<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended July 31, 1996
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from _______________
to _______________
Commission File Number 1-8281
Wherehouse Entertainment, Inc.
(Exact name of registrant as specified in its charter)
Delaware
(State or other jurisdiction of incorporation or organization)
95-2647555
(I.R.S. Employer Identification Number)
19701 Hamilton Avenue
Torrance, California 90502-1334
(Address of principal executive offices including ZIP code)
(310) 538-2314
(Registrant's telephone number, including area code)
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
registrants were required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes [ X ] No [ ]
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date.
OUTSTANDING AT
CLASS JULY 31, 1996
Common Stock, $.01 Par Value 10
Total of 23 Pages
<PAGE>
INDEX
WHEREHOUSE ENTERTAINMENT, INC.
PAGE
Part I. FINANCIAL INFORMATION
Item 1. Financial Statements
Condensed Balance Sheets -
July 31, 1996 (Unaudited) and January 31, 1996 3
Condensed Statements of Operations -
Three Months Ended July 31, 1996 and 1995 (Unaudited)
Six Months Ended July 31, 1996 and 1995 (Unaudited) 4
Condensed Statements of Cash Flows -
Six Months Ended July 31, 1996 and 1995 (Unaudited) 5
Notes to Condensed Financial Statements 6
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 11
Part II. OTHER INFORMATION
Item 1. Legal Proceedings 20
Item 6. Exhibits and Reports on Form 8-K 22
SIGNATURES 23
2
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PART I.
FINANCIAL INFORMATION
WHEREHOUSE ENTERTAINMENT, INC.
CONDENSED BALANCE SHEETS
<TABLE>
<CAPTION>
JULY 31 JANUARY 31
1996 1996
---------- ----------
(UNAUDITED) NOTE 1
<S> <C> <C>
ASSETS
Current Assets
Cash $ 7,279,000 $ 7,353,000
Receivables 1,814,000 1,583,000
Prepaid inventory deposits 5,217,000 10,880,000
Merchandise inventory 91,179,000 90,951,000
Other current assets 3,494,000 4,628,000
------------- -------------
Total current assets 108,983,000 115,395,000
Rental inventory, net 14,618,000 14,004,000
Equipment and improvements, net 31,040,000 37,687,000
Financing costs and leashold interest, net 1,019,000 641,000
Other assets 567,000 800,000
------------- -------------
Total assets $ 156,227,000 $ 168,527,000
------------- -------------
------------- -------------
LIABILITIES AND SHAREHOLDER'S EQUITY
Current liabilities
Accounts payable and accrued expenses 28,155,000 29,040,000
Current maturities of capital lease obligations
and long-term debt 2,659,000 2,655,000
------------- -------------
Total current liabilities 30,814,000 31,695,000
Capital lease obligations & long-term debt 1,074,000 1,498,000
Other long-term liabilities 10,220,000 9,494,000
Liabilities subject to compromise (Note 3) 277,412,000 278,857,000
Deferred income taxes 3,270,000 3,270,000
------------- -------------
Shareholder's Equity
Common stock, $.01 par value, 1,000 authorized,
10 issued and outstanding -- --
Additional paid-in capital 95,671,000 95,671,000
Accumulated deficit (262,234,000) (251,958,000)
------------- -------------
Total shareholder's deficit (166,563,000) (156,287,000)
------------- -------------
Total liabilities and shareholder's equity $ 156,227,000 $ 168,527,000
------------- -------------
------------- -------------
</TABLE>
See accompanying notes to Condensed Financial Statements.
3
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WHEREHOUSE ENTERTAINMENT, INC.
CONDENSED STATEMENTS OF OPERATIONS
(UNAUDITED)
<TABLE>
<CAPTION>
THREE THREE SIX SIX
MONTHS ENDED MONTHS ENDED MONTHS ENDED MONTHS ENDED
JULY 31, 1996 JULY 31, 1995 JULY 31, 1996 JULY 31, 1995
------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Sales $68,339,000 $82,613,000 $137,712,000 $164,239,000
Rental Revenue 19,331,000 22,423,000 37,449,000 44,773,000
----------- ----------- ------------ ------------
87,670,000 105,036,000 175,161,000 209,012,000
Cost of sales 44,967,000 53,707,000 89,938,000 106,068,000
Cost of rentals, including amortization 10,870,000 10,253,000 17,917,000 18,761,000
----------- ----------- ------------ ------------
55,837,000 63,960,000 107,855,000 124,829,000
Selling, general and administrative expenses 37,724,000 44,461,000 74,441,000 88,863,000
----------- ----------- ------------ ------------
Loss from operations (5,892,000) (3,385,000) (7,135,000) (4,680,000)
Interest expense 124,000 6,774,000 313,000 13,039,000
Other income (41,000) (8,000) (93,000) (130,000)
----------- ----------- ------------ ------------
Loss before reorganization items &
income taxes (5,974,000) (10,151,000) (7,355,000) (17,589,000)
Reorganization items:
Professional fees 923,000 -- 1,776,000 --
Provision for store closing costs 1,113,000 -- 1,145,000 --
----------- ----------- ------------ ------------
2,036,000 -- 2,921,000 --
----------- ----------- ------------ ------------
Loss before income taxes (8,010,000) (10,151,000) (10,276,000) (17,589,000)
Benefit for income taxes 0 0 0 0
----------- ------------ ------------ ------------
Net loss $(8,010,000) $(10,151,000) $(10,276,000) $(17,589,000)
----------- ------------ ------------ ------------
----------- ------------ ------------ ------------
</TABLE>
See accompanying notes to Condensed Financial Statements.
4
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WHEREHOUSE ENTERTAINMENT, INC.
CONDENSED STATEMENTS OF CASH FLOWS
(UNAUDITED)
<TABLE>
<CAPTION>
SIX SIX
MONTHS ENDED MONTHS ENDED
JULY 31, 1996 JULY 31, 1995
------------- -------------
<S> <C> <C>
OPERATING ACTIVITIES:
Net loss $(10,276,000) $(17,589,000)
Adjustments to reconcile net loss to net cash (used in)
provided by operating activities:
Depreciation and amortization 19,378,000 22,817,000
Book value of rental inventory dispositions 3,447,000 4,700,000
Changes in operating assets and liabilities:
Receivables (231,000) 800,000
Prepaid inventory deposits 5,663,000 0
Merchandise inventory (228,000) 15,369,000
Other current assets 1,134,000 563,000
Accounts payable, accrued expenses and
other liabilities 979,000 (22,817,000)
Liabilities subject to compromise (1,445,000) 0
Rental inventory purchases (18,530,000) (19,828,000)
------------ ------------
Net cash provided by (used in)
operating activities 1,891,000 (15,985,000)
INVESTING ACTIVITIES:
Acquisition of property, equipment and improvements (1,161,000) (5,376,000)
Increase in other assets and intangibles (384,000) (315,000)
------------ ------------
Net cash used in investing activities (1,545,000) (5,691,000)
FINANCING ACTIVITIES:
Short-term borrowings 0 28,800,000
Subordinated debenture redemptions 0 (163,000)
Principal payments on capital lease obligations
and long-term debt (420,000) (1,299,000)
------------ ------------
Net cash (used in) provided by
financing activities (420,000) 27,338,000
------------ ------------
Net increase (decrease) in cash (74,000) 5,662,000
Cash at beginning of the period 7,353,000 1,962,000
Cash as end of the period $ 7,279,000 $ 7,624,000
------------ ------------
------------ ------------
Supplemental disclosures of cash flow information:
Cash paid during the period for:
Interest $ 276,000 $ 11,274,000
Net income taxes 2,000 0
Reorganization items 2,105,000 0
</TABLE>
See accompanying notes to Condensed Financial Statements.
5
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WHEREHOUSE ENTERTAINMENT, INC.
NOTES TO CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
1. BASIS OF PRESENTATION
The accompanying condensed financial statements of Wherehouse
Entertainment, Inc. (the "Company") have been prepared by the Company without
audit. The condensed balance sheet at January 31, 1996 has been derived from
the Company's audited financial statements at that date. Certain footnote
disclosures, including significant accounting policies, normally included in
financial statements prepared in accordance with generally accepted
accounting principles have been condensed or omitted. The Company believes
that the accompanying condensed financial statements include all adjustments
(consisting only of normal, recurring adjustments) which are considered
necessary for a fair presentation. The results of operations for any interim
period may not be indicative of the results of the entire year.
It is suggested that the accompanying unaudited condensed financial
statements be read in conjunction with the financial statements and notes
included in the Company's Annual Report on Form 10-K for the year ended
January 31, 1996.
2. REORGANIZATION UNDER CHAPTER 11
On August 2, 1995 (the "Petition Date"), Wherehouse Entertainment, Inc.
(hereafter referred to as Wherehouse or the Company) and WEI Holdings, Inc.
(WEI), the Company's parent, filed voluntary petitions for reorganization
under Chapter 11 of the United States Bankruptcy Code ("Chapter 11" or the
"Bankruptcy Code") in the United States Bankruptcy Court for the District of
Delaware (the Bankruptcy Court). The Chapter 11 proceedings are being
jointly administered, with the Company managing the business in the ordinary
course as debtor-in-possession subject to the control and supervision of the
Bankruptcy Court.
Under Chapter 11 proceedings, litigation and actions by creditors to
collect certain claims in existence at the petition date (pre-petition) are
stayed, absent specific Bankruptcy Court authorization to pay such claims.
The Company believes that appropriate provisions have been made in the
accompanying financial statements for the pre-petition claims that could be
estimated at the date of these financial statements. These claims are
reflected in the July 31, 1996 balance sheet as "liabilities subject to
compromise." Additional claims (liabilities subject to compromise) may arise
subsequent to the filing date resulting from the rejection of executory
contracts, including leases, and from the determination of the court (or
agreed to by parties-in-interest) of allowed claims for contingencies and
disputed amounts. Claims secured against the Company's assets (secured
claims) are stayed, although holders of such claims have the right to
petition the court for relief from the stay.
6
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The Company received approval from the Bankruptcy Court to pay or
otherwise honor employee wages and benefits and certain other pre-petition
obligations necessary for the continuing existence of the Company prior to
approval of a plan of reorganization. Generally, unsecured debt does not
accrue interest after the petition date. In addition, the Company has
determined that there is insufficient collateral to cover the interest
portion of scheduled payments on most pre-petition debt obligations.
Therefore, the Company has discontinued accruing interest on these
obligations. Contractual interest would have been $13.0 million higher had
the Company continued to accrue interest on these obligations from February
1, 1996 through July 31, 1996.
As debtor-in-possession, the Company has the right, subject to
Bankruptcy Court approval and certain other limitations, to assume or reject
certain executory contracts, including unexpired leases. Any claim for
damages resulting from the rejection of an executory contract or an unexpired
lease is treated as a general unsecured claim in the Chapter 11 proceedings.
The Company has obtained debtor-in-possession financing from a syndicate
of financial institutions whereby a $30,000,000 revolving credit facility
("DIP facility"), which includes a letter of credit subfacility of
$10,000,000, is available to fund working capital, issue letters of credit
and make certain other payments during Chapter 11 proceedings. The DIP
facility is available through the earlier of September 1, 1997 or the
effective date of a plan of reorganization. The Company pays a commitment
fee of 1/2% on the average daily unused portion of the DIP facility. The
Company had no outstanding borrowings against the DIP facility at July 31,
1996. At July 31, 1996, the Company had $400,000 of letters of credit
outstanding.
The accompanying consolidated financial statements have been prepared on
a going concern basis, which contemplates continuity of operations,
realization of assets and liquidation of liabilities in the ordinary course
of business. However, as a result of the Chapter 11 filings, such realization
of assets and liquidation of liabilities is subject to uncertainty. While
under the protection of Chapter 11, the Company, in the normal course of
business, may sell or otherwise dispose of assets and liquidate or settle
liabilities for amounts other than those reflected in the consolidated
financial statements. Further, a plan of reorganization could materially
change the amounts and classifications reported in the consolidated
historical financial statements, which do not give effect to any adjustments
to the carrying value of assets or amounts of liabilities that might be
necessary as a consequence of a plan of reorganization. The propriety of
using the going concern basis is dependent upon, among other things,
confirmation of a plan of reorganization, which must be approved by the
creditors and confirmed by the Bankruptcy Court, and the Company's ability to
meet its business plan and generate sufficient cash flows from operations and
financial sources.
On April 29, 1996 the Company filed a proposed Plan of Reorganization
(the "Plan") with the Bankruptcy Court. The Company has until November 27,
1996 to solicit acceptances from its creditors.
While there can be no assurance that the Plan will be confirmed by the
Bankruptcy Court in exactly the form submitted, the confirmation and
consummation of the Plan would result in a substantially different capital
structure for the Company. The Plan contemplates the issuance of:
7
<PAGE>
(a) an aggregate of $20,000,000 in principal amount of 8% unsecured notes due
January 31, 2004 and (b) an aggregate of 8,000,000 shares of $.01 par value
new common stock in settlement of certain pre-petition claims.
It is probable that amendments to the Plan will be filed, some of which
may be material.
For a summary of the Plan, reference is made to Note 1 of Notes to
Financial Statements, as filed in the Company's Annual Report in Form 10-K
for the year ended January 31, 1996.
8
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3. LIABILITIES SUBJECT TO COMPROMISE
Liabilities subject to compromise include the following:
JULY 31, JANUARY 31,
1996 1996
------------ ------------
13% senior subordinated notes $110,000,000 $110,000,000
Variable rate term note and
revolving line of credit 90,961,000 92,170,000
Accrued interest 8,507,000 8,507,000
Lease rejection claims 6,000,000 6,000,000
Convertible subordinated
debentures 5,344,000 5,344,000
Trade and other miscellaneous
claims 56,600,000 56,836,000
------------ ------------
$277,412,000 $278,857,000
------------ ------------
------------ ------------
4. SUMMARY OF FINANCIAL INFORMATION OF WEI HOLDINGS, INC.
Unconsolidated summary financial information of the Company's parent,
WEI Holdings, Inc., is as follows:
JULY 31, JANUARY 31,
1996 1996
--------- ------------
(In Thousands)
Current assets $ 38 $ 38
Total assets 38 38
Current liabilities 76 76
Deficiency in investment in the
Company 166,563 156,287
Total liabilities 166,639 156,363
Redeemable common stock 3,872 3,872
Notes receivable from shareholders (660) (660)
Contingent shares (663) (663)
FOR THE SIX MONTHS ENDED
JULY 31, JULY 31,
1996 1995
--------- --------
(In Thousands)
Net Income $ 0 $ 10
9
<PAGE>
WEI holds all of the capital stock of the Company and, in turn, is
currently owned by affiliates of Merrill Lynch Capital Partners, Inc.
("MLCP") (91.8% on a fully diluted basis) and certain members of management
(8.2% on a fully diluted basis). Currently, WEI conducts no independent
operations and has no significant assets apart from its investment in the
capital stock of the Company.
On August 2, 1995, WEI filed a voluntary Petition for relief under
Chapter 11 of Title 11 of the United States Code. See Note 2 above.
10
<PAGE>
WHEREHOUSE ENTERTAINMENT, INC.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF THE
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
INTRODUCTION
This discussion should be read in conjunction with the financial
statements, related notes and Management's Discussion and Analysis of
Financial Condition and Results of Operations contained in the Company's
Annual Report on Form 10-K for the year ended January 31, 1996.
PETITION FOR RELIEF UNDER CHAPTER 11
On August 2, 1995 (the "Petition Date"), the Company and WEI, the
Company's parent, filed a voluntary petition for relief under Chapter 11 of
Title 11 of the United States Code in the United States Bankruptcy Court for
the District of Delaware in Wilmington, seeking to reorganize under Chapter
11. In Chapter 11, the Company and WEI will continue to manage their
respective affairs and operate their businesses as debtors-in-possession
while they attempt to develop a reorganization plan that will restructure and
allow their emergence from Chapter 11. As debtors-in-possession in Chapter
11, neither the Company nor WEI may engage in transactions outside of the
ordinary course of business without approval, after notice and hearing, of
the Bankruptcy Court.
As of the Petition Date, payment of pre-petition liabilities to the
senior lenders, bondholders and unsecured creditors of the Company and WEI,
and pending litigation against the Company and/or WEI are stayed while they
continue their business operations as debtors-in-possession.
As a result of the filing, the accrual of interest on the Revolving Line
of Credit, Variable Rate Term Note, 13% Senior Subordinated Notes and 6 1/4%
Convertible Subordinated Debentures was suspended effective August 1, 1995.
Interest expense on the above debt would have been $13.0 million higher had
it continued to accrue from the period of February 1, 1996 through July 31,
1996. The above debt has also become "Subject to Compromise" and has been
classified as such on the Company's balance sheet.
In accordance with the Bankruptcy Code, the Company can seek court
approval for the rejection of pre-petition executory contracts, including
real property leases. Any such rejection may give rise to a pre-petition
claim for damages pursuant to the Bankruptcy Code. In connection with the
Chapter 11 proceedings, the Company reviewed all of its store operating
results and as a consequence of that process the Company requested and
received approval to reject 63 real property leases (62 store leases and one
office lease). In addition, eight other stores have been closed since the
filing. Other property leases and certain
11
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executory contracts may be rejected in the future, subject to Bankruptcy
Court approval.
The Company has obtained lease concessions, primarily reductions in base
rent and other charges, for a number of its leases. Based upon these
reductions, the Company has obtained Court approval for the assumption of 24
renegotiated store leases since the filing. On March 25, 1996, two other
store leases were assumed prior to their sale on the same date. Other real
property leases and certain executory contracts may be assumed in the future,
subject to Bankruptcy Court approval.
As a result of the reorganization proceedings, the Company may sell or
otherwise realize assets and liquidate or settle liabilities for amounts
other than those reflected in the financial statements. Further, a plan of
reorganization could materially change the amounts currently recorded in the
financial statements. Except as noted, the financial statements do not give
effect to any adjustments to the carrying value of assets, or amounts and
classification of liabilities that might be necessary as a consequence of
these matters.
On September 25, 1995, the Company completed negotiations with Bankers
Trust Company, as Agent, for a debtor-in-possession ("DIP") financing
facility. The DIP facility provides a borrowing capacity of up to $30.0
million in revolving loans and letters of credit, subject to borrowing base
limitations based upon, among other things, the value of merchandise
inventory. The DIP facility also requires that the Company maintain certain
financial covenants and provide certain financial information on a periodic
basis. A final order authorizing borrowing on the DIP financing facility was
approved by the Bankruptcy Court on October 19, 1995. As of July 31, 1996,
the DIP financing facility was amended to modify certain financial covenants
contained therein. The Company was in compliance with all DIP facility
covenants, as amended, at July 31, 1996, or had obtained appropriate
waivers.
On April 29, 1996 the Company filed a proposed Plan of Reorganization
(the "Plan") with the Bankruptcy Court, see Note 2 to Notes to Condensed
Financial Statements, above. There can be no assurance that the Plan will be
confirmed by the Bankruptcy Court in exactly the form submitted. The Company
has until November 27, 1996 to solicit acceptances to the Plan from its
creditors.
During the period ended July 31, 1996, management approved a plan to
close an additional 20 stores in the subsequent quarter. Pursuant to that,
the Company recorded a provision for store closing costs of $1.1 million as a
reorganization item in the quarter ended July 31, 1996.
Since the filing, the Company has closed 70 stores (49 stores during
fiscal year 1996 and 21 stores during the six months ended July 31, 1996).
Total store count at July 31, 1996 was 280.
12
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RESULTS OF OPERATIONS
FOR THE QUARTERS ENDED JULY 31, 1996 AND JULY 31, 1995
Net revenues were $87.7 million and $105.0 million for the quarters
ended July 31, 1996 and 1995, respectively. The Company believes that the
decrease of $17.3 million, or 16.5%, was principally due to the closing of 53
stores during fiscal year 1996 and 21 stores during the first six months of
fiscal year 1997, as well as continued competitive and economic pressures in
certain of the Company's markets.
A summary of total net revenues, by product category, is provided below:
NET REVENUES
BY PRODUCT CATEGORY
(DOLLAR AMOUNTS IN MILLIONS)
QUARTER ENDED
JULY 31,
1996 1995
---- ----
Net Merchandise Sales:
Compact discs (including used compact discs) $47.6 $51.4
Cassettes and other music 11.5 18.5
----- ------
Total music 59.4 69.9
Sales of new videocassettes 3.7 4.3
Video game software and hardware, general
merchandise, accessories, ticket commissions
and other 5.2 8.4
----- ------
Total merchandise sales 68.3 82.6
Videocassette and other rental income 19.3 22.4
----- ------
Total revenues $87.7 $105.0
----- ------
Net merchandise sales were $68.3 million versus $82.6 million for the
quarters ended July 31, 1996 and 1995, respectively, representing an overall
decrease of 17.3%. On a same-store basis, however, net merchandise sales
declined by 6.6% during the quarter ended July 31, 1996 as compared to the
quarter ended July 31, 1995. These decreases in total and same-store net
merchandise sales are primarily attributable to the competitive and other
factors described above. Total net sales of music products, video games and
software, and accessories decreased in virtually all of the principal
categories of these products that are carried by the Company, except for
sales of used products.
13
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Rental income includes the rental of videocassettes, video games and
game players, audiocassette books, and laserdiscs; and sales of previously
viewed videocassettes and previously played video games. Approximately 229
of the Company's stores currently offer rental products. Rental income was
$19.3 million versus $22.4 million during the quarters ended July 31, 1996
and 1995, respectively, representing a decrease of $3.1 million or 13.8%. On
a same-store basis, rental income decreased approximately 9.1% as compared to
the prior year. The Company believes that the decrease in same-store rental
income was attributable to continued competition and general softening in
rental consumer spending nationwide. During the quarter ended July 31, 1996,
the Company decreased its purchases of video rental product by $0.9 million
or 8.5% versus the same quarter of the prior year.
The Company believes that in the future its business will continue to be
impacted by various competitive and economic factors, including, but not
limited to, consumer tastes, new releases of music, videocassette and video
game titles available for sale or rental, and general economic trends
impacting retailers and consumers. In addition, in more recent years the
Company's revenues have been impacted by increased competition from other
music and video specialty retail chains, as well as discounters and mass
merchandisers. Further, future revenues may be reduced as a result of the
closure of 70 stores since the bankruptcy filing, and as a result of the
closure of any additional stores that may be approved by the Court during the
remainder of the bankruptcy case.
Cost of sales decreased $8.7 million to $45.0 million for the quarter
ended July 31, 1996 versus $53.7 million for the quarter ended July 31, 1995,
representing a decrease of 16.3%. As a percentage of net merchandise sales,
costs of sales increased 0.8% to 65.8% during the quarter ended July 31, 1996
versus 65.0% during the quarter ended July 31, 1995. The 0.8% increase in
cost of sales as a percentage of net merchandise sales was principally due to
increased merchandise return costs, lower prompt payment discounts on
merchandise inventory purchases and an increase in the provision for
obsolescence.
Cost of rentals, including amortization, increased to $10.9 million
during the quarter ended July 31, 1996, an increase of $0.6 million or 6.0%,
versus $10.3 million during the quarter ended July 31, 1995. As a percentage
of rental income, cost of rentals increased to 56.2% during the quarter ended
July 31, 1996 versus 45.7% during the quarter ended July 31, 1995,
representing an increase of 10.5%. The 10.5% increase in cost of rentals,
including amortization, is primarily attributable to costs related to the
increased liquidation of used rental inventory and to a lesser extent, higher
amortization and shrinkage.
Merchandise sales as a percentage of aggregate net revenues decreased
0.7% to 78.0% during the quarter ended July 31, 1996 versus 78.7% during the
quarter ended July 31, 1995.
Several major retail chains, including Best Buy, Blockbuster
Entertainment, Hollywood Entertainment and Virgin Megastores have increased
their retail store presence in the Company's markets. This trend may
continue and it is anticipated the Company will in future periods experience
increased competition from companies with greater financial resources than
its own, and that such competition will result in continued pressure on
revenues and gross profit margins.
14
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Selling, general and administrative expenses, were $37.7 million versus
$44.5 million for the quarters ended July 31, 1996 and 1995, respectively, a
decrease of $6.7 million or 15.1%. As a percentage of net revenues, selling,
general and administrative expenses, were 43.0% during the quarter ended July
31, 1996 versus 42.3% during the quarter ended July 31, 1995, representing an
increase of 0.7%. The 0.7% increase was principally due to increases as a
percentage of revenue in payroll, other variable expense and depreciation.
During the quarter, rent and occupancy costs decreased in absolute dollars by
$2.9 million. Further decreases may be experienced as a result of the
rejection of additional real property leases during the bankruptcy case.
Interest expense (net of interest income) decreased $6.7 million to $0.1
million for the quarter ended July 31, 1996 versus $6.8 million for the
quarter ended July 31, 1995. The decrease was primarily attributable to the
suspension of the accrual of interest following the filing of bankruptcy on
August 2, 1995, as noted previously.
Reorganization items include costs related to the bankruptcy case
including professional fees for legal and financial advisors, costs related
to the closing of stores, and the estimated cost associated with the
rejection of certain executory contracts. For the quarter, the Company
reported total reorganization items of $2.0 million which was comprised of
professional fees of $0.9 million and store closing costs of $1.1 million.
Reorganization items are expected to continue in future periods as a result
of the bankruptcy case.
Based upon current operations of the Company and other factors, the
Company did not record an income tax benefit for the quarters ended July 31,
1996 and 1995, and does not anticipate doing so for the remainder of the
current fiscal year. The Company anticipates that pre-tax losses, if any,
which may be realized during the fiscal year ending January 31, 1997 will not
result in the recording of any additional tax benefit by the Company, nor any
refunds for further operating loss carrybacks, although such tax benefits
would be available to the Company to reduce any future taxes payable under
applicable Internal Revenue Service and state regulations should the Company
generate future taxable income. Under certain circumstances, the Company
could incur significant tax liabilities from the forgiveness of indebtedness
as a result of the bankruptcy case, the eventual outcome of which is unknown
at this time.
The Company is currently under audit by the Internal Revenue Service
("IRS") for tax years January 31, 1993, 1994, and 1995, and by the California
Franchise Tax Board ("FTB") for tax years January 31, 1992, 1993 and 1994.
The Company believes that it has made adequate provision in the financial
statements for these two audits.
In conjunction with the above-mentioned audits, the IRS and FTB have
filed proofs of claim in the bankruptcy court in the amounts of $52.1 million
and $10.6 million, respectively, for allegedly unpaid income taxes during the
years under audit. These claims, if allowed, would become pre-petition
claims and as such would be paid out at the end of the bankruptcy case.
While the Company believes that the ultimate allowed amount of these claims
will constitute a small fraction of the claimed amount, there can be no
assurance as to the final outcome of these claims.
15
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FOR SIX MONTHS ENDED JULY 31, 1996 AND JULY 31, 1995
Net revenues were $175.2 million and $209.0 million for the six months
ended July 31, 1996 and 1995, respectively. The Company believes that the
decrease of $33.8 million, or 16.2%, was principally due to the closing of 53
stores during fiscal year 1996 and 21 stores during the first six months of
fiscal year 1997, as well as continued competitive and economic pressures in
certain of the Company's markets.
A summary of total net revenues, by product category, is provided below:
NET REVENUES
BY PRODUCT CATEGORY
(DOLLAR AMOUNTS IN MILLIONS)
SIX MONTHS ENDED
JULY 31,
1996 1995
----- ------
Net Merchandise Sales:
Compact discs (including used compact discs) $ 92.7 $100.3
Cassettes and other music 25.0 36.6
------ ------
Total music 117.7 136.9
Sales of new videocassettes 3.0 10.5
Video game software and hardware, general
merchandise, accessories, ticket commissions
and other 17.0 16.8
------ ------
Total merchandise sales 137.7 164.2
Videocassette and other rental income 37.4 44.8
------ ------
Total revenues $175.2 $209.0
------ ------
Net merchandise sales were $137.7 million versus $164.2 million for the
six months ended July 31, 1996 and 1995, respectively, representing an
overall decrease of 16.2%. On a same-store basis, however, net merchandise
sales declined by 6.8% during the six months ended July 31, 1996 as compared
to the six months ended July 31, 1995. These decreases in total and
same-store net merchandise sales are primarily attributable to the
competitive and other factors described above. Total net sales of music
products, video games and software, and accessories decreased in virtually
all of the principal categories of these products that are carried by the
Company, except for sales of used compact discs.
Rental income was $37.4 million versus $44.8 million during the six
months ended July 31, 1996 and 1995, respectively, representing a decrease of
$7.3 million or 16.4%. On a same-store basis, rental income decreased
approximately 11.9% as compared to the prior year. The Company believes that
the decrease in same-store rental income was attributable to continued
competition and general softening in rental consumer spending nationwide.
During the six months
16
<PAGE>
ended July 31, 1996, the Company decreased its purchases of video rental
product by $1.3 million or 6.5% versus the same six months of the prior year.
Cost of sales decreased $16.1 million to $89.9 million for the six
months ended July 31, 1996 versus $106.1 million for the six months ended
July 31, 1995, representing a decrease of 15.2%. As a percentage of net
merchandise sales, costs of sales increased 0.7% to 65.3% during the six
months ended July 31, 1996 versus 64.6% during the six months ended July 31,
1995. The 0.7% increase in cost of sales as a percentage of net merchandise
sales was principally due to increased merchandise return costs and lower
prompt payment discounts on merchandise inventory purchases.
Cost of rentals, including amortization, decreased to $17.9 million
during the six months ended July 31, 1996, a decrease of $0.9 million or
4.5%, versus $18.8 million during the six months ended July 31, 1995. As a
percentage of rental income, cost of rentals increased to 47.8% during the
six months ended July 31, 1996 versus 41.9% during the six months ended July
31, 1995, representing an increase of 5.9%. The 5.9% increase in cost of
rentals, including amortization, is primarily attributable to higher
amortization, shrinkage and costs related to the increased liquidation of
used rental inventory.
Merchandise sales as a percentage of aggregate net revenues was 78.6%
and was unchanged from the period ended July 31, 1995 to the period ended
July 31, 1996.
Selling, general and administrative expenses, were $74.4 million versus
$88.9 million for the six months ended July 31, 1996 and 1995, respectively,
a decrease of $14.4 million or 16.2%. As a percentage of net revenues,
selling, general and administrative expenses, were 42.5% and did not change
during the six months ended July 31, 1996 versus the six months ended July
31, 1995. During the six months, rent and occupancy costs decreased in
absolute dollars by $5.2 million. Further decreases may be experienced as a
result of the rejection of additional real property leases during the
bankruptcy case.
Interest expense (net of interest income) decreased $12.7 million to
$0.2 million for the six months ended July 31, 1996 versus $12.9 million for
the six months ended July 31, 1995. The decrease was primarily attributable
to the suspension of the accrual of interest following the filing of
bankruptcy on August 2, 1995, as noted previously.
Reorganization items include costs related to the bankruptcy case
including professional fees for legal and financial advisors, costs related
to the closing of stores, and the estimated cost associated with the
rejection of certain executory contracts. For the six months, the Company
reported total reorganization items of $2.9 million which was comprised of
professional fees of $1.8 million and store closing costs of $1.1 million.
Reorganization items are expected to continue in future periods as a result
of the bankruptcy case.
Based upon current operations of the Company and other factors, the
Company did not record an income tax benefit for the six months ended July
31, 1996 and 1995, and does not anticipate doing so for the remainder of the
current fiscal year. The Company anticipates that
17
<PAGE>
pre-tax losses, if any, which may be realized during the fiscal year ending
January 31, 1997 will not result in the recording of any additional tax
benefit by the Company, nor any refunds for further operating loss
carrybacks, although such tax benefits would be available to the Company to
reduce any future taxes payable under applicable Internal Revenue Service and
state regulations should the Company generate future taxable income. Under
certain circumstances, the Company could incur significant tax liabilities
from the forgiveness of indebtedness as a result of the bankruptcy case, the
eventual outcome of which is unknown at this time.
LIQUIDITY AND CAPITAL RESOURCES
During the six months ended July 31, 1996, the Company's net cash
provided by operating activities increased by $17.9 million to cash provided
of $1.9 million from cash used of $16.0 million. The increase of $17.9
million was due to lower decreases in accounts payable, accrued expenses and
other liabilities of $23.8 million, a lower net loss of $7.3 million (due
primarily to a reduction in interest expense of $12.7 million), a cash
increase resulting from lower prepaid inventory deposits of $5.7 million,
offset by lower decreases in merchandise inventories of $15.6 million and
other factors ($3.3 million).
Cash used in investing activities decreased by $4.2 million to $1.5
million during the six months ended July 31, 1996 from $5.7 million during
the six months ended July 31, 1995, principally due to decreased acquisitions
of property, equipment and improvements. While at the present time the
Company does not have any plans that materially alter the level of its
planned capital spending, such capital spending will be subject to future
availability of funds and other liquidity concerns.
Cash used by financing activities decreased by $27.7 million from $27.3
million provided during the six months ended July 31, 1995 to $0.4 million
used in the six months ended July 31, 1996 principally due to decreased
short-term borrowings.
While the Company believes that the current DIP borrowing facility (see
Note 2 under Notes to Condensed Financial Statements) is adequate to support
operations for the remainder of the current fiscal year, there can be no
assurance as to the effect which any future changes in the Company's
operations (such as closed stores or material changes in interest rates) may
have on its liquidity.
As of July 31, 1996 the Company has not signed any lease commitments to
open new stores during the next twelve months, or any other material
commitments outside those referenced earlier.
18
<PAGE>
SEASONALITY
The Company's business is seasonal, and revenues and operating income
are highest during the fourth quarter. Working capital deficiencies and
related bank borrowings are lowest during the period commencing with the end
of the Christmas holidays and ending with the close of the Company's fiscal
year. Beginning in February, working capital deficiencies and related bank
borrowings have historically trended upward during the year until the fourth
quarter. Bank borrowings have historically been highest in October and
November due to cumulative capital expenditures for new stores and the
building of inventory for the holiday season.
INFLATION
The Company believes that inflation has not had a material effect on its
operations and it's internal and external sources of liquidity and working
capital. However, interest rate increases beyond current levels could have
an impact on the Company's operations.
19
<PAGE>
PART II
OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
(i) Bankruptcy filing.
For a further description of developments with respect to the
Bankruptcy filing see the Company's Reports on Form 10-K and 10-Q for the
year ended January 31, 1996 and the quarter ended April 30, 1996,
respectively.
On April 29, 1996, the Company filed a Chapter 11 Plan of
Reorganization (the "Plan") and on May 15, 1996, the Company filed a
Disclosure Statement for the Plan.
On May 13, 1996, the Bankruptcy Court supplemented its order dated
March 4, 1996 setting May 15, 1996 as the bar date by which all proofs of
claim for any prepetition claim against the Company or WEI must be filed with
the Bankruptcy Court. The supplemental order provided that, as to any
lessors of non-residential real property, such creditors may file claim,
whether arising prepetition or postpetition, on the later of May 15, 1996 or
thirty days after an order is entered approving the rejection or assumption
of such lessor's lease.
On May 16, 1996, the Bankruptcy Court granted the Debtors' motion
to extend the Debtors' exclusive periods to file a plan and to obtain
acceptances for such a plan pursuant to Section 1121 of the Bankruptcy Code
through June 28, 1996 and August 27, 1996, respectively.
On June 18, 1996, the Bankruptcy Court granted the Debtors' motion
for third extension of time within which the Debtors must assume or reject
unexpired leases of non-residential real property, extending the deadline
through August 27, 1996.
On June 26, 1996, the Bankruptcy Court approved the AMENDED
Application of the Official Committee of Unsecured Creditors to retain Tucker
Alan, Inc. NUNC PRO TUNC to May 16, 1996. Tucker Alan Inc. was retained as a
consultant to conduct a preliminary investigation of the June 1992 leveraged
buyout of WEI Holdings, Inc. to determine certain bankruptcy related issues.
On July 1, 1996, the Bankruptcy Court approved the employment
contracts dated June 14, 1996, appointing Bruce Ogilvie as Chief Executive
Officer and President and confirming Jerry Goldress' continuing service as a
director and Chairman of the Board for the Debtors.
On August 13, 1996, the Bankruptcy Court approved the assumption of
one unexpired lease of non-residential real property relating to one of
Wherehouse's stores in Clackamas, Oregon. On August 19, 1996, the Bankruptcy
Court approved the rejection of one executory contract relating to a leased
Xerox copier machine.
20
<PAGE>
On September 5, 1996, the Bankruptcy Court further extended the
Debtors' exclusivity periods through September 26, 1996. The Bankruptcy
Court also further extended the Debtors' period to assume or reject their
leases through October 31, 1996.
(ii) McMahan and Related Actions.
For a description of the prior history and background of MCMAHAN v.
WHEREHOUSE ENTERTAINMENT, INC., ET AL. and a related action, DON THOMPSON v.
WHEREHOUSE ENTERTAINMENT, INC. ET AL., see Item 3 of Part I of the Company's
Annual Report on Form 10-K for the year ended January 31, 1996.
On August 2, 1996, the parties to these actions reached a
settlement, in principle. The settlement is subject to court approval and
provides for the release of all claims against defendants in exchange for a
payment of $7 million to plaintiffs. It is contemplated that none of the
settlement consideration will be paid by the Company.
(iii) Banker's Trust Litigation
IN RE WHEREHOUSE ENTERTAINMENT, INC., AND WEI HOLDINGS, INC.;
WHEREHOUSE ENTERTAINMENT, INC. AND WEI HOLDINGS, INC. V. BANKERS TRUST
COMPANY, United States Bankruptcy Court for the District of Delaware, Case
No. 95-911 (HSB); Adv. Pro No. A-95-105. On November 9, 1995, the Company
filed an adversary proceeding in the Bankruptcy Court against Bankers Trust
Company, one of the Company's secured creditors. The Company seeks a
declaration that certain collateral in which Bankers Trust has a security
interest does not extend to the Company's "merchandise (or sale) inventory."
Bankers Trust has filed a motion for judgement on the pleadings seeking to
dismiss the Company's complaint, and the Company has filed a motion seeking
leave of the Court to file a First Amended Complaint against Bankers Trust.
The Bankruptcy Court granted the Company's motion, and the Company filed its
First Amended Complaint on April 19, 1996. In the First Amended Complaint,
the Company seeks relief in addition to a declaration that Bankers Trust's
collateral does not include merchandise (sale) inventory. Among others, the
Company asserts claims against Bankers Trust for reformation of the security
agreement between the Company and Bankers Trust to provide that Bankers
Trust's security interest does not extend to the Company's merchandise (sale)
inventory and/or equitable subordination of Bankers Trust's entire security
interest to that of other creditors. On April 30, 1996, the Company and
Bankers Trust stipulated to a moratorium on discovery effective immediately,
and the Bankruptcy Court approved the moratorium on May 7, 1996. The
moratorium can be terminated by either party by providing the other party
with seven days notice of termination. Under the stipulation, the parties
further agreed that, if and when the moratorium period is terminated, the
pretrial dates set forth in the Court's January 17, 1996, Scheduling Order
would be reset so that the discovery cutoff date and the due date for case or
issue dispositive motions would be reset so the corresponding dates in the
Scheduling Order plus the number of days that the moratorium period
(including the seven day notice) was in effect. At the end of July 1996, the
Parties asked the Court to release the trial date which had been scheduled
for August 13, 1996, and the Court did so.
21
<PAGE>
(iv) Other.
The Company is a party to various other claims, legal actions and
complaints arising in the ordinary course of its business. In the opinion of
management, all such matters are without merit or involve such amounts that
unfavorable disposition will not have a material impact on the financial
position and results of operations of the Company.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
As a result, among other things, of the bankruptcy filing, the
Company is currently in default under the indentures governing the 13% Senior
Subordinated Notes ($117.2 million in principal and accrued interest as of
August 2, 1995) and 6 1/4% Convertible Subordinated Debentures ($5.6 million
in principal and accrued interest as of August 2, 1995). The Company is also
in default under various agreements governing the Revolving Line of Credit
and Variable Rate Term Note ($93.8 million in principle and accrued interest
as of August 2, 1995.)
ITEM 5. OTHER INFORMATION
On June 14, 1996 Jerry Goldress, the Chairman of the Board,
President and Chief Executive Officer of the Company and WEI, resigned his
position as President and Chief Executive Officer of both companies. Mr.
Goldress retained his position as Chairman of the Board. On the same day,
the Company appointed Bruce Ogilvie as the President and Chief Executive
Officer of both the Company and WEI.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
10.38 Letter Agreement dated June 14, 1996 between the
Company and GGG, Inc.
10.39 Letter Agreement dated June 14, 1996 between the
Company and Bruce Ogilvie
27.0 Financial Data Schedule
(b) Current Reports on Form 8-K
None.
22
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, each of
the Registrants have duly caused this report to be signed on its behalf by
the undersigned thereunto duly authorized.
WHEREHOUSE ENTERTAINMENT, INC.
Date: September 14, 1996 /s/ Bruce Ogilvie
-----------------------------
BRUCE OGILVIE
President and Chief Executive Officer
(Principal Executive Officer)
Date: September 14, 1996 /s/ Henry Del Castillo
-----------------------------
HENRY DEL CASTILLO
Vice President, Chief Financial Officer
and Secretary (Principal Financial and
Accounting Officer)
23
<PAGE>
Exhibit 10.38
MEMORANDUM
DATE: June 14, 1996
TO: Jerry Goldress
FROM: The undersigned Directors of Wherehouse Entertainment, Inc. and WEI
Holdings, Inc.
RE: Agreement between Wherehouse Entertainment, Inc. ("Wherehouse") and
GGG, Inc. as set forth in a letter dated May 11, 1994 and as previously
modified by a memorandum dated April 15, 1995 and a memorandum dated
December 13, 1995 (the "Contract")
The boards of directors of Wherehouse and WEI Holdings, Inc.
("Holdings") are today appointing Bruce Ogilvie as the President and Chief
Executive Officer of Wherehouse and Holdings. The undersigned directors of
Wherehouse and Holdings are writing this letter to confirm the termination of
the referenced Contract relating to your services as President and Chief
Executive Officer and to confirm the terms of their agreement with GGG, Inc.
relating to your continuing service as a director and as Chairman of the
board of directors of Wherehouse and Holdings.
This will confirm that GGG, Inc. and Wherehouse and Holdings
(together, the "Debtors"), as debtors and debtors in possession in their
Chapter 11 bankruptcy cases pending in the United States Bankruptcy Court for
the District of Delaware, acting through their undersigned directors, hereby
agree as follows:
1. The Debtors confirm that, by reason of the appointment of Bruce
Ogilvie as Chief Executive Officer and President of each Debtor, (i) your
services as Chief Executive Officer and President of Wherehouse and Holdings
are now concluded and terminated and (ii) GGG, Inc. is entitled to receive
the termination payment described in paragraph 5 of the referenced Contract,
as amended in paragraph 1 of the memorandum dated December 13, 1995. Except
for (1) such termination payment, (2) current compensation accrued under the
Contract through
<PAGE>
June 14, 1996
Page 2
June 14, 1996, and (3) the Payments described in paragraph 3 below, no other
payment shall be due to you under the Contract or this memorandum or on
account of any services provided by you thereunder.
2. As Chairman of the board of directors of the Debtors, you shall
be responsible only with respect to the management of the restructuring of
the Debtors in their bankruptcy cases. Unless specifically requested by Mr.
Ogilvie, you will not be responsible with respect to any operational matters,
the management of the Debtors' business or any negotiations with a
prospective purchaser in connection with a potential asset sale or merger or
acquisition transaction involving the Debtors.
3. As compensation for your continued services as Chairman of the
board of directors of each Debtor, the Debtors (jointly and severally), as
debtors in possession and on behalf of the estates in the bankruptcy cases,
agree to pay GGG, Inc. a total payment of $250,000, of which (i) $200,000 is
payable over an 18 month period in equal monthly installments of $11,111.11
on the first day of each month, commencing July 1, 1996 ("Monthly Payments"),
and (ii) $50,000 is payable on December 31, 1997 (the "Final Payment" and,
together with the Monthly Payments, the "Payments"), or (as to all Payments)
on any earlier termination of your appointment as Chairman, on the following
terms:
a. You may resign your office as Chairman of each Debtor at any
time and in such event (i) you may collect and retain all Payments due
prior to the submission of your resignation and (ii) you shall not be
entitled to receive any Payment coming due thereafter.
b. Your appointment as Chairman of each Debtor may be
terminated by the directors of the Debtors at any time and shall be
deemed terminated, if (i) appointment of a trustee or conversion to a
chapter 7 case is ordered in either or both of the Debtors' bankruptcy
cases or (ii) a plan is confirmed and consummated in Wherehouse's
bankruptcy case and you are not continued in office as the Chairman of
reorganized Wherehouse by the directors appointed pursuant to the plan.
c. The Final Payment is not a bonus and will not be in any
manner contingent upon a successful restructuring or any other future
event,
<PAGE>
June 14, 1996
Page 3
except as set forth herein. All Payments shall be fully earned on
execution of this memorandum, subject to the terms and conditions set
forth herein.
d. If at any time your appointment as Chairman is terminated or
deemed terminated as set forth in paragraph 3.b, then (unless your
appointment is terminated for Cause, as defined in the referenced
Contract) GGG, Inc. shall be entitled to collect and retain all Payments,
whether scheduled to be paid to you prior to or at any time after such
termination, and all Payments shall be due and payable to GGG, Inc. on
the date such termination is effective.
4. The foregoing sets forth our entire agreement as to the matters
addressed herein. Upon acceptance hereof by GGG, Inc. and approval of the
terms of this memorandum by the Bankruptcy Court, the terms of this
memorandum will constitute the binding and enforceable obligation of the
estate in these Chapter 11 cases.
We recognize and commend your past dedication, loyalty and
leadership as Chief Executive Officer and President of the Debtors and warmly
express our appreciation for your many contributions and achievements.
Very Truly Yours,
WHEREHOUSE ENTERTAINMENT, INC.
By /s/ GERALD S. ARMSTRONG
------------------------------
Gerald S. Armstrong, Director
By /s/ JAMES J. BURKE
------------------------------
James J. Burke, Jr., Director
By /s/ RUPINDER S. SIDHU
------------------------------
Rupinder S. Sidhu, Director
<PAGE>
June 14, 1996
Page 4
By /s/ BRADLEY J. HOECKER
------------------------------
Bradley J. Hoecker, Director
Accepted and agreed
on behalf of GGG, Inc.
/s/ JERRY E. GOLDRESS
- -------------------------------
Jerry E. Goldress
<PAGE>
EXHIBIT 10.39
WHEREHOUSE ENTERTAINMENT, INC.
June 14, 1996
TO: Mr. Bruce Ogilvie
Dear Bruce:
I am pleased to confirm our offer of employment for the position
of Executive Officer and President for a term of one year.
As we discussed, the compensation offer includes an annual base
salary of $250,000. The Company also provides a monthly car allowance,
consistent with other senior officers, of which $600 is paid on a bi-weekly
basis.
The Company offers a comprehensive package of protective
benefits including comprehensive medical and dental benefits, long-term
disability and life insurance benefits. The Benefits summary will be made
available to you shortly.
You will be eligible for four weeks of paid vacation during your
employment with the Company.
In the event of a termination of your employment that is not
based on "Cause", you will receive the balance of the term of this contract
upon such termination. For this purpose, "Cause" shall mean (i) any material
breach of the material terms of your employment with the Company, but only
following written notice and a reasonable opportunity to cure, or (ii) a
conviction of any crime involving embezzlement or misappropriation of funds
or property of the Company or felonious conduct.
We look forward to your acceptance of this offer and are anxious
to begin working with you starting June 14, 1996.
Best regards,
/s/ JERRY E. GOLDRESS
- -------------------------------
Jerry E. Goldress
Chairman
Signed and Accepted
on June 14, 1996
/s/ BRUCE OGILVIE
- ------------------------------
Bruce Ogilvie
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