results of the
pre-Merger Company.
The significant accounting policies of the Company are summarized below:
BUSINESS COMBINATION
On July 1, 1997, pursuant to an Agreement and Plan of Merger dated December
9, 1996 between Cotter, a Delaware corporation, and SCC, SCC merged with and
into Cotter, with Cotter being the surviving corporation. Cotter was renamed
TruServ Corporation effective with the Merger. Each outstanding share of SCC
common stock and SCC Series A stock (excluding those shares canceled pursuant to
Article III of the Merger Agreement) were converted into the right to receive
one fully paid and nonassessable share of TruServ Class A common stock and each
two outstanding shares of SCC preferred stock were converted into the right to
receive one fully paid and non-assessable share of TruServ Class B common stock.
A total of 270,500 and 1,170,670 shares of TruServ Class A common stock and
Class B common stock, respectively, were issued in connection with the Merger.
Also 231,000 additional shares of TruServ Class A common stock were issued in
exchange for Class B common stock to pre-Merger stockholders of Cotter to
satisfy the Class A common stock ownership requirement of 60 shares per store
(up to a maximum of 5 stores) applicable to such Members as a result of the
Merger.
The following summarized unaudited pro forma operating data for the years
ended December 31, 1997, and December 28, 1996, are presented in the right hand
column giving effect to the Merger as if it had been consummated at the
beginning of the period. These pro forma results have been prepared for
comparative purposes only and do not purport to be indicative of the results of
operations that actually would have resulted had the combination been in effect
on the dates indicated, or which may result in the future. The pro forma results
exclude one-time non-recurring charges or credits directly attributable to the
transaction.
The pro forma adjustments consist of (i) amortization of the estimated
excess of cost over fair value of the net assets of SCC, (ii) interest expense
on promissory notes issued to former SCC Members for excess
F-7
<PAGE> 32
TRUSERV CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
Class B common stock in connection with the Merger, (iii) interest expense on
short-term borrowings obtained in connection with the Merger and (iv)
incremental differences in depreciation expense.
<TABLE>
<CAPTION>
FOR THE YEARS ENDED
--------------------------------------------
DECEMBER 31, DECEMBER 31, DECEMBER 28,
1998 1997 1996
------------ ------------ ------------
AUDITED PRO FORMA PRO FORMA
(000'S OMITTED)
<S> <C> <C> <C>
Revenues................................................ $4,328,238 $4,224,215 $4,211,579
Net margin before merger integration costs.............. $ 40,514 $ 67,357 70,293
</TABLE>
To refinance the existing debt of SCC and pay related fees and expenses,
the Company entered into a revolving loan agreement of up to $300,000,000 in
short-term credit facilities with a group of banks and $100,000,000 of long-term
debt.
The total purchase price of approximately $141,400,000 was allocated to
assets and liabilities of the Company based on the estimated fair value as of
the date of acquisition. The allocation was based on preliminary estimates,
which were revised in 1998. The excess of consideration paid over the estimated
fair value of net assets acquired in the amount of $121,706,000 has been
recorded as goodwill and is being amortized on a straight-line basis over forty
years. Amortization of goodwill was approximately $3,000,000 and $1,500,000 for
the years ended December 31, 1998 and 1997, respectively.
In connection with the purchase business combination, an estimated
liability of $38,200,000 was recognized for costs associated with the Merger
plan. During 1998, an adjustment was recorded reducing this liability and
goodwill by $2,500,000. The Merger plan specifies the elimination of certain
former SCC employment positions, approximately 1,500 in total, substantially
within one year. As of December 31, 1998, approximately 88 percent of these
employees have been terminated resulting in a $11,800,000 charge against the
liability. The Merger plan specifies the closure of four redundant former SCC
distribution centers substantially within a one-year period. Distribution center
closing costs include net occupancy and other costs after facilities are
vacated. As of December 31, 1998, two distribution centers have been closed and
$2,100,000 relating to distribution center closing costs has been charged
against the liability. As of December 31, 1998, additional costs of $17,800,000
related to moving and relocation and the closure of the former SCC headquarters
have been charged against the liability. The remaining liability balance at
December 31, 1998 of $4,000,000 is for costs expected to be incurred by the
third quarter of 1999 in connection with elimination of the remaining employment
positions and closing the remaining two distribution centers. Merger integration
costs of $20,034,000 and $13,650,000 for the years ended December 31, 1998 and
1997, respectively, consist of one time non-recurring expenses directly
attributable to the Merger including distribution center closings, severance
pay, information service costs and general and administrative costs.
Consolidation
The consolidated financial statements include the accounts of the Company
and all wholly owned subsidiaries. The consolidated financial statements also
include the accounts of Cotter Canada Hardware and Variety Cooperative, Inc., a
Canadian Member-owned wholesaler of hardware, variety and related merchandise,
in which the Company has a majority equity interest.
Capitalization
The Company's capital (Capitalization) is derived from Class A voting
common stock and retained earnings, together with promissory (subordinated)
notes and Class B nonvoting common stock issued in connection with the Company's
annual patronage dividend. The By-laws provide for partially meeting the
Company's capital requirements by payment of the year-end patronage dividend.
F-8
<PAGE> 33
TRUSERV CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
Patronage Dividend
Patronage dividends, consisting of substantially all of the Company's
patronage source income, have been paid since 1949. In accordance with the
Merger Agreement, patronage dividends earned through June 30, 1997 were declared
and paid to former Cotter & Company Members in August 1997. Patronage dividends
earned from July 1, 1997 through December 31, 1997 were declared and paid to
TruServ Members in the first quarter of 1998. Patronage dividends earned for
fiscal year 1998 were declared and will be paid to TruServ Members in the first
quarter of 1999 with at least 30 percent of the patronage dividend paid in cash
and the remainder paid through the issuance of the Company's Class B nonvoting
common stock. The Class B nonvoting common stock for December 31, 1998 and 1997,
patronage dividend will be and have been, respectively, designated as
non-qualified notices of allocation and are not taxable to the Member until
redeemed at a future date. The non-qualified notices in addition to not being
taxable will be included as part of a Member's required investment in Class B
nonvoting common stock. Any further distributions after meeting the Class B
nonvoting common stock requirements agreed upon in the Merger Agreement will be
in cash rather than in promissory notes. TruServ follows the practice of
accounting for deferred patronage charges and credits as a separate component of
capitalization. Deferred patronage consists of net charges and expenses
primarily related to the merger integration process which are included in the
computation of net margin in different periods for financial statement purposes
than for patronage purposes.
Membership may be terminated without cause by either the Company or the
Member upon ninety days' written notice. In the event membership is terminated,
the Company undertakes to purchase, and the Member is required to sell to the
Company, all of the Member's Class A common stock and Class B nonvoting common
stock at par value. Payment for the Class A common stock will be in cash.
Payment for the qualified Class B nonvoting common stock will be a note payable
in five equal annual installments.
Cash equivalents
The Company classifies its temporary investments in highly liquid debt
instruments, with an original maturity of three months or less, as cash
equivalents.
Inventories
Inventories are stated at the lower of cost, determined on the 'first-in,
first-out' basis, or market.
Properties
Properties are recorded at cost. Depreciation and amortization are computed
by using the straight-line method over the following estimated useful lives:
buildings and improvements - 10 to 40 years; machinery and warehouse, office and
computer equipment - 5 to 10 years; transportation equipment - 3 to 7 years; and
leasehold improvements - the life of the lease without regard to options for
renewal.
Goodwill
Goodwill represents the excess of cost over the fair value of net assets
acquired and is amortized using the straight-line method over 40 years.
Asset Impairment
For purposes of determining impairment, management groups long-lived assets
based on a geographic region or revenue producing activity as appropriate. Such
review includes, among other criteria, management's estimate of future cash
flows for the region or activity. If the estimated future cash flows
(undiscounted and without interest charges) were not sufficient to recover the
carrying value of the long-lived assets, including
F-9
<PAGE> 34
TRUSERV CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
associated goodwill, of the region or activity, such assets would be determined
to be impaired and would be written down to fair value. There was no asset
impairment as of December 31, 1998.
Start-up Costs
In April 1998, the AICPA issued SOP 98-5, Reporting the Costs of Start-up
Activities. The SOP is effective beginning on January 1, 1999, and requires that
start-up costs capitalized prior to January 1, 1999 be written-off and any
future start-up costs to be expensed as incurred. The unamortized balance of
start-up costs will be written off as a cumulative effect of an accounting
change as of January 1, 1999 and will result in a reduction of 1999 net margins
of approximately $6,500,000.
Revenue Recognition
The Company recognizes revenue when merchandise is shipped or services are
rendered.
Retirement plans
The Company sponsors two noncontributory defined benefit retirement plans
covering substantially all of its employees. Company contributions to
union-sponsored defined contribution plans are based on collectively bargained
rates times hours worked. The Company's policy is to fund annually all
tax-qualified plans to the extent deductible for income tax purposes.
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 amounts reported in the financial statements and
accompanying notes. Actual results could differ from those estimates.
Reclassification
Certain prior year amounts have been reclassified to conform to the 1998
presentation.
Reporting year
The Company's reporting year-end was changed to December 31 from the
Saturday closest to December 31 starting December 31, 1997.
2. INVENTORIES
Inventories consisted of:
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31,
1998 1997
------------ ------------
(000'S OMITTED)
<S> <C> <C>
Manufacturing inventories:
Raw materials............................................. $ 4,331 $ 4,878
Work-in-process and finished goods........................ 46,942 29,241
-------- --------
51,273 34,119
Merchandise inventories..................................... 543,845 509,827
-------- --------
$595,118 $543,946
======== ========
</TABLE>
F-10
<PAGE> 35
TRUSERV CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
3. PROPERTIES
Properties consisted of:
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31,
1998 1997
------------ ------------
(000'S OMITTED)
<S> <C> <C>
Buildings and improvements.................................. $216,765 $240,700
Machinery and warehouse equipment........................... 96,513 92,832
Office and computer equipment............................... 151,515 113,386
Transportation equipment.................................... 40,013 28,470
-------- --------
504,806 475,388
Less accumulated depreciation............................... 263,668 248,168
-------- --------
241,138 227,220
Land........................................................ 14,267 14,016
-------- --------
$255,405 $241,236
======== ========
</TABLE>
4. LONG-TERM DEBT AND BORROWING ARRANGEMENTS
Long-term debt consisted of:
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31,
1998 1997
------------ ------------
(000'S OMITTED)
<S> <C> <C>
Senior Notes:
8.60%..................................................... $ 40,000 $ 44,000
7.38%..................................................... 50,000 50,000
6.91%..................................................... 25,000 25,000
6.85%..................................................... 105,000 --
6.79%..................................................... 50,000 --
6.73%..................................................... 25,000 25,000
Variable term loan (6.21% and 6.84%, respectively).......... 6,200 6,200
Redeemable (subordinated) term notes:
Fixed Interest rates ranging from 5.15% to 7.47%.......... 28,655 29,511
Industrial Revenue Bonds (4.50%)............................ 4,000 4,000
Other, including capital lease obligations.................. 9,456 3,936
-------- --------
343,311 187,647
Less amounts due within one year............................ 26,352 18,438
-------- --------
$316,959 $169,209
======== ========
</TABLE>
The principal payments for the 8.60 percent senior note are due quarterly
in incrementally increasing amounts through maturity in 2007, payments on the
7.38 percent senior note are due annually in the amount of $4,545,000 starting
in 2002 through maturity in 2012, the 6.91 percent senior note payments are due
annually in the amount of $3,571,000 starting November 2001 until maturity in
2007, the 6.85 percent senior note payment are due annually in the increasing
amounts starting January 2002 through maturity in July 2008, the 6.79 percent
senior note payments are due annually in the amount of $10,000,000 starting June
2006 until June 2010, and the 6.73% senior note is due in full in November 2002.
Payment on the variable term loan is due in 1999.
F-11
<PAGE> 36
TRUSERV CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
The redeemable (subordinated) term notes have two to four year terms and
are issued in exchange for promissory (subordinated) notes that were held by
promissory note holders, who do not own the Company's Class A common stock. They
are also available for purchase by investors that are affiliated with the
Company.
On October 1, 1997, and every three-year period thereafter, the interest
rate on the industrial revenue bonds will be adjusted based on a bond index.
These bonds may be redeemed at face value at the option of either the Company or
the bondholders at each interest reset date through maturity in 2003.
Total maturities of long-term debt for fiscal years 1999, 2000, 2001, 2002,
2003 and thereafter are $26,352,000, $18,777,000, $11,342,000, $49,750,000,
$32,385,000 and $204,705,000, respectively.
At July 1, 1997, the Company had established a $300,000,000 five-year
revolving credit facility with a group of banks. In addition, on September 30,
1998, the Company established a $100,000,000 three-hundred-sixty-four day
revolving credit facility. The borrowings under these agreements were
$227,000,000 and $210,000,000 at December 31,1998 and December 31, 1997,
respectively. A commitment fee of .025 percent per annum is paid on the unused
portion of the commitments. Also, the Company has borrowings from a Commercial
Paper program of $25,000,000 at December 31, 1998. The weighted average interest
rate on these borrowings was 6.0 percent and 6.4 percent, respectively.
The Company is required to meet certain financial ratios and covenants
pertaining to certain debt arrangements. The Company's lenders have waived
compliance with one covenant as of December 31, 1998 in lieu of amendments to
the debt agreements which were finalized by the Company during the first quarter
of 1999.
See note 7 regarding the fair value of financial instruments.
5. LEASE COMMITMENTS
The Company rents buildings and warehouses, office, computer and
transportation equipment under operating and capital leases. The following is a
schedule of future minimum lease payments under capital and long-term
non-cancelable operating leases, together with the present value of the net
minimum lease payments as of December 31, 1998:
<TABLE>
<CAPTION>
CAPITAL OPERATING
------- ---------
(000'S OMITTED)
<S> <C> <C>
1999................................................... $ 4,004 $ 19,536
2000................................................... 3,317 18,047
2001................................................... 1,082 15,308
2002................................................... 766 13,383
2003................................................... 558 12,363
Thereafter............................................. 844 80,215
------- --------
Net minimum lease payments.................................. $10,571 $158,852
========
Less amount representing interest........................... 1,865
-------
Present value of net minimum lease payments................. 8,706
Less amount due within one year............................. 3,433
-------
$ 5,273
=======
</TABLE>
Capitalized leases expire at various dates and generally provide for
purchase options but not renewals. Purchase options provide for purchase prices
at either fair market value or a stated value which is related to lessor's book
value at expiration of the lease term. During 1998, the Company entered into an
agreement for the sale and leaseback of its Harvard facility. The $2,139,000
gain realized on the sale has been deferred and
F-12
<PAGE> 37
TRUSERV CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
will be amortized over the 15-year lease term. The lease commenced in November
1998, and has annual payments of approximately $2,700,000.
Rent expense under operating leases was $28,291,000, $19,890,000 and
$14,971,000 for the years ended December 31, 1998, December 31, 1997 and
December 28, 1996, respectively.
6. CAPITALIZATION
Promissory (subordinated) and installment notes consisted of:
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31,
1998 1997
------------ ------------
(000'S OMITTED)
<S> <C> <C>
Promissory (subordinated) notes -
Due on December 31, 1998--7.47%........................... $ -- $ 14,252
Due on December 31, 1998--8.00%........................... -- 25,128
Due on December 31, 1999--7.86%........................... 13,871 14,104
Due on December 31, 1999--8.00%........................... 23,361 23,809
Due on December 31, 1999--8.20%........................... 21,804 22,528
Due on December 31, 2000--6.50%........................... 22,157 22,493
Due on December 31, 2000--7.42%........................... 14,366 14,951
Due on December 31, 2000--7.58%........................... 27,711 28,357
Due on December 31, 2001--5.74%........................... 15,785 --
Due on December 31, 2001--8.06%........................... 22,821 23,567
Term (subordinated) notes
Due on June 30, 2002--8.06%............................... 13,001 13,334
Installment notes at interest rates of
4.75% to 8.20% with maturities through 2002............... 13,811 14,258
-------- --------
188,688 216,781
Less amounts due within one year............................ 64,266 44,202
-------- --------
$124,422 $172,579
======== ========
</TABLE>
Promissory notes were issued for partial payment of the annual patronage
dividend. Promissory notes are subordinated to indebtedness to banking
institutions, trade creditors and other indebtedness of the Company as specified
by its Board of Directors. Due to a change in the Company's patronage policy
effective in 1997, notes will no longer be issued as part of the patronage
dividend. Prior experience indicates that the maturities of a significant
portion of the notes due within one year are extended, for a three year period,
at interest rates substantially equivalent to competitive market rates of
comparable instruments. The Company anticipates that this practice of extending
notes will continue.
Total maturities of promissory and installment notes for fiscal years 1999,
2000, 2001 and 2002 are $64,266,000, $68,304,000, $41,570,000, and $14,548,000
respectively.
Term notes were issued in connection with the redemption of excess B stock.
Term notes are subordinated to indebtedness to banking institutions, trade
creditors and other indebtedness of the Company as specified by its Board of
Directors.
See note 7 regarding the fair value of financial instruments.
F-13
<PAGE> 38
TRUSERV CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
7. FAIR VALUE OF FINANCIAL INSTRUMENTS
Due to the uncertainty of the ultimate maturities of the promissory
(subordinated) notes, management believes it is impracticable to estimate their
fair value. The carrying amounts of the Company's other financial instruments
approximate fair value. Fair value was estimated using discounted cash flow
analyses, based on the Company's incremental borrowing rate for similar
borrowings.
8. INCOME TAXES
Significant components of the provision (benefit) for income taxes are as
follows:
<TABLE>
<CAPTION>
FOR THE YEARS ENDED
--------------------------------------------------
DECEMBER 31, DECEMBER 31, DECEMBER 28,
1998 1997 1996
------------ ------------ ------------
(000'S OMITTED)
<S> <C> <C> <C>
Current:
State............................................. $ 710 $ 491 $237
Foreign........................................... 290 343 275
------ ------ ----
Total current..................................... 1,000 834 512
------ ------ ----
Deferred:
Federal........................................... -- 703 (147)
State............................................. -- 124 (26)
Foreign........................................... (403) (61) 23
------ ------ ----
Total deferred.................................... (403) 766 (150)
------ ------ ----
$ 597 $1,600 $362
====== ====== ====
</TABLE>
The Company operates as a nonexempt cooperative and is allowed a deduction
in determining its taxable income for amounts paid as qualified patronage
dividend based on margins from business done with or for Members and for the
redemption of nonqualified notices of allocation. The reconciliation of income
tax expense to income tax computed at the U.S. federal statutory tax rate of 35
percent in fiscal year 1998, 1997 and 1996 is as follows:
<TABLE>
<CAPTION>
FOR THE YEARS ENDED
--------------------------------------------------
DECEMBER 31, DECEMBER 31, DECEMBER 28,
1998 1997 1996
------------ ------------ ------------
(000'S OMITTED)
<S> <C> <C> <C>
Tax at U.S. statutory rate.......................... $ 7,377 $ 15,511 $ 18,470
Effects of:
Patronage dividend................................ (12,258) (15,324) (18,662)
State income taxes, net of federal tax benefit.... 462 400 137
Increase in valuation allowance................... 3,714 -- --
Other, net........................................ 1,302 1,013 417
-------- -------- --------
$ 597 $ 1,600 $ 362
======== ======== ========
</TABLE>
Deferred income taxes reflect the net tax effects of net operating loss
carryforwards which expire in years through 2018; alternative minimum tax credit
carryforwards and nonqualified notices of allocations, which do not expire; and
temporary differences between the carrying amounts of assets and liabilities for
financial reporting purposes and the amounts used for income tax purposes. To
the extent tax benefits are subsequently recognized in excess of the net
deferred tax assets, approximately $28,800,000 of the reduction in the valuation
F-14
<PAGE> 39
TRUSERV CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
allowance for deferred tax assets will result in a reduction of goodwill.
Significant components of the Company's deferred tax assets and liabilities are
as follows:
<TABLE>
<CAPTION>
FOR THE YEARS ENDED
--------------------------------------------
DECEMBER 31, DECEMBER 31, DECEMBER 28,
1998 1997 1996
------------ ------------ ------------
(000'S OMITTED)
<S> <C> <C> <C>
Deferred tax assets:
Net operating loss carryforwards...................... $ 15,868 $ 9,937 $ 466
AMT credit carryforward............................... 911 911 911
Nonqualified notices of allocation.................... 16,697 6,890 --
Bad debt provision.................................... 2,049 3,305 1,298
Vacation pay.......................................... 3,122 3,225 2,119
Contributions to fund retirement plans................ 3,871 627 886
Rent expense.......................................... 2,072 1,819 --
Merger-related valuations and accruals................ 5,865 21,656 --
Other................................................. 3,752 1,280 851
-------- -------- ------
Total deferred tax assets............................... 54,207 49,650 6,531
Valuation allowance for deferred tax assets............. (33,067) (25,000) --
-------- -------- ------
Net deferred tax assets................................. 21,140 24,650 6,531
Deferred tax liabilities:
Tax depreciation in excess of book.................... 1,450 5,102 2,100
Inventory capitalization.............................. 1,725 1,725 835
Other................................................. 1,475 1,333 1,557
-------- -------- ------
Total deferred tax liabilities.......................... 4,650 8,160 4,492
-------- -------- ------
Net deferred taxes...................................... $ 16,490 $ 16,490 $2,039
======== ======== ======
</TABLE>
9. CASH FLOW
On July 1, 1997, the Company merged with SCC. The transaction was accounted
for using the purchase accounting method. The Merger was accomplished by
converting SCC shares into TruServ shares. See note 1 for additional comments.
The patronage dividend and promissory (subordinated) and redeemable
(subordinated) term note renewals relating to non-cash operating and financing
activities are as follows:
<TABLE>
<CAPTION>
FOR THE YEARS ENDED
--------------------------------------------
DECEMBER 31, DECEMBER 31, DECEMBER 28,
1998 1997 1996
------------ ------------ ------------
(000'S OMITTED)
<S> <C> <C> <C>
Patronage dividend payable in cash...................... $14,507 $ 12,142 $16,142
Promissory (subordinated) notes......................... (3,252) 7,511 15,354
Class B nonvoting common stock.......................... 9,950 (21,592) 1,248
Installment notes....................................... 5,532 11,742 4,605
Member indebtedness..................................... 8,287 29,502 15,971
------- -------- -------
$35,024 $ 39,305 $53,320
======= ======== =======
Note renewals and interest rollover..................... $24,058 $ 22,240 $28,165
======= ======== =======
</TABLE>
F-15
<PAGE> 40
TRUSERV CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
The Company's non-cash financing and investing activities in fiscal years
1998 and 1996 include, respectively, a $610,000 and $178,000 acquisition of
transportation equipment by entering into capital leases.
Cash paid for interest during fiscal years 1998, 1997 and 1996 totaled
$52,722,000, $34,693,000, and $28,694,000, respectively. Cash paid for income
taxes during fiscal years 1998, 1997 and 1996 totaled $903,000, $1,148,000 and
$694,000, respectively.
10. RETIREMENT PLANS
The change in the benefit obligation and plan assets for the Company
administered pension plans consisted of:
<TABLE>
<CAPTION>
FOR THE YEARS ENDED
----------------------------
DECEMBER 31, DECEMBER 31,
1998 1997
------------ ------------
(000'S OMITTED)
<S> <C> <C>
Change in benefit obligation:
Projected benefit obligation at beginning of year......... $189,838 $104,977
Service cost.............................................. 7,418 6,511
Interest cost............................................. 13,259 10,386
Benefit payments.......................................... (5,713) (11,818)
Actuarial losses.......................................... 25,503 9,050
Settlements............................................... (29,354) --
Business combinations..................................... -- 70,732
-------- --------
Projected benefit obligation at end of year............... 200,951 189,838
-------- --------
Change in plan assets:
Fair value of plan assets at beginning of year............ 198,170 107,954
Actual return on assets................................... 31,454 27,243
Employer contributions.................................... 2,396 4,347
Benefit payments.......................................... (5,713) (11,818)
Settlements............................................... (29,354) --
Business combinations..................................... -- 70,444
-------- --------
Fair value at end of year................................. 196,953 198,170
-------- --------
Reconciliation of Funded Status:
Funded status............................................. (3,998) 8,332
Unrecognized transition asset............................. (3,883) (5,335)
Unrecognized prior service cost........................... 7,840 8,824
Unrecognized actuarial gain............................... (6,236) (17,495)
-------- --------
Accrued benefit cost...................................... $ (6,277) $ (5,674)
======== ========
</TABLE>
F-16
<PAGE> 41
TRUSERV CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
The components of net pension cost for the Company administered pension
plans consisted of:
<TABLE>
<CAPTION>
FOR THE YEARS ENDED
--------------------------------------------
DECEMBER 31, DECEMBER 31, DECEMBER 28,
1998 1997 1996
------------ ------------ ------------
(000'S OMITTED)
<S> <C> <C> <C>
Components of net periodic pension cost:
Service cost.......................................... $ 7,418 $ 6,511 $ 4,851
Interest cost......................................... 13,259 10,386 7,623
Expected return on assets............................. (16,083) (12,677) (8,821)
Amortization of transition asset...................... (835) (835) (914)
Amortization of prior service cost.................... 984 795 593
Amortization of actuarial loss........................ -- 79 161
Settlement gain....................................... (1,745) -- (799)
-------- -------- -------
Net pension cost...................................... $ 2,998 $ 4,259 $ 2,694
======== ======== =======
</TABLE>
One of the Company's pension plans is the supplemental executive retirement
plan ("SERP"), which is an unfunded defined benefit plan. The funded status in
the table above is net of an accrued pension expense liability of $13,266,000
and $11,587,000 related to the SERP at December 31, 1998 and 1997, respectively.
The Company also participates in union-sponsored defined contribution
plans. Pension costs related to these plans were $861,000, $654,000 and $641,000
for fiscal years 1998, 1997 and 1996, respectively.
<TABLE>
<CAPTION>
PENSION BENEFITS
FOR THE YEARS ENDED
----------------------------
DECEMBER 31, DECEMBER 31,
1998 1997
------------ ------------
<S> <C> <C>
Weighted average assumptions
Discount rate....................................... 6.75% 7.25%
Expected return on assets........................... 9.50% 9.50%
Rate of compensation increase....................... 4.50% 4.50%
</TABLE>
<TABLE>
<CAPTION>
OTHER BENEFITS
FOR THE YEARS ENDED
----------------------------
DECEMBER 31, DECEMBER 31,
1998 1997
------------ ------------
<S> <C> <C>
Weighted average assumptions
Discount rate....................................... 6.75% 7.25%
Medical trend rate.................................. 5.00% 5.00%
</TABLE>
The Company sponsors a defined benefit retirement medical plan for those
SCC employees and former employees that met certain age and service criteria as
of the Merger dated July 1, 1997. The plan was frozen effective with the Merger.
The components of the retiree medical plan costs for the Company administered
plan consist of interest cost of $351,000 and a curtailment gain totaling
$1,582,000 for a $1,231,000 benefit in 1998 compared to an interest cost of
$236,000 in 1997. Accumulated post retirement benefit obligation ("APBO") of
$6,618,000 was created with the merger on July 1, 1997, interest cost in 1997
was $236,000 offset by claims paid of $201,000 and actuarial gains of $7,000 for
an APBO at December 31, 1997 of $6,646,000. Reductions to the APBO in 1998 were
a curtailment gain of $1,582,000 and claims paid of $500,000 offset by interest
cost of $351,000 and an actuarial loss of $274,000 for an APBO of $5,189,000 at
December 31, 1998. The funded status at December 31,1997 was a liability of
$6,653,000 which includes the APBO of $6,646,000 plus an unrecognized actuarial
gain of $7,000. The funded status at December 31, 1998
F-17
<PAGE> 42
TRUSERV CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
was a liability of $4,922,000 which includes the APBO of $5,189,000 offset by an
unrecognized actuarial loss of $267,000. The plan has no assets. During 1998 and
1997, the Company contributed to the plan $500,000 and $201,000, respectively,
and there were benefit payments of $500,000 and $201,000, respectively. The
effect of a 1 percent increase in the medical trend rate would increase service
and interest cost components by $17,000 and postretirement benefit obligation by
$232,000. The effect of a 1 percent decrease in the medical trend rate would
decrease service and interest cost components by $14,000 and postretirement
benefit obligation by $187,000.
11. SEGMENT INFORMATION AND OTHER NEW ACCOUNTING PRONOUNCEMENTS
In 1998, the Company adopted the Statement of Financial Accounting
Standards ("SFAS") No. 131 "Disclosure about Segments of an Enterprise and
Related Information", SFAS No. 132 "Employers' Disclosures about Pension and
Other Postretirement Benefits" and SFAS No. 130 "Reporting Comprehensive
Income."
SFAS No. 131 requires companies to report financial and descriptive
information about its reportable operating segments, including segment profit or
loss, certain specific revenue and expense items, and segment assets, as well as
information about the revenues derived from the Company's products and services,
the countries in which the Company earns revenues and holds assets, and major
customers. This statement also requires companies that have been single
reportable segment to disclose information about products and services,
information about geographic areas, and information about major customers. This
statement requires the use of the management approach to determine the
information to be reported. The management approach is based on the way
management organizes the enterprise to assess performance and make operating
decisions regarding the allocation of resources. It is management's opinion
that, at this time, the Company has several operating segments, however only one
reportable segment. The following discussion sets forth the required single
segment information:
The Company operates as a single reportable segment as the largest
Member-owned wholesaler cooperative of hardware, lumber/building materials and
related merchandise in the United States, operations outside the United States
were immaterial, with 1998 net sales of $4.3 billion. The Company's sales to its
Members are divided into three categories, as follows: (1) warehouse shipment
(approximately 40% of total sales); (2) direct shipment sales (approximately 54%
of total sales); and (3) relay sales (approximately 6% of total sales).
Warehouse shipment sales are sales of products purchased, warehoused and resold
by the Company upon orders from the Members. Direct shipment sales are sales of
products purchased by the Company but delivered directly to Members from
manufacturers. Relay sales are sales of products purchased by the Company in
response to the requests of several Members for a product which is (i) included
in future promotions, (ii) not normally held in inventory and (iii) is not
susceptible to direct shipment. Generally, the Company will give notice to all
Members of its intention to purchase products for relay shipment and then
purchases only so many of such products as the Members order. When the product
shipment arrives at the Company, it is not warehoused; rather, the Company
breaks up the shipment and "relays" the appropriate quantities to the Members
who placed orders.
F-18
<PAGE> 43
TRUSERV CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
The Company's product offerings, comprised of more than 72,000 stockkeeping
units ("SKUs"), may be divided into seven classes of merchandise which are set
forth, with their corresponding percentage of total revenues in the following
table:
<TABLE>
<CAPTION>
FOR THE FISCAL YEARS
--------------------------
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Lumber and Building Materials............................... 30.2% 24.5% 12.8%
Hardware Goods.............................................. 17.8% 19.5% 22.4%
Farm and Garden............................................. 14.5% 13.1% 13.8%
Electrical and Plumbing..................................... 13.4% 15.6% 18.2%
Painting and Cleaning....................................... 10.8% 12.0% 14.0%
Appliances and Housewares................................... 8.4% 9.4% 11.2%
Sporting Goods and Toys..................................... 4.9% 5.7% 7.8%
</TABLE>
SFAS No. 132 revises and improves disclosure requirements of SFAS No. 87
"Employers' Accounting for Pensions," No. 88 "Employers' Accounting for
Settlements and Curtailments of Defined Benefit Pension Plans and for
Termination Benefits," and No. 106 "Employers' Accounting for Postretirement
Benefits Other Than Pensions." SFAS No. 132 does not change the recognition or
measurement of pension and other postretirement benefit plans, but standardizes
disclosure requirements for pensions and other postretirement benefits,
eliminates unnecessary disclosures and requires certain additional information.
In accordance with SFAS No. 132, the Company adjusted the reporting and display
of its pension plans and postretirement benefits.
SFAS No. 130 establishes new rules for the reporting and display of
comprehensive income and its components; however, the adoption of this statement
had no impact on the Company's net margin or capitalization. Comprehensive
income (loss) consists of net margin and foreign currency translation
adjustments and is presented in the Consolidated Statement of Capital Stock and
Retained Earnings. Prior year consolidated financial statements have been
reclassified to conform with SFAS No. 130 requirements.
F-19
<PAGE> 44
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
SEQUENTIALLY
EXHIBITS NUMBERED
ENCLOSED DESCRIPTION PAGE
-------- ----------- ------------
<C> <S> <C>
21 Subsidiaries.
</TABLE>
<TABLE>
<CAPTION>
EXHIBITS
INCORPORATED
BY REFERENCE
------------
<C> <S>
2-A Agreement and Plan of Merger dated as of December 9, 1996
between the Company and ServiStar Coast to Coast Corporation
("SCC"). Incorporated by reference -- Exhibit 2-A to
Registration Statement on Form S-4 (No. 333-18397).
4-A Amended and Restated Certificate of Incorporation of the
Company, effective July 1, 1997. Incorporated by
reference--Exhibit 2-A to Registration Statement on Form S-4
(No. 333-18397).
4-B By-laws of the Company, effective July 1, 1997. Incorporated
by reference--Exhibit 2-A to Registration Statement on Form
S-4 (No. 333-18397).
4-C Specimen certificate of Class A common stock. Incorporated
by reference--Exhibit 4-A to Registration Statement on Form
S-2 (No. 2-82836).
4-D Specimen certificate of Class B common stock. Incorporated
by reference--Exhibit 4-B to Registration Statement on Form
S-2 (No. 2-82836).
4-E Promissory (subordinated) note form effective for the
year-ending December 31, 1986 and thereafter. Incorporated
by reference--Exhibit 4-H to Registration Statement on Form
S-2 (No. 33-20960).
4-F Installment note form. Incorporated by reference--Exhibit
4-F to Registration Statement on Form S-2 (No. 2-82836).
4-G Copy of Note Agreement with Prudential Insurance Company of
America dated April 13, 1992 securing 8.60% Senior Notes in
the principal sum of $50,000,000 with a maturity date of
April 1, 2007. Incorporated by reference--Exhibit 4-J to
Post-Effective Amendment No. 2 to Registration Statement on
Form S-2 (No. 33-39477).
4-H Cotter & Company $50,000,000 Private Shelf Agreement with
Prudential Insurance Company of America dated December 29,
1995 incorporating amendment on existing Note Agreement with
Prudential Insurance Company of America dated April 13, 1992
securing 8.60% Senior Notes in the principal sum of
$50,000,000 with a maturity date of April 1, 2007.
Incorporated by reference--Exhibit 4-H to Post-Effective
Amendment No. 5 to Registration Statement on Form S-2 (No.
33-39477).
4-I Trust Indenture between Cotter & Company and First Trust of
Illinois (formerly Bank of America). Incorporated by
reference--Exhibit T3C to Cotter & Company Form T-3 (No.
22-26210).
4-J Credit Agreement dated July 1, 1997 for $300,000,000
Revolving credit between TruServ Corporation, various
financial institutions, and Bank of America. Incorporated by
reference--Exhibit 4-L to Post-Effective Amendment No. 5 to
Registration Statement on Form S-4 (H3-333-18397)
4-K Amended and Restated Private Shelf Agreement between TruServ
Corporation and Prudential Insurance Company of America
dated November 13, 1997 for $150,000,000. Incorporated by
reference--Exhibit 4-M to Post-Effective Amendment No. 5 to
Registration Statement on Form S-4 (No. 333-18397)
</TABLE>
* Filed herewith
E-1
<PAGE> 45
<TABLE>
<CAPTION>
EXHIBITS
INCORPORATED
BY REFERENCE
------------
<C> <S>
4-L Credit Agreement dated September 10, 1998 for $105,000,000
Note Purchase Agreement between TruServ Corporation and
various Purchasers. Incorporated by reference--Exhibit 4-L
to Post-Effective Amendment No. 6 to Registration Statement
on Form S-4 (No. 333-183997)
4-M Participation Agreement dated April 30, 1998 for $40,000,000
between TruServ Corporation, various financial institutions
and Bank of Montreal. Incorporated by reference--Exhibit 4-M
to Post-Effective Amendment No. 6 to Registration Statement
on Form S-4 (No. 333-18397)
4-N Credit Agreement dated September 30, 1998 for $100,000,000
Revolving Credit between TruServ Corporation, various
financial institutions and Bank of America. Incorporated by
reference--Exhibit 4-N to Post-Effective Amendment No. 6 to
Registration Statement on Form S-4 (No. 333-18397)
10-A Current Form of "Retail Member Agreement with TruServ"
between the Company and its Members that offer primarily
hardware and related items. Incorporated by reference--
Exhibit 10-A to Registration Statement on Form S-4 (No.
333-18397).
10-B Current Form of "Subscription to Shares of TruServ".
Incorporated by reference--Exhibit 10-B to Registration
Statement on Form S-2 (No. 333-18397).
10-C Cotter & Company Defined Lump Sum Pension Plan (As Amended
and Restated Effective As Of January 1, 1996). Incorporated
by reference--Exhibit 10-C to Post-Effective Amendment No. 5
to Registration Statement on Form S-2 (No. 33-39477).
10-D Cotter & Company Employees' Savings and Compensation
Deferral Plan (As Amended and Restated Effective April 1,
1994). Incorporated by reference--Exhibit 10-D to
Post-Effective Amendment No. 4 to Registration Statement on
Form S-2 (No. 33-39477).
10-E Cotter & Company Supplemental Retirement Plan between Cotter
& Company and selected executives of the Company (As Amended
and Restated January 2, 1996 Effective As Of January 1,
1996). Incorporated by reference--Exhibit 10-E to
Post-Effective Amendment No. 5 to Registration Statement on
Form S-2 (No. 33-39477).
10-F Annual Incentive Compensation Program and Long-Term
Incentive Compensation Program between Cotter & Company and
selected executives of the Company. Incorporated by
reference--filed as Exhibits A and B to Exhibit 10-N to
Registration Statement on Form S-2 (No. 33-39477).
10-G Cotter & Company Long-Term Incentive Compensation Program
for Executive Management (Amended) dated November 7, 1994.
Incorporated by reference--Exhibit 10-I to Post-Effective
Amendment No. 4 to Registration Statement on Form S-2 (No.
33-39477).
10-H Employment Agreement between the Company and Daniel A.
Cotter dated October 15, 1984. Incorporated by
reference--Exhibit 10-N to Post-Effective Amendment No. 2 to
Registration Statement on Form S-2 (No. 2-82836).
10-I Amendment No. 1 to Employment Agreement between the Company
and Daniel A. Cotter dated October 15, 1984 effective
January 1, 1991. Incorporated by reference--Exhibit 10-N to
Registration Statement on Form S-2 (No. 33-39477).
10-J Contract between Daniel T. Burns and the Company.
Incorporated by reference--Exhibit 10-J to Post-Effective
Amendment No. 5 to Registration Statement on Form S-2 (No.
33-39477).
10-K Contract between Kerry J. Kirby and the Company.
Incorporated by reference--Exhibit 10-K to Post-Effective
Amendment No. 5 to Registration Statement on Form S-2 (No.
33-39477).
10-L Retail Conversion Funds Agreement dated as of December 9,
1996 between the Company and SCC. Incorporated by
reference--Exhibit 10-L to Registration Statement on Form
S-4 (No. 333-18397).
</TABLE>
E-2
<PAGE> 46
<TABLE>
<CAPTION>
SEQUENTIALLY
SUPPLEMENTAL NUMBERED
INFORMATION PAGE
- ------------ ------------
<S> <C>
</TABLE>
Supplemental Information to be Furnished with Reports Filed Pursuant to
Section 15(d) of the Act by Registrants which have not Registered Securities
Pursuant to Section 12 of the Act.
As of the date of the foregoing Report, no annual report for the
Registrant's year ended December 31, 1998 has been sent to security holders.
Copies of such Annual Report and proxy soliciting materials will subsequently be
sent to security holders and furnished to the Securities and Exchange
Commission.
E-3
<PAGE> 1
Exhibit 21
Subsidiaries of Registrant
The registrant owns 100% of the issued and outstanding Capital Stock
of TruServ Real Estate Agency, Inc., TruServ Acceptance Company, TruServ
Logistics Company, and General Paint and Manufacturing Co., all Illinois
corporations, ServiStar Paint Company and Advocate Services Incorporated, both
Pennsylvania Corporations, and indirectly through TruServ Real Estate Agency,
Inc., 100% of the issued and outstanding capital stock of True Value de Mexico,
S.A. de C.V., a Mexican Corporation, Mary Green, LLC, a Delaware Corporation,
and is the sole member of True Specialty Company, LLC. The accounts of these
subsidiaries have been consolidated with the registrant's in December 31, 1998,
and December 31, 1997.
In January 1992, the registrant formed a Canadian subsidiary, Cotter
Canada Hardware & Variety Company, Inc., owning 100% of the issued and
outstanding Capital Stock. Indirectly, through this subsidiary, the registrant
owns 100% of the issued and outstanding voting Preferred Stock of the
Canadian cooperative, Cotter Canada Hardware and Variety Cooperative,
Inc.
<TABLE> <S> <C>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> DEC-31-1997
<PERIOD-END> DEC-31-1998
<CASH> 1,650
<SECURITIES> 0
<RECEIVABLES> 537,811
<ALLOWANCES> 0
<INVENTORY> 595,118
<CURRENT-ASSETS> 1,170,626
<PP&E> 519,073
<DEPRECIATION> 263,668
<TOTAL-ASSETS> 1,600,764
<CURRENT-LIABILITIES> 929,093
<BONDS> 316,959
0
0
<COMMON> 245,523
<OTHER-SE> 124,422
<TOTAL-LIABILITY-AND-EQUITY> 1,600,764
<SALES> 4,328,238
<TOTAL-REVENUES> 4,328,238
<CGS> 4,030,103
<TOTAL-COSTS> 4,030,103
<OTHER-EXPENSES> 222,555
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 55,100
<INCOME-PRETAX> 21,077
<INCOME-TAX> 597
<INCOME-CONTINUING> 20,480
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 20,480
<EPS-PRIMARY> 0
<EPS-DILUTED> 0
</TABLE>
