<PAGE> 1
Pursuant to Rule 424B5
Registration No. 33-64905
INFORMATION CONTAINED HEREIN IS SUBJECT TO COMPLETION OR AMENDMENT. A
REGISTRATION STATEMENT RELATING TO THESE SECURITIES HAS BEEN FILED WITH THE
SECURITIES AND EXCHANGE COMMISSION. THESE SECURITIES MAY NOT BE SOLD NOR
MAY OFFERS TO BUY BE ACCEPTED PRIOR TO THE TIME A FINAL PROSPECTUS
SUPPLEMENT IS DELIVERED. THIS PROSPECTUS SUPPLEMENT SHALL NOT CONSTITUTE AN
OFFER TO SELL OR THE SOLICITATION OF AN OFFER TO BUY NOR SHALL THERE BE ANY
SALE OF THESE SECURITIES IN ANY STATE IN WHICH SUCH OFFER, SOLICITATION OR
SALE WOULD BE UNLAWFUL PRIOR TO REGISTRATION OR QUALIFICATION UNDER THE
SECURITIES LAWS OF ANY SUCH STATE.
PROSPECTUS SUPPLEMENT (Subject to Completion)
(To Prospectus dated April 9, 1996)
Issued May 24, 1996
15,000,000 Trust Convertible Preferred Securities
Kmart Financing I
% TRUST CONVERTIBLE PREFERRED SECURITIES
(Liquidation Amount $50 Per Convertible Preferred Security)
Guaranteed to the Extent Set Forth Herein by
Kmart Corporation
----------------------
Of the 15,000,000 % Trust Convertible Preferred Securities (the
"Convertible Preferred Securities") being offered hereby, 12,750,000 are
being offered initially in the United States and Canada by the U.S.
Underwriters and 2,250,000 are being offered initially outside of the United
States and Canada by the International Underwriters.
The Convertible Preferred Securities offered
hereby represent preferred undivided beneficial interests in the assets of
Kmart Financing I, a statutory business trust formed under the laws of the
State of Delaware ("Kmart Financing" or the "Trust"). Kmart Corporation, a
Michigan corporation ("Kmart" or the "Company"), will directly or indirectly
own all the common securities (the "Common Securities" and, together with the
Convertible Preferred Securities, the "Trust Securities") representing
undivided beneficial interests in the assets of Kmart Financing. Kmart
Financing exists for the sole purpose of issuing the Convertible Preferred
Securities and Common Securities and investing the proceeds of the sale thereof
in % Convertible Junior Subordinated Debentures (the "Convertible
Debentures") of Kmart in an aggregate principal amount equal to the aggregate
liquidation amount of the Trust Securities. The Convertible Debentures and the
Convertible Preferred Securities in respect of which this Prospectus Supplement
is being delivered shall be referred to herein as the "Offered Securities." The
Convertible Debentures when issued will be unsecured obligations of Kmart and
will be subordinate and junior in right of payment to certain other
indebtedness of Kmart as described herein. Upon an event of default under the
Declaration (as defined herein), the holders of Convertible Preferred
Securities will have a preference over the holders of the Common Securities
with respect to payments in respect of distributions and payments upon
redemption, liquidation and otherwise.
(continued on next page)
SEE "RISK FACTORS" BEGINNING ON PAGE S-13 OF THIS PROSPECTUS SUPPLEMENT FOR
CERTAIN INFORMATION RELEVANT TO AN INVESTMENT IN THE
CONVERTIBLE PREFERRED SECURITIES.
The Convertible Preferred Securities have been approved for listing on the New
York Stock Exchange, Inc. (the "New York Stock Exchange"), subject to official
notice of issuance.
----------------------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE
SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES
COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS
SUPPLEMENT OR THE PROSPECTUS TO WHICH IT RELATES. ANY
REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
----------------------
PRICE $50 PER CONVERTIBLE PREFERRED SECURITY
----------------------
<TABLE>
<CAPTION>
Underwriting
Price to Discounts and Proceeds to
Public (1) Commissions (2) Trust (3)(4)
------------------ ------------------ ------------------
<S> <C> <C> <C>
Per Convertible Preferred Security............ $50 (3) $
Total (5)..................................... $750,000,000 (3) $
</TABLE>
- ------------
(1) Plus accrued distributions, if any, from June , 1996.
(2) Kmart Financing and Kmart have agreed to indemnify the Underwriters against
certain liabilities, including liabilities under the Securities Act of 1933.
See "Underwriters."
(3) In view of the fact that the proceeds of the sale of the Convertible
Preferred Securities will be invested in the Convertible Debentures, Kmart
has agreed to pay to the Underwriters as compensation for their arranging
the investment therein of such proceeds $ per Convertible Preferred
Security (or $ in the aggregate).
(4) Before deducting expenses payable by Kmart estimated at $ .
(5) Kmart Financing and Kmart have granted the U.S. Underwriters an option,
exercisable within 30 days of the date hereof, to purchase up to an
aggregate of 2,250,000 additional Convertible Preferred Securities at the
price to public less underwriting discounts and commissions for the purpose
of covering over-allotments, if any. If the U.S. Underwriters exercise such
option in full, the total price to public, underwriting discounts and
commissions and proceeds to Kmart Financing will be $ , $ and
$ , respectively. See "Underwriters."
----------------------
The Convertible Preferred Securities are offered, subject to prior sale,
when as and if accepted by the Underwriters and subject to the approval of
certain legal matters by Davis Polk & Wardwell, counsel for the Underwriters. It
is expected that delivery of the Convertible Preferred Securities will be made
on or about June , 1996 through the book-entry facilities of The Depository
Trust Company against payment therefor in immediately available funds.
----------------------
MORGAN STANLEY & CO. MERRILL LYNCH & CO.
Incorporated
CS FIRST BOSTON
LEHMAN BROTHERS
June , 1996 SALOMON BROTHERS INC
<PAGE> 2
(continued from previous page)
Holders of the Convertible Preferred Securities are entitled to receive
cumulative cash distributions at an annual rate of % of the liquidation amount
of $50 per Convertible Preferred Security, accruing from the first date that any
Convertible Preferred Securities are issued and payable quarterly in arrears on
March 15, June 15, September 15 and December 15 of each year, commencing
September 15, 1996 ("distributions"). The payment of distributions out of moneys
held by Kmart Financing and payments on liquidation of Kmart Financing or the
redemption of Convertible Preferred Securities, as set forth below, are
guaranteed by Kmart (the "Guarantee") to the extent described herein and under
"Description of Trust Preferred Securities Guarantees" in the accompanying
Prospectus. The Guarantee covers payments of distributions and other payments on
the Convertible Preferred Securities only if and to the extent that Kmart
Financing has funds available therefor which will not be the case unless Kmart
has made a payment of interest or principal or other payments on the Convertible
Debentures held by Kmart Financing as its sole assets. The Guarantee, when taken
together with Kmart's obligations under the Convertible Debentures and the
Indenture (as defined herein) and its obligations under the Declaration,
including its liabilities to pay costs, expenses, debts and obligations of Kmart
Financing (other than with respect to the Trust Securities), provide a full and
unconditional guarantee of amounts due on the Convertible Preferred Securities.
See "Risk Factors -- Rights Under the Guarantee."
The obligations of Kmart under the Guarantee are subordinate and junior in
right of payment to all other liabilities of Kmart and pari passu with the most
senior preferred stock issued, from time to time, if any, by Kmart. The
obligations of Kmart under the Convertible Debentures are subordinate and junior
in right of payment to all present and future Senior Indebtedness (as defined
herein) of Kmart. Borrowings pursuant to the New Credit Agreement (as defined
herein), which provides for facilities aggregating $3.7 billion, would
constitute Senior Indebtedness. In addition, in the event the Company grants a
security interest in inventory to vendors as permitted by the New Credit
Agreement, the Convertible Debentures will be subordinated in right of payment
to the obligations secured by such security interest with respect to such
inventory. The Convertible Debentures purchased by the Trust may be subsequently
distributed pro rata to holders of the Convertible Preferred Securities and
Common Securities in connection with the dissolution of the Trust, upon the
occurrence of certain events.
Each Convertible Preferred Security is convertible in the manner described
herein at the option of the holder, at any time beginning 60 days following the
first date that any Convertible Preferred Securities are issued prior to the
Conversion Expiration Date (as defined herein), into shares of common stock, par
value $1.00 per share, of Kmart ("Kmart Common Stock"), at the rate of
shares of Kmart Common Stock for each Convertible Preferred Security
(equivalent to a conversion price of $ per share of Kmart Common Stock),
subject to adjustment in certain circumstances. See "Description of the
Convertible Preferred Securities -- Conversion Rights." The last reported sale
price of Kmart Common Stock, which is reported under the symbol "KM" on the New
York Stock Exchange Composite Tape, on May 23, 1996, was $10 5/8 per share.
The distribution rate and the distribution payment date and other payment
dates for the Convertible Preferred Securities will correspond to the interest
rate and interest payment date and other payment dates for the Convertible
Debentures, which will be the sole assets of the Trust. As a result, if
principal or interest is not paid on the Convertible Debentures, no amounts will
be paid on the Convertible Preferred Securities. If Kmart does not make
principal or interest payments on the Convertible Debentures, the Trust will not
have sufficient funds to make distributions on the Convertible Preferred
Securities, in which event, the Guarantee will not apply to such distributions
until the Trust has sufficient funds available therefor.
So long as Kmart shall not be in default in the payment of interest on the
Convertible Debentures, Kmart has the right to defer payments of interest on the
Convertible Debentures by extending the interest payment period on the
Convertible Debentures at any time for up to 20 consecutive quarters (each, an
"Extension Period"). If interest payments are so deferred, distributions will
also be deferred. During such Extension Period, distributions will continue to
accumulate with interest thereon (to the extent permitted by applicable law) at
the distribution rate,
S-2
<PAGE> 3
compounded quarterly, and during any Extension Period, holders of Convertible
Preferred Securities will be required to include deferred interest income in
their gross income for United States federal income tax purposes in advance of
receipt of the cash distributions with respect to such deferred interest
payments. There could be multiple Extension Periods of varying lengths
throughout the term of the Convertible Debentures. See "Description of the
Convertible Debentures -- Option to Extend Interest Payment Period," "Risk
Factors -- Option to Extend Interest Payment Period" and "United States Federal
Income Taxation -- Original Issue Discount."
The Convertible Debentures are redeemable by Kmart, in whole or in part,
from time to time, on or after June 18, 1999, at the prices set forth herein
(the "Redemption Price"), plus accrued and unpaid interest thereon to the date
fixed for redemption. In addition, in certain circumstances upon the occurrence
of a Special Event (as defined herein) the Convertible Debentures may be
redeemed by Kmart at 100% of the principal amount thereof plus accrued and
unpaid interest thereon. If Kmart redeems the Convertible Debentures, the Trust
must redeem Trust Securities having an aggregate liquidation amount equal to the
aggregate principal amount of the Convertible Debentures so redeemed. See
"Description of the Convertible Preferred Securities -- Mandatory Redemption."
The outstanding Convertible Preferred Securities will be redeemed upon maturity
of the Convertible Debentures. The Convertible Debentures mature on June 15,
2016.
Upon the occurrence of a Special Event arising from a change in law or a
change in legal interpretation, unless the Convertible Debentures are redeemed
in the limited circumstances described herein, the Trust may be dissolved (with
the consent of Kmart), with the result that the Convertible Debentures would be
distributed to the holders of the Convertible Preferred Securities, on a pro
rata basis, in lieu of any cash distribution. See "Description of the
Convertible Preferred Securities -- Special Event Distribution; Tax Event
Redemption." If Kmart declines to consent to such dissolution and distribution,
Kmart may incur an obligation to pay Additional Interest. See "Description of
the Convertible Debentures -- Additional Interest." If the Convertible
Debentures are distributed to the holders of the Convertible Preferred
Securities, Kmart will use its best efforts to have the Convertible Debentures
listed on the New York Stock Exchange or on such other exchange as the
Convertible Preferred Securities are then listed. See "Description of the
Convertible Preferred Securities -- Special Event Distribution; Tax Event
Redemption" and "Description of the Convertible Debentures."
In the event of the involuntary or voluntary dissolution, winding up or
termination of the Trust, the holders of the Convertible Preferred Securities
will be entitled to receive for each Convertible Preferred Security a
liquidation amount of $50 plus accrued and unpaid distributions thereon
(including interest thereon) to the date of payment, unless, in connection with
such dissolution, the Convertible Debentures are distributed to the holders of
the Convertible Preferred Securities. See "Description of the Convertible
Preferred Securities -- Liquidation Distribution Upon Dissolution."
-------------------------
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
Certain of the matters discussed under the captions "Risk Factors,"
"Management's Discussion and Analysis of Results of Operations and Financial
Condition," "Kmart Corporation" and elsewhere in this Prospectus Supplement may
constitute forward-looking statements within the meaning of the Private
Litigation Reform Act of 1995 (the "Reform Act") and as such may involve known
and unknown risks, uncertainties and other factors which may cause the actual
results, performance or achievements of the Company to be materially different
from any future results, performance or achievements expressed or implied by
such forward-looking statements. In addition to the specific matters referred to
herein, important factors which may cause actual results to differ include: (i)
the results of the Company's efforts to implement its strategy to effect a
business turnaround; (ii) the results of the Company's efforts to take steps to
improve its financial flexibility; (iii) economic and weather conditions which
affect the buying patterns of the Company's customers; (iv) actions of the
Company's competitors and the Company's ability to respond to such actions; and
(v) the support of the Company's numerous providers of goods and services.
S-3
<PAGE> 4
NO PERSON IS AUTHORIZED IN CONNECTION WITH ANY OFFERING MADE HEREBY TO GIVE
ANY INFORMATION OR TO MAKE ANY REPRESENTATION NOT CONTAINED OR INCORPORATED BY
REFERENCE IN THIS PROSPECTUS SUPPLEMENT OR THE PROSPECTUS AND, IF GIVEN OR MADE,
SUCH INFORMATION OR REPRESENTATION MUST NOT BE RELIED UPON AS HAVING BEEN
AUTHORIZED BY THE COMPANY OR BY ANY UNDERWRITER. THIS PROSPECTUS SUPPLEMENT AND
THE PROSPECTUS DO NOT CONSTITUTE AN OFFER TO SELL OR A SOLICITATION OF AN OFFER
TO BUY ANY SECURITY OTHER THAN THE OFFERED SECURITIES TO ANY PERSON IN ANY
JURISDICTION IN WHICH IT IS UNLAWFUL TO MAKE ANY SUCH OFFER OR SOLICITATION TO
SUCH PERSON. NEITHER THE DELIVERY OF THIS PROSPECTUS SUPPLEMENT AND THE
PROSPECTUS NOR ANY SALE MADE HEREBY SHALL UNDER ANY CIRCUMSTANCE IMPLY THAT THE
INFORMATION CONTAINED OR INCORPORATED BY REFERENCE HEREIN IS CORRECT AS OF ANY
DATE SUBSEQUENT TO THE DATE HEREOF.
------------------------
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PROSPECTUS SUPPLEMENT PAGE
----
<S> <C>
Prospectus Summary........................ S-5
Risk Factors.............................. S-13
Capitalization of Kmart................... S-21
Common Stock Prices and Dividends......... S-22
Use of Proceeds........................... S-22
Accounting Treatment...................... S-22
Selected Historical Consolidated Financial
Information............................. S-23
Management's Discussion and Analysis
of Results of Operations and Financial
Condition............................... S-25
Kmart Financing I......................... S-36
Kmart Corporation......................... S-37
Management................................ S-47
New Credit Agreement...................... S-50
Description of the Convertible Preferred
Securities.............................. S-53
Description of the Guarantee.............. S-68
Description of the Convertible
Debentures.............................. S-68
Effect of Obligations Under the
Convertible Debentures and the
Guarantee............................... S-74
United States Federal Income Taxation..... S-75
Underwriters.............................. S-81
Legal Matters............................. S-84
Experts................................... S-84
Index to Financial Statements............. F-1
<CAPTION>
PROSPECTUS PAGE
----
<S> <C>
Available Information..................... 3
Incorporation of Certain Documents by
Reference............................... 4
The Company............................... 4
The Trusts................................ 5
Ratio of Earnings to Fixed Charges and of
Earnings to Combined Fixed Charges and
Preferred Stock Dividends (Unaudited)... 6
Use of Proceeds........................... 6
Description of Debt Securities............ 6
Description of Trust Preferred
Securities.............................. 19
Description of Trust Preferred Securities
Guarantees.............................. 21
Description of Capital Stock.............. 23
Description of Common Stock............... 23
Description of Preferred Stock............ 25
Description of Depositary Shares.......... 26
Description of Warrants................... 29
Limitations on Issuance of Bearer
Securities.............................. 31
Plan of Distribution...................... 31
Legal Matters............................. 33
Experts................................... 33
</TABLE>
------------------------
IN CONNECTION WITH THIS OFFERING, THE UNDERWRITERS MAY OVER-ALLOT OR EFFECT
TRANSACTIONS THAT STABILIZE OR MAINTAIN THE MARKET PRICE OF THE SECURITIES
OFFERED HEREBY AND KMART COMMON STOCK AT LEVELS ABOVE THOSE THAT MIGHT OTHERWISE
PREVAIL IN THE OPEN MARKET. SUCH TRANSACTIONS MAY BE EFFECTED ON THE NEW YORK
STOCK EXCHANGE, IN THE OVER-THE-COUNTER MARKET OR OTHERWISE. SUCH STABILIZING
TRANSACTIONS, IF COMMENCED, MAY BE DISCONTINUED AT ANY TIME.
DURING THIS OFFERING, CERTAIN PERSONS AFFILIATED WITH PERSONS PARTICIPATING
IN THE DISTRIBUTION MAY ENGAGE IN TRANSACTIONS FOR THEIR OWN ACCOUNTS OR FOR THE
ACCOUNTS OF OTHERS IN THE SECURITIES OFFERED HEREBY AND KMART COMMON STOCK
PURSUANT TO EXEMPTIONS FROM RULES 10B-6, 10B-7 AND 10B-8 UNDER THE SECURITIES
EXCHANGE ACT OF 1934.
S-4
<PAGE> 5
PROSPECTUS SUMMARY
The following summary is qualified in its entirety by the more detailed
information and consolidated financial statements and related notes appearing
elsewhere in this Prospectus Supplement and the accompanying Prospectus.
KMART CORPORATION
Kmart is one of the world's largest mass merchandise retailers. The
dominant portion of the Company's business consists of the operation of
approximately 2,200 Kmart discount stores with locations in each of the 50
United States, Puerto Rico, the U.S. Virgin Islands, Guam and Canada which are
visited by more than 3.7 million customers per day. In addition, as of January
31, 1996, the Company operated 87 Super Kmart Centers, the Company's grocery and
general merchandise combination supercenters, in 21 states. The Company holds a
49% equity interest in substantially all of the Meldisco subsidiaries of
Melville Corporation ("Meldisco"), which operate the footwear departments in
domestic Kmart stores, and holds an equity interest of approximately 18% in
Thrifty PayLess Holdings, Inc. ("Thrifty PayLess"), a drugstore chain in the
western United States whose common stock recently began trading on the New York
Stock Exchange. The Company also owns and operates Builders Square, Inc.
("Builders Square"), a home improvement and home decor superstore retailer with
167 stores in 20 states and Puerto Rico at January 31, 1996. For the fiscal year
ended January 31, 1996, the Company had consolidated sales of $34.4 billion.
In 1994, following several quarters of disappointing results, the Company
began a wide-ranging review of its long-term strategy and short-term needs. As a
result of this review, the Company has taken a number of steps designed to
improve operating results and strengthen its balance sheet. The process began
with a return of the Company's focus to its core discount store business. Since
November 1994, the Company has completed the divestiture of The Sports
Authority, Inc. ("The Sports Authority"), OfficeMax, Inc. ("OfficeMax"), Borders
Group, Inc. (the "Borders Group") and Coles Myer, Ltd. ("Coles Myer"). In 1995,
the Company took significant steps to improve operations, including closing 214
under-performing stores, eliminating approximately $700 million (at retail
value) in unproductive inventory and approximately $540 million in expenses,
reducing capital expenditures by approximately one-half by slowing its store
opening program, and recruiting senior executives with extensive retail and
turnaround experience from outside the Company.
The Company's new management team has brought fresh perspective and
direction to senior management and the entire Kmart organization. Since the
appointment of Floyd Hall in June of 1995 as Chairman, President and Chief
Executive Officer, this new management team has embarked upon an ambitious
program to improve operations in all areas of the Company's business, including
merchandising, marketing, store operations, information systems, distribution
and logistics and real estate management.
Kmart's new strategy is designed to increase the frequency of customer
visits, in order to increase sales per square foot and overall profitability.
Supporting its strategy to increase the frequency of customer visits, the
Company is improving its assortment of frequently-purchased "consumables," which
consist of classic, stock-up items, as well as both softline and hardline
merchandise. Other elements of the Company's new merchandising strategy include
(i) increasing emphasis on market leader brands, (ii) upgrading and streamlining
its private label line of products, (iii) improving marketing effectiveness,
(iv) improving the merchandising presentation, (v) adjusting pricing strategy,
(vi) increasing the merchandise in-stock position, (vii) improving inventory
management and (viii) developing and refining alternative store formats.
Other key elements of the Company's turnaround strategy include improving
store-level execution, with the goal of better customer service, as well as
increased overall efficiency. Since October 1995, the Company has reorganized
its field and store management structure to narrow the span of control and
increase accountability at the store level, has expanded a number of customer
service initiatives which are significant in determining store-level
compensation and has established higher store cleanliness standards. Kmart is
also in the process of increasing overall efficiency and reducing expenses
through (i) better use of information systems, (ii) increased distribution
productivity, (iii) further expense reductions and (iv) disposition of selected
assets.
S-5
<PAGE> 6
The Convertible Preferred Securities offered hereby and a $3.7 billion, new
three-year credit facility agreement (the "New Credit Agreement") will
recapitalize the Company with a more traditional, flexible and stable financial
structure. The New Credit Agreement will replace the Company's current bank
credit facilities and certain real estate related debt aggregating $2.9 billion.
The closing of this offering of Convertible Preferred Securities and funding
under the New Credit Agreement are each conditioned upon one another.
The principal executive offices of the Company are located at 3100 West Big
Beaver Road, Troy, Michigan 48084, and its telephone number is (810) 643-1000.
RECENT DEVELOPMENTS
Total sales in the first quarter of fiscal 1996 were $7.6 billion, an
increase of 1.8% from $7.4 billion for the first quarter of fiscal 1995. Sales
levels were adversely affected by a lower number of operating stores and
unseasonably cold weather during the 1996 period. The gross margin for the first
quarter of fiscal 1996 was 21.9% of sales versus 22.2% of sales for the first
quarter of last year, reflecting increased volumes of lower-margin items and
consumables in the mix of sales. The selling, general and administrative expense
ratio for the 1996 quarter was 21.9% of sales, versus 23.7% of sales for the
comparable 1995 period. Kmart had operating income for the first quarter of
fiscal 1996 of $57 million, compared to an operating loss for the first quarter
of fiscal 1995 of $54 million (excluding a pension curtailment gain of $124
million).
Kmart incurred a net loss of $99 million, or $0.21 per share, in the first
quarter of fiscal 1996, as compared to a net loss of $28 million, or $0.06 per
share, in the first quarter of fiscal 1995. The first quarter of fiscal 1996
included a $61 million, or $0.13 per share, loss on disposal of discontinued
operations, resulting from participation in the initial public offering of
Thrifty PayLess and the revaluation of Kmart's remaining equity interest
therein. The net loss in the first quarter of fiscal 1995 included the positive
impact of a net pension curtailment gain of $84 million, or $0.18 per share.
Exclusive of these non-recurring items, Kmart had a net loss of $38 million, or
$0.08 per share, in the first quarter of fiscal 1996 as compared to a net loss
of $112 million, or $0.24 per share, in the same period of the prior year.
The following is a summary of first quarter sales and operating income:
<TABLE>
<CAPTION>
13 WEEKS ENDED % CHANGE
------------------- ------------------------
MAY 1, APRIL 26, COMPARABLE
1996 1995 ALL STORES STORES
------ --------- ---------- ----------
(DOLLARS IN MILLIONS)
<S> <C> <C> <C> <C>
SALES
General Merchandise
United States..................................... $6,692 $ 6,564 2.0 4.5
International..................................... 283 249 13.7 4.5(1)
------ ------
Total General Merchandise....................... 6,975 6,813 2.4 4.5
Specialty Retail -- Builders Square.................. 605 630 (4.0) (0.8)
------ ------
Total Kmart................................ $7,580 $ 7,443 1.8 2.3
====== ======
OPERATING INCOME (LOSS)
General Merchandise
United States..................................... $ 58 $ 86 (32.6)
International..................................... (1) (5) (80.0)
------ ------
Total General Merchandise....................... 57 81 (29.6)
Specialty Retail -- Builders Square.................. -- (11) --
------ ------
Total Kmart(2)............................. $ 57 $ 70 (18.6)
====== ======
</TABLE>
- -------------------------
(1) International comparable store sales growth is calculated on sales in the
applicable local currency.
(2) 1995 operating income includes a $124 million one-time gain ($84 million net
of tax) resulting from pension curtailment.
S-6
<PAGE> 7
THE OFFERING
The Issuer.................... Kmart Financing I, a Delaware business trust.
The sole assets of the Trust will consist of
the % Convertible Junior Subordinated
Debentures of Kmart.
Securities Offered............ 15,000,000 % Trust Convertible Preferred
Securities (17,250,000 Convertible Preferred
Securities if the overallotment option is
exercised in full).
<TABLE>
<S> <C> <C>
United States Offering...................... 12,750,000
International Offering...................... 2,250,000
Total....................................... 15,000,000
</TABLE>
Distributions................. Distributions on the Convertible Preferred
Securities will accrue from the first date of
issuance of the Convertible Preferred
Securities and will be payable at the annual
rate of % of the liquidation amount of $50
per Convertible Preferred Security. Subject to
the distribution deferral provisions described
below, distributions will be payable quarterly
in arrears on each March 15, June 15, September
15 and December 15, commencing September 15,
1996. Because distributions on the Convertible
Preferred Securities constitute interest for
United States federal income tax purposes,
corporate holders thereof will not be entitled
to a dividends-received deduction.
Distribution Deferral
Provisions.................... The ability of the Trust to pay distributions
on the Convertible Preferred Securities is
solely dependent on the receipt of interest
payments from Kmart on the Convertible
Debentures. Kmart has the right at any time,
and from time to time, to defer the interest
payments due on the Convertible Debentures for
successive Extension Periods not exceeding 20
consecutive quarters each. Quarterly
distributions on the Convertible Preferred
Securities would be deferred by the Trust (but
would continue to accumulate quarterly and
would accrue interest) until the end of any
such Extension Period. Kmart will give notice
of its deferral of an interest payment to the
Trust no later than ten business days prior to
the related record date (unless the
Institutional Trustee (as defined herein) shall
be the sole holder of the Convertible
Debentures in which case notice will be given
no later than one business day prior to the
related record date). See "Risk Factors --
Option to Extend Interest Payment Period,"
"Description of the Convertible Preferred
Securities -- Distributions" and "Description
of the Convertible Debentures -- Option to
Extend Interest Payment Period." If a deferral
of an interest payment occurs, the holders of
the Convertible Preferred Securities will
continue to accrue income for United States
federal income tax purposes in advance of any
corresponding cash distribution. See "Risk
Factors -- Option to Extend Interest Payment
Period" and "United States Federal Income
Taxation -- Original Issue Discount."
Rights Upon Deferral of
Distribution.................. During any period in which interest payments on
the Convertible Debentures are deferred,
interest will accrue on the Convertible
Debentures (compounded quarterly) and quarterly
distributions will continue to accumulate with
interest thereon at the
S-7
<PAGE> 8
distribution rate, compounded quarterly. Kmart
has agreed, among other things, not to declare
or pay any dividend on its capital stock during
any Extension Period. See "Risk Factors --
Option to Extend Interest Payment Period" and
"Description of the Convertible Debentures --
Option to Extend Interest Payment Period."
Conversion into Kmart
Common Stock.................. Each Convertible Preferred Security is
convertible at any time beginning 60 days
following the first date that any Convertible
Preferred Securities are issued and prior to
the close of business on June 15, 2016 (or, in
the case of Convertible Preferred Securities
called for redemption, prior to the close of
business on the Business Day prior to the
Redemption Date) at the option of the holder
into shares of Kmart Common Stock, at the rate
of shares of Kmart Common Stock for each
Convertible Preferred Security (equivalent to a
conversion price of $ per share of Kmart
Common Stock), subject to adjustment in certain
circumstances. The last reported sale price of
Kmart Common Stock on the New York Stock
Exchange Composite Tape on May 23, 1996, was
$10 5/8 per share. In connection with any
conversion of a Convertible Preferred Security,
the Conversion Agent (as defined herein) will
exchange such Convertible Preferred Security
for the appropriate principal amount of the
Convertible Debentures held by the Trust and
immediately convert such Convertible Debentures
into Kmart Common Stock. No fractional shares
of Kmart Common Stock will be issued as a
result of conversion, but in lieu thereof such
fractional interest will be paid by Kmart in
cash. See "Description of the Convertible
Preferred Securities -- Conversion Rights."
Liquidation Preference........ In the event of any liquidation of the Trust,
holders will be entitled to receive $50 per
Convertible Preferred Security plus an amount
equal to any accrued and unpaid distributions
thereon to the date of payment, unless
Convertible Debentures are distributed to such
holders. See "Description of the Convertible
Preferred Securities -- Liquidation
Distribution upon Dissolution."
Redemption.................... The Convertible Debentures will be redeemable
for cash, at the option of the Company, in
whole or in part, from time to time on or after
June 18, 1999, at the prices specified herein.
Upon any redemption of the Convertible
Debentures, the Convertible Preferred
Securities will be redeemed at the Redemption
Price. The Convertible Preferred Securities
will not have a stated maturity date, although
they will be subject to mandatory redemption
upon the repayment of the Convertible
Debentures at their stated maturity (June 15,
2016), upon acceleration, earlier redemption or
otherwise. See "Description of the Convertible
Preferred Securities -- Mandatory Redemption"
and "Description of the Convertible Debentures
-- Redemption at the Option of Kmart."
Guarantee..................... Kmart will irrevocably and unconditionally
guarantee, on a subordinated basis and to the
extent set forth herein, the payment in full of
(i) distributions on the Convertible Preferred
Securities to the extent the Trust has funds
available therefor, (ii) the amount payable
upon redemption of the Convertible Preferred
Securities to the extent the Trust has funds
available therefor and
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<PAGE> 9
(iii) generally, the liquidation preference of
the Convertible Preferred Securities to the
extent the Trust has assets available for
distribution to holders of Convertible
Preferred Securities. The Guarantee will be
unsecured and will be subordinate and junior in
right of payment to all other liabilities of
Kmart and will rank pari passu in right of
payment with the most senior preferred stock
issued, from time to time, if any, by Kmart.
Voting Rights................. Generally, holders of the Convertible Preferred
Securities will not have any voting rights.
However, if an Indenture Event of Default (as
defined in the accompanying Prospectus) occurs
and is continuing, the holders of 25% of the
aggregate liquidation amount of the Convertible
Preferred Securities may direct the
Institutional Trustee to declare the principal
of and interest on the Convertible Debentures
immediately due and payable. If (i) the
Institutional Trustee fails to enforce its
rights under the Convertible Debentures or (ii)
Kmart defaults under the Guarantee with respect
to the Convertible Preferred Securities, a
record holder of the Convertible Preferred
Securities may institute a legal proceeding
directly against Kmart to enforce the
Institutional Trustee's rights without first
instituting any legal proceeding against the
Institutional Trustee. See "Description of the
Convertible Preferred Securities -- Voting
Rights."
Special Event Distribution;
Tax Event Redemption.......... Upon the occurrence of a Special Event (as
defined herein), except in certain limited
circumstances, Kmart may cause the Trust to be
dissolved and cause the Convertible Debentures
to be distributed to the holders of the
Convertible Preferred Securities. In the case
of a Tax Event, Kmart may also elect to cause
the Convertible Preferred Securities to remain
outstanding and pay Additional Interest (as
defined herein), if any, on the Convertible
Debentures. In certain circumstances upon the
occurrence of a Tax Event, the Convertible
Debentures may be redeemed by Kmart at 100% of
the principal amount thereof plus accrued and
unpaid interest thereon. See "Description of
the Convertible Preferred Securities -- Special
Event Distribution; Tax Event Redemption."
Convertible Junior
Subordinated Debentures of
Kmart......................... The Convertible Debentures will mature on June
15, 2016, and will bear interest at the rate of
% per annum, payable quarterly in arrears.
Interest payments may be deferred from time to
time by Kmart for successive periods not
exceeding 20 consecutive quarters for each such
period. During any Extension Period interest
would continue to accrue and compound
quarterly. Prior to the termination of any
Extension Period of less than 20 consecutive
quarters, Kmart may further defer interest
payments provided the Extension Period, as
further extended, does not exceed 20
consecutive quarters and does not extend beyond
the stated maturity date of the Convertible
Debentures. Upon the termination of any
Extension Period and the payment of all amounts
then due, Kmart may commence a new Extension
Period, subject to the preceding sentence. No
interest shall be due during an Extension
Period until the end of such period. During an
Extension Period, Kmart will be
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<PAGE> 10
prohibited from paying dividends on any of its
capital stock and making certain other
restricted payments until quarterly interest
payments are resumed and all amounts due on the
Convertible Debentures are made current. The
payment of the principal of and interest on the
Convertible Debentures will be subordinated in
right of payment to all Senior Indebtedness (as
defined herein) of Kmart and may not be made if
an Event of Default has occurred and is
continuing under the New Credit Agreement.
Borrowings pursuant to the New Credit
Agreement, which provides for facilities
aggregating $3.7 billion, would constitute
Senior Indebtedness. The Indenture under which
the Convertible Debentures will be issued does
not limit the aggregate amount of Senior
Indebtedness that may be issued by Kmart. In
addition, in the event the Company grants a
security interest in inventory to vendors as
permitted by the New Credit Agreement, the
Convertible Debentures will be subordinated in
right of payment to the obligations secured by
such security interest with respect to such
inventory. See "Capitalization of Kmart." The
Convertible Debentures will have provisions
with respect to interest, optional redemption
and conversion into Kmart Common Stock and
certain other terms substantially similar or
analogous to those of the Convertible Preferred
Securities. See "Description of the Convertible
Debentures" and "Risk Factors -- Ranking of
Subordinate Obligations Under the Guarantee and
Convertible Debentures."
Use of Proceeds............... All of the proceeds from the sale of the
Convertible Preferred Securities will be
invested by the Trust in Convertible Debentures
of Kmart issued pursuant to the Indenture. Such
proceeds will be used by Kmart, together with
(i) the proceeds of borrowings under the New
Credit Agreement and (ii) available cash
balances resulting from the removal of payment
restrictions contained in the Company's current
bank credit facilities and certain real estate
related debt, to repay such bank credit
facilities and real estate related debt, to
fund the Company's working capital and other
operational needs, to finance capital
expenditures and for other general corporate
purposes. See "Use of Proceeds."
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<PAGE> 11
SUMMARY HISTORICAL CONSOLIDATED FINANCIAL INFORMATION
The following table sets forth summary historical consolidated financial
information with respect to Kmart for the periods indicated. This information
should be read in conjunction with Kmart's Consolidated Financial Statements and
notes thereto and "Management's Discussion and Analysis of Results of Operations
and Financial Condition," included elsewhere in this Prospectus Supplement.
Information for all years has been restated to exclude discontinued operations
of the Borders Group, OfficeMax, The Sports Authority, PACE Membership
Warehouse, Inc. ("PACE") and Coles Myer. The summary historical consolidated
financial information for each of the five years in the period ended January 31,
1996, has been derived from the consolidated financial statements of Kmart,
which statements have been audited by Price Waterhouse LLP, independent
accountants. See "Experts" included in this Prospectus Supplement and the
accompanying Prospectus.
<TABLE>
<CAPTION>
FISCAL YEAR ENDED(1)
-------------------------------------------------------------------
JANUARY 31, JANUARY 25, JANUARY 26, JANUARY 27, JANUARY 29,
1996(2) 1995 1994(3) 1993 1992
----------- ----------- ----------- ----------- -----------
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AND SALES
PER SQUARE FOOT DATA)
<S> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA
Sales.......................................... $34,389 $32,514 $33,295 $31,224 $29,488
Cost of merchandise sold, including buying and
occupancy costs.............................. 26,996 24,868 24,950 22,895 21,531
Selling, general and administrative expenses... 7,554 7,376 7,477 6,926 6,723
Store restructuring and other charges.......... -- -- 1,130 -- --
Asset impairment charges....................... 532 -- -- -- --
Gain on pension curtailment.................... (124) -- -- -- --
Interest expense:
Debt, net.................................... 220 258 302 243 215
Capital lease obligations and other.......... 226 235 192 185 180
Income (loss) from continuing retail operations
before income taxes and equity income........ (750) 63 (462) 1,265 1,115
Equity in net income of unconsolidated
companies.................................... 38 52 52 53 50
Net income (loss) from continuing retail
operations................................... (490) 104 (260) 867 752
Net income (loss).............................. (571) 296 (974) 941 859
PER SHARE DATA
Earnings (loss) per common share from
continuing retail operations................. $ (1.08) $ 0.21 $ (0.59) $ 1.90 $ 1.77
Net income (loss) per common share............. (1.25) 0.63 (2.15) 2.06 2.02
Cash dividends declared per common share(4).... 0.36 0.96 0.96 0.92 0.88
Book value per common share.................... 10.99 13.15 13.39 16.64 15.33
FINANCIAL DATA
Working capital................................ $ 5,558 $ 3,562 $ 3,793 $ 5,014 $ 4,682
Total assets................................... 15,397 16,642 16,433 17,742 15,182
Long-term obligations -- Debt.................. 3,935 2,003 2,223 3,180 2,244
-- Capital leases........ 1,629 1,777 1,720 1,669 1,608
Shareholders' equity........................... 5,280 6,032 6,093 7,536 6,891
Capital expenditures........................... 578 1,125 871 1,244 1,199
Depreciation and amortization.................. 729 680 677 596 519
Weighted average shares outstanding
(millions)(5)................................ 460 457 457 456 426
Number of Kmart stores -- Beginning of year.... 2,481 2,486 2,435 2,391 2,350
-- Opened or acquired... 64 127 144 135 107
-- Closed............... 235 132 93 91 66
------- ------- ------- ------- -------
-- End of year.......... 2,310 2,481 2,486 2,435 2,391
Sales per square foot.......................... $ 192 $ 179 $ 179 $ 179 $ 184
Comparable store sales growth(6)............... 4.3% 1.9% 3.4% 2.0% 1.7%
Inventory turnover............................. 3.4x 3.2x 2.8x 2.7x 2.8x
Debt as a percentage of total capitalization... 51.9% 44.7% 46.8% 42.9% 36.7%
Ratio of income from continuing retail
operations to fixed charges(7)............... -- 1.2x -- 3.0x 3.0x
</TABLE>
(Footnotes on next page)
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<PAGE> 12
- ------------
(1) The Company's fiscal year ends on the last Wednesday in January. Fiscal 1995
consisted of 53 weeks and ended on January 31, 1996. As a result of the
disposal of a portion of the Company's equity interest in Thrifty PayLess,
in future filings the Company will present PayLess as a discontinued
operation. The effect of treating PayLess as a discontinued operation will
be to reduce net sales in fiscal 1993, 1992 and 1991 by $2.5 billion, $2.3
billion and $1.9 billion, respectively, without affecting net income in
those periods.
(2) Results of operations for 1995 include a pre-tax provision of $532 million
($390 million net of tax) resulting from the adoption of Financial
Accounting Standard No. 121 "Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to Be Disposed Of ("FAS 121")."
(3) Results of operations for 1993 include a pre-tax provision of $1,130 million
($723 million net of tax) for store restructuring and other charges.
(4) The Company suspended dividends on Kmart Common Stock in December 1995.
(5) As of January 31, 1996, there were 480,628,478 shares of Kmart Common Stock
outstanding.
(6) Comparable consolidated store sales growth for fiscal 1995 is based on the
52-week period ended January 24, 1996.
(7) Fixed charges represent total interest charges, a portion of operating
rentals representative of the interest factor, and amortization of debt
discount and expense. The deficiency of income from continuing retail
operations versus fixed charges was $733 million and $426 million for 1995
and 1993, respectively.
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<PAGE> 13
RISK FACTORS
Prospective purchasers of Convertible Preferred Securities should carefully
review the information contained elsewhere in this Prospectus Supplement and in
the accompanying Prospectus and should particularly consider the following
matters. Certain statements set forth below under this caption constitute
"forward-looking statements" within the meaning of the Reform Act. See "Special
Note Regarding Forward-Looking Statements" on page S-3 for additional factors
relating to such statements.
RECENT LOSSES
Although the Company had net income of $296 million for its fiscal year
ended January 25, 1995 (including gains from the disposition of discontinued
operations), the Company had a net loss of $571 million for its fiscal year
ended January 31, 1996 (inclusive of a pre-tax provision of $532 million
resulting from the adoption of FAS 121 and the writedown of the value of certain
assets) and a net loss of $974 million for its fiscal year ended January 26,
1994 (inclusive of a pre-tax provision of $1,130 million for store restructuring
and other charges). The Company's results of operations continue to be
negatively affected by weak operating performance in its domestic stores as well
as by competitive pressures at its Canadian and Builders Square stores. The
Company's return to profitability is dependent in part on the success of
management's turnaround strategy, and there can be no assurance that this
strategy will be successful. See "-- Risks of New Business Strategies", "Kmart
Corporation -- The Turnaround" and "Management's Discussion and Analysis of
Results of Operations and Financial Condition -- Liquidity and Financial
Condition."
HIGH LEVERAGE; RESTRICTIVE FINANCIAL COVENANTS; ASSET ENCUMBRANCES; RATINGS
DOWNGRADE
As of January 31, 1996, the Company's ratio of debt to capitalization was
51.9% and the Company's earnings failed to cover its fixed charges by $733
million for the fiscal year then ended. After adjustments to give effect to this
offering of Convertible Preferred Securities and the New Credit Agreement, as of
January 31, 1996, the Company's ratio of debt to capitalization would have been
44.4% and earnings would have been insufficient to cover pro forma fixed charges
by $785 million. See "Selected Historical Consolidated Financial Information."
On March 28, 1996, the Company executed a commitment letter with respect to
the New Credit Agreement that would replace the Company's current bank credit
facilities and certain real estate related debt agreements. The New Credit
Agreement will provide a revolving credit facility of $2.5 billion (the
"Revolving Credit Facility") and a term loan facility of $1.2 billion (the "Term
Loan Facility"). The consummation of this offering of Convertible Preferred
Securities is conditioned upon funding under the New Credit Agreement. The New
Credit Agreement will contain financial and other covenants, including (i) a
requirement that the Company maintain a ratio of earnings before interest,
taxes, depreciation, amortization and rental expense ("EBITDAR") to interest and
rental expense of at least 1.25 to 1, (ii) limitations on capital expenditures,
(iii) a requirement that the Company maintain a ratio of debt to capitalization
not exceeding 0.50 to 1 (or 50%) and (iv) a requirement that no amounts be
outstanding under the Revolving Credit Facility (excluding undrawn letters of
credit) in excess of $750 million for at least 30 consecutive days during each
fiscal year. The New Credit Agreement also prohibits interest and other payments
to be made in respect of the Convertible Debentures if after giving effect
thereto an Event of Default (as defined in the New Credit Agreement) has
occurred and is continuing. The New Credit Agreement will also grant the lenders
a first perfected security interest in substantially all the existing and future
material domestic assets of the Company and its domestic subsidiaries, including
inventory and accounts receivable, until such time as the Company exceeds
certain financial performance criteria or debt ratings. Also, the Company may
elect to cause its obligations to vendors in respect of trade accounts payable
to be secured by a perfected security interest in inventory, which security
interest will be subordinated to the security interest in inventory granted to
the lenders. The facilities will bear interest at floating rates, causing the
Company to be sensitive to changes in prevailing interest rates, and the
applicable interest rate on any balances outstanding under the Term Loan
Facility will increase by 0.50% on the first anniversary thereof. Funding under
the New Credit Agreement is subject to a number of conditions, including the
lenders' perfection of security interests in personal and real
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<PAGE> 14
property and the consummation of this offering of Convertible Preferred
Securities. See "New Credit Agreement."
The degree to which the Company is leveraged could have important
consequences to holders of the Convertible Preferred Securities, including the
following: (i) the Company's ability to obtain other financing in the future may
be impaired; (ii) a substantial portion of the Company's cash flow from
operations must be dedicated to the payment of principal and interest on its
indebtedness; (iii) rising interest rates could have a significant adverse
effect on the Company since all of the indebtedness under the New Credit
Agreement will bear interest at variable rates; and (iv) a high degree of
leverage may make the Company more vulnerable to economic downturns and may
limit its ability to withstand competitive pressures. In addition, the security
interest in certain assets, including inventory, granted to the lenders under
the New Credit Agreement and/or any future financial difficulties could erode
confidence in the Company on the part of its trade vendors and could cause such
vendors to tighten their credit terms to the Company. Loss of vendor support
could have a material adverse effect on the Company.
The Company's ability to make scheduled payments or to refinance its
obligations with respect to its indebtedness depends on its financial and
operating performance, which, in turn, is subject to prevailing economic
conditions and to financial, business and other factors beyond its control. The
Company expects to generate sufficient cash flow from its operations to meet the
debt service obligations of the Company. See "Management's Discussion and
Analysis of Results of Operations and Financial Condition -- Liquidity and
Financial Condition." Failure to do so could result in defaults under the New
Credit Agreement, foreclosure actions against the assets of the Company and
possible insolvency. Any such default could lead to the acceleration of the
maturity of the Company's repayment obligations under the New Credit Agreement.
On April 2, 1996, Standard & Poor's Ratings Group ("Standard & Poor's")
announced that the Company's senior debt and commercial paper rating remained on
CreditWatch with negative implications. Standard & Poor's stated that the senior
unsecured debt rating of the Company is expected to be lowered to B+ from BB due
to the significant increase in the amount of secured debt as a result of the New
Credit Agreement. On May 17, 1996, Moody's Investors Services, Inc. ("Moody's")
lowered Kmart's debt rating on its senior unsecured debt and unsecured senior
debt shelf registration to Ba3 from Ba2, on its subordinated debt shelf
registration to B2 from B1 and on its preferred stock shelf registration to b2
from b1. Moody's also placed a Ba1 rating on the Term Loan Facility and
Revolving Credit Facility under the New Credit Agreement. Moody's stated that
the lowering of Kmart's existing ratings reflects the high level of security
pledged to holders under the New Credit Agreement, the likely pledge of security
to trade creditors and the consequent weakening of the position of the existing
security holders.
RECENT MANAGEMENT CHANGES
A significant number of key officers have joined the Company since October
1994, including the Chief Executive Officer, the Presidents of U.S. Kmart Stores
and of Super Kmart Centers, respectively, and other merchandising, advertising
and finance senior executives of the Company. While such officers are
responsible for the Company's long-range strategic plan to improve its
operations and its financial performance, there can be no assurance that such
plans will be successful or that such persons will remain with the Company. In
addition, a substantial number of other members of management have also been
with the Company for relatively short periods of time and the successful
integration of such persons into the planning and implementation of the
Company's operating strategy will be important to the Company's future
performance. See "Kmart Corporation -- The Turnaround."
RISKS OF NEW BUSINESS STRATEGIES
The Company's future success depends upon the implementation of several new
business initiatives by the Company's management, including increasing the
frequency of customer visits to its stores by, among other things, increasing
Kmart's assortment of frequently purchased items, emphasizing market leader
brands, upgrading and streamlining its private label product line, improving
marketing effectiveness, improving the merchandise presentation, increasing the
merchandise in-stock position, improving inventory management and
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<PAGE> 15
developing and refining alternative store formats. Other important elements of
the Company's strategy include adjusting pricing, increasing distribution
productivity, improving the use of merchandise planning and inventory systems,
making further reductions in expenses and disposing of selected assets. See
"Kmart Corporation -- The Turnaround." The success of the Company's turnaround
strategy is dependent upon implementation of these business strategies
throughout the Kmart organization. In addition, the Company's high-frequency
strategy, which could negatively affect gross margins, will depend on increased
volume to produce higher profits. There can be no assurance that these
initiatives will be implemented successfully, or if implemented, that they will
increase the Company's profitability or improve its cash flow.
COMPETITION
The Company operates in a highly competitive environment which includes
other discounters as well as mass merchants and other general merchandise,
apparel and household merchandise retailers. The Company's primary competitors
include Wal-Mart, Target and certain regional and local discount stores. Most
Kmart stores compete with at least one of these competitors' stores, and a
substantial number of Kmart stores compete with both Wal-Mart and Target stores.
In addition, Builders Square stores compete with national and regional home
improvement superstores, including Home Depot, Lowe's and Hechinger.
LIQUIDITY; ACCESS TO CAPITAL
Historically, the Company's primary sources of working capital have been
cash flows from operations and borrowing through its commercial paper program.
Since the end of October 1995, primarily due to impending debt rating
reductions, the Company has experienced a general tightening of credit
conditions, including the elimination of its commercial paper program and
certain uncommitted letter of credit facilities. As a result, the Company has
used its revolving bank credit lines as its primary source of short-term
liquidity and intends to use the New Credit Agreement for short-term liquidity.
Borrowings under the New Credit Agreement may not exceed the sum of 55% of the
Company's eligible inventory (as defined in the New Credit Agreement) and 60% of
the net appraised value of the Company's owned real estate (as determined in the
New Credit Agreement). In addition, the entire principal amount outstanding
under the New Credit Agreement will mature three years from the initial funding
thereunder. The Company's ability to refinance its obligations under the New
Credit Agreement will depend on its financial and operating performance, which,
in turn, is influenced by prevailing economic conditions and to financial,
business and other factors beyond its control. There can be no assurance that
the Company's operating results will improve or be sufficient to enable the
Company to effect a refinancing of the New Credit Agreement at maturity.
In addition to financing its operations, the Company must also finance its
new store program. The Company historically has financed new stores using either
(i) developer financing or (ii) cash generated from operations, which would
later be refinanced on a long-term basis in the real estate financial markets.
At the end of 1995, the Company self-financed all of its new stores because
long-term developer and other real estate financing became unavailable to the
Company at acceptable terms. The Company intends to seek long-term financing for
approximately $1 billion of recently opened real estate facilities, which are
either owned or will be refinanced or purchased upon funding under the New
Credit Agreement. The net proceeds realized from such financing will depend on
the loan to value ratios obtained by the Company. In addition, the Company
intends to seek long-term financing for its new store program. If such financing
is not available, the Company must either rely on funding available under the
New Credit Agreement, find alternative funding, or possibly curtail its new
store program.
REAL ESTATE LIABILITIES
The Company conducts its retail store operations primarily in leased
facilities, generally with a base term of 25 years with varying renewal options.
If a store is closed prior to lease expiration, the Company must generally
continue to make lease payments unless the lease can be terminated, sublet,
assigned or renegotiated with the landlord. In fiscal 1995, cash outlays
resulting from closed store lease obligations and dispositions, net of any
sublease income, totaled $181 million. Such outlays are expected to approximate
$125 million in fiscal 1996, $110 million in fiscal 1997 and $95 million in
fiscal 1998. At January 31, 1996, the total remaining gross
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<PAGE> 16
lease obligation costs relating to closed stores aggregated approximately $1.1
billion. Based upon historical results, management estimates that approximately
$600 million of the remaining gross lease obligation will be recovered through
subleasing. Also, the Company has outstanding guarantees for leases of certain
previously sold subsidiaries, including Furr's/Bishop's ("Furr's") cafeteria
chains, the Borders Group, OfficeMax, The Sports Authority and PACE, and the
Company has entered into certain real estate arrangements whereby it may be
obligated to purchase certain projects upon completion. The aggregate amount of
such lease guarantees was $1.5 billion at January 31, 1996. In addition, as of
January 31, 1996, Builders Square had lease obligations of approximately $2.2
billion, substantially all of which have been guaranteed by Kmart. Such
guarantees may limit the Company's flexibility to dispose of Builders Square.
FLUCTUATIONS IN QUARTERLY OPERATING RESULTS; SEASONALITY
The Company has historically experienced significant fluctuations in
quarterly operating results. The mass merchandising business in general is
highly seasonal and depends to a significant extent on the Christmas selling
season. The Company's quarterly operating results can also vary depending upon
the timing of implementation of the Company's expense reduction programs,
particularly those which result in one-time charges or credits. See "Kmart
Corporation -- The Turnaround -- Enhanced Overall Efficiency." In addition, the
retail industry historically has been subject to cyclical variation, and a
downturn in the general economy or uncertainties regarding future economic
prospects that impact consumer spending habits could have a material adverse
effect on the Company's financial position and results of operations.
RANKING OF SUBORDINATE OBLIGATIONS UNDER THE GUARANTEE AND CONVERTIBLE
DEBENTURES
Kmart's obligations under the Guarantee are subordinate and junior in right
of payment to all liabilities of Kmart and pari passu in right of payment with
the most senior preferred stock issued, from time to time, if any, by Kmart. The
obligations of Kmart under the Convertible Debentures are subordinate and junior
in right of payment to all present and future Senior Indebtedness of Kmart. No
payment of principal (including redemption payments, if any), premium, if any,
or interest on the Convertible Debentures may be made if (i) any Senior
Indebtedness of Kmart is not paid when due and any applicable grace period with
respect to such default has ended with such default not having been cured or
waived or ceasing to exist, (ii) the maturity of any Senior Indebtedness has
been accelerated because of a default or (iii) an Event of Default has occurred
and is continuing under the New Credit Agreement or any refinancing thereof in
the bank credit market (including institutional participants therein),
permitting the lenders to accelerate the maturity thereof or demand payment in
full. Borrowings pursuant to the New Credit Agreement, which provides for
facilities aggregating $3.7 billion, would constitute Senior Indebtedness. In
addition, in the event the Company grants a security interest in inventory to
vendors as permitted by the New Credit Agreement, the Convertible Debentures
will be subordinated in right of payment to the obligations secured by such
security interest with respect to such inventory. There are no terms in the
Convertible Preferred Securities, the Convertible Debentures or the Guarantee
that limit Kmart's ability to incur additional indebtedness, including
indebtedness that ranks senior to the Convertible Debentures and the Guarantee,
or to grant security interests to secure outstanding or new indebtedness. See
"Description of Trust Preferred Securities Guarantees -- Status of the Trust
Preferred Securities Guarantees" and "Description of Debt Securities" in the
accompanying Prospectus, and "Description of the Convertible Debentures --
Subordination" herein.
RIGHTS UNDER THE GUARANTEE
The Guarantee will be qualified as an indenture under the Trust Indenture
Act. The Institutional Trustee will act as indenture trustee under the Guarantee
for the purposes of compliance with the provisions of the Trust Indenture Act
(the "Guarantee Trustee"). The Guarantee Trustee will hold the Guarantee for the
benefit of the holders of the Convertible Preferred Securities.
Under the Guarantee, Kmart guarantees the holders of the Convertible
Preferred Securities the payment of (i) any accrued and unpaid distributions
that are required to be paid on the Convertible Preferred Securities, to the
extent the Trust has funds available therefor, (ii) the Redemption Price,
including all accrued and unpaid distributions with respect to Convertible
Preferred Securities called for redemption by the
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<PAGE> 17
Trust, to the extent the Trust has funds available therefor, and (iii) upon a
voluntary or involuntary dissolution, winding-up or termination of the Trust
(other than in connection with the distribution of Convertible Debentures to the
holders of Convertible Preferred Securities or a redemption of all the
Convertible Preferred Securities), the lesser of (a) the aggregate of the
liquidation amount and all accrued and unpaid distributions on the Convertible
Preferred Securities to the date of the payment to the extent the Trust has
funds available therefor or (b) the amount of assets of the Trust remaining
available for distribution to holders of the Convertible Preferred Securities in
liquidation of the Trust. The holders of a majority in liquidation amount of the
Convertible Preferred Securities have the right to direct the time, method and
place of conducting any proceeding for any remedy available to the Guarantee
Trustee or to direct the exercise of any trust or power conferred upon the
Guarantee Trustee under the Guarantee. In addition, any record holder of
Convertible Preferred Securities may institute a legal proceeding directly
against Kmart to enforce the Guarantee without first instituting a legal
proceeding against the Trust, the Guarantee Trustee or any other person or
entity if (i) the Institutional Trustee fails to enforce its rights under the
Convertible Debentures, or (ii) Kmart defaults under the Guarantee with respect
to the Convertible Preferred Securities. If Kmart were to default on its
obligation to pay amounts payable on the Convertible Debentures, the Trust would
lack available funds for the payment of distributions or amounts payable on
redemption of the Convertible Preferred Securities or otherwise, and, in such
event, holders of the Convertible Preferred Securities would not be able to rely
upon the Guarantee for payment of such amounts. Instead, holders of the
Convertible Preferred Securities would rely on the enforcement (1) by the
Institutional Trustee of its rights as registered holder of the Convertible
Debentures against Kmart pursuant to the terms of the Convertible Debentures or
(2) by such holder of its right of direct action against Kmart to enforce
payments on the Convertible Debentures. See "Description of Trust Preferred
Securities Guarantees" and "Description of Debt Securities" in the accompanying
Prospectus. The Declaration (as hereinafter defined) provides that each holder
of Convertible Preferred Securities, by acceptance thereof, agrees to the
provisions of the Guarantee, including the subordination provisions thereof, and
the Indenture.
ENFORCEMENT OF CERTAIN RIGHTS BY HOLDERS OF CONVERTIBLE PREFERRED SECURITIES
If (i) Kmart Financing fails to pay distributions in full on the
Convertible Preferred Securities (other than pursuant to a deferral) or (ii) a
Declaration Event of Default (as defined herein) occurs and is continuing, then
the holders of Convertible Preferred Securities would rely on the enforcement by
the Institutional Trustee of its rights as a holder of the Convertible
Debentures against Kmart. In addition, the holders of a majority in liquidation
amount of the Convertible Preferred Securities will have the right to direct the
time, method, and place of conducting any proceeding for any remedy available to
the Institutional Trustee or to direct the exercise of any trust or power
conferred upon the Institutional Trustee under the Declaration, including the
right to direct the Institutional Trustee to exercise the remedies available to
it as a holder of the Convertible Debentures. If the Institutional Trustee fails
to enforce its rights under the Convertible Debentures, a holder of Convertible
Preferred Securities may institute a legal proceeding directly against Kmart to
enforce the Institutional Trustee's rights under the Convertible Debentures
without first instituting any legal proceeding against the Institutional Trustee
or any other person or entity. Notwithstanding the foregoing, if a Declaration
Event of Default has occurred and is continuing and such event is attributable
to the failure of Kmart to pay interest or principal on the Convertible
Debentures on the date such interest or principal is otherwise payable (or in
the case of redemption, on the redemption date), then the registered holder of
Convertible Preferred Securities may directly institute a proceeding for
enforcement of payment to such holder of the principal of or interest on the
Convertible Debentures having a principal amount equal to the aggregate
liquidation amount of the Convertible Preferred Securities of such holder (a
"Direct Action") on or after the respective due date specified in the
Convertible Debentures. In connection with such Direct Action, Kmart will be
subrogated to the rights of such holders of Convertible Preferred Securities
under the Declaration to the extent of any payment made by Kmart to such holder
of Convertible Preferred Securities in such Direct Action. The holders of
Convertible Preferred Securities will not be able to exercise directly any other
remedy available to the holders of the Convertible Debentures. See "Description
of the Convertible Preferred Securities -- Declaration Events of Default."
S-17
<PAGE> 18
OPTION TO EXTEND INTEREST PAYMENT PERIOD
So long as Kmart shall not be in default in the payment of interest on the
Convertible Debentures, Kmart has the right under the Indenture (as such term is
defined in "Description of the Convertible Debentures" herein) to defer payments
of interest on the Convertible Debentures by extending the interest payment
period at any time, and from time to time, on the Convertible Debentures. As a
consequence of such an extension, quarterly distributions on the Convertible
Preferred Securities would be deferred (but despite such deferral would continue
to accumulate with interest thereon at the distribution rate, compounded
quarterly) by the Trust during any such extended interest payment period. Such
right to extend the interest payment period for the Convertible Debentures is
limited to a period not exceeding 20 consecutive quarters. In the event that
Kmart exercises this right to defer interest payments, then (a) Kmart shall not
declare or pay dividends on, or make a distribution with respect to, or redeem,
purchase or acquire, or make a liquidation payment with respect to, any of its
capital stock (other than (i) purchases or acquisitions of shares of Kmart
Common Stock in connection with the satisfaction by Kmart of its obligations
under any employee benefit plans, (ii) as a result of a reclassification of
Kmart capital stock or the exchange or conversion of one class or series of
Kmart capital stock for another class or series of Kmart capital stock or (iii)
the purchase of fractional interests in shares of Kmart capital stock pursuant
to the conversion or exchange provisions of such Kmart capital stock or the
security being converted or exchanged), (b) Kmart shall not make any payment of
interest, principal or premium, if any, on or repay, repurchase or redeem any
debt securities issued by Kmart that rank pari passu with or junior to the
Convertible Debentures and (c) Kmart shall not make any guarantee payments with
respect to the foregoing (other than pursuant to the Guarantee). Prior to the
termination of any such Extension Period, Kmart may further extend such
Extension Period; provided, that such Extension Period, together with all such
previous and further extensions thereof, may not exceed 20 consecutive quarters
or extend beyond the maturity of the Convertible Debentures. Upon the
termination of any Extension Period and the payment of all amounts then due,
Kmart may commence a new Extension Period, subject to the above requirements.
See "Description of the Convertible Preferred Securities -- Distributions" and
"Description of the Convertible Debentures -- Option to Extend Interest Payment
Period."
Should Kmart exercise its right to defer payments of interest by extending
the interest payment period, each holder of Convertible Preferred Securities
will continue to accrue income (as original issue discount ("OID")) in respect
of the deferred and compounded interest allocable to its Convertible Preferred
Securities for United States federal income tax purposes, which will be
allocated but not distributed, to holders of record of Convertible Preferred
Securities. As a result, each such holder of Convertible Preferred Securities
will recognize income for United States federal income tax purposes in advance
of the receipt of cash and will not receive the cash from Kmart Financing
related to such income if such holder disposes of its Convertible Preferred
Securities prior to the record date for the date on which distributions of such
amounts are made. Kmart has no current intention of exercising its right to
defer payments of interest by extending the interest payment period of the
Convertible Debentures. However, should Kmart determine to exercise such right
in the future, the market price of the Convertible Preferred Securities is
likely to be affected. A holder that disposes of its Convertible Preferred
Securities during an Extension Period, therefore, might not receive the same
return on its investment as a holder that continues to hold its Convertible
Preferred Securities. In addition, as a result of the existence of Kmart's right
to defer interest payments, the market price of the Convertible Preferred
Securities (which represent an undivided beneficial interest in the Convertible
Debentures) may be more volatile than other securities on which OID accrues that
do not have such rights. See "United States Federal Income Taxation -- Original
Issue Discount."
PROPOSED TAX LEGISLATION
On March 19, 1996, as a part of President Clinton's Fiscal 1997 Budget
Proposal, the Treasury Department proposed legislation (the "Proposed
Legislation") that, among other things, would (i) treat as equity for United
States federal income tax purposes certain debt instruments with a maximum term
of more than 20 years and (ii) disallow interest deductions on certain
convertible debt instruments or defer interest deductions on certain debt
instruments issued with original issue discount. The Proposed Legislation is
proposed to be effective for debt instruments issued on or after December 7,
1995; however, if enacted in its
S-18
<PAGE> 19
current proposed form, it would not cause the Convertible Debentures to be
treated as equity for United States federal income tax purposes since the
maximum term of the Convertible Debentures will not exceed 20 years and should
not affect Kmart's ability to deduct interest payments on the Convertible
Debentures.
On March 29, 1996, Senate Finance Committee Chairman William V. Roth, Jr.
and House Ways and Means Committee Chairman Bill Archer issued a joint statement
(the "Joint Statement") indicating their intent that the Proposed Legislation,
if adopted by either of the tax-writing committees of Congress, would have an
effective date that is no earlier than the date of "appropriate Congressional
action." Based upon the Joint Statement, it is expected that if the Proposed
Legislation were enacted, such legislation would not apply to the Convertible
Debentures since they would be issued prior to the date of any "appropriate
Congressional action" or otherwise qualify for transitional relief. However,
there can be no assurances that the effective date guidance contained in the
Joint Statement will be incorporated in the Proposed Legislation, if enacted, or
that other legislation enacted after the date hereof will not otherwise
adversely affect the tax treatment of the Convertible Debentures. If legislation
were enacted that adversely affects the tax treatment of the Convertible
Debentures, there could be a distribution of the Convertible Debentures to
holders of the Convertible Preferred Securities or, in certain circumstances,
the redemption of the Convertible Debentures by Kmart and the distribution by
the Trust of the resulting cash in redemption of the Convertible Preferred
Securities. See "Description of the Convertible Preferred Securities -- Special
Event Distribution; Tax Event Redemption."
SPECIAL EVENT DISTRIBUTION; TAX EVENT REDEMPTION
Upon the occurrence of a Special Event (as defined herein), Kmart Financing
could be dissolved (with the consent of Kmart), except in the limited
circumstance described below, with the result that the Convertible Debentures
would be distributed to the holders of the Trust Securities in connection with
the liquidation of the Trust. In certain circumstances, Kmart would have the
right to redeem the Convertible Debentures, in whole or in part, in lieu of a
distribution of the Convertible Debentures by the Trust; in which event the
Trust would redeem the Trust Securities on a pro rata basis to the same extent
as the Convertible Debentures are redeemed by Kmart. See "Description of the
Convertible Preferred Securities -- Special Event Distribution; Tax Event
Redemption."
Under current United States federal income tax law, a distribution of
Convertible Debentures upon the dissolution of Kmart Financing would not be a
taxable event to holders of the Convertible Preferred Securities. Upon
occurrence of a Special Event, however, a dissolution of Kmart Financing in
which holders of the Convertible Preferred Securities receive cash would be a
taxable event to such holders. See "United States Federal Income
Taxation -- Receipt of Convertible Debentures or Cash Upon Liquidation of Kmart
Financing."
There can be no assurance as to the market prices for the Convertible
Preferred Securities or the Convertible Debentures that may be distributed in
exchange for Convertible Preferred Securities if a dissolution or liquidation of
the Trust were to occur. Accordingly, the Convertible Preferred Securities that
an investor may purchase, whether pursuant to the offer made hereby or in the
secondary market, or the Convertible Debentures that a holder of Convertible
Preferred Securities may receive on dissolution and liquidation of the Trust,
may trade at a discount to the price that the investor paid to purchase the
Convertible Preferred Securities offered hereby. Because holders of Convertible
Preferred Securities may receive Convertible Debentures upon the occurrence of a
Special Event, prospective purchasers of Convertible Preferred Securities are
also making an investment decision with regard to the Convertible Debentures and
should carefully review all the information regarding the Convertible Debentures
contained herein and in the accompanying Prospectus. See "Description of the
Convertible Preferred Securities -- Special Event Distribution; Tax Event
Redemption" and "Description of the Convertible Debentures -- General."
LIMITED VOTING RIGHTS
Holders of Convertible Preferred Securities will have limited voting rights
and will not be entitled to vote to appoint, remove or replace, or to increase
or decrease the number of, Kmart Trustees, which voting rights
S-19
<PAGE> 20
are vested exclusively in the holder of the Common Securities. See "Description
of the Convertible Preferred Securities -- Voting Rights."
TRADING PRICE
The Convertible Preferred Securities may trade at a price that does not
fully reflect the value of accrued but unpaid interest with respect to the
underlying Convertible Debentures. A holder who disposes of Convertible
Preferred Securities between record dates for payments of distributions thereon
will be required to include accrued but unpaid interest on the Convertible
Debentures through the date of disposition in income as ordinary income (i.e.,
OID), and to add such amount to the adjusted tax basis in the holder's pro rata
share of the underlying Convertible Debentures deemed disposed of. To the extent
the selling price is less than the holder's adjusted tax basis (which will
include, in the form of OID, all accrued but unpaid interest), a holder will
recognize a capital loss. Subject to certain limited exceptions, capital losses
cannot be applied to offset ordinary income for United States federal income tax
purposes. See "United States Federal Income Taxation -- Original Issue Discount"
and "-- Sales of Convertible Preferred Securities."
S-20
<PAGE> 21
CAPITALIZATION OF KMART
The following table sets forth at January 31, 1996 the actual
capitalization of Kmart on a consolidated basis and as adjusted to reflect (i)
the sale of 15,000,000 Convertible Preferred Securities and the application of
the proceeds therefrom to the purchase of Convertible Debentures of Kmart, (ii)
the funding under the New Credit Agreement, and (iii) the application of (a)
available cash balances resulting from the removal of payment restrictions
contained in the Company's current bank credit facilities and certain real
estate related debt and (b) the proceeds from the Convertible Debentures and the
initial funding under the New Credit Agreement, to repay the Company's current
bank credit facilities and certain real estate related debt. See "Use of
Proceeds." The table should be read in conjunction with Kmart's consolidated
financial statements and notes thereto included elsewhere in this Prospectus
Supplement.
<TABLE>
<CAPTION>
JANUARY 31, 1996
-------------------------
ACTUAL AS ADJUSTED
------- --------------
(DOLLARS IN MILLIONS)
<S> <C> <C>
Cash and temporary investments........................................ $ 1,095 $ 300
======= =======
Current debt and capital lease obligations:
Long-term debt due within one year.................................. $ 7 $ 7
Capital lease obligations due within one year....................... 119 119
Long-term debt and capital lease obligations:
Revolving Credit Facility........................................... -- 127
Long-term debt...................................................... 3,935 1,712
Term Loan Facility.................................................. -- 1,200
Capital lease obligations........................................... 1,629 1,629
Company-obligated mandatorily redeemable convertible preferred
securities of a subsidiary Trust holding solely % convertible
junior subordinated debentures of Kmart(1).......................... -- 728
Preferred stock, 10,000,000 shares authorized; no shares issued....... -- --
Common stock, 1,500,000,000 shares authorized; 486,511,184 shares
issued.............................................................. 486 486
Capital in excess of par value........................................ 1,624 1,624
Retained earnings..................................................... 3,326 3,326
Treasury shares and restricted stock.................................. (92) (92)
Foreign currency translation adjustment............................... (64) (64)
------- -------
Total capitalization............................................. $10,970 $ 10,802
======= =======
Debt to capitalization................................................ 51.9% 44.4%
======= =======
</TABLE>
- -------------------------
(1) As described in this Prospectus Supplement, the sole assets of the Trust
will be $773,195,900 principal amount of % Convertible Junior
Subordinated Debentures of Kmart. Amount shown is net of offering expenses
and discounts and assumes the Underwriters' overallotment option is not
exercised.
S-21
<PAGE> 22
COMMON STOCK PRICES AND DIVIDENDS
Kmart Common Stock is listed on the New York Stock Exchange under the
symbol KM. Kmart Common Stock also is listed on the Pacific Stock Exchange and
the Chicago Stock Exchange.
The following table sets forth the high and low closing sale prices for
Kmart Common Stock for the calendar quarters indicated as reported by the New
York Stock Exchange Composite Tape.
<TABLE>
<CAPTION>
HIGH LOW
---- ---
<S> <C> <C>
Year ended December 31, 1994
First quarter.................................................... $21 1/2 $17 7/8
Second quarter................................................... 18 5/8 15
Third quarter.................................................... 18 5/8 15 3/4
Fourth quarter................................................... 17 3/4 12 3/4
Year ended December 31, 1995
First quarter.................................................... 14 3/8 12
Second quarter................................................... 15 3/8 12 5/8
Third quarter.................................................... 16 1/4 13 5/8
Fourth quarter................................................... 14 1/2 6
Year ended December 31, 1996
First quarter.................................................... 10 3/8 5 3/4
Second quarter (through May 23, 1996)............................ 10 5/8 9
</TABLE>
The Company suspended dividends on Kmart Common Stock in December 1995 and
currently does not plan to pay a dividend. See "Management's Discussion and
Analysis of Results of Operations and Financial Condition -- Liquidity and
Financial Condition." Any determination to pay dividends in the future will be
at the discretion of the Company's Board of Directors and will be dependent upon
the Company's results of operations, financial condition, capital expenditures,
working capital requirements, any contractual restrictions and other factors
deemed relevant by the Board of Directors. For a description of certain
limitations on the Company's ability to pay dividends, see "New Credit
Agreement."
USE OF PROCEEDS
All of the proceeds from the sale of the Convertible Preferred Securities
will be invested by the Trust in Convertible Debentures issued by Kmart pursuant
to the Indenture. Such proceeds will be used by Kmart, together with (i) the
proceeds of borrowings available under the New Credit Agreement and (ii)
available cash balances resulting from the removal of payment restrictions
contained in the Company's current bank credit facilities and certain real
estate related debt, to repay such bank credit facilities and real estate
related debt, fund the Company's working capital and other operational needs,
finance capital expenditures and for other general corporate purposes. See
"Capitalization of Kmart."
The principal amount outstanding under the Company's current bank credit
facilities to be repaid upon closing aggregated approximately $1,982 million as
of May 1, 1996, consisting of a 364 Day Agreement maturing in October 1997 with
an outstanding principal balance of $695 million, a Seasonal Agreement maturing
in February 1997 with an outstanding principal balance of $298 million and a
Three Year Agreement maturing in October 1997 with an outstanding principal
balance of $988 million. Such debt bears interest at floating rates and the
weighted average interest rate at May 1, 1996 was 7.8%.
The aggregate principal amount outstanding under the real estate related
debt to be repaid upon closing was approximately $579 million as of May 1, 1996,
bearing interest at floating rates with a weighted average interest rate at such
date of approximately 7%. $197 million of such debt matures in February 1997,
and $382 million of such debt matures in October 1997.
The Company also intends to repay approximately $344 million aggregate
principal amount of certain outstanding real estate related debt which was
subject to ratings downgrade put features. Such debt matures in October 1997 and
bears interest at rates ranging from 7.2% to 9.3%, with a weighted average
interest rate of 8.4%.
ACCOUNTING TREATMENT
The financial statements of the Trust will be reflected in Kmart's
consolidated financial statements with the Convertible Preferred Securities
shown as Company-obligated mandatorily redeemable convertible preferred
securities of a subsidiary Trust holding solely % convertible junior
subordinated debentures of Kmart.
S-22
<PAGE> 23
SELECTED HISTORICAL CONSOLIDATED FINANCIAL INFORMATION
The following table sets forth selected historical consolidated financial
information with respect to Kmart for the periods indicated. This information
should be read in conjunction with Kmart's Consolidated Financial Statements and
notes thereto and "Management's Discussion and Analysis of Results of Operations
and Financial Condition," included elsewhere in this Prospectus Supplement.
Information for all years has been restated to exclude discontinued operations
of the Borders Group, OfficeMax, The Sports Authority, PACE and Coles Myer. The
selected historical consolidated financial information for each of the five
years in the period ended January 31, 1996, has been derived from the
consolidated financial statements of Kmart, which statements have been audited
by Price Waterhouse LLP, independent accountants. See "Experts" included in this
Prospectus Supplement and the accompanying Prospectus.
<TABLE>
<CAPTION>
FISCAL YEAR ENDED(1)
-------------------------------------------------------------------
JANUARY 31, JANUARY 25, JANUARY 26, JANUARY 27, JANUARY 29,
1996(2) 1995 1994(3) 1993 1992
----------- ----------- ----------- ----------- -----------
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AND SALES
PER SQUARE FOOT DATA)
<S> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA
Sales........................................... $34,389 $32,514 $33,295 $31,224 $29,488
Cost of merchandise sold, including buying and
occupancy costs............................... 26,996 24,868 24,950 22,895 21,531
Selling, general and administrative expenses.... 7,554 7,376 7,477 6,926 6,723
Store restructuring and other charges........... -- -- 1,130 -- --
Asset impairment charges........................ 532 -- -- -- --
Gain on pension curtailment..................... (124) -- -- -- --
Interest expense:
Debt, net..................................... 220 258 302 243 215
Capital lease obligations and other........... 226 235 192 185 180
Income (loss) from continuing retail operations
before income taxes and equity income......... (750) 63 (462) 1,265 1,115
Equity in net income of unconsolidated
companies..................................... 38 52 52 53 50
Net income (loss) from continuing retail
operations.................................... (490) 104 (260) 867 752
Net income (loss)............................... (571) 296 (974) 941 859
PER SHARE DATA
Earnings (loss) per common share from continuing
retail operations............................. $ (1.08) $ 0.21 $ (0.59) $ 1.90 $ 1.77
Net income (loss) per common share.............. (1.25) 0.63 (2.15) 2.06 2.02
Cash dividends declared per common share(4)..... 0.36 0.96 0.96 0.92 0.88
Book value per common share..................... 10.99 13.15 13.39 16.64 15.33
FINANCIAL DATA
Working capital................................. $ 5,558 $ 3,562 $ 3,793 $ 5,014 $ 4,682
Total assets.................................... 15,397 16,642 16,433 17,742 15,182
Long-term obligations -- Debt................... 3,935 2,003 2,223 3,180 2,244
-- Capital leases......... 1,629 1,777 1,720 1,669 1,608
Shareholders' equity............................ 5,280 6,032 6,093 7,536 6,891
Capital expenditures............................ 578 1,125 871 1,244 1,199
Depreciation and amortization................... 729 680 677 596 519
Weighted average shares outstanding
(millions)(5)................................. 460 457 457 456 426
Number of Kmart stores -- Beginning of year 2,481 2,486 2,435 2,391 2,350
-- Opened or acquired.... 64 127 144 135 107
-- Closed................ 235 132 93 91 66
------- ------- ------- ------- -------
-- End of year........... 2,310 2,481 2,486 2,435 2,391
Sales per square foot........................... $ 192 $ 179 $ 179 $ 179 $ 184
Comparable store sales growth(6)................ 4.3% 1.9% 3.4% 2.0% 1.7%
Inventory turnover.............................. 3.4x 3.2x 2.8x 2.7x 2.8x
Debt as a percentage of total capitalization.... 51.9% 44.7% 46.8% 42.9% 36.7%
Ratio of income from continuing retail
operations to fixed charges(7)................ -- 1.2x -- 3.0x 3.0x
</TABLE>
S-23
<PAGE> 24
- ------------
(1) The Company's fiscal year ends on the last Wednesday in January. Fiscal 1995
consisted of 53 weeks and ended on January 31, 1996. As a result of the
disposal of a portion of the Company's equity interest in Thrifty PayLess,
in future filings the Company will present PayLess as a discontinued
operation. The effect of treating PayLess as a discontinued operation will
be to reduce net sales in fiscal 1993, 1992 and 1991 by $2.5 billion, $2.3
billion and $1.9 billion, respectively, without affecting net income in
those periods.
(2) Results of operations for 1995 include a pre-tax provision of $532 million
($390 million net of tax) resulting from the adoption of FAS 121.
(3) Results of operations for 1993 include a pre-tax provision of $1,130 million
($723 million net of tax) for store restructuring and other charges.
(4) The Company suspended dividends on Kmart Common Stock in December 1995.
(5) As of January 31, 1996, there were 480,628,478 shares of Kmart Common Stock
outstanding.
(6) Comparable consolidated store sales growth for fiscal 1995 is based on the
52-week period ended January 24, 1996.
(7) Fixed charges represent total interest charges, a portion of operating
rentals representative of the interest factor, and amortization of debt
discount and expense. The deficiency of income from continuing retail
operations versus fixed charges was $733 million and $426 million for 1995
and 1993, respectively.
S-24
<PAGE> 25
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF
OPERATIONS AND FINANCIAL CONDITION
OVERVIEW
Over the past three years, the Company has undertaken a number of
initiatives intended to strengthen its performance and improve operating
results.
In January 1994, the Company approved a restructuring plan to expand the
store modernization program begun in 1989. The fiscal 1993 modernization program
focused on creating larger-format discount stores and Super Kmart Centers. See
"-- Store Restructuring and Other Charges." As a result of the restructuring
plan, Kmart recorded a pre-tax charge of $1,130 million in the fourth quarter of
1993.
In mid 1994, the Company returned its focus to the core domestic discount
store business. Since November 1994, the Company has completed the divestiture
of The Sports Authority, OfficeMax, the Borders Group and Coles Myer, resulting
in aggregate proceeds to the Company of approximately $2.9 billion. The Company
also divested ownership and operation of its former automotive service business
located in or adjacent to approximately 860 domestic Kmart stores. The Company
recently sold two subsidiaries operating 13 stores in the Czech and Slovak
Republics for aggregate proceeds of approximately $118 million and sold
5,290,648 shares of common stock of Thrifty PayLess for approximately $70
million.
In late 1994, the Company began to recruit senior executives from outside
Kmart with the goal of bringing fresh perspective and leadership to address
Kmart's operational problems. To address Kmart's operating weaknesses,
management began to focus on improving merchandise flow, reducing out-of-stock
inventory problems, tightening control over capital expenditures, reducing costs
and improving the Company's information systems. A new chief executive officer
was hired in June 1995, filling a vacancy that had existed for several months.
During the remainder of 1995 and continuing into early 1996, the new chief
executive officer focused on building a management team to return Kmart to
profitability. To that end, a number of senior executives were hired, including
a new president and chief merchandising officer of U.S. Kmart stores, who was
hired in December 1995 to revitalize Kmart's merchandising efforts.
The Company's operating results deteriorated in 1995 as a result of
aggressive clearance of $700 million (at retail value) in aged, discontinued
inventory and continued heavy promotional discounting. Results in 1995 were also
adversely affected by operating losses at Builders Square and at the Company's
Canadian operations. In fiscal 1995, Kmart reported a net loss from continuing
operations of $100 million (excluding the effect of a pre-tax provision of $532
million ($390 million net of tax) resulting from the adoption of FAS 121).
At the end of October 1995, primarily due to disappointing operating
results and a review by rating agencies of its long-term debt, Kmart experienced
a general tightening of credit conditions, including the elimination of its
commercial paper program and certain uncommitted letter of credit facilities. In
early 1996, Kmart's long-term senior unsecured debt rating was downgraded to
non-investment grade (BB by Standard & Poor's and Ba2 by Moody's). As a result
of the ratings downgrade, certain of the Company's real estate related debt
could have been required to be repaid, either by its terms or at the option of
the holders, and the payment of such debt would have accelerated any outstanding
borrowings under the Company's bank credit facilities. As of February 29, 1996,
based on an agreement in principle reached in December 1995, Kmart executed
definitive agreements to restructure such real estate related debt and bank
credit facilities which relieved much of the immediate-term liquidity pressure
on Kmart. Pursuant to these agreements, the maturities of Kmart's current
seasonal bank credit facility and certain of the real estate related debt were
extended to February 1997, and the maturity of all other current bank credit
facilities remained at October 1997.
In view of the limitations the debt restructuring placed on Kmart's ability
to attempt a business turnaround, Kmart initiated negotiations to secure a new
$3.7 billion, three-year New Credit Agreement and to pursue an offering of
Convertible Preferred Securities to increase its financial flexibility. The New
Credit Agreement will replace the Company's current bank credit facilities and
certain real estate related debt aggregating $2.9 billion. The Convertible
Preferred Securities offered hereby and the New Credit Agreement will
recapitalize the Company with a more traditional, flexible and stable capital
structure. Based on its current operating plan, the Company believes that the
Convertible Preferred Securities, the New Credit
S-25
<PAGE> 26
Agreement and cash generated from operations, will provide sufficient funds to
meet its cash needs through 1999. The closing of this offering of Convertible
Preferred Securities and funding under the New Credit Agreement are each
conditioned upon one another.
RESULTS OF CONSOLIDATED OPERATIONS
A three-year summary of sales and operating income (loss) follows:
<TABLE>
<CAPTION>
% CHANGE % CHANGE
FISCAL YEAR ------------------- FISCAL YEAR ------------------- FISCAL YEAR
ENDED ALL COMPARABLE ENDED ALL COMPARABLE ENDED
JANUARY 31, 1996 STORES STORES(1) JANUARY 25, 1995 STORES STORES JANUARY 26, 1994
---------------- ------ ---------- ---------------- ------ ---------- ----------------
(DOLLARS IN MILLIONS)
<S> <C> <C> <C> <C> <C> <C> <C>
Sales
United States.... $ 30,429 7.2 5.6 $ 28,386 5.3 1.4 $ 26,948
International.... 1,284 9.1 3.0(2) 1,177 8.0 4.2(2) 1,090
Builders
Square......... 2,676 (9.3) (8.7) 2,951 8.5 5.9 2,719
PayLess.......... -- -- -- -- -- -- 2,538
------- ------- -------
Total Sales.... $ 34,389 5.8 4.3 $ 32,514 (2.3) 1.9 $ 33,295
======= ======= =======
Operating Income
(Loss)(3)
United States.... $ 262 (48.1) $ 505 (47.7) $ 966
International.... (17) (173.9) 23 (52.1) 48
Builders
Square......... (17) (160.7) 28 (53.3) 60
PayLess.......... -- -- -- -- 88
------- ------- -------
Total Operating
Income....... $ 228 (59.0) $ 556 (52.2) $ 1,162
======= ======= =======
</TABLE>
- -------------------------
(1) Comparable store sales for fiscal 1995 are based on the 52-week period ended
January 24, 1996.
(2) International comparable store sales change is calculated on sales in the
applicable local currency.
(3) Operating income (loss) for 1995 excludes charges of $370 million and $162
million resulting from the adoption of FAS 121 regarding the accounting for
impairment of long-lived assets of Builders Square and certain international
operations, respectively. Operating income for fiscal 1993 excludes store
restructuring and other charges of $865 million, $39 million and $226
million for United States operations, international operations and Builders
Square, respectively.
The following table highlights the store activity during 1995:
<TABLE>
<CAPTION>
FISCAL YEAR ENDED FISCAL 1995 ACTIVITY
------------------------------------ -------------------------
JANUARY 26, 1994 JANUARY 25, 1995 OPENED CLOSED END
---------------- ---------------- ------ ------ -----
<S> <C> <C> <C> <C> <C>
Kmart
United States........................... 2,323 2,316 59 (214) 2,161
Canada.................................. 127 128 2 (3) 127
Czech and Slovak Republics................ 13 13 -- -- 13
Mexico.................................... -- 2 2 -- 4
Singapore................................. -- 2 1 -- 3
Other..................................... 23 20 -- (18) 2
--
----- ----- ---- -----
Total General Merchandise............ 2,486 2,481 64 (235) 2,310
--
----- ----- ---- -----
Builders Square........................... 177 166 16 (15) 167
--
----- ----- ---- -----
Total Stores.............................. 2,663 2,647 80 (250) 2,477
===== ===== == ==== =====
General Merchandise Selling Square Feet
(Millions).............................. 168 175 169
===== ===== =====
General Merchandise Store Sales
per Selling Square Foot................. $ 179 $ 179 $ 192
===== ===== =====
General Merchandise Capital Expenditures
-- Owned Property....................... $ 793 $1,021 $ 540
===== ===== =====
</TABLE>
S-26
<PAGE> 27
FISCAL 1995 COMPARED TO FISCAL 1994
SALES
Consolidated sales increased 5.8% during 1995 driven by comparable store
sales growth of 4.3% and the opening of 80 new stores during the past year,
partially offset by the closing of 250 stores primarily during the first and
third quarters of the year. Comparable store sales increases are attributed to
continued maturation of domestic and international stores opened during and
prior to 1994, increased levels of promotional activity and related customer
traffic, improved merchandise in-stock position and a larger average transaction
size. Total sales and comparable store sales declines at Builders Square reflect
increased competition in major markets, generally weak sales in the industry
segment and deflation in lumber prices.
GROSS MARGIN
Cost of merchandise sold, including buying and occupancy costs, as a
percentage of sales, was 78.5% in 1995 as compared with 76.5% in 1994. Gross
margin in 1995 was significantly affected by the aggressive clearance of
discontinued inventory, particularly in the third quarter, and by substantially
higher levels of promotional activity. International, particularly Canada, and
Builders Square costs of merchandise sold, as a percentage of sales, were
significantly affected by competitive pressures.
While continued pursuit of sales volumes, including high-frequency
strategies, could potentially cause some erosion of gross margin rates in 1996,
Kmart plans to offset this margin pressure through a reduction in the level of
clearance items and an improved balance between promotional and non-promotional
sales achieved through new advertising initiatives and a more customer pleasing
merchandise assortment. See "Risk Factors -- Risks of New Business Strategies"
and "Kmart -- The Turnaround."
Substantially all domestic inventories are measured using the last-in,
first-out (LIFO) method of inventory valuation. A reduction in inventory levels,
together with deflation in internal price indices, contributed to pre-tax LIFO
credits of $36 million and $57 million in 1995 and 1994, respectively.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
Selling, general and administrative ("SG&A") expenses, including
advertising, were 22.0% of sales in 1995 as compared to 22.7% in 1994. This
decrease relative to sales reflected continuing cost-cutting efforts, leveraging
of fixed costs over a higher sales base and a number of one-time charges taken
in the fourth quarter of 1994. These charges, totaling $61 million, included a
provision for the closings of regional offices and the Kmart Fashions division
headquarters, the cancellation of certain real estate projects that did not meet
new, more stringent return on investment requirements and the sale of corporate
aircraft. SG&A expense dollars were higher than 1994 levels due primarily to the
opening of 20 additional Super Kmart Centers during 1995, full-year expenses
related to 48 Super Kmart Centers opened in 1994 and increased levels of
advertising. Kmart continues to aggressively pursue opportunities to reduce its
overall operating cost structure.
OTHER EXPENSES AND OTHER INCOME
Asset impairment charges. Kmart adopted FAS 121 in the fourth quarter of
1995. This statement requires companies to record impairments of long-lived
assets, certain identifiable intangibles, and associated goodwill on an
exception basis, when there is evidence that events or changes in circumstances
have made recovery of an asset's carrying value unlikely. In conducting its
asset review, management considered, among other things, current and expected
operating cash flows from the asset together with a judgment as to the fair
value the Company could receive upon sale of such asset. Based on this review,
Kmart recorded a $532 million pre-tax charge ($390 million after-tax) relating
to Builders Square and certain international operations.
Gain on pension curtailment. Kmart recorded a gain on pension curtailment
of $124 million during the first quarter of 1995. This gain resulted from the
decision to replace the existing defined benefit pension plans with a profit
sharing program under the Retirement Savings Plan. Effective January 31, 1996,
the pension plans were frozen and associates no longer accrue additional
benefits under the plans. The curtailment gain is
S-27
<PAGE> 28
attributable to the change in net liabilities resulting from the decision to
freeze the pension plans. The new profit sharing program, effective January 1,
1995, requires a minimum annual contribution of $32 million.
Net interest expense on debt during 1995 was $220 million, down 14.7% from
$258 million in 1994. Net interest expense consisted of $270 million of expense
and $50 million of income in 1995 and $285 million of expense and $27 million of
income in 1994. The interest income increase was due primarily to $17 million of
interest income resulting from a favorable Internal Revenue Service litigation
settlement. The decrease in interest expense was due primarily to the scheduled
retirement of $150 million of 12 1/8% notes and lower average short-term
borrowings due to the application of proceeds from the disposal of discontinued
operations. This decrease was partially offset by higher average interest rates
on short-term borrowings. Kmart's weighted average interest rate on total debt
was 7.8% in 1995 and 7.0% in 1994. Weighted average interest rates for
short-term borrowings were 6.4% in 1995 and 4.6% in 1994. Interest rates were
higher due to market conditions and lower ratings of Kmart debt by the rating
agencies. Capital lease obligations and other interest expense was down slightly
in 1995 due to capital lease expirations and terminations. The Company expects
the weighted average interest rates on total debt to increase in 1996 due to
lower ratings of its debt by the rating agencies.
Income tax provision (credit) was a $222 million credit in 1995 as compared
to an $11 million provision in 1994. The Company's effective tax rate was 31.2%
in 1995 compared to an effective tax rate of 9.6% in 1994. Effective tax rates
in each year were favorably impacted by tax credits and equity income relative
to income levels. The effective tax rate for 1995 was negatively affected by the
provision of a valuation allowance associated with the tax benefits recorded on
the international portion of the asset impairment charge. Due primarily to
losses in 1993 and 1995, Kmart recognized net tax benefits of approximately $255
million consisting of refundable taxes and anticipated future tax benefits.
Kmart expects to realize a portion of these tax benefits during 1996 and intends
to continue to evaluate its deferred tax assets through analysis of the need for
any valuation allowance in relation to actual operating performance, executed or
proposed tax strategies and other changes in facts or circumstances. See Note 12
of Notes to Consolidated Financial Statements for additional information.
Net loss from continuing retail operations before extraordinary items and
the effect of accounting changes was $490 million in 1995 as compared to net
income, on the same basis, of $104 million in 1994. Excluding the asset
impairment charges, the net loss from continuing retail operations for 1995
would have been $100 million.
Discontinued operations during 1995 resulted in a $30 million loss from
disposal and included the sale of the Borders Group and remaining equity
interests in OfficeMax and The Sports Authority. Discontinued operations during
1994 resulted in income of $75 million from operations and included the Borders
Group, OfficeMax, The Sports Authority and Coles Myer. The gain on the disposal
of discontinued operations of $117 million in 1994 included a $101 million
after-tax gain resulting from the initial public offerings ("IPOs") of shares in
OfficeMax and The Sports Authority and a $48 million after-tax gain realized
from the sale of Coles Myer, partially offset by an after-tax charge of $32
million for sublease exposure related to lease guarantees on properties sublet
to Furr's cafeteria chains. Kmart sold these cafeteria chains in 1986. See Note
3 of Notes to Consolidated Financial Statements for additional information.
Extraordinary item, net of income taxes. Kmart entered into agreements
whereby holders of approximately $550 million of certain real estate related
debt agreed to eliminate put features which would have required Kmart to
purchase the debt from the holders if Kmart's long-term debt rating was lowered
to non-investment grade or the lowest level of investment grade rating in
certain cases. As a result, Kmart recorded an extraordinary noncash charge of
$51 million, net of income taxes, primarily relating to the make-whole premiums
payable under such agreements. See "Liquidity and Financial Condition" below for
additional information.
As a result of the combination of the foregoing factors, the net loss for
1995 was $571 million, or 1.7% of sales, as compared to net income for 1994 of
$296 million, or 0.9% of sales. Excluding the asset impairment charges and the
extraordinary item, the net loss for 1995 would have been $130 million, or 0.4%
of sales.
S-28
<PAGE> 29
FISCAL 1994 COMPARED TO FISCAL 1993
SALES
Consolidated sales decreased 2.3% during 1994 driven by the divestiture of
PayLess, which was only partially offset by comparable store sales growth of
1.9% and an increase in overall selling square footage due to the addition of
larger-format stores and Super Kmart Centers. Comparable store sales were
adversely affected by competition, resulting in lower selling prices, weak sales
of apparel merchandise and, particularly during the first part of the year,
inventory mix adjustments and reductions made in late 1993 and early 1994, which
resulted in lower customer traffic. International and Builders Square sales
increases were attributable to the performance of new and remodeled stores.
GROSS MARGIN
Cost of merchandise sold, including buying and occupancy costs, as a
percentage of sales, was 76.5% in 1994 as compared with 74.9% in 1993. This
increase of 1.6% of sales in 1994 reflected a mix of both apparel and hardline
merchandise more heavily weighted toward promotional items and lower-margined
merchandise and higher fixed occupancy costs on relatively level sales per
square foot. Additionally, a more aggressive markdown policy on discontinued and
seasonal merchandise implemented in the fourth quarter of 1994 reduced gross
margins by $171 million. As a result of cycle inventory counts and the year-end
physical inventory count, Kmart accrued an additional $17 million in the fourth
quarter of 1994 for inventory shrinkage. International, particularly Canada, and
Builders Square costs of merchandise sold, as a percentage of sales, were
affected by competitive pressures.
Substantially all of Kmart's domestic inventories are measured using the
LIFO method of inventory valuation. The deflation impact in certain internal
price indices contributed to pre-tax LIFO credits of $57 million and $49 million
in 1994 and 1993, respectively.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
SG&A expenses, including advertising, were 22.7% of sales in 1994 as
compared to 22.5% in 1993. The 1994 increase relative to sales reflected the
small rise in comparable store sales, the cost of professional services for the
strategic review of Kmart's operations and processes and certain one-time
charges taken in the fourth quarter of 1994. SG&A expenses were also negatively
affected by start-up operations in Mexico and Singapore and costs associated
with the opening and expansion of certain Builders Square stores.
OTHER EXPENSES AND OTHER INCOME
Net interest expense on debt during 1994 was $258 million, down 14.6% from
$302 million in 1993. Net interest expense consisted of $285 million of expense
and $27 million of income in 1994 and $314 million of expense and $12 million of
income in 1993. The decrease in net interest expense was due primarily to lower
aggregate short-term borrowings, a result of applying the proceeds from the IPOs
of shares in OfficeMax and The Sports Authority and the sale of the Company's
equity interest in Coles Myer, and the early retirement of long-term debt as a
result of applying the proceeds from the sale of PayLess, partially offset by
higher interest rates resulting from market conditions and lower ratings of the
Company's debt by the rating agencies. Kmart's weighted average interest rate on
total debt was 7.0% in 1994 and 6.7% in 1993. Weighted average interest rates
for short-term borrowings were 4.6% in 1994 and 3.2% in 1993. Capital lease
obligations and other interest expense increased in 1994 primarily as a result
of $40 million in interest expense related to the discounting of closed store
lease obligations included in the 1993 store restructuring reserve.
Income tax provision (credit) was an $11 million provision with an
effective tax rate of 9.6% in 1994 as compared to a credit of $150 million with
an effective tax rate of 36.6% in 1993. Effective tax rates in each year were
favorably impacted by tax credits and equity income relative to income levels.
Changes in state tax rates also impacted the overall effective tax rates. See
Note 12 of Notes to Consolidated Financial Statements.
S-29
<PAGE> 30
Net income from continuing retail operations before extraordinary items and
the effect of accounting changes was $104 million in 1994 as compared to a net
loss, on the same basis, of $260 million in 1993. Excluding store restructurings
and other charges, net income from continuing retail operations for 1993 would
have been $463 million.
Discontinued operations during 1994 resulted in income of $75 million from
operations as compared to a loss of $169 million from operations in 1993.
Discontinued operations included the Borders Group, OfficeMax, The Sports
Authority, Coles Myer and PACE. The $169 million after-tax loss in 1993 was the
result of significant net operating losses of the Borders Group and PACE which
more than offset the net operating income of OfficeMax and The Sports Authority
and the equity in net income of Coles Myer.
The gain on the disposal of discontinued operations of $117 million in 1994
included a $101 million after tax gain resulting from the IPOs of shares in
OfficeMax and The Sports Authority, a $48 million after-tax gain realized from
the sale of the Company's equity interest in Coles Myer, partially offset by an
after-tax charge of $32 million for exposure related to lease guarantees on
properties sublet to Furr's cafeteria chains. In 1993, an after-tax loss of $521
million was realized from the disposal of discontinued businesses including the
sale of substantially all of its assets by PACE and the divestiture of PayLess.
See Note 3 of Notes to Consolidated Financial Statements for additional
information.
Extraordinary item, net of income taxes. In August 1993, Kmart called for
early redemption of all $200 million aggregate principal amount of its 8 1/8%
debentures due January 1, 1997. The debentures were redeemed at 100% of the
principal amount plus interest accrued to the date of redemption. In April 1993,
Kmart called for early redemption of all $200 million aggregate principal amount
of its 10 1/2% Sinking Fund Debentures due December 1, 2017. The resulting
redemption premium of $10 million, net of applicable income taxes, was reported
as an extraordinary item.
Effect of accounting changes, net of income taxes. Effective in the first
quarter of 1993, Kmart adopted Financial Accounting Standard No. 109 "Accounting
for Income Taxes" ("FAS 109"). FAS 109 is an asset and liability approach that
requires the recognition of deferred tax assets and liabilities for the expected
future tax consequences of events that have been recognized in a company's
financial statements or tax returns. In estimating future tax consequences, FAS
109 generally considers all expected future events other than enactment of
changes in the tax law or rates. The adoption of FAS 109 resulted in the
recording of a one time credit, as the cumulative effect of an accounting
change, of $64 million in the first quarter of 1993.
Kmart adopted Financial Accounting Standard No. 106 "Employers' Accounting
for Postretirement Benefits Other Than Pensions" ("FAS 106") at the beginning of
1993. This standard requires Kmart to accrue for future postretirement medical
benefits. In prior years, these claims were expensed when paid. As a result of
adopting FAS 106, Kmart recorded an after-tax charge of $78 million, as the
cumulative effect of an accounting change, in 1993.
Store restructuring and other charges. In January 1994, the Kmart Board of
Directors approved a restructuring plan involving domestic and Canadian Kmart
stores, Builders Square and the Walden division of the Borders Group. As a
result, in the fourth quarter of 1993, Kmart recorded a pre-tax charge of $1,348
million, $862 million after tax. The portion of the charge associated with the
Borders Group, $218 million pretax and $139 million after tax, has subsequently
been restated as discontinued operations. The remaining restructuring provision
included anticipated costs of $1,130 million associated with Kmart stores which
were to be closed and relocated, enlarged or refurbished in the U.S. and Canada
and relocation of certain Builders Square stores. The 1993 restructuring
provision also included $20 million to increase the reserve for lease
obligations for stores closed as part of Kmart's 1989 restructuring plan. Other
charges included the estimated costs of $76 million for re-engineering programs
(principally severance) and other non-recurring charges and an accrual of $12
million for a non-routine legal judgment resulting from the insolvency of an
insurer.
The 1993 restructuring plan assumed closure of 503 additional domestic
stores and expansion or refurbishment of the remaining 500 unmodernized domestic
stores, as well as specific plans for the modernization of the remaining
unmodernized Canadian Kmart stores and conversion of virtually all of the
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<PAGE> 31
existing Builders Square stores to the new BSQ II format by the end of 1997. The
following table outlines the original 1993 restructuring plan for domestic Kmart
stores and planned and completed projects by fiscal year:
<TABLE>
<CAPTION>
COMPLETED
1993 PLANNED PROJECTS BY YEAR PROJECTS BY YEAR
RESTRUCTURING ---------------------------- ---------------------
PLAN 1994 1995 1996 1997 1994 1995 TOTAL
------------- ---- ---- ---- ---- ---- ---- -----
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Closings and Relocations................ 503 100 150 175 78 120 214 334
Expansions.............................. 265 55 84 96 30 48 12 60
Refurbishments.......................... 235 35 100 100 21 6 27
----- ---
Total.............................. 1,003 421
===== ===
</TABLE>
Kmart closed 214 domestic Kmart stores during 1995, as compared to the
original 1993 plan of 150. The acceleration of closings is partially due to the
Company not replacing all stores closed with either a new Kmart store or Super
Kmart Center, as originally planned. The number of new stores being opened, 59
in 1995 as compared to 113 in 1994, has been reduced due in part to reductions
in capital spending resulting from lower than projected operational results. As
a result, Kmart has closed stores sooner than planned as there was no need to
keep such stores open until the new store was built. During 1995, Kmart
substantially completed its restructuring plans for Builders Square and Canada.
Due in part to the change in the Company's management, Kmart is re-evaluating
the current store base and store design and merchandise assortments and has
effectively canceled its expansion and refurbishment program.
For 1996, Kmart is planning to close approximately 50 stores, including
approximately 35 stores to be replaced with either a new Kmart store or Super
Kmart Center. The original plan called for 425 store closings through 1996 as
compared to projected actual closings of 384 through 1996. The decrease is due
in part to the new management team's continuing evaluation of the current store
base and store design and merchandise assortments, which management plans to
extensively review during 1996.
The following table sets forth the consolidated 1993 restructuring
provision established in fiscal 1993 and related activity through January 31,
1996:
<TABLE>
<CAPTION>
ACTIVITY THROUGH JANUARY 31, 1996
-------------------------------------------------------
CASH NONCASH COSTS RESERVE AT
PROVISION COSTS AND CHANGES IN JANUARY 31,
RECORDED INCURRED ASSET WRITEDOWNS ESTIMATE 1996
--------- -------- ---------------- ---------- -----------
(DOLLARS IN MILLIONS)
<S> <C> <C> <C> <C> <C>
1993 Restructuring Plan:
Lease obligation costs................ $ 577 $166 $(75)(a) $(57) $ 429
Asset writedowns...................... 181 -- 201 49 29
Inventory disposition costs and
related operating losses........... 264 35 159 13 83
Re-engineering and other non-recurring
charges............................ 76 54 25 12 9
Non-routine legal accrual............. 12 7 -- (5) --
------ ---- ---- ---- ----
$ 1,110 $262 $310 $ 12 $ 550
====== ==== ==== ==== ====
</TABLE>
- -------------------------
(a) Represents $35 million and $40 million for interest expense accreted during
1995 and 1994 on discounted lease obligations.
The fiscal 1995 and 1994 activity included $127 million and $39 million,
respectively, of cash outlays for lease obligation costs incurred once a store
is closed, until it can be either sublet, assigned, bought-out or terminated,
net of any sublease income. Asset writedowns of $124 million for 1995 and $77
million for 1994 represent primarily furniture and fixture and leasehold
improvement writedowns to net realizable value in the stores closed and expanded
or refurbished. The inventory disposition costs for 1995 and 1994 of $70 million
and $89 million, respectively, represent total liquidation costs for the stores
closed. Due to favorable sublease and termination experience for stores closed
to date, Kmart lowered the estimate of net lease obligation costs
S-31
<PAGE> 32
for domestic and Canadian Kmart stores and Builders Square stores by $44 million
and $13 million in 1995 and 1994, respectively. These favorable results have
been offset by higher than planned inventory disposition costs for Builders
Square stores to date and increased fixed asset disposition costs for domestic
Kmart stores primarily due to the acceleration of the closing of stores
originally planned to be closed in later years. As a result, Kmart increased the
reserve for fixed asset disposal writedowns by $31 million and $18 million in
1995 and 1994, respectively. A $12 million addition to the provision was made in
1994 for the increased fixed asset disposal writedowns net of the decrease of $5
million relating to a non-routine legal settlement. In addition, with the
decision to suspend the expansion and refurbishment plan, the excess reserve for
the canceled projects, which relate to inventory disposition and fixed asset
writedowns, will be allocated to closing stores. Kmart continues to believe that
the Company is on track in total dollars incurred to date compared to the
original estimates made in 1993. Actual results were in line with the original
reserve in total dollars of $226 million and $39 million for Builders Square and
Canada, respectively.
Also included in the 1993 charge was $45 million, for domestic Kmart
operations, in severance and related benefits as part of re-engineering
programs. During 1994, Kmart had a workforce reduction of approximately 660
salaried and 430 hourly positions as part of implementing the re-engineering
programs. Of the total incurred, $23 million was paid in 1994 and $22 million
was paid in 1995. During 1995, the Company allocated an additional $12 million
to re-engineering and other non-recurring charges for the domestic and Canadian
operations due to higher than planned re-engineering costs.
Kmart has completed 1,581 domestic store modernization projects since
program inception in 1989, including 533 new Kmart stores, 87 Super Kmart
Centers, 490 expansions and 471 refurbishments. In 1995, average sales per store
at the modernized Kmart stores were approximately 24% higher than non-modernized
stores and the 67 Super Kmart Center stores open the full year averaged in
excess of $42 million in sales per store. The remaining unmodernized store base
contributed approximately $23 million, $26 million and $95 million to after-tax
earnings from continuing operations in 1995, 1994 and 1993, respectively.
During 1995 and 1994, Kmart closed certain stores that were previously
modernized and therefore not part of the original stores to be closed. As market
conditions change, Kmart has substituted and will substitute stores that were
not included in the original provision. Management does not believe the
substitution of stores has or will have a material impact on the original
restructuring charge.
The 1989 restructuring plan, including the $20 million added in 1993,
included $385 million for 310 closed/relocated stores and $141 million for 1,880
expanded/refurbished stores. Relating to the 1989 restructuring plan, Kmart
closed/relocated 323 stores and expanded/refurbished 874 stores and has charged
against the reserve $435 million and $74 million relating to these store
closures/relocations and expansions/refurbishments, respectively. Actual costs
on a per store basis have been higher than the original estimate for the
closed/relocated component of the 1989 restructuring plan due primarily to
higher than expected lease termination costs and lower sublease revenues. The
actual costs for expansions/refurbishments, on a per store basis, have been
slightly higher than the original estimate due primarily to fixed asset
write-offs related to store refurbishments. The closure and relocation costs
above original estimates were charged to the reserve for expansions and
refurbishments, and no changes to the original reserve were recorded prior to
the fourth quarter of 1993 when the additional $20 million was recorded.
As a result of the combination of the foregoing factors, net income for
1994 was $296 million, or 0.9% of sales, as compared to a net loss in 1993 of
$974 million or 2.9% of sales.
LIQUIDITY AND FINANCIAL CONDITION
Historically, Kmart's primary sources of working capital have been cash
flows from operations and borrowings through its commercial paper program. Kmart
had working capital of $5,558, $3,562 and $3,793 million at year end 1995, 1994
and 1993, respectively. Working capital ratios were 2.7:1, 1.7:1 and 1.8:1,
respectively, at the same dates. Kmart's working capital fluctuates in relation
to (i) profitability, (ii) inventory levels during the course of the year due to
seasonality, (iii) the number and timing of new store openings and closings and
(iv) the nature of Kmart's working capital borrowings.
S-32
<PAGE> 33
At the end of October 1995, primarily due to disappointing operating
results and a review by rating agencies of its long-term debt, Kmart experienced
a general tightening of credit conditions, including the elimination of its
commercial paper program and certain uncommitted letter of credit facilities. As
a result, Kmart has used its revolving bank credit facilities as its primary
source of short-term liquidity and intends to use the New Credit Agreement for
short-term liquidity and for funding a portion of its continuing letter of
credit requirements. As of May 1, 1996, Kmart had $1,982 million borrowed under
its credit lines.
In early 1996, Kmart's long-term senior unsecured debt rating was
downgraded to non-investment grade (BB by Standard & Poor's and Ba2 by Moody's).
As a result of the ratings downgrade, higher interest rates became effective on
Kmart's bank debt. Kmart entered into agreements (a) with a group of debt
holders to eliminate ratings downgrade put features from approximately $550
million aggregate principal amount of certain real estate related debt in
exchange for repayment of such debt, including make-whole premiums on certain
debt, in October 1997 or such earlier date as the debt matures or is refinanced
and (b) with its banks, to modify the terms of its bank credit facilities. The
maturities of Kmart's seasonal bank credit facility and certain of the bank real
estate debt were extended to February 1997, and the maturity of all other bank
credit facilities remained at October 1997. Kmart recorded an extraordinary
noncash charge of $51 million, net of income taxes, in the fourth quarter of
1995 associated with these agreements, primarily relating to make-whole premiums
due upon maturity of the real estate related debt.
The Convertible Preferred Securities offered hereby and a $3.7 billion,
three year New Credit Agreement will recapitalize the Company with a more
traditional, flexible and stable capital structure. The New Credit Agreement
includes a $2.5 billion Revolving Credit Facility designed to provide the
borrowing capacity to meet Kmart's seasonal working capital needs over its term,
and a $1.2 billion Term Loan Facility, which will be fully drawn upon the
initial funding of the New Credit Agreement. The New Credit Agreement will
replace the current bank credit facilities and certain real estate related debt
aggregating $2.9 billion and maturing in 1997. The New Credit Agreement will be
secured by a first lien on the material unencumbered domestic assets of the
Company and will contain certain financial and other covenants described under
"New Credit Agreement" herein. Based on its current operating plan, Kmart
believes that the Convertible Preferred Securities, the New Credit Agreement and
cash generated from operations will provide it with sufficient funds to meet its
cash needs through 1999.
Subsequent to the completion of this offering of Convertible Preferred
Securities and funding under the New Credit Agreement, management intends to
seek long-term financing for approximately $1 billion of recently opened real
estate facilities which are either owned or refinanced or purchased upon funding
under the New Credit Agreement. The net proceeds realized from such financing
will depend on the loan to value ratios offered by the respective lenders.
Proceeds from this real estate financing, together with proceeds from the
divestiture of certain other non-core assets, will be used to pay down the term
loan facility under the New Credit Agreement. In addition, the Company intends
to seek long-term financing for its new store program. If such financing is not
available, the Company must either rely on funding available under the New
Credit Agreement, find alternative funding or possibly curtail its new store
program.
Kmart remains generally current with trade vendors, continues to receive
and honor usual and customary trade terms and remains in compliance with all
bank covenants. While the New Credit Agreement will provide a lien to the
secured lenders on the material unencumbered domestic assets of the Company,
management also has the ability, at its discretion, to grant a second lien on
the Company's inventory to vendors. Together with the increased borrowing
capacity represented by the New Credit Agreement, management believes that the
lien will improve its ongoing relationships with the Company's vendors. However,
should Kmart's operating performance deteriorate or should providers of goods
and services to Kmart tighten credit terms, Kmart may need to consider
alternative sources of funds, a reduction in capital expenditures or additional
restructuring of its capital structure.
Net cash provided by (used for) operations was $(104) million in 1995 and
$(96) million in 1994 compared to cash provided by operations of $777 million in
1993. The use of $104 million in 1995 was primarily due to the loss from
operations, cash outlays for lease obligation costs of closed stores, together
with income tax paid in 1995, most of which has been recouped in 1996, and a
reduction in accounts payable
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resulting from the 53rd week of operations, only partially offset by a reduction
in inventory. The decrease in 1994 from 1993 was due primarily to lower net
income from continuing retail operations, excluding store restructuring and
other charges, a $510 million increase in U.S. Kmart first-in, first-out (FIFO)
inventory, partially offset by a decrease in cash used for PACE obligations and
noncash items related to the sale of the Company's equity interest in Coles
Myer.
Inventory turnover was 3.4 in 1995, as compared with 3.2 in 1994 and 2.8 in
1993, as restated for discontinued operations. The improvement in inventory
turnover in 1995 and 1994 was due to a continuing focus on inventory management,
the aggressive clearance of discontinued inventory, the continued impact of
higher turnover for the Super Kmart Center operations and an increase in sales
mix of higher volume, lower-margined consumables and commodities.
Kmart anticipates that after-tax cash outflows related to store
restructuring and other charges will approximate $85 million, $70 million and
$65 million in 1996, 1997 and 1998, respectively, and will result primarily from
the payment of lease obligation costs for closed stores. The pre-tax cash
outflows related to store restructuring and other charges will approximate $125
million, $110 million, and $95 million in 1996, 1997 and 1998, respectively.
Further cash outlays for lease obligation costs for closed stores (including
property taxes, maintenance and utilities) have been estimated based upon the
payments required under the lease and the estimated time period between a store
closing and the date the lease is assigned, sublet, terminated or expires. At
January 31, 1996, the total remaining gross lease obligation costs for closed
stores relating to the U.S. Kmart 1993 restructuring plan aggregated
approximately $1.1 billion. Based upon historical results, management estimates
that approximately $600 million of the remaining gross lease obligation costs
will be recovered through subleasing. Other means of lease disposition have been
considered in developing such estimate but are not material. Kmart has
discounted future net cash flows using a 7% discount rate. At January 31, 1996,
the effect of such discounting was to reduce lease obligation costs for closed
stores by $110 million. Future cash outlays are based upon management's estimate
of the period of time between store closing and the ultimate disposition of the
lease obligation. Management believes the estimates used to develop the timing
and amount of cash flow related to net lease obligation costs for closed stores
are reliably determinable.
Net cash provided by (used for) investing was $321 million in 1995, $1,077
million in 1994 and $(155) million in 1993. Cash provided by investing in 1995
was primarily comprised of proceeds from asset sales and subsidiary public
offerings, partially offset by capital expenditures. Cash provided by investing
in 1994 was primarily comprised of proceeds from the OfficeMax and The Sports
Authority IPOs, the divestiture of PayLess and the sale of Kmart's equity
interest in Coles Myer, partially offset by capital expenditures for store
modernization. Capital expenditures for the general merchandise group, which
included new distribution centers, refurbishments, expansions and store
openings, were $540 million, $1,021 million and $793 million in 1995, 1994 and
1993, respectively. The decrease in the general merchandise group capital
expenditures in 1995 was due to a decrease in store openings as a result of
management's ongoing assessment of modernization results. The increase in the
general merchandise group capital expenditures in 1994 was due to the opening of
stores in Mexico and Singapore in 1994 and the greater number of larger-format
Super Kmart Centers in the store modernization program as compared to the prior
year.
Approximately 20 new discount stores and ten Super Kmart Center stores are
currently projected to be opened in 1996. Kmart consolidated capital
expenditures are expected to be approximately $388 million in 1996 as compared
with $578 million, $1,125 million and $871 million in 1995, 1994 and 1993,
respectively. Kmart anticipates that the cash required to fund planned 1996
capital spending will be provided primarily by operations and borrowings
available pursuant to the New Credit Agreement.
Melville Corporation has announced a restructuring and potential spinoff of
its footwear businesses, including its 51% interest in its Meldisco
subsidiaries, which operate the footwear departments in U.S. Kmart stores. It is
not anticipated that any restructuring or spinoff of Meldisco will have a
material impact on Kmart's financial position or results of operations. Kmart
has received $50 million as a one-time dividend payment from Meldisco during
1996.
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Net cash provided by (used for) financing was $525 million in 1995,
$(1,007) million in 1994 and $(808) million in 1993. Cash provided by financing
in 1995 was primarily comprised of net proceeds from long-term debt and notes
payable of $963 million, compared to net reductions in long-term debt and notes
payable of $453 million and $284 million in 1994 and 1993, respectively. The net
cash provided by financing in 1995 was primarily the result of higher
outstanding borrowings under the current bank credit facilities and certain real
estate related debt due to repayment restrictions contained in such agreements.
Cash used for financing in 1994 was due to a reduction in aggregate short-term
borrowings, as a result of applying the proceeds from the IPOs of OfficeMax and
The Sports Authority and the sale of the Company's equity interest in Coles
Myer, and the early retirement of long-term debt, as a result of applying the
proceeds from the divestiture of PayLess. The net reduction in 1993 was
primarily due to lower short-term borrowings as a result of lower U.S. Kmart
inventory levels.
Total dividends paid during 1995 were $283 million, compared with $474
million and $465 million in 1994 and 1993, respectively. In April 1995, the
quarterly dividend on Kmart Common Stock was reduced from 24 cents per share to
12 cents per share. In December 1995, as part of the agreements to remove put
features from certain real estate related debt, the Kmart Common Stock dividend
was eliminated. Dividends paid per share of existing Kmart Common Stock were
$0.60, $0.96 and $0.95 in 1995, 1994 and 1993, respectively. Dividends paid in
1994 and 1993 per $3.41 Depositary Share (each representing one-quarter share of
Kmart Series A conversion preferred stock) were $2.56 and $3.41, respectively.
Dividends paid per Kmart Series C convertible preferred share were $11.50 in
1995 and 1994, and $11.50 per Kmart Series B convertible preferred share in
1993.
Total debt as a percentage of total capitalization was 51.9% in 1995, 44.7%
in 1994 and 46.8% in 1993. The increase in 1995 was due to higher levels of
borrowings outstanding under the bank credit facility and real estate related
financing agreements due to repayment restrictions contained in such agreements.
The decrease in 1994 was primarily due to lower levels of debt outstanding and
the reduction of notes payable with cash proceeds received from the OfficeMax
and The Sports Authority IPOs, the sale of the Company's equity interest in
Coles Myer and the divestiture of PayLess.
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KMART FINANCING I
Kmart Financing I ("Kmart Financing") is a statutory business trust formed
under Delaware law pursuant to (i) a declaration of trust, dated as of February
16, 1996, executed by Kmart, as sponsor (the "Sponsor"), and the trustees of
Kmart Financing (the "Kmart Trustees") and (ii) the filing of a certificate of
trust with the Secretary of State of the State of Delaware on February 16, 1996.
Such declaration will be amended and restated in its entirety (as so amended and
restated, the "Declaration") substantially in the form filed as an exhibit to
the Registration Statement of which this Prospectus Supplement and the
accompanying Prospectus form a part. The Declaration will be qualified as an
indenture under the Trust Indenture Act of 1939, as amended (the "Trust
Indenture Act"). Upon issuance of the Convertible Preferred Securities, the
purchasers thereof will own all of the Convertible Preferred Securities. See
"Description of the Convertible Preferred Securities -- Book-Entry Only
Issuance -- The Depository Trust Company." Kmart will directly or indirectly
acquire all of the Common Securities which will have an aggregate liquidation
amount equal to 3% of the total capital of Kmart Financing. Kmart Financing
exists for the exclusive purposes of (i) issuing the Trust Securities
representing undivided beneficial interests in the assets of the Trust, (ii)
investing the gross proceeds of the Trust Securities in the Convertible
Debentures and (iii) engaging in only those other activities necessary or
incidental thereto.
Pursuant to the Declaration, the number of Kmart Trustees will initially be
five. Three of the Kmart Trustees (the "Regular Trustees") will be persons who
are employees or officers of or who are affiliated with Kmart. The fourth
trustee will be a financial institution that maintains its principal place of
business in the state of Delaware (the "Delaware Trustee"). The fifth trustee
will be a financial institution that is unaffiliated with Kmart and will serve
as institutional trustee under the Declaration and as indenture trustee for the
purposes of compliance with the provisions of the Trust Indenture Act (the
"Institutional Trustee"). Initially, The Bank of New York, a New York banking
corporation, will be the Institutional Trustee until removed or replaced by the
holder of the Common Securities. For the purpose of compliance with the
provisions of the Trust Indenture Act, The Bank of New York will act as trustee
(the "Guarantee Trustee") under the Guarantee and as Debt Trustee (as defined
herein) under the Indenture. Initially, The Bank of New York (Delaware), an
affiliate of the Institutional Trustee, will act as Delaware Trustee. See
"Description of Trust Preferred Securities Guarantees" in the accompanying
Prospectus and "Description of the Convertible Preferred Securities -- Voting
Rights" herein.
The Institutional Trustee will hold title to the Convertible Debentures for
the benefit of the holders of the Trust Securities and the Institutional Trustee
will have the power to exercise all rights, powers and privileges under the
Indenture (as defined herein) as the holder of the Convertible Debentures. In
addition, the Institutional Trustee will maintain exclusive control of a
segregated non-interest bearing bank account (the "Property Account") to hold
all payments made in respect of the Convertible Debentures for the benefit of
the holders of the Trust Securities. The Institutional Trustee will make
payments of distributions and payments on liquidation, redemption and otherwise
to the holders of the Trust Securities out of funds from the Property Account.
The Guarantee Trustee will hold the Guarantee for the benefit of the holders of
the Convertible Preferred Securities. Kmart, as the direct or indirect holder of
all the Common Securities, will have the right to appoint, remove or replace any
Kmart Trustee and to increase or decrease the number of Kmart Trustees. Kmart
will pay all fees and expenses related to Kmart Financing and the offering of
the Trust Securities. See "Description of the Convertible
Debentures -- Miscellaneous."
The rights of the holders of the Convertible Preferred Securities,
including economic rights, rights to information and voting rights, are set
forth in the Declaration, the Delaware Business Trust Act (the "Trust Act") and
the Trust Indenture Act. See "Description of the Convertible Preferred
Securities."
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KMART CORPORATION
GENERAL
Kmart is one of the world's largest mass merchandise retailers. The
dominant portion of the Company's business consists of the operation of
approximately 2,200 Kmart discount stores with locations in each of the 50
United States, Puerto Rico, the U.S. Virgin Islands, Guam and Canada which are
visited by more than 3.7 million customers per day. In addition, as of January
31, 1996, the Company operated 87 Super Kmart Centers, the Company's grocery and
general merchandise combination supercenters, in 21 states. The Company holds a
49% equity interest in the Meldisco subsidiaries of Melville Corporation, which
operate the footwear departments in domestic Kmart stores, and holds an equity
interest of approximately 18% in Thrifty PayLess, a drugstore chain in the
western United States whose common stock recently began trading on the New York
Stock Exchange. The Company also owns and operates Builders Square, a home
improvement and home decor superstore retailer with 167 stores in 20 states and
Puerto Rico at January 31, 1996. For the fiscal year ended January 31, 1996, the
Company had consolidated sales of $34.4 billion.
In 1994, following several quarters of disappointing results, the Company
began a wide-ranging review of its long-term strategy and short-term needs. This
process began with a return of the Company's focus to its core discount store
business. Since 1994, the Company has taken a number of steps designed to
improve its operating results and strengthen its balance sheet. Since November
1994, the Company has completed the divestiture of The Sports Authority,
OfficeMax, the Borders Group and Coles Myer, resulting in aggregate proceeds to
the Company of approximately $2.9 billion. The Company also divested ownership
and operation of its former automotive service business located in or adjacent
to approximately 860 domestic Kmart stores. The Company recently sold two
subsidiaries operating 13 stores in the Czech and Slovak Republics for aggregate
proceeds of approximately $118 million and sold 5,290,648 shares of common stock
of Thrifty PayLess for approximately $70 million.
In 1995, the Company took significant steps to improve operations. The
Company closed 214 under-performing stores, eliminated $700 million (at retail
value) in unproductive inventory and over $500 million in expenses, and reduced
capital expenditures by approximately one-half by slowing its store opening
program. In addition, Kmart began to tie economic incentives at all levels of
the organization to Company performance and accelerated the recruitment of
senior executives with extensive retail and turnaround experience from outside
the Company.
The Company's new management team has brought fresh perspective and
direction to senior management and the entire Kmart organization. Since the
appointment of Floyd Hall in June of 1995 as Chairman, President and Chief
Executive Officer, this team has embarked upon an ambitious program to improve
operations in all areas of the Company's business, including merchandising,
marketing, store operations, information systems, distribution and logistics and
real estate management.
The Convertible Preferred Securities offered hereby and a $3.7 billion,
three-year New Credit Agreement will recapitalize the Company with a more
traditional, flexible and stable capital structure. The New Credit Agreement
includes a $2.5 billion Revolving Credit Facility designed to fund Kmart's
working capital and other operational needs over its term, and a $1.2 billion
Term Loan Facility, which will be fully drawn upon the initial funding of the
New Credit Agreement. The New Credit Agreement will replace the current bank
credit facilities and certain real estate related debt aggregating $2.9 billion
and maturing in 1997. The Company's current indebtedness reflects a debt
restructuring resulting from an agreement in principle reached in December 1995.
In late 1995, following several quarters of earnings decline and general fears
regarding the Company's debt rating and access to capital, Kmart experienced a
general tightening of credit conditions. As of February 29, 1996, Kmart executed
definitive agreements for the debt restructuring which relieved much of the
immediate-term liquidity pressure on Kmart. In view of the limitations the debt
restructuring placed on Kmart's ability to attempt a business turnaround, Kmart
initiated negotiations to secure the New Credit Agreement and to pursue this
offering of the Convertible Preferred Securities to increase its financial
flexibility. Based on its current operating plan, Kmart believes that the
Convertible Preferred Securities, the New Credit Agreement and cash generated
from operations will provide sufficient funds to meet its cash needs
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through 1999. The closing of this offering of Convertible Preferred Securities
and funding under the New Credit Agreement are each conditioned upon one
another.
THE TURNAROUND
The Company has developed a comprehensive turnaround strategy to rebuild
the Kmart franchise through the following key programs:
- providing new leadership
- implementing new merchandising strategies
- improving store execution
- increasing overall efficiency
- regaining financial stability
PROVIDING NEW LEADERSHIP
In October 1994, the Company began to recruit senior executives from
outside Kmart, including Ronald Floto, Executive Vice President and President,
Super Kmart Centers, and Marvin Rich, Executive Vice President, Strategic
Planning, Finance and Administration. This program accelerated in 1995 with the
hiring of Floyd Hall in June as Chairman, President and Chief Executive Officer,
filling an opening which had existed for several months. Since joining the
Company, Mr. Hall's efforts have focused on building a management team
experienced in retailing and turnaround situations. In December 1995, Warren
Flick joined Kmart as Executive Vice President and President and General
Merchandise Manager of U.S. Kmart Stores. Of Kmart's 35 most senior officers, 19
are new to the Company.
Mr. Hall has seven individuals reporting directly to him who together with
Mr. Hall comprise the Company's new senior management team. In addition to Mr.
Flick, Mr. Floto, and Mr. Rich, these include Warren Cooper, Executive Vice
President, Human Resources, who joined the Company in March 1996, Donald Keeble,
Executive Vice President, Store Operations, Anthony Palizzi, Executive Vice
President, General Counsel and Thomas Watkins, Senior Vice President,
International and Off-Shore Retailing.
Kmart has significantly changed its Board of Directors. In addition to Mr.
Hall, the Company has appointed six new outside directors to its 13 member Board
of Directors during the last 12 months, four of whom were recruited in 1996. See
"Management." Many of these new directors bring retailing and turnaround
experience to the Board and are integrally involved in overseeing Kmart's
turnaround.
To support its strategies and provide management throughout the
organization with incentives to achieve the Company's goals, Kmart implemented a
stock option exchange program for active associates who participate in its stock
option plans. This program allowed participants below the senior management team
level a one-time opportunity to exchange their outstanding out-of-the-money
stock options for fewer new options (with the number of option shares calculated
based on a Black Scholes pricing model), with an exercise price of $7.81 per
share, the market price of Kmart Common Stock on March 11, 1996. The Company has
also re-instituted stock option awards for store managers.
IMPLEMENTING NEW MERCHANDISING STRATEGIES
The Company has reorganized and streamlined its merchandising organization
and developed specific new merchandising strategies. The Company's general
merchandise management team is now organized by merchandise category, with one
general merchandise manager for each of the softlines, hardlines and
consumables/commodities categories.
Kmart's new strategy is designed to increase the frequency of customer
visits, in order to increase sales per square foot and overall profitability.
Other elements of the Company's new merchandising strategy include (i)
increasing emphasis on market leader brands, (ii) upgrading and streamlining its
private label line
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of products, (iii) improving marketing effectiveness, (iv) improving the
merchandising presentation, (v) adjusting pricing strategy, (vi) increasing the
merchandise in-stock position, (vii) improving inventory management and (viii)
developing and refining alternative store formats.
Supporting its strategy to increase the frequency of customer visits, the
Company is improving its assortment of frequently-purchased "consumables," which
consist of classic, stock-up items, as well as both softline and hardline
merchandise. Kmart's high-frequency strategy is to become the store of choice
for routine, frequently-purchased household products, such as health and beauty
aids, cleaning supplies, socks, disposable diapers, batteries, light bulbs and
trash bags. The Company believes that increasing the assortment, inventory and
price competitiveness of such items, and featuring market leader national brands
in these categories, will increase the frequency of customer visits. The Company
believes the sales productivity of these frequently purchased items, while
generating lower gross margin rates, will add incremental sales and profits.
With these frequently purchased items, the Company seeks to increase the size of
the average transaction by stimulating sales of complementary items.
Sales per square foot is a primary indicator of store productivity. The
Company's goal for 1996 is to have sales exceed $200 per square foot. During
fiscal 1995, U.S. Kmart (including Super Kmart) sales per square foot increased
to $195 as compared to $181 in fiscal 1994.
Market Leader Brands. Historically, the Company has carried a large number
of items within each category, with emphasis often given to the second- or
third-tier brands in the category. In some cases, such brands were given greater
shelf space than the market leader products. Kmart's new merchandising strategy
includes providing a more complete assortment of market leader brands and
substantially reducing or eliminating the number of second- and third-tier
brands over the next two fiscal years. Market leader brands will be positioned
within the stores in high traffic areas with dominant presentation and signage
and will be prominently featured in Kmart's advertising promotions. The focus on
a smaller number of brands which are predominantly market leaders will reduce
the item count materially, positioning the Company to improve the merchandise
in-stock position.
Private Label Strategy. In addition to emphasizing market leader brands,
Kmart intends to significantly upgrade the private label representation in its
merchandising mix over the next two years. Kmart intends to build upon its
recognized strengths in areas such as lawn and garden, children's merchandise
and denim apparel by creating or strengthening its own brands in these lines. An
important element of this effort will be a significant reduction in the number
of private label offerings, which total over 100 today, to a select group of
carefully developed and marketed private label brands, each managed by a
designated Company executive. These proprietary brands include:
<TABLE>
<CAPTION>
BRAND NAME/SPONSOR CATEGORY TARGET CUSTOMER
- ------------------ ------------------------------------------------------ ------------------
<S> <C> <C>
Jaclyn Smith Active, career and casual ready-to-wear, accessories Women, age 30 - 49
and intimate apparel
Kathy Ireland Active, career and casual ready-to-wear, swimwear, Women, age 23 - 35
accessories and intimate apparel
Route 66 Denim Family
Martha Stewart Bed and bath Women
American Fare Grocery and consumables Family
KGro/PowerPro Lawn and garden Women, men
Bench Top Do-it-yourself, hardware and tools Men
Trim-A-Home Seasonal home decor Family
</TABLE>
The Company's goals are to provide private label products equal in quality to
national brands and priced at a significant discount to national brands, but
generating higher gross margins due to lower procurement costs.
Marketing. Kmart's marketing strategy is to build customer traffic through
focused weekly newspaper circulars, supplemented by national television
advertising. Kmart hired an experienced Vice President of
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Advertising in January 1996 to oversee and streamline its advertising efforts.
Kmart's advertising objective will be to better integrate the Company's
merchandising, marketing and store execution efforts to increase the
effectiveness of promotional spending. To achieve this objective, the
advertising department now reports to the senior merchandise executive, leading
to closer coordination of advertising and merchandising programs. Combined with
more sophisticated merchandise and ad planning, the Company believes that this
relationship should result in Kmart maintaining higher merchandise in-stock
positions on advertised items.
The primary means for communication to Kmart's customers is the weekly
circular, which is distributed to approximately 70 million households throughout
the country. The Company's weekly circulars have been redesigned with a more
contemporary appearance, advertise a reduced number of items and emphasize
exceptional value items. This new design is intended to build customer traffic
and upgrade the Company's image. The circulars will be supported by in-store
promotions through "on sale" table displays, pallets of popular consumables and
leading national brands on fixtures and end-caps (the high visibility areas at
the end of aisles). Since June 1995, the Company has conducted weekly
item-by-item analysis of the impact of its circulars, the results of which are
used to select the best items for future weekly circulars. The Company has also
been able to streamline and realize some efficiencies in the development of its
weekly circular. The time it takes to complete a typical weekly circular has
been reduced by over 20% since February 1996, and additional time savings will
be achieved through a continued reduction in advertised items and refinements in
merchandise strategies. This shorter lead time provides the Company greater
flexibility to react to consumer demand and include special-purchase vendor
opportunities in its advertising. Kmart also uses national television
advertising to expand its customer reach and intends to increase its emphasis on
television advertising during the holiday seasons.
Merchandise Presentation. The Company is taking steps to improve the visual
impact of merchandise presentation within the stores. For example, the Company
is increasingly placing softline merchandise on folded tables, walls and
four-way racks as opposed to circular racks (which typically reduce the
visibility of merchandise). At the same time, end-caps, midway displays and
seasonal displays will be made more effective and consistent. In addition, more
sophisticated use of merchandise presentation and location will result in
improved adjacencies (the strategic placement of merchandise so that the
selection of the product by a consumer is more likely to lead to the selection
of a related product), with the goal of increasing the size of the average
transaction. To improve the coordination of advertising promotions and
merchandising programs with in-store displays, adjacencies and the use of such
end-caps, Kmart has created a new executive position, Vice President,
Merchandise Presentation and Communication.
Competitive Pricing. Kmart is in the process of adjusting its pricing
strategy to compete more effectively in the discount retailing industry. The
Company's strategy is threefold: (i) promotional pricing in the weekly circular;
(ii) aggressive pricing of approximately 1,000 items on which consumers are very
price-sensitive; and (iii) an increase in the proportion of private label
merchandise. The Company's new price initiatives will be implemented with the
use of more clearly defined pricing policies and controls. Additionally, the
Company will implement a zone pricing policy, which allows more flexibility of
pricing from market to market.
Merchandise In-Stock Position. Kmart has historically experienced higher
than acceptable levels of out-of-stock merchandise, which had resulted in lost
sales, poor customer service and a reduced level of customer traffic. In fiscal
1994, the percentage of merchandise in stock at Kmart's U.S. discount stores
(measured as the percentage of items shown on the Company's records as being
located within each of its domestic stores) was less than 90%. Kmart has taken
and continues to take initiatives to alleviate the problem of out-of-stock
merchandise, including: (i) reducing its assortments in slower-turning second-
and third-tier brands and reducing the number of private label brands; (ii)
improving the use of merchandise planning and inventory systems; (iii) reducing
distribution time from order to store delivery; (iv) coordinating activities and
information between buyers, advertising personnel, vendors and store personnel
to ensure proper planning of promotional activity; (v) creating accountability
both at the buyer level and through a new store department management structure
(see "-- Improving Store Execution"); and (vi) improving discipline in store
replenishment systems. As of January 31, 1996, Kmart's merchandise in-stock
percentage improved to 96%. Kmart's goal for 1996 is to achieve parity with its
competitors by reaching an in-stock position of 98%.
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Inventory Management. Historically, Kmart's inventory management suffered
from the Company's reluctance to reduce selling prices to clear aging
merchandise, lack of coordination among stores and between departments of the
Company and deferral of operating decisions. In 1995, new management eliminated
$700 million (at retail value) of aged inventory and discontinued merchandise,
primarily in hardlines, which resulted in a reduction in fiscal 1995 gross
profit margins by an estimated 90 basis points. The elimination of this
merchandise should make it possible for the Company to adjust its merchandise
mix in 1996 without the drastic markdowns the Company took in fiscal 1995. The
Company is committed to strict standards to prevent an accumulation of
discontinued inventory, including rigidly enforcing open-to-buy limits,
vigorously reviewing merchandise lines to prevent the repurchase of
non-productive items and marking down merchandise more quickly.
Alternative Store Formats. Kmart is testing a new store format in
connection with its new high-frequency strategy. The in-store environment for
these high-frequency format stores features less clutter, more distinct signage,
brighter stores, improved adjacencies, upgraded fixtures, lower fixture profiles
and wider aisles. Customer service in high-frequency stores is enhanced through
faster checkout lines and knowledgeable employees focused on service. Product
assortments stress more family-oriented products including grocery products,
more national brands, and improved merchandise in-stock position with a goal of
eliminating less productive items. The advertising and promotional strategy in
these high-frequency stores centers on cleaner, more contemporary advertising
circulars with stronger price messages, attractive in-store promotions, pallets
of consumables and leading national brands on fixtures and end-caps, as well as
more competitive pricing on key items.
The Company has tested the high frequency store concept since June 1995.
Initial tests included six stores in Fort Wayne, Indiana and 13 stores in
Charlotte, North Carolina. Ten stores throughout Florida, Iowa, Missouri and
Ohio were added to the test by the end of fiscal 1995. Based on encouraging
initial results in this test group, Kmart intends to implement the
high-frequency store concept in approximately 150 stores in 1996, requiring
average capital investment of approximately $400,000 per store. Roll-out of
additional high-frequency stores is dependent upon the success of, and will
benefit from the Company's experience in, the test stores described above and in
the 150 stores planned for implementation in 1996.
Kmart introduced its Super Kmart Centers in 1992. Super Kmart Centers,
which range in size from 135,000 to 194,000 square feet, combine a primary
food-shopping alternative with a mass merchandise discounter to better satisfy
the needs of its target customers more frequently. The Company estimates that
the average number of visits per customer at a Super Kmart Center is between 30
and 36 per year, more than double that of a traditional Kmart store. As a
result, fiscal 1995 sales per square foot at Super Kmart Centers averaged $339,
compared to $187 per square foot on average at traditional Kmart stores.
The Company is refining its Super Kmart operation in 1996 by addressing the
challenges of the new retail format (the average Super Kmart Center has been
open for only 18 months): (i) improving labor productivity; (ii) more
effectively supplying and managing a widespread store network; (iii) taking
corrective action at several poor-performing locations; and (iv) developing
options if the turnaround in any of these stores is unsuccessful. Recognizing
the need to address these issues, the Company reduced store openings, from 48
new stores in 1994 to 20 in 1995, and intends to open approximately ten new
Super Kmart Centers in 1996. A new Super Kmart Center requires a net investment
of approximately $22 million, including inventory, fixtures, land and building.
The Super Kmart Centers are located in 21 states. The Company believes,
however, that it has the organizational structure in place to manage the
business on a centralized basis and that an additional 30 stores could be opened
without increasing the field organization. Finally, the Company has set new
standards and is refining its site selection process through an intense scrutiny
of demographics, grocery concentration and quality of grocery competition.
IMPROVING STORE EXECUTION
A key element of the Company's turnaround strategy is the improvement of
store-level execution, with the goal of better customer service. Since October
1995, the Company has reorganized its field and store
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management structure to narrow the span of control and increase accountability
at the store level, has instituted a number of customer service initiatives
which are significant in determining store-level compensation and has
established higher store cleanliness standards.
In September 1995, Kmart reduced the number of stores and districts
supervised by individual district and regional managers, permitting more
effective central management of store operations. The Kmart store management
function is divided into seven regions, with an average of 280 stores per
region. District managers are each responsible for an average of 11 store
managers (down from 28), whose responsibilities include day-to-day store
operations. Each store manager's performance is reviewed by the appropriate
district manager on a weekly basis with respect to employee payroll and on a
monthly basis with respect to sales and operating margins. The seven regions are
managed by regional vice presidents, to whom 31 regional managers (a two-thirds
reduction) report. Each regional manager oversees an average of six district
managers and is now required to visit each store at least bi-monthly, compared
to much less frequent visits in the past.
In February 1996, Kmart implemented a new departmental management structure
within each store. Each store now has a dedicated department manager in each of
approximately 14 major merchandise areas, as compared to the prior structure in
which only four specialty departments, such as electronics and jewelry, had
department managers. The Company believes that the new store management
structure will enhance accountability, productivity, responsibility and
ownership at the hourly associate level. Importantly, the Company expects that
customers will benefit from better stocked shelves, cleaner, neater departments
and improved service levels.
The Company has instituted a new compensation structure that is designed to
make store managers more accountable for store performance and provide
significant incentives for management to help Kmart achieve its goals of
increasing store traffic and sales per square foot. The Company has established
a Customer Service Index measurement ("CSI") based on "mystery shopper" visits
to stores conducted by an outside firm. The CSI measures such items as
friendliness and helpfulness of employees, cleanliness of stores, in-stock
positions and speed and accuracy of the checkout process. Commencing in 1996,
twenty-eight visits will be made each year at each store, consisting of 12
customer service visits, 12 cleanliness visits and four seasonal visits. In
1995, only 16 of these visits were made per store. To insure that the CSI
measurement becomes and remains an important factor in improving customer
service and to improve accountability and discipline, 50% of the field manager
bonus opportunity will be based on the CSI (versus 25% in 1995). The 1996
management incentive bonus program will affect the Company's regional, district
and store managers. In all cases, the 1996 incentive bonus opportunity will be
at least 50% greater than the 1995 bonus opportunity. For store managers, the
target bonus is based on a combination of the CSI scores (50%), the store's
controllable expenses (25%) and the store's pre-tax profit performance (25%).
INCREASING OVERALL EFFICIENCY
Kmart is in the process of increasing overall efficiency and reducing
expenses through (i) better use of information systems, (ii) increased
distribution productivity, (iii) further expense reductions and (iv) disposition
of selected assets.
Information Systems. Historically, Kmart has invested significantly in
creating and enhancing its information systems, most of which are similar or
identical to those of its competitors. However, much of this investment resulted
in excessive customization of vendor packages, redundant software and expensive
technology which, in many cases, was either unnecessary, ineffective or both.
Since 1994, the Company has taken steps to streamline these information systems,
including standardizing and simplifying software applications, closing and
consolidating data centers and outsourcing certain functions, such as store
payroll. In 1995, Kmart hired a new Chief Information Officer to oversee
information systems, with the primary goal of better using the existing systems.
Kmart made many important changes to systems capabilities in 1995 and has
identified many opportunities for continued improvement in 1996. Most of these
opportunities require minimal capital outlays, as they result primarily from
modification of existing systems, rather than the acquisition of new systems.
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Kmart's information systems group is focusing on three important areas:
inventory management, merchandising systems and management information systems.
The primary goal of the inventory and merchandising systems projects is to
improve the integrity and accuracy of the Company's inventory tracking and
replenishment systems to insure that stores are in stock. The management
information system has been created to provide management with the current
information required to make informed decisions promptly.
Kmart uses the same inventory replenishment system as its major
competitors. However, due to inefficiencies in scanning and identification of
out-of-stock product, Kmart had difficulty in identifying the amount of a
particular item which was on hand at any given store. Kmart has identified
several procedures to improve the accuracy of its inventory data, including
requiring that shelves and stockrooms be scanned in the mornings, and developing
new procedures for cashiers to scan items accurately. Once these procedures are
fully implemented and a recount of inventory is completed, Kmart should be able
to measure with greater accuracy its merchandise in-stock position and
automatically replenish inventory more effectively. Kmart's goal is to have
industry standard inventory data integrity by the middle of 1996.
In 1996, Kmart plans to install new merchandise allocation systems, which
will permit the Company to allocate merchandise among stores based on historical
trends, projected trends, and on-hand inventory at each store. This system is
designed to be another tool to allow Kmart to reduce the number of out-of-stock
items. Kmart also plans to use its merchandising systems more effectively as
they relate to advertising. Kmart began using an advertising system in the first
quarter of 1996. This system permits the advertising department to track the
results of ads for specific products both during and after running a promotion,
to identify whether sufficient numbers of promoted items are in stock at the
commencement of the promotion, to gauge the effect of the promotion on the sale
of other items within the store, and to analyze numerous other factors which
will influence future advertising campaigns. Finally, Kmart has implemented a
new advertising forecasting program to predict inventory requirements for
promotional events.
Kmart has made significant improvements to its information systems in the
past two years. The Company has consolidated several systems into one general
ledger system and has created an Executive Information System, which enables
management to track sales, gross margins, inventory, store profitability and
other key operating information on a current basis. Kmart management uses this
system to identify quickly areas with problems and areas of opportunity, and to
make more informed decisions in its markdowns and advertising. Until 1995, Kmart
management did not have this information on an up-to-date basis. Kmart plans to
make further upgrades in the information systems area in 1996, including the
installation of a new labor scheduling system designed to improve sales per
labor hour.
Distribution and Logistics. Kmart has pursued a number of initiatives over
the past several years to improve both the performance and efficiency of its
distribution system. Most recently, the Company restructured the logistics
organization and distribution center network by centralizing the reporting
structure of all distribution centers and placing increased management emphasis
on material handling, flow of goods, and engineering standards within the
distribution system.
The Company has made significant improvements in distribution logistics in
the past three years, while at the same time increasing the volume of
merchandise which flows through the system. In 1995, Kmart shipped 42% more
hardline volume and 30% more softline volume through its 21 distribution centers
than in 1992, while inventory turnover in the distribution centers increased by
35%. During the same period, transportation expenses as a percent of purchases
shipped fell by 18% and store delivery time was reduced due to (i) the July 1994
opening of an additional hardlines distribution center, (ii) expanding and
modernizing the material handling systems in certain hardline distribution
centers, (iii) implementing just-in-time cross-dock facilities at softlines
distribution centers, (iv) rationalizing the carrier base and outsourcing store
delivery fleets, and (v) using consolidation centers to pool freight destined
for the Company's distribution centers.
The Company's distribution group is also focused on current projects aimed
at further improving flow of goods through more effective tracking of
merchandise and other efficiencies. These initiatives include (i) implementing
radio frequency based receiving systems, (ii) becoming the first major retailer
to use Advance Shipment Notification through electronic data interchange (EDI)
- -- currently in use with over 300 vendors, (iii) using an automated receipt and
shipment labeling process with cross-dock conveyor systems
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to more effectively handle goods, (iv) installing improved inventory handling
and picking systems to reduce repackaging time, and (v) enhancing routing and
scheduling software.
Expense Reduction. Kmart also plans to continue its expense reduction
efforts. To reduce costs at the Company, a productivity improvement task force
was created to identify and implement cost reductions and to streamline store
operations. The numerous specific cost-cutting actions the Company has
undertaken since October 1994 include closing under-performing stores, reducing
corporate overhead, freezing benefits under the Company's defined benefit
pension plan, outsourcing certain functions, selling corporate aircraft and
changing many of the Company's practices to enhance efficiency. The Company has
eliminated a duplicate information system data center for softlines, outsourced
the typesetting of the weekly advertising circular and reduced the size of the
weekly circulars. These expense reductions in fiscal 1995 resulted in
approximately $540 million in gross savings, which were more than offset by
increases in expenses due to store openings and incremental advertising.
In 1996, the Company intends to achieve further expense reductions through
savings from stores closed in 1995 and the elimination of redundant and
inefficient support functions. The Company will continue to introduce more
efficient working practices by improving labor scheduling and promotional
planning, outsourcing additional functions, improving inventory control and use
of store labor, rationalizing the distribution center network and implementing
cost reductions in store restaurants through renegotiation of third-party
contracts. These 1996 cost reduction activities are expected to result in gross
savings approximating those attained in fiscal 1995. These savings are
anticipated to be partially offset by incremental expense due to store openings,
resulting in net savings of approximately $375 million, although no assurance
can be given that such cost savings will be actually achieved.
Disposition of Selected Assets. Since November 1994, the Company has
completed the divestiture of The Sports Authority, OfficeMax, the Borders Group
and Coles Myer. The Company intends to explore the continued disposition of
certain assets which are inconsistent with the Company's core retail business.
In 1995, Kmart successfully completed the divestiture of the automotive service
business to Penske Auto Centers ("Penske") under an arrangement whereby Penske
purchased existing inventory and equipment and pays rent, a royalty on sales and
an administrative service fee to the Company. Kmart is analyzing whether a
similar arrangement would be appropriate for other parts of its business where
the cost structure and operational needs differ from the rest of the stores'
operations. In addition, the Company has recently sold its subsidiaries
operating stores in the Czech and Slovak Republics for approximately $118
million and sold 5,290,648 shares of common stock of Thrifty PayLess for
approximately $70 million. Finally, the Company is exploring opportunities to
divest or sell Builders Square.
REGAINING FINANCIAL STABILITY
A key component of the Company's turnaround strategy in 1996 is the
recapitalization of the business. This recapitalization is part of the Company's
transition to a more traditional, flexible and stable financial structure. The
Company expects that successful completion of this recapitalization will
strengthen the Company's financial liquidity and resources, thereby enhancing
the confidence of the financial community and the Company's vendors and business
partners. See "Risk Factors -- Liquidity; Access to Capital."
The three-year, $3.7 billion New Credit Agreement is being negotiated with
a syndicate of lenders simultaneously with this offering of Convertible
Preferred Securities. The New Credit Agreement includes a $2.5 billion Revolving
Credit Facility designed to fund Kmart's working capital and other operational
needs over its term, and a $1.2 billion Term Loan Facility, which will be fully
drawn upon the initial funding of the New Credit Agreement. The New Credit
Agreement will replace the current bank credit facilities and certain real
estate related debt aggregating $2.9 billion and maturing in 1997. Based on its
current operating plan, Kmart believes that the Convertible Preferred
Securities, the New Credit Agreement and cash generated from operations will
provide sufficient funds to meet its cash needs through 1999. The closing of
this offering of Convertible Preferred Securities and funding under the New
Credit Agreement are each conditioned upon one another.
Subsequent to the completion of this offering of Convertible Preferred
Securities and funding under the New Credit Agreement, the Company intends to
seek long-term financing for approximately $1 billion of
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recently opened real estate facilities which are either owned or will be
refinanced or purchased upon funding under the New Credit Agreement. The net
proceeds realized from such financing will depend on the loan to value ratios
obtained by the Company. The proceeds from such real estate financing, together
with the proceeds from the divestiture or sale of certain other non-core assets,
will be used to reduce the term loan portion of the New Credit Agreement. In
addition, the Company intends to seek long-term financing for its new store
program. If such financing is not available, the Company must either rely on
funding available under the New Credit Agreement, find alternative funding, or
possibly curtail its new store program.
REAL ESTATE
As of January 31, 1996, Kmart operated 2,161 stores in each of the 50
United States, Puerto Rico, the U.S. Virgin Islands and Guam, including 2,074
Kmart discount stores and 87 Super Kmart Centers, and had 134 international
stores through operations in Canada and joint ventures in Mexico and Singapore.
The Company believes that Kmart stores are generally in good locations, leased
for long terms at attractive rates. Kmart stores are predominantly located along
high-volume traffic routes in urban or suburban regions. In 1987, the vast
majority of domestic Kmart stores had not been significantly updated in over
five years. As of January 31, 1996, approximately 70% of domestic Kmart stores
were either new or had been refurbished within a six-year period.
In the last two fiscal years, Kmart closed 334 under-performing stores. The
Company continues to review its stores to determine whether closure is
appropriate in light of the Company's return on investment objectives. As of
January 31, 1996, approximately 2% of the 2,161 domestic Kmart stores were being
monitored closely. Fiscal 1996 store closings are not expected to exceed 50.
Kmart gives high priority to the marketing of closed store properties and
recently hired a new Vice President of Real Estate and added a new Vice
President of Real Estate Financing position. Kmart stores are typically financed
with 25 year leases with multiple renewal options. Closed store site leases are
disposed of through expiration, termination or assignment of the original lease
or through sublease agreements. The terms of a given property's disposal are
largely dependent upon the condition of the local real estate market. In fiscal
1995 alone, the Company disposed of 137 closed store properties. As of May 1,
1996, Kmart was marketing approximately 240 closed store properties. In fiscal
1995, cash outlays resulting from closed store lease obligations and
dispositions, net of any sublease income, totaled $181 million. Such outlays are
expected to approximate $125 million in fiscal 1996, $110 million in fiscal 1997
and $95 million in fiscal 1998.
BUILDERS SQUARE
At January 31, 1996, Builders Square operated 167 home improvement stores
in 20 states and Puerto Rico. In January 1994, Builders Square initiated the
conversion of its stores from a self-service, warehouse-style format to a new
"Builders Square II" prototype that employs a "specialty store within a store"
concept in one convenient location, thereby resulting in enhanced customer
service. At January 31, 1996, Builders Square operated 113 large format Builders
Square II superstores. Builders Square expects to open two new stores in 1996.
In 1995, Builders Square's operating results were adversely affected by
difficulties in the retail home improvement industry. These difficulties
resulted from weakening consumer demand, a decline in lumber prices and
significant competitive pressure from other home improvement retailers. On a
comparable store basis, Builders Square's 1995 sales fell 8.7% and Builders
Square reported an operating loss of $17 million, exclusive of the FAS 121
write-off. Also in 1995, after considering Builders Square's current and
expected future cash flows, together with a judgment as to the fair value the
Company could receive upon the sale of Builders Square, Kmart recorded a pre-tax
charge of $370 million resulting from the impairment of Builders Square assets.
Kmart is exploring the divestiture or sale of Builders Square. As of
January 31, 1996, Builders Square had lease obligations of approximately $2.2
billion, substantially all of which have been guaranteed by Kmart. Such
guarantees may limit the Company's flexibility to dispose of Builders Square.
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INTERNATIONAL OPERATIONS
At January 31, 1996, Kmart Canada operated 127 Kmart general merchandise
stores throughout Canada
and, after the planned closing of 12 stores, will operate 115 stores at the end
of fiscal 1996. Kmart Canada was adversely affected by increased competition and
a general tightening of credit conditions in 1995. As a result, the cash flow
requirements for Kmart Canada were partially funded by Kmart in the fourth
quarter of fiscal 1995. The Company expects Kmart Canada to require minimal
financial support from Kmart during fiscal 1996 and is working to improve
operating results and strengthen cash flow within the Canadian operations.
Kmart store operations in Mexico are conducted through a joint venture with
El Puerto de Liverpool, a leading Mexican retailer. The four Kmart stores in
Mexico are in the Super Kmart Center format.
In 1993, Kmart entered into a joint venture to open and operate Kmart
stores in Singapore. Currently, this joint venture operates three stores.
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MANAGEMENT
The following table sets forth information concerning certain executive
officers and directors of the Company as of May 1, 1996. Officers of the Company
are elected each year at the Annual Meeting of the Board of Directors to serve
for the ensuing year and until their successors are elected and qualified. The
Company's Articles and By-laws provide that directors shall be divided into
three classes serving staggered three-year terms, with each class to be as
nearly equal in number as possible.
<TABLE>
<CAPTION>
SERVED IN
NAME POSITION AGE POSITION SINCE
- ------------------------------ -------------------------------------- --- ----------------
<S> <C> <C> <C>
EXECUTIVE OFFICERS
Floyd Hall.................... Chairman of the Board, President and 57 June, 1995
Chief Executive Officer
Warren Cooper................. Executive Vice President, Human 51 March, 1996
Resources and Administration
Warren Flick.................. Executive Vice President, President 52 December, 1995
and General Merchandise Manager, U.S.
Kmart Stores
Ronald J. Floto............... Executive Vice President and 53 October, 1994
President, Super Kmart Centers
Donald W. Keeble.............. Executive Vice President, Store 47 February, 1995
Operations
Anthony N. Palizzi............ Executive Vice President, General 53 December, 1992
Counsel
Marvin P. Rich................ Executive Vice President, Strategic 50 October, 1994
Planning, Finance and Administration
Joseph J. Collins............. Senior Vice President, Logistics 46 February, 1996
Andrew A. Giancamilli......... Senior Vice President, General 45 February, 1996
Merchandise Manager -- Consumables and
Commodities
Ernest L. Heether............. Senior Vice President, Merchandise 50 April, 1996
Planning and Replenishment
Paul J. Hueber................ Senior Vice President, Sales and 47 January, 1994
Operations
Donald E. Norman.............. Senior Vice President, Chief 59 December, 1995
Information Officer
Stephen M. Ross............... Senior Vice President, General 44 April, 1996
Merchandise Manager -- Softlines
William D. Underwood.......... Senior Vice President, Vendor and 55 May, 1994
Product Development
Gilbert L. Wachsman........... Senior Vice President, General 48 August, 1995
Merchandise Manager -- Hardlines
Thomas W. Watkins............. Senior Vice President, International 50 January, 1993
and Off-Shore Retailing
Martin E. Welch III........... Senior Vice President and Chief 47 December, 1995
Financial Officer
DIRECTORS
James B. Adamson.............. Director 48 March, 1996
Lilyan H. Affinito............ Director 64 September, 1990
Stephen F. Bollenbach......... Director 53 April, 1996
Joseph A. Califano, Jr........ Director 64 September, 1990
Richard G. Cline.............. Director 61 May, 1995
Willie D. Davis............... Director 61 January, 1986
Enrique C. Falla.............. Director 56 March, 1992
Joseph P. Flannery............ Director 64 September, 1985
Floyd Hall.................... Chairman of the Board, President and 57 June, 1995
Chief Executive Officer
Robert D. Kennedy............. Director 63 March, 1996
J. Richard Munro.............. Director 65 January, 1990
William P. Weber.............. Director 55 March, 1996
James O. Welch, Jr............ Director 64 July, 1995
</TABLE>
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Floyd Hall is Chairman of the Board, President and Chief Executive Officer
of the Company. He previously served as Chairman and Chief Executive Officer of
Alva Reproductions Inc. (museum reproductions), Glass Masters Inc. (stained
glass products) and The Museum Co. (retail stores) and as Chairman of Lynx
Technologies Inc. (telecommunications). Prior to that, Mr. Hall served as
Chairman and Chief Executive Officer of The Grand Union Company, Target Stores
and B. Dalton Booksellers Inc. Mr. Hall is also a director of Jundt Growth Fund
and Jundt Emerging Growth Fund.
Warren Cooper joined the Company under his current title in March 1996.
Prior thereto he was Senior Vice President, Human Resources, General Cable from
1995 to 1996; Vice President, Human Resources, the Sears Merchandise Group,
Sears, Roebuck & Co. from 1993 to 1995; and Vice President, Corporate Human
Resources, Sears, Roebuck & Co. from 1987 to 1993.
Warren Flick joined the Company under his current title in December 1995.
Prior thereto he was the Chairman and Chief Executive Officer of Sears de
Mexico, Sears, Roebuck & Co. from 1994 to 1995; Group Vice President, Men's,
Kids, Footwear and Home Fashions, Sears, Roebuck & Co. from 1993 to 1994; Group
Vice President, Men's, Kids and Footwear, Sears, Roebuck & Co. from 1992 to
1993; and Group Vice President, Men's and Kids, Sears, Roebuck & Co. from 1988
to 1992.
Ronald J. Floto joined the Company under his current title in 1994. Prior
thereto he was the Chairman, CEO and President of Kash n' Karry Stores, Inc.
from 1988 to 1994; President, Kash n' Karry Division, Lucky Stores, Inc. from
1985 to 1988; and President, Buttrey Food & Drug Stores, Jewel Companies, from
1980 to 1985.
Donald W. Keeble has served as an executive officer of the Company since
1989 and has served in his current position since February 1995. Prior thereto
he held the following positions at the Company: Executive Vice President,
Merchandising and Operations from 1994 to 1995; and Senior Vice President,
General Merchandise Manager, Fashions from 1991 to 1994.
Anthony N. Palizzi has served as an executive officer of the Company since
1985 and has served in his current position since 1992. Prior thereto he was the
Senior Vice President, General Counsel from 1991.
Marvin P. Rich joined the Company under his current title in 1994. Prior
thereto he was Executive Vice President, Specialty Companies, Wellpoint Health
Networks/Blue Cross of California from 1992 to 1994; and Executive Vice
President, Finance & Information Services, Wellpoint Health Networks/Blue Cross
of California from 1989 to 1992. Mr. Rich's retailing experience also includes
serving as Senior Vice President, Information Services, Jefferson Ward in 1981
and Vice President, Information Services & Inventory Control, The Broadway, from
1974 to 1981.
Joseph J. Collins joined the Company in 1995 as Vice President, Strategic
Business Integration and Productivity Improvement and has served in his current
position since February 1996. Prior thereto he was Vice President, Consumer
Products, Gemini Consulting/Retail from 1993 to 1995; Consultant, Vice
President, Montgomery Ward Co. from 1992 to 1993; and the owner and President,
Independent Consulting, Capital Management Corp. from 1990 to 1992.
Andrew A. Giancamilli joined the Company in 1995 as Vice President,
Pharmacy Merchandising and Operations and has served in his current position
since February 1996. Prior thereto he was President, Chief Operating Officer,
Director, Perry Drug Stores, Inc. from 1993 to 1995; Executive Vice President,
Chief Operating Officer, Perry Drug Stores, Inc. from 1992 to 1993; and Senior
Vice President, Store Operations, Perry Drug Stores, Inc. from 1991 to 1992.
Ernest L. Heether joined the Company under his current title in April 1996.
Prior thereto, he was the Senior Vice President, Merchandise Operations,
Bradlees Inc. from 1993 to 1996; Vice President, Merchandise Planning & Control,
Caldor from 1990 to 1993; and Director of Planning & Control -- Apparel
Division, Montgomery Ward from 1988 to 1990.
Paul J. Hueber has served as an executive officer of the Company since 1991
and has served in his current position since 1994. Prior thereto he was Vice
President, West/Central Region from 1991 to 1994.
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Donald E. Norman joined the Company in 1995 as Divisional Vice President,
Business Process Reengineering, Merchandise Inventory Controls and has served in
his current position since December 1995. Prior thereto he was President, DNA,
Inc. from 1994 to 1995; and Senior Vice President, Logistics, Ames Department
Stores from 1990 to 1994.
Stephen M. Ross joined the Company in 1996 as Senior Vice President,
General Merchandise Manager -- Softlines. Prior thereto he was President,
Phillips Van Heusen from 1993 to 1996 and Division Vice President, Men's, Sears,
Roebuck & Co. from 1989 to 1993.
William D. Underwood has served as an executive officer of the Company
since 1986 and has served in his current position since 1994. Prior thereto he
was Senior Vice President, General Merchandise Manager -- Hardlines from 1991 to
1994.
Gilbert L. Wachsman joined the Company under his current title in August
1995. Prior thereto he owned Wachsman Management Consulting from 1990 to 1995.
Mr. Wachsman was also Senior Vice President, Marketing/Merchandising, Target
Stores from 1974 to 1986.
Thomas W. Watkins has served as an executive officer of the Company since
1985 and has served in his current position since February 1996. Prior thereto
he held the following positions with the Company: Senior Vice President,
International Operations from 1992 to 1996; and Senior Vice President, Store
Operations from 1988 to 1992.
Martin E. Welch III joined the Company under his current title in December
1995. Prior thereto he was Senior Vice President, Chief Financial Officer,
Federal-Mogul Corporation from 1991 to 1995. From 1982 through 1991, Mr. Welch
held various executive positions at Chrysler Corporation.
James B. Adamson is Chairman and Chief Executive Officer, Flagstar
Companies, Inc. (food services and restaurant franchises). He previously served
as Chief Executive Officer, Chief Operating Officer and Retail President,
respectively, of Burger King Corporation and Executive Vice President, Marketing
of Revco Drug Stores. Mr. Adamson is also a director of Oxford Health Plans and
New World Coffee, Inc.
Lilyan H. Affinito is former Vice Chairman of the Board of Maxxam Group
Inc. (forest products operations, real estate management and development and
aluminum production). Ms. Affinito is also a director of Caterpillar, Inc.,
Chrysler Corporation, Jostens Inc., Lillian Vernon Corporation, New England
Telephone Company and New York Telephone Company (subsidiaries of Nynex
Corporation) and Tambrands, Inc.
Stephen F. Bollenbach is President and Chief Executive Officer of Hilton
Hotels Corporation. Previously Mr. Bollenbach served as Senior Executive Vice
President and Chief Financial Officer of The Walt Disney Company, as President
and Chief Executive Officer of Host Marriott Corporation and as Chief Financial
Officer of the Trump Organization. Mr. Bollenbach is also a director of America
West Airlines, Inc.
Joseph A. Califano, Jr. is Chairman and President for the National Center
on Addiction and Substance Abuse at Columbia University, an author and a health
care consultant. Mr. Califano is a former Senior Partner of Dewey Ballantine.
Mr. Califano is also a director of Authentic Fitness Corp., Automatic Data
Processing, Inc., Chrysler Corporation, New England Telephone Company and New
York Telephone Company (subsidiaries of Nynex Corporation), The Travelers Inc.
and Warnaco, Inc.
Richard G. Cline is Chairman, Hawthorne Investors, Inc. (management
advisors and personal investments). Mr. Cline is the former Chairman and Chief
Executive Officer of NICOR, Inc. (natural gas distribution and containerized
shipping) and previously served as Chairman, President and Chief Executive
Officer, NICOR, Inc. Mr. Cline also served in various capacities with Jewel
Companies, Inc. from 1963 to 1985, most recently as Chairman, President and
Chief Executive Officer. Mr. Cline is also a director of Whitman Corporation.
Willie D. Davis is President of All Pro Broadcasting, Inc. (radio stations)
and a director of Alliance Bank, The Dow Chemical Company, Johnson Controls,
Inc., L.A. Gear, Inc., MGM Grand, Inc., Rally's Hamburgers, Inc., Sara Lee
Corporation, Strong Funds and WICOR, Inc.
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Enrique C. Falla is Executive Vice President of The Dow Chemical Company
and previously served as Executive Vice President and Chief Financial Officer of
The Dow Chemical Company. Mr. Falla is also a director of The Dow Chemical
Company and Guidant Corporation.
Joseph P. Flannery is Chairman of the Board, President and Chief Executive
Officer of Uniroyal Holding, Inc. (investment management company) and also a
director of APS Holding Corp., Arvin Industries, Inc., Ingersoll Rand Company,
Newmont Gold Company, Newmont Mining Corporation and The Scotts Company.
Robert D. Kennedy is retired Chairman of the Board and Chief Executive
Officer of Union Carbide Corporation (chemicals and plastics manufacturer) and
also a director of Sun Oil Co., Union Carbide Corporation, Union Camp
Corporation and UCAR International Inc.
J. Richard Munro is Chairman of the Executive Committee of Time Warner Inc.
(entertainment and communications). Mr. Munro previously served as Co-Chairman
of the Board and Co-Chief Executive Officer of Time Warner Inc. and as Chairman
of the Board and Chief Executive Officer of Time Inc. (communications). He is
also a director of Genentech, Inc., Kellogg Company, Mobil Corporation and Time
Warner Inc.
William P. Weber is Vice Chairman of Texas Instruments Incorporated
(diversified electronics manufacturer) and previously served as Executive Vice
President, Components Sector President of Texas Instruments Corporation. Mr.
Weber is also a director of Texas Instruments Corporation.
James O. Welch, Jr. is former Vice Chairman of RJR Nabisco, Inc. and
Chairman of Nabisco Brands, Inc. Mr. Welch is also a director of TECO Energy,
Inc. and Vanguard Group of Investment Companies.
NEW CREDIT AGREEMENT
GENERAL
The Company has entered into a commitment agreement with Chemical Bank
("Chemical") and Chase Securities Inc. (successor to Chemical Securities Inc.)
("CSI") pursuant to which CSI has agreed to arrange a syndicate of financial
institutions (which will include Chemical) to provide $3.7 billion of financing
upon the terms described below. Chemical has committed to provide $500 million
in the aggregate and to act as administrative agent. The New Credit Agreement
will consist of two credit facilities, a $2.5 billion Revolving Credit Facility
and a $1.2 billion Term Loan Facility.
The New Credit Agreement has not been executed, but the Company anticipates
that such agreement, if and when executed, will not differ materially from the
terms described herein.
THE COMMITMENTS
Revolving Credit Facility. Approximately $2.5 billion will be made
available by a syndicate of banks and other financial institutions (the
"Lenders") to the Company under the Revolving Credit Facility. The borrowings
under the Revolving Credit Facility will be used to refinance certain of the
Company's existing indebtedness, fund the Company's working capital and other
operational needs, finance capital expenditures and for other general corporate
purposes. The Revolving Credit Facility will mature three years from the initial
funding thereunder. Amounts borrowed and repaid may be subsequently reborrowed
to the extent of the available commitment under the Revolving Credit Facility
(subject to compliance with the borrowing base and an annual clean-down
discussed below).
The Company will have the option to choose from among two interest rates
that will be available for committed loans under the Revolving Credit Facility.
Such rates will be based on a specified margin over the following base rates:
(i) the highest of (a) the rate announced by Chemical from time to time as its
prime rate, (b) the secondary market rate for certificates of deposit, plus 1%
and (c) the federal funds effective rate from time to time, plus 0.5% (the
"ABR") and (ii) the then-existing rate for dollar deposits of one, two, three or
six months (as selected by the Company) in the interbank eurodollar market (the
"Eurodollar Rate"). The
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margins applicable to each such rate are expected to decline based upon the
ratio of EBITDAR to interest and rental expense. In addition, the Company will
have the option of requesting competitive bid loans (pursuant to which interest
rates will be determined by bids submitted by one or more Lenders at the request
of the Company) under the Revolving Credit Facility ("Competitive Bid Loans").
A portion of the Revolving Credit Facility, not in excess of $750 million
in 1996, $1 billion in 1997 and $1.2 billion in 1998, will be available for the
issuance of letters of credit by Chemical and other issuers to be determined for
the benefit of the Company and its subsidiaries. Drawings under any letter of
credit will be reimbursed by the Company (whether with its own funds or with the
proceeds of the Revolving Credit Facility) on the same business day, subject to
a cut-off period to be agreed.
A commitment fee of 1/2% per annum on the unused portion of the commitment
available under the Revolving Credit Facility will be payable in quarterly
installments.
The Company may reduce without penalty all or a portion of the commitment
under the Revolving Credit Facility to an amount not less than the outstanding
borrowings thereunder. Aggregate borrowings under the Revolving Credit Facility
and the Term Loan Facility (discussed below) may not exceed a specified
borrowing base, which will be the sum of (i) 55% of the Company's eligible
inventory (as defined in the New Credit Agreement) and (ii) 60% of the net
appraised value of the Company's owned real estate (as determined in the New
Credit Agreement).
The Revolving Credit Facility will be subject to an annual clean-down,
requiring that no amounts be outstanding thereunder (excluding undrawn letters
of credit) in excess of $750 million for at least 30 consecutive days during
each fiscal year.
The Company may prepay at any time without penalty borrowings in minimum
amounts of not less than $10 million.
Term Loan Facility. Pursuant to the Term Loan Facility certain Lenders will
provide a $1.2 billion term loan to the Company. The Term Loan Facility will
mature three years from the initial funding thereunder. The Term Loan Facility
will not amortize and all principal amounts then outstanding will be due at
maturity.
The applicable interest rates and voluntary prepayment terms under the Term
Loan Facility will be determined in the same manner as under the Revolving Loan
Facility, subject to an increase in the otherwise applicable ABR and Eurodollar
margins of 0.50% after the first anniversary of the Term Loan Facility.
The Term Loan Facility will be subject to mandatory prepayment from the
following: (i) 100% of the net cash proceeds of the incurrence of certain
indebtedness; (ii) 50% of the net cash proceeds of any sale or transaction
involving certain specified assets as may be agreed by the Company and Chemical;
and (iii) 100% of the net cash proceeds of any sale of any existing properties.
GUARANTEES, SECURITY, COVENANTS; EVENTS OF DEFAULT AND CONDITIONS
Guaranty. All obligations of the Company under the New Credit Agreement
will be unconditionally guaranteed by the Company's direct and indirect domestic
subsidiaries, except for inactive or otherwise immaterial subsidiaries and
subject to certain other limited exceptions (the "Domestic Subsidiaries").
Security. The Company and each Domestic Subsidiary will grant to one or
more collateral trustees, for the benefit of the Lenders, as security for the
borrowings under the New Credit Agreement (as well as obligations of the Company
under certain hedging and depository arrangements with the Lenders), a first
perfected security interest in substantially all the existing and future
material United States assets of the Company and each Domestic Subsidiary
(subject to certain exceptions) including, without limitation, inventory,
receivables, owned real estate (excluding encumbered real estate), all the stock
of Domestic Subsidiaries and 65% of the stock of foreign subsidiaries,
trademarks and investments. The Company may elect to cause its obligation to
certain vendors in respect of trade accounts payable to be secured by a
perfected security interest in inventory, which security interest will be
subordinate to the security interest in favor of the Lenders. The collateral
securing the obligations under the New Credit Agreement (and obligations to the
Lenders under certain hedging and depository arrangements) and the obligations
to vendors will be released
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automatically (provided that no default or event of default is then continuing)
(i) if the senior long-term unsecured debt of the Company is rated Baa3 by
Moody's and the corporate debt rating of the Company is rated at least BBB- by
Standard & Poor's or (ii) as of the last day of any fiscal quarter of the
Company on which each of the following is true: (a) the Term Loan Facility shall
have been repaid in full; (b) the ratio of EBITDAR to interest and rental
expense on a rolling four quarter basis for the period of two consecutive fiscal
quarters then ended is greater than or equal to 2.0 to 1; and (c) the ratio of
funded debt to capital funds (as defined in the New Credit Agreement) is less
than or equal to 0.375 to 1.
Covenants. The New Credit Agreement will contain several affirmative
covenants, including, without limitation, the following: (i) the furnishing of
certain financial statements and certificates (including a borrowing base
certificate); (ii) the payment of obligations; (iii) the conduct of business of
the Company; (iv) compliance with environmental laws; (v) the granting of
security interests in after-acquired property; and (vi) the maintenance of cash
custodial accounts.
The New Credit Agreement will also contain several negative covenants,
including, without limitation, the following: (i) the ratio of EBITDAR to
interest and rental expense at the end of each fiscal quarter (calculated on a
rolling four quarter basis) must be greater than or equal to 1.25 to 1; (ii) the
ratio of funded debt (as defined in the New Credit Agreement) to capital funds
at all times must not exceed 0.50 to 1 (or 50%); and (iii) limitations on (a)
indebtedness; (b) liens; (c) guarantee obligations; (d) mergers; (e) sales of
assets (except for sales of real property to special purpose entities in
connection with sale/leaseback and securitization transactions to be determined,
other asset sales to be specified plus an additional amount to be agreed upon);
(f) dividends and other payments in respect of capital stock (except for
dividends on common stock after fiscal 1996 in an amount not exceeding 50% of
cumulative net income for the period commencing at the beginning of fiscal
1997); (g) capital expenditures in excess of $400 million in 1996 and $500
million in 1997 (plus an amount equal to 50% of the amount, if any, by which
EBITDA (as defined in the New Credit Agreement) for fiscal year 1996 exceeds $1
billion), $500 million in 1998 (plus an amount equal to 50% of the amount, if
any, by which EBITDA for fiscal year 1997 exceeds $1.25 billion) and $500
million in 1999 (plus an amount equal to 50% of the amount, if any, by which
EBITDA for fiscal year 1998 exceeds $1.5 billion, prorated to the expiration of
the Revolving Credit Facility), with exceptions based on certain performance
levels; (h) expenditures in respect of certain real property in excess of $300
million per fiscal year or cumulative expenditures of $800 million during the
Term Loan Facility; (i) investments; (j) loans and advances; (k) optional
payments and modifications of subordinated and other debt instruments; (l)
transactions with affiliates; (m) sale and leaseback transactions (except for
transactions in the ordinary course of business and at market rates); (n)
changes in the Company's fiscal year; and (o) the ability to consent to the
incurrence of indebtedness or liens by certain joint ventures to which the
Company or its subsidiaries are a party.
The New Credit Agreement also prohibits interest and other payments to be
made in respect of the Convertible Debentures if after giving effect thereto an
Event of Default (as defined in the New Credit Agreement) has occurred and is
continuing.
Events of Default. The New Credit Agreement will provide for certain events
of default, including, without limitation: (i) nonpayment of principal and
interest; (ii) material inaccuracy of representations or warranties; (iii)
violation of covenants; (iv) default in other indebtedness of the Company
(subject to an aggregate $100 million basket); (v) bankruptcy; (vi) certain
ERISA events; (vii) material judgments (subject to an aggregate $100 million
basket); (viii) actual or asserted invalidity of any guarantee or security
document or security interest; and (ix) a change of control of the Company.
Conditions. It is contemplated that the initial borrowings under the New
Credit Agreement will be conditioned upon the consummation of this offering of
Convertible Preferred Securities, as well as additional conditions, including
but not limited to: (i) the obtaining of all governmental and other required
approvals; (ii) the receipt of acceptable lien searches; (iii) the perfection of
security interests in personal and real property; (iv) the receipt of legal
opinions; (v) certain matters with respect to litigation; (vi) the truth of
representations and warranties contained in the New Credit Agreement (including,
with limitation, the absence, since January 31, 1996, of any development or
event which could reasonably be expected to have a
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material adverse effect on (a) the business, assets, operations, condition
(financial or otherwise) or prospects of the Company and its subsidiaries, taken
as a whole, (b) the validity or enforceability of the New Credit Agreement or
(c) any of the material rights and remedies of the Lenders, their agent or the
collateral trustees; (vii) the repayment in full of the current bank credit
facilities and certain real estate related debt; (viii) the inclusion in the
borrowing base of a minimum level of value attributable to real property as may
be agreed by the Company and Chemical; and (ix) the nonexistence of an event of
default (other than as otherwise specified) (or condition which would constitute
an event of default with the giving of notice or the passage of time) under any
capital stock, material financing agreements, material lease agreements or other
material contracts of the Company or any of its subsidiaries.
DESCRIPTION OF THE CONVERTIBLE PREFERRED SECURITIES
The Convertible Preferred Securities will be issued pursuant to the terms
of the Declaration. The Declaration will be qualified as an indenture under the
Trust Indenture Act. The Institutional Trustee, The Bank of New York, will act
as indenture trustee for the Convertible Preferred Securities under the
Declaration for purposes of compliance with the provisions of the Trust
Indenture Act. The terms of the Convertible Preferred Securities will include
those stated in the Declaration and those made part of the Declaration by the
Trust Indenture Act. The following summary of the material terms and provisions
of the Convertible Preferred Securities is subject to, and qualified in its
entirety by reference to, the Declaration, a copy of which is filed as an
exhibit to the Registration Statement of which this Prospectus Supplement is a
part, the Trust Act and the Trust Indenture Act.
GENERAL
The Declaration authorizes the Regular Trustees to issue on behalf of the
Trust the Trust Securities, which represent undivided beneficial interests in
the assets of the Trust. All of the Common Securities will be owned, directly or
indirectly, by Kmart. The Common Securities rank pari passu, and payments will
be made thereon on a pro rata basis, with the Convertible Preferred Securities,
except that upon the occurrence and during the continuance of a Declaration
Event of Default, the rights of the holders of the Common Securities to receive
payment of periodic distributions and payments upon liquidation, redemption and
otherwise will be subordinated to the rights of the holders of the Convertible
Preferred Securities. The Declaration does not permit the issuance by the Trust
of any securities other than the Trust Securities or the incurrence of any
indebtedness by the Trust. Pursuant to the Declaration, the Institutional
Trustee will hold the Convertible Debentures purchased by the Trust for the
benefit of the holders of the Trust Securities. The payment of distributions out
of money held by the Trust, and payments upon redemption of the Convertible
Preferred Securities or liquidation of the Trust, are guaranteed by Kmart to the
extent described under "Description of Trust Preferred Securities Guarantees" in
the accompanying Prospectus. The Guarantee will be held by The Bank of New York,
the Guarantee Trustee, for the benefit of the holders of the Convertible
Preferred Securities. The Guarantee does not cover payment of distributions when
the Trust does not have sufficient available funds to pay such distributions. In
such event, the remedy of a holder of Convertible Preferred Securities is to
vote to direct the Institutional Trustee to enforce the Institutional Trustee's
rights under the Convertible Debentures except in the limited circumstances in
which the holder may take Direct Action. See "-- Voting Rights" and "--
Declaration Events of Default."
DISTRIBUTIONS
Distributions on the Convertible Preferred Securities will be fixed at a
rate per annum of % of the stated liquidation amount of $50 per Convertible
Preferred Security. Distributions in arrears for more than one quarter will
accrue interest thereon at the distribution rate, compounded quarterly. The term
"distribution" as used herein includes any such interest payable unless
otherwise stated. The amount of distributions payable for any period will be
computed on the basis of a 360-day year of twelve 30-day months.
Distributions on the Convertible Preferred Securities will be cumulative,
will accrue from the first date that any Convertible Preferred Securities are
issued, and will be payable quarterly in arrears on March 15,
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June 15, September 15 and December 15 of each year, commencing September 15,
1996, when, as and if available for payment. Distributions will be made by the
Institutional Trustee, except as otherwise described below.
So long as Kmart shall not be in default in the payment of interest on the
Convertible Debentures, Kmart has the right under the Indenture to defer
payments of interest on the Convertible Debentures by extending the interest
payment period from time to time on the Convertible Debentures, which, if
exercised, would defer quarterly distributions on the Convertible Preferred
Securities (though such distributions would continue to accumulate with interest
thereon at the distribution rate, compounded quarterly, since interest would
continue to accrue on the Convertible Debentures) during any such Extension
Period. Such right to extend the interest payment period for the Convertible
Debentures is limited to a period not exceeding 20 consecutive quarters and such
period may not extend beyond the maturity of the Convertible Debentures. In the
event that Kmart exercises this right, then (a) Kmart shall not declare or pay
dividends on, make distributions with respect to, or redeem, purchase or
acquire, or make a liquidation payment with respect to, any of its capital stock
(other than (i) purchases or acquisitions of shares of Kmart Common Stock in
connection with the satisfaction by Kmart of its obligations under any employee
benefit plans, (ii) as a result of a reclassification of Kmart capital stock or
the exchange or conversion of one class or series of Kmart's capital stock for
another class or series of Kmart capital stock or (iii) the purchase of
fractional interests in shares of Kmart's capital stock pursuant to the
conversion or exchange provisions of such Kmart capital stock or the security
being converted or exchanged), (b) Kmart shall not make any payment of interest,
principal or premium, if any, on or repay, repurchase or redeem any debt
securities issued by Kmart that rank pari passu with or junior to the
Convertible Debentures and (c) Kmart shall not make any guarantee payments with
respect to the foregoing (other than pursuant to the Guarantee). Prior to the
termination of any such Extension Period, Kmart may further extend the interest
payment period; provided, that such Extension Period, together with all such
previous and further extensions, may not exceed 20 consecutive quarters or
extend beyond the maturity of the Convertible Debentures. Upon the termination
of any Extension Period and the payment of all amounts then due, Kmart may
commence a new Extension Period, subject to the above requirements. See
"Description of the Convertible Debentures -- Interest" and "-- Option to Extend
Interest Payment Period." If distributions are deferred, the deferred
distributions and accrued interest thereon shall be paid to holders of record of
the Convertible Preferred Securities as they appear on the books and records of
the Trust on the record date next following the termination of such deferral
period.
Distributions on the Convertible Preferred Securities must be paid on the
dates payable to the extent that the Trust has funds available for the payment
of such distributions. The Trust's funds available for distribution to the
holders of the Convertible Preferred Securities will be limited to payments
received from Kmart on the Convertible Debentures. See "Description of the
Convertible Debentures." The payment of distributions out of moneys held by the
Trust is guaranteed by Kmart to the extent set forth under "Description of Trust
Preferred Securities Guarantees" in the accompanying Prospectus.
Distributions on the Convertible Preferred Securities will be payable to
the holders thereof as they appear on the books and records of the Trust on the
relevant record dates, which, as long as the Convertible Preferred Securities
remain in book-entry only form, will be one Business Day (as defined below)
prior to the relevant payment dates. Such distributions will be paid through the
Institutional Trustee who will hold amounts received in respect of the
Convertible Debentures for the benefit of the holders of the Trust Securities.
Subject to any applicable laws and regulations and the provisions of the
Declaration, each such payment will be made as described under "-- Book-Entry
Only Issuance -- The Depository Trust Company" below. In the event that the
Convertible Preferred Securities do not continue to remain in book-entry only
form, the Regular Trustee shall have the right to select relevant record dates,
which shall be more than one Business Day prior to the relevant payment dates.
In the event that any date on which distributions are to be made on the
Convertible Preferred Securities is not a Business Day, then payment of the
distributions payable on such date will be made on the next succeeding day which
is a Business Day (and without any interest or other payment in respect of any
such delay), except that, if such Business Day is in the next succeeding
calendar year, such
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payment shall be made on the immediately preceding Business Day, in each case
with the same force and effect as if made on such record date. A "Business Day"
shall mean any day other than Saturday, Sunday or any other day on which banking
institutions in New York City or Detroit, Michigan are permitted or required by
any applicable law to close.
CONVERSION RIGHTS
General. The Convertible Preferred Securities will be convertible at any
time beginning 60 days following the first date of original issuance of the
Convertible Preferred Securities through the close of business on June 15, 2016
(or, in the case of Convertible Preferred Securities called for redemption,
prior to the close of business on the Business Day prior to the Redemption Date)
(the "Conversion Expiration Date"), at the option of the holders thereof and in
the manner described below, into shares of Kmart Common Stock at an initial
conversion rate of shares of Kmart Common Stock for each Convertible
Preferred Security (equivalent to a conversion price of $ per share of
Kmart Common Stock), subject to adjustment as described under "-- Conversion
Price Adjustments -- General" and "-- Conversion Price Adjustments -- Merger,
Consolidation or Sale of Assets of Kmart" below.
The terms of the Convertible Preferred Securities provide that a holder of
a Convertible Preferred Security wishing to exercise its conversion right shall
surrender such Convertible Preferred Security, together with an irrevocable
conversion notice, to the Institutional Trustee, as conversion agent (the
"Conversion Agent"), which shall, on behalf of such holder, exchange such
Convertible Preferred Security for a portion of the Convertible Debentures and
immediately convert an equivalent amount of Convertible Debentures into Kmart
Common Stock. Holders may obtain copies of the required form of the conversion
notice from the Conversion Agent. So long as a book-entry system for the
Convertible Preferred Securities is in effect, however, procedures for
converting the Convertible Preferred Securities into shares of Kmart Common
Stock will differ, as described under "-- Book-Entry Only Issuance -- The
Depository Trust Company."
Accrued distributions will not be paid on the Convertible Preferred
Securities that are converted, provided, however, that if any Convertible
Preferred Security is converted on or after a record date for payment of
distributions thereon, the distributions payable on the related payment date
with respect to such Convertible Preferred Security shall be distributed to the
holder, despite such conversion. Except as provided in the immediately preceding
sentence, neither the Trust nor Kmart shall make any payment, allowance or
adjustment for accumulated and unpaid distributions, whether or not in arrears,
on converted Convertible Preferred Securities. Kmart will make no payment or
allowance for distributions on the shares of Kmart Common Stock issued upon such
conversion, except to the extent that such shares of Kmart Common Stock are held
of record on the record date for any such distributions.
No fractional shares of Kmart Common Stock will be issued as a result of
conversion, but in lieu thereof such fractional interest will be paid by Kmart
in cash based on the current market price of Kmart Common Stock on the date such
Convertible Preferred Securities are surrendered for conversion.
Conversion Price Adjustments -- General. The conversion price is subject to
adjustment in certain events, including (a) the issuance of shares of Kmart
Common Stock as a dividend or a distribution with respect to Kmart Common Stock,
(b) subdivisions, combinations and reclassification of Kmart Common Stock, (c)
the issuance to all holders of Kmart Common Stock of rights or warrants
entitling them to subscribe for shares of Kmart Common Stock at less than the
current market price, (d) the distribution to all holders of Kmart Common Stock
of capital stock (other than Kmart Common Stock) or evidences of indebtedness of
Kmart or of assets (other than cash distributions covered by clause (e) below),
or rights or warrants to subscribe for or purchase any of its securities
(excluding rights or warrants to purchase Kmart Common Stock referred to in
clause (c) above), (e) distributions consisting of cash, excluding any quarterly
cash dividend on Kmart Common Stock to the extent that the aggregate cash
dividend per share of Kmart Common Stock in any quarter does not exceed the
greater of (i) the amount per share of Kmart Common Stock of the next preceding
quarterly dividend on Kmart Common Stock to the extent that such preceding
quarterly dividend did not require an adjustment of the conversion rate pursuant
to this clause (e) (as adjusted to reflect subdivisions or combinations of Kmart
Common Stock), and (ii) 3.75% of the average of
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the last reported sales price of Kmart Common Stock during the ten trading days
immediately prior to the date of declaration of such dividend, and excluding any
dividend or distribution in connection with the liquidation, dissolution or
winding-up of Kmart, (f) payment to holders of Kmart Common Stock in respect of
a tender or exchange offer by Kmart or any subsidiary for Kmart Common Stock
(other than an odd lot tender offer) at a price in excess of the current market
price of Kmart Common Stock as of the trading day next succeeding the last date
tenders or exchanges may be made pursuant to such tender or exchange offer, and
(g) payment to holders of Kmart Common Stock in respect of a tender or exchange
offer by a person other than Kmart or a subsidiary thereof for Kmart Common
Stock at a price in excess of the current market price of Kmart Common Stock as
of the trading day next succeeding the last date tenders or exchanges may be
made pursuant to such tender or exchange offer in which, as of the closing date
of the offer, Kmart's board of directors is not recommending rejection of the
offer. If an adjustment is required to be made as set forth in clause (e) above
as a result of a distribution that is a quarterly dividend, such adjustment
would be based upon the amount by which such distribution exceeds the amount of
the quarterly cash dividend permitted to be excluded pursuant to clause (e). If
an adjustment is required to be made as set forth in clause (e) above as a
result of a distribution that is not a quarterly dividend, such adjustment would
be based upon the full amount of the distribution. The adjustment referred to in
clause (g) above will only be made if the tender offer or exchange offer is made
for an amount which increases that person's ownership of Kmart Common Stock to
more than 25% of the total shares of Kmart Common Stock outstanding. The
adjustment referred to in clause (g) above will not be made, however, if as of
the close of the offer, the offering documents with respect to such offer
disclose a plan or an intention to cause Kmart to engage in a consolidation or
merger of Kmart or a sale of all or substantially all of Kmart's assets. The
Convertible Debentures provide for corresponding anti-dilution adjustments.
Kmart from time to time may reduce the conversion price of the Convertible
Debentures (and thus the conversion price of the Convertible Preferred
Securities) by any amount selected by Kmart for any period of at least 20 days,
in which case Kmart shall give at least 15 days' notice of such reduction. Kmart
may, at its option, make such reductions in the conversion price, in addition to
those set forth above, as the Kmart Board of Directors deems advisable to avoid
or diminish any income tax to holders of Kmart Common Stock resulting from any
dividend or distribution of stock (or rights to acquire stock) or from any event
treated as such for income tax purposes. See "United States Federal Income
Taxation -- Adjustment of Conversion Price."
No adjustment of the conversion price will be made upon the issuance of any
shares of Kmart Common Stock pursuant to any present or future plan providing
for the reinvestment of dividends or interest payable on securities of Kmart and
the investment of additional optional amounts in shares of Kmart Common Stock
under any such plan. No adjustment in the conversion price will be required
unless such adjustment would require a change of at least one percent (1%) in
the price then in effect; provided, however, that any adjustment that would not
be required to be made shall be carried forward and taken into account in any
subsequent adjustment. If any action would require adjustment of the conversion
price pursuant to more than one of the provisions described above, only one
adjustment shall be made and such adjustment shall be the amount of adjustment
that has the highest absolute value to the holder of the Convertible Preferred
Securities.
Conversion Price Adjustments -- Merger, Consolidation or Sale of Assets of
Kmart. If any transaction shall occur (including without limitation (i) any
recapitalization or reclassification of shares of Kmart Common Stock (other than
a change in par value, or from par value to no par value, or from no par value
to par value, or as a result of a subdivision or combination of Kmart Common
Stock), (ii) any consolidation or merger of the Company with or into another
person or any merger of another person into the Company (other than a merger
that does not result in a reclassification, conversion, exchange or cancellation
of Kmart Common Stock), (iii) any sale or transfer of all or substantially all
of the assets of the Company, or (iv) any compulsory share exchange) pursuant to
which either shares of Kmart Common Stock shall be converted into the right to
receive other securities, cash or other property, or, in the case of a sale or
transfer of all or substantially all of the assets of the Company, the holders
of Kmart Common Stock shall be entitled to receive other securities, cash or
other property, then appropriate provision shall be made so that the holder of
each
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Convertible Preferred Security then outstanding shall have the right thereafter
to convert such Convertible Preferred Security only into:
(x) in the case of any such transaction that does not constitute a
Common Stock Fundamental Change (as defined below) and subject to funds
being legally available for such purpose under applicable law at the time
of such conversion, the kind and amount of the securities, cash or other
property that would have been receivable upon such recapitalization,
reclassification, consolidation, merger, sale, transfer or share exchange
by a holder of the number of shares of Kmart Common Stock issuable upon
conversion of such Convertible Preferred Security immediately prior to such
recapitalization, reclassification, consolidation, merger, sale, transfer
or share exchange, after giving effect, in the case of any Non-Stock
Fundamental Change (as defined below), to any adjustment in the conversion
price in accordance with clause (i) of the following paragraph, and
(y) in the case of any such transaction that constitutes a Common
Stock Fundamental Change, common stock of the kind received by holders of
Kmart Common Stock as a result of such Common Stock Fundamental Change in
an amount determined in accordance with clause (ii) of the following
paragraph.
The company formed by such consolidation or resulting from such merger or that
acquires such assets or that acquires the Company's shares, as the case may be,
shall make provisions in its certificate or articles of incorporation or other
constituent document to establish such right. Such certificate or articles of
incorporation or other constituent document shall provide for adjustments that,
for events subsequent to the effective date of such certificate or articles of
incorporation or other constituent documents, shall be as nearly equivalent as
may be practicable to the relevant adjustments provided for in the preceding
paragraphs and in this paragraph.
Notwithstanding any other provision in the preceding paragraphs to the
contrary, if any Fundamental Change (as defined below) occurs, then the
conversion price in effect will be adjusted immediately after such Fundamental
Change as follows:
(i) in the case of a Non-Stock Fundamental Change, the conversion
price of the Convertible Preferred Securities immediately following such
Non-Stock Fundamental Change shall be the lower of (A) the conversion price
in effect immediately prior to such Non-Stock Fundamental Change, but after
giving effect to any other prior adjustments effected pursuant to the
preceding paragraphs, and (B) the product of (1) the greater of the
Applicable Price (as defined below) and the then applicable Reference
Market Price (as defined below) and (2) a fraction, the numerator of which
is $50 and the denominator of which is (x) the amount of the redemption
price for one Convertible Preferred Security if the redemption date were
the date of such Non-Stock Fundamental Change (or, for the period
commencing on the first date of original issuance of the Convertible
Preferred Securities and through June 17, 1997 and the twelve-month periods
commencing June 18, 1997 and June 18, 1998, the product of and
, respectively, times $50) plus (y) any then-accrued and unpaid
distributions on one Convertible Preferred Security; and
(ii) in the case of a Common Stock Fundamental Change, the conversion
price of the Convertible Preferred Securities immediately following such
Common Stock Fundamental Change shall be the conversion price in effect
immediately prior to such Common Stock Fundamental Change, but after giving
effect to any other prior adjustments effected pursuant to the preceding
paragraphs, multiplied by a fraction, the numerator of which is the
Purchaser Stock Price (as defined below) and the denominator of which is
the Applicable Price; provided, however, that in the event of a Common
Stock Fundamental Change in which (A) 100% of the value of the
consideration received by a holder of Kmart Common Stock is common stock of
the successor, acquiror or other third party (and cash, if any, paid with
respect to any fractional interests in such common stock resulting from
such Common Stock Fundamental Change) and (B) all of the Kmart Common Stock
shall have been exchanged for, converted into or acquired for, common stock
of the successor, acquiror or other third party (and any cash with respect
to fractional interests), the conversion price of the Convertible Preferred
Securities immediately following such Common Stock Fundamental Change shall
be the conversion price in effect immediately prior to
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such Common Stock Fundamental Change multiplied by a fraction, the
numerator of which is one (1) and the denominator of which is the number of
shares of common stock of the successor, acquiror or other third party
received by a holder of one share of Kmart Common Stock as a result of such
Common Stock Fundamental Change.
Depending upon whether a Fundamental Change is a Non-Stock Fundamental
Change or a Common Stock Fundamental Change, a holder may receive significantly
different consideration upon conversion. In the event of a Non-Stock Fundamental
Change, the holder has the right to convert Convertible Preferred Securities
into the kind and amount of the shares of stock and other securities or property
or assets (including cash), except as otherwise provided above, as is determined
by the number of shares of Kmart Common Stock receivable upon conversion at the
conversion price as adjusted in accordance with clause (i) of the preceding
paragraph. However, in the event of a Common Stock Fundamental Change in which
less than 100% of the value of the consideration received by a holder of Kmart
Common Stock is common stock of the successor, acquiror or other third party, a
holder of a Convertible Preferred Security who converts such share following the
Common Stock Fundamental Change will receive consideration in the form of such
common stock only, whereas a holder who converted such share prior to the Common
Stock Fundamental Change would have received consideration in the form of such
common stock as well as any other securities or assets (which may include cash)
issuable upon conversion of such Convertible Preferred Security immediately
prior to such Common Stock Fundamental Change.
The term "Applicable Price" means (i) in the event of a Non-Stock
Fundamental Change in which the holders of Kmart Common Stock receive only cash,
the amount of cash received by a holder of one share of Kmart Common Stock and
(ii) in the event of any other Fundamental Change, the average of the reported
last sale price for one share of Kmart Common Stock (determined as provided in
the Declaration) during the 10 Trading Days immediately prior to the record date
for the determination of the holders of Kmart Common Stock entitled to receive
cash, securities, property or other assets in connection with such Fundamental
Change or, if there is no such record date, prior to the date upon which the
holders of Kmart Common Stock shall have the right to receive such cash,
securities, property or other assets.
The term "Common Stock Fundamental Change" means any Fundamental Change in
which more than 50% of the value (as determined in good faith by the Board of
Directors of the Company) of the consideration received by holders of Kmart
Common Stock consists of common stock that, for the 10 Trading Days immediately
prior to such Fundamental Change, has been admitted for listing or admitted for
listing subject to notice of issuance on a national securities exchange or
quoted on The NASDAQ; provided, however, that a Fundamental Change shall not be
a Common Stock Fundamental Change unless either (i) the Company continues to
exist after the occurrence of such Fundamental Change and the outstanding
Convertible Preferred Securities continue to exist as outstanding Convertible
Preferred Securities, or (ii) not later than the occurrence of such Fundamental
Change, the outstanding Convertible Preferred Securities are converted into or
exchanged for shares of convertible preferred stock or debentures of a
corporation succeeding to the business of the Company, which convertible
preferred stock has powers, preferences and relative, participating, optional or
other rights, and qualifications, limitations and restrictions substantially
similar to those of the Convertible Preferred Securities.
The term "Fundamental Change" means the occurrence of any transaction or
event or series of transactions or events pursuant to which all or substantially
all of the Kmart Common Stock shall be exchanged for, converted into, acquired
for or shall constitute solely the right to receive cash, securities, property
or other assets (whether by means of an exchange offer, liquidation, tender
offer, consolidation, merger, combination, reclassification, recapitalization or
otherwise); provided, however, in the case of any such series of transactions or
events, for purposes of adjustment of the conversion price, such Fundamental
Change shall be deemed to have occurred when substantially all of the Kmart
Common Stock shall have been exchanged for, converted into or acquired for, or
shall constitute solely the right to receive, such cash, securities, property or
other assets, but the adjustment shall be based upon the consideration that the
holders of Kmart Common Stock received in the transaction or event as a result
of which more than 50% of the Kmart Common Stock shall have been exchanged for,
converted into or acquired for, or shall constitute solely the right to receive,
such cash, securities, property or other assets.
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The term "Non-Stock Fundamental Change" means any Fundamental Change other
than a Common Stock Fundamental Change.
The term "Purchaser Stock Price" means, with respect to any Common Stock
Fundamental Change, the average of the reported last sale price for one share of
the common stock received by holders of Kmart Common Stock (determined as
provided in the Declaration) in such Common Stock Fundamental Change during the
10 Trading Days immediately prior to the date fixed for the determination of the
holders of Kmart Common Stock entitled to receive such common stock or, if there
is no such date, prior to the date upon which the holders of Kmart Common Stock
shall have the right to receive such common stock.
The term "Reference Market Price" shall initially mean $ (which is an
amount equal to 66 2/3% of the reported last sale price for Kmart Common Stock
on the New York Stock Exchange on the date of this Prospectus Supplement) and,
in the event of any adjustment to the conversion price other than as a result of
a Fundamental Change, the Reference Market Price shall also be adjusted so that
the ratio of the Reference Market Price to the conversion price after giving
effect to any such adjustment shall always be the same as the ratio of the
initial Reference Market Price to the initial conversion price of $ per
share.
No adjustment to the conversion price will be required to be made in any
case until cumulative adjustments amount to 1% or more of the conversion price.
MANDATORY REDEMPTION
The Convertible Debentures will mature on June 15, 2016, and may be
redeemed, in whole or in part, at any time on or after June 18, 1999, or at any
time in certain circumstances upon the occurrence of a Special Event (as defined
below). Upon the repayment of the Convertible Debentures, whether at maturity or
upon redemption, the proceeds from such repayment or payment shall
simultaneously be applied to redeem Trust Securities having an aggregate
liquidation amount equal to the aggregate principal amount of the Convertible
Debentures so repaid or redeemed at the appropriate Redemption Price; provided,
that holders of Trust Securities shall be given not less than 30 nor more than
60 days notice of such redemption. See "Description of the Convertible
Debentures -- Optional Redemption." In the event that fewer than all of the
outstanding Convertible Preferred Securities are to be redeemed, the Convertible
Preferred Securities will be redeemed pro rata as described under "Book-Entry
Only Issuance -- The Depository Trust Company" below.
SPECIAL EVENT DISTRIBUTION; TAX EVENT REDEMPTION
"Tax Event" means that the Regular Trustees shall have received an opinion
of a nationally recognized independent tax counsel experienced in such matters
(a "Dissolution Tax Opinion") to the effect that on or after the date of the
Prospectus Supplement, as a result of (a) any amendment to, clarification of, or
change (including any announced prospective change) in the laws, or any
regulations thereunder, of the United States or any political subdivision or
taxing authority thereof or therein, (b) any judicial decision, official
administrative pronouncement, ruling, regulatory procedure, notice or
announcement, including any notice or announcement of intent to adopt such
procedures or regulations (an "Administrative Action"), or (c) any amendment to,
clarification of, or change in the official position or the interpretation of
such Administrative Action or judicial decision that differs from the
theretofore generally accepted position, in each case, by any legislative body,
court, governmental authority or regulatory body, irrespective of the manner in
which such amendment, clarification or change is made known, which amendment,
clarification, or change is effective or such pronouncement or decision is
announced, in each case, on or after, the date of this Prospectus Supplement,
there is the creation by such change in tax law of more than an insubstantial
risk that (i) the Trust is or will be subject to United States federal income
tax with respect to income accrued or received on
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the Convertible Debentures, (ii) the Trust is, or will be subject to more than a
de minimis amount of taxes, duties or other governmental charges, or (iii)
interest paid in cash by Kmart to the Trust on the Convertible Debentures is
not, or will not be, deductible, in whole or in part, by Kmart for United States
federal income tax purposes. Notwithstanding the foregoing, a Tax Event shall
not include any change in tax law that requires Kmart for United States federal
income tax purposes to defer taking a deduction for any original issue discount
("OID") that accrues with respect to the Convertible Debentures until the
interest payment related to such OID is paid by the Company in cash; provided,
that such change in tax law does not create more than an insubstantial risk that
Kmart will be prevented from taking a deduction for OID accruing with respect to
the Convertible Debentures at a date that is no later than the date the interest
payment related to such OID is actually paid by Kmart in cash.
"Investment Company Event" means that the Regular Trustees shall have
received an opinion of a nationally recognized independent counsel to the effect
that, as a result of the occurrence of a change in law or regulation or a
written change in interpretation or application of law or regulation by any
legislative body, court, governmental agency or regulatory authority on or after
the date of this Prospectus Supplement (a "Change in 1940 Act Law"), there is
more than an insubstantial risk that the Trust is or will be considered an
"investment company" which is required to be registered under the Investment
Company Act of 1940, as amended (the "1940 Act").
If, at any time, a Tax Event or an Investment Company Event (each, as
defined above, a "Special Event") shall occur and be continuing, the Trust may
with the consent of Kmart, except in the limited circumstances described below,
be dissolved with the result that Convertible Debentures with an aggregate
principal amount equal to the aggregate stated liquidation amount of, with an
interest rate identical to the distribution rate of, and accrued and unpaid
interest equal to accrued and unpaid distributions on, the Trust Securities,
would be distributed to the holders of the Trust Securities in liquidation of
such holders' interests in the Trust on a pro rata basis within 90 days
following the occurrence of the Special Event; provided, that such dissolution
and distribution shall be conditioned on (i) the Regular Trustees' receipt of an
opinion of nationally recognized independent tax counsel experienced in such
matters (a "No Recognition Opinion"), which opinion may rely on published
revenue rulings of the Internal Revenue Service, to the effect that the holders
of the Trust Securities will not recognize any gain or loss for United States
federal income tax purposes as a result of such dissolution and distribution of
Convertible Debentures, (ii) Kmart or the Trust being unable to avoid such Tax
Event within such 90 day period by taking some ministerial action or pursuing
some other reasonable measure that will have no adverse effect on the Trust,
Kmart or the holders of the Trust Securities and (iii) Kmart's prior written
consent to such dissolution and distribution. If Kmart declines to consent to
the dissolution and distribution, Kmart may incur an obligation to pay
Additional Interest. See "Description of the Convertible Debentures --
Additional Interest." Furthermore, if after receipt of a Dissolution Tax Opinion
by the Regular Trustees (i) Kmart has received an opinion (a "Redemption Tax
Opinion") of nationally recognized independent tax counsel experienced in such
matters that, as a result of a Tax Event, there is more than an insubstantial
risk that Kmart would be precluded from deducting the interest on the
Convertible Debentures for United States federal income tax purposes, even after
the Convertible Debentures were distributed to the holders of Trust Securities
in liquidation of such holders' interests in the Trust as described above, or
(ii) the Regular Trustees shall have been informed by such tax counsel that it
cannot deliver a No Recognition Opinion to the Trust, Kmart shall have the
right, upon not less than 30 nor more than 60 days notice, to redeem the
Convertible Debentures, in whole or in part, at 100% of the principal amount
thereof plus accrued and unpaid interest thereon for cash within 90 days
following the occurrence of such Tax Event. Following such redemption, Trust
Securities with an aggregate liquidation amount equal to the aggregate principal
amount of the Convertible Debentures so redeemed shall be redeemed by the Trust
at the liquidation amount thereof plus accrued and unpaid distributions thereon
to the redemption date on a pro rata basis; provided, however, that if at the
time there is available to Kmart or the Trust the opportunity to eliminate,
within such 90 day period, the Tax Event by taking some ministerial action, such
as filing a form or making an election or pursuing some other similar reasonable
measure that has no adverse effect on the Trust, Kmart or the holders of the
Trust Securities, Kmart or the Trust will pursue such measure in lieu of
redemption.
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If the Convertible Debentures are distributed to the holders of the
Convertible Preferred Securities, Kmart will use its best efforts to cause the
Convertible Debentures to be listed on the New York Stock Exchange or on such
other exchange as the Convertible Preferred Securities are then listed.
After the date for any distribution of Convertible Debentures upon
dissolution of the Trust, (i) the Convertible Preferred Securities will no
longer be deemed to be outstanding, (ii) the Depositary (as defined herein) or
its nominee, as the record holder of the Convertible Preferred Securities, will
receive a registered global certificate or certificates representing the
Convertible Debentures to be delivered upon such distribution, and (iii) any
certificates representing Convertible Preferred Securities not held by the
Depositary or its nominee will be deemed to represent Convertible Debentures
having an aggregate principal amount equal to the aggregate stated liquidation
amount of, with an interest rate identical to the distribution rate of, and
accrued and unpaid interest (including Compound Interest) equal to accrued and
unpaid distributions on such Convertible Preferred Securities until such
certificates are presented to Kmart or its agent for transfer or reissuance.
REDEMPTION PROCEDURES FOR REDEMPTION BY THE TRUST
The Trust may not redeem fewer than all of the outstanding Convertible
Preferred Securities unless all accrued and unpaid distributions have been paid
on all Convertible Preferred Securities for all quarterly distribution periods
terminating on or prior to the date of redemption.
If the Trust gives a notice of redemption in respect of Convertible
Preferred Securities (which notice will be irrevocable), then, by 12:00 noon,
New York City time, on the redemption date, provided that Kmart has paid to the
Institutional Trustee a sufficient amount of cash in connection with the related
redemption of the Convertible Debentures, the Trust will irrevocably deposit
with the Depositary funds sufficient to pay the applicable Redemption Price and
will give the Depositary irrevocable instructions and authority to pay the
Redemption Price to the holders of the Convertible Preferred Securities. See
"Book-Entry Only Issuance -- The Depository Trust Company." If notice of
redemption shall have been given and funds deposited as required, then,
immediately prior to the close of business on the date of such deposit,
distributions will cease to accrue and all rights of holders of such Convertible
Preferred Securities so called for redemption will cease, except the right of
the holders of such Convertible Preferred Securities to receive the Redemption
Price but without interest on such Redemption Price. In the event that any date
fixed for redemption of Convertible Preferred Securities is not a Business Day,
then payment of the Redemption Price payable on such date will be made on the
next succeeding day that is a Business Day (without any interest or other
payment in respect of any such delay). In the event that payment of the
Redemption Price in respect of Convertible Preferred Securities is improperly
withheld or refused and not paid either by the Trust, or by Kmart pursuant to
the Guarantee, distributions on such Convertible Preferred Securities will
continue to accrue at the then applicable rate from the original redemption date
to the date of payment, in which case the actual payment date will be considered
the date fixed for redemption for purposes of calculating the Redemption Price.
In the event that fewer than all of the outstanding Convertible Preferred
Securities are to be redeemed, the Convertible Preferred Securities will be
redeemed pro rata as described below under "Book-Entry Only Issuance -- The
Depository Trust Company."
Subject to the foregoing and applicable law (including, without limitation,
United States federal securities laws), Kmart or its subsidiaries may at any
time, and from time to time, purchase outstanding Convertible Preferred
Securities by tender, in the open market or by private agreement.
LIQUIDATION DISTRIBUTION UPON DISSOLUTION
In the event of any voluntary or involuntary liquidation, dissolution,
winding-up or termination of the Trust (each a "Liquidation"), the then holders
of the Convertible Preferred Securities will be entitled to receive out of the
assets of the Trust, after satisfaction of liabilities to creditors,
distributions in an amount equal to the aggregate of the stated liquidation
amount of $50 per Convertible Preferred Security plus accrued and unpaid
distributions thereon to the date of payment (the "Liquidation Distribution"),
unless, in connection with such Liquidation, Convertible Debentures in an
aggregate stated principal amount equal to
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the aggregate stated liquidation amount of, with an interest rate identical to
the distribution rate of, and accrued and unpaid interest equal to accrued and
unpaid distributions on, the Convertible Preferred Securities have been
distributed on a pro rata basis to the holders of the Convertible Preferred
Securities.
If, upon any such Liquidation, the Liquidation Distribution can be paid
only in part because the Trust has insufficient assets available to pay in full
the aggregate Liquidation Distribution, then the amounts payable directly by the
Trust on the Convertible Preferred Securities shall be paid on a pro rata basis.
The holders of the Common Securities will be entitled to receive distributions
upon any such dissolution pro rata with the holders of the Convertible Preferred
Securities, except that if a Declaration Event of Default has occurred and is
continuing, the Convertible Preferred Securities shall have a preference over
the Common Securities with regard to such distributions.
Pursuant to the Declaration, the Trust shall terminate (i) on June 15,
2051, the expiration of the term of the Trust, (ii) upon the bankruptcy of Kmart
or the holder of the Common Securities, (iii) upon the filing of a certificate
of dissolution or its equivalent with respect to the holder of the Common
Securities or Kmart, the filing of a certificate of cancellation with respect to
the Trust after obtaining the consent of the holders of at least a majority in
liquidation amount of the Trust Securities affected thereby voting together as a
single class to file such certificate of cancellation, or the revocation of the
charter of the holder of the Common Securities or Kmart and the expiration of 90
days after the date of revocation without a reinstatement thereof, (iv) upon the
distribution of Convertible Debentures upon the occurrence of a Special Event,
(v) upon the entry of a decree of a judicial dissolution of the holder of the
Common Securities, Kmart or the Trust, (vi) upon the redemption of all the Trust
Securities or (vii) upon the distribution of Kmart Common Stock to all holders
of Convertible Preferred Securities upon conversion of all outstanding
Convertible Preferred Securities.
DECLARATION EVENTS OF DEFAULT
An event of default under the Indenture (an "Indenture Event of Default")
constitutes an event of default under the Declaration with respect to the Trust
Securities (a "Declaration Event of Default"); provided, that pursuant to the
Declaration, the holder of the Common Securities will be deemed to have waived
any Declaration Event of Default with respect to the Common Securities until all
Declaration Events of Default with respect to the Convertible Preferred
Securities have been cured, waived or otherwise eliminated. Until such
Declaration Events of Default with respect to the Convertible Preferred
Securities have been so cured, waived, or otherwise eliminated, the
Institutional Trustee will be deemed to be acting solely on behalf of the
holders of the Convertible Preferred Securities and only the holders of the
Convertible Preferred Securities will have the right to direct the Institutional
Trustee with respect to certain matters under the Declaration, and therefore the
Indenture. If the Institutional Trustee fails to enforce its rights under the
Convertible Debentures, any holder of Convertible Preferred Securities may
institute a legal proceeding against Kmart to enforce the Institutional
Trustee's rights under the Subordinated Debt Securities. Notwithstanding the
foregoing, if a Declaration Event of Default has occurred and is continuing and
such event is attributable to the failure of Kmart to pay interest or principal
on the Convertible Debentures on the date such interest or principal is
otherwise payable (or in the case of redemption, the redemption date), Kmart
acknowledges that then a holder of Convertible Preferred Securities may
institute a Direct Action for payment on or after the respective due date
specified in the Convertible Debentures. In connection with such Direct Action,
Kmart will be subrogated to the rights of such holders of Convertible Preferred
Securities under the Declaration to the extent of any payment made by Kmart to
such holder of Convertible Preferred Securities in such Direct Action. The
holders of Convertible Preferred Securities will not be able to exercise
directly any other remedy available to the holders of the Convertible
Debentures.
Upon the occurrence of a Declaration Event of Default, the Institutional
Trustee as the sole holder of the Convertible Debentures will have the right
under the Indenture to declare the principal of and interest on the Convertible
Debentures to be immediately due and payable. Kmart and the Trust are each
required to file annually with the Institutional Trustee an officer's
certificate as to its compliance with all conditions and covenants under the
Declaration.
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VOTING RIGHTS
Except as described herein, under the Trust Act, the Trust Indenture Act
and under "Description of Trust Preferred Securities Guarantees -- Modification
of the Trust Preferred Securities Guarantees; Assignment" in the accompanying
Prospectus, and as otherwise required by law and the Declaration, the holders of
the Convertible Preferred Securities will have no voting rights.
Subject to the requirement of the Institutional Trustee obtaining a tax
opinion in certain circumstances set forth in the last sentence of the next
paragraph, the holders of a majority in aggregate liquidation amount of the
Convertible Preferred Securities have the right to direct the time, method and
place of conducting any proceeding for any remedy available to the Institutional
Trustee, or direct the exercise of any trust or power conferred upon the
Institutional Trustee under the Declaration including the right to direct the
Institutional Trustee, as holder of the Convertible Debentures, to (i) exercise
the remedies available under the Indenture with respect to the Convertible
Debentures, (ii) waive any past Indenture Event of Default that is waivable
under Section 5.13 of the Base Indenture (as defined herein), or (iii) exercise
any right to rescind or annul a declaration that the principal of all the
Convertible Debentures shall be due and payable; provided, however, that if an
Indenture Event of Default has occurred and is continuing then, the holders of
25% of the aggregate liquidation amount of the Convertible Preferred Securities
may direct the Institutional Trustee to declare the principal of and interest on
the Convertible Debentures immediately due and payable; provided, further, that,
where a consent or action under the Indenture would require the consent or act
of holders of more than a majority in principal amount of the Convertible
Debentures (a "Super-Majority") affected thereby, only the holders of at least
such Super-Majority in aggregate liquidation amount of the Convertible Preferred
Securities may direct the Institutional Trustee to give such consent or take
such action.
The Institutional Trustee shall notify all holders of the Convertible
Preferred Securities of any notice of default received from the Debt Trustee
with respect to the Convertible Debentures. Such notice shall state that such
Indenture Event of Default also constitutes a Declaration Event of Default.
Except with respect to directing the time, method and place of conducting a
proceeding for a remedy, the Institutional Trustee shall not take any of the
actions described in clauses (i), (ii) or (iii) above unless the Institutional
Trustee has obtained an opinion of tax counsel to the effect that, as a result
of such action, the Trust will not be classified as other than a grantor trust
for United States federal income tax purposes.
In the event the consent of the Institutional Trustee, as the holder of the
Convertible Debentures, is required under the Indenture with respect to any
amendment, modification or termination of the Indenture, the Institutional
Trustee shall request the direction of the holders of the Trust Securities with
respect to such amendment, modification or termination and shall vote with
respect to such amendment, modification or termination as directed by a majority
in liquidation amount of the Trust Securities voting together as a single class;
provided, however, that where a consent under the Indenture would require the
consent of a Super-Majority, the Institutional Trustee may only give such
consent at the direction of the holders of at least the proportion in
liquidation amount of the Trust Securities which the relevant Super-Majority
represents of the aggregate principal amount of the Convertible Debentures
outstanding. The Institutional Trustee shall be under no obligation to take any
such action in accordance with the directions of the holders of the Trust
Securities unless the Institutional Trustee has obtained an opinion of tax
counsel to the effect that for the purposes of United States federal income tax
the Trust will not be classified as other than a grantor trust.
A waiver of an Indenture Event of Default will constitute a waiver of the
corresponding Declaration Event of Default.
Any required approval or direction of holders of Convertible Preferred
Securities may be given at a separate meeting of holders of Convertible
Preferred Securities convened for such purpose, at a meeting of all of the
holders of Trust Securities or pursuant to written consent. The Regular Trustees
will cause a notice of any meeting at which holders of Convertible Preferred
Securities are entitled to vote, or of any matter upon which action by written
consent of such holders is to be taken, to be mailed to each holder of record of
Convertible Preferred Securities. Each such notice will include a statement
setting forth the following information: (i) the date of such meeting or the
date by which such action is to be taken; (ii) a description of any resolution
proposed for adoption at such meeting on which such holders are entitled to vote
or of such
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matter upon which written consent is sought; and (iii) instructions for the
delivery of proxies or consents. No vote or consent of the holders of
Convertible Preferred Securities will be required for the Trust to redeem and
cancel Convertible Preferred Securities or distribute Convertible Debentures in
accordance with the Declaration.
Notwithstanding that holders of Convertible Preferred Securities are
entitled to vote or consent under any of the circumstances described above, any
of the Convertible Preferred Securities that are owned at such time by Kmart or
any entity directly or indirectly controlling or controlled by, or under direct
or indirect common control with, Kmart, shall not be entitled to vote or consent
and shall, for purposes of such vote or consent, be treated as if such
Convertible Preferred Securities were not outstanding.
The procedures by which holders of Convertible Preferred Securities may
exercise their voting rights are described below. See "-- Book-Entry Only
Issuance -- The Depository Trust Company" below.
Holders of the Convertible Preferred Securities will have no rights to
appoint or remove the Kmart Trustees, who may be appointed, removed or replaced
solely by Kmart as the indirect or direct holder of all of the Common
Securities.
MODIFICATION OF THE DECLARATION
The Declaration may be modified and amended if approved by the Regular
Trustees (and in certain circumstances the Institutional Trustee), provided
that, if any proposed amendment provides for, or the Regular Trustees otherwise
propose to effect, (i) any action that would adversely affect the powers,
preferences or special rights of the Trust Securities, whether by way of
amendment to the Declaration or otherwise or (ii) the dissolution, winding-up or
termination of the Trust other than pursuant to the terms of the Declaration,
then the holders of the Trust Securities voting together as a single class will
be entitled to vote on such amendment or proposal and such amendment or proposal
shall not be effective except with the approval of at least a majority in
liquidation amount of the Trust Securities affected thereby; provided, that, if
any amendment or proposal referred to in clause (i) above would adversely affect
only the Convertible Preferred Securities or the Common Securities, then only
the affected class will be entitled to vote on such amendment or proposal and
such amendment or proposal shall not be effective except with the approval of a
majority in liquidation amount of such class of Trust Securities.
Notwithstanding the foregoing, no amendment or modification may be made to
the Declaration if such amendment or modification would (i) cause the Trust to
be classified for purposes of United States federal income taxation as other
than a grantor trust, (ii) reduce or otherwise adversely affect the powers of
the Institutional Trustee or (iii) cause the Trust to be deemed an "investment
company" which is required to be registered under the 1940 Act.
PROPOSED TAX LEGISLATION
On March 19, 1996, as a part of President Clinton's Fiscal 1997 Budget
Proposal, the Treasury Department proposed legislation (the "Proposed
Legislation") that, among other things, would (i) treat as equity for United
States federal income tax purposes certain debt instruments with a maximum term
of more than 20 years and (ii) disallow interest deductions on certain
convertible debt instruments or defer interest deductions on certain debt
instruments issued with OID. The Proposed Legislation is proposed to be
effective for debt instruments issued on or after December 7, 1995; however, if
enacted in its current proposed form, it would not cause the Convertible
Debentures to be treated as equity for United States federal income tax purposes
since the maximum term of the Convertible Debentures will not exceed 20 years
and should not affect Kmart's ability to deduct interest payments on the
Convertible Debentures.
On March 29, 1996, Senate Finance Committee Chairman William V. Roth, Jr.
and House Ways and Means Committee Chairman Bill Archer issued a joint statement
(the "Joint Statement") indicating their intent that the Proposed Legislation,
if adopted by either of the tax-writing committees of Congress, would have an
effective date that is no earlier than the date of "appropriate Congressional
action." Based upon the Joint Statement, it is expected that if the Proposed
Legislation were enacted, such legislation would not apply
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to the Convertible Debentures since they would be issued prior to the date of
any "appropriate Congressional action" or otherwise qualify for transitional
relief. However, there can be no assurances that the effective date guidance
contained in the Joint Statement will be incorporated in the Proposed
Legislation, if enacted, or that other legislation enacted after the date hereof
will not otherwise adversely affect the tax treatment of the Convertible
Debentures.
If the Proposed Legislation or any similar legislation changed the tax
treatment of the Convertible Debentures and the Convertible Preferred
Securities, the United States federal income tax consequences of the purchase,
ownership and disposition of the Convertible Preferred Securities would differ
from those described herein. If legislation were enacted that would constitute a
Tax Event, there could be a distribution of the Convertible Debentures to
holders of the Convertible Preferred Securities or, in certain circumstances, at
Kmart's option, redemption of the Convertible Debentures by Kmart. There can be
no assurances as to whether or in what form the Proposed Legislation may be
enacted into law or whether other legislation will be enacted that otherwise
adversely affects the tax treatment of the Convertible Debentures and the
Convertible Preferred Securities. The discussion herein assumes that the
Proposed Legislation, if enacted, will not apply to the Convertible Debentures
or the Convertible Preferred Securities.
MERGERS, CONSOLIDATIONS OR AMALGAMATIONS
The Trust may not consolidate, amalgamate, merge with or into, or be
replaced by, or convey, transfer or lease its properties and assets
substantially as an entirety to, any corporation or other body, except as
described below. The Trust may, with the consent of the Regular Trustees and
without the consent of the holders of the Trust Securities, consolidate,
amalgamate, merge with or into, or be replaced by a trust organized as such
under the laws of any State; provided, that (i) such successor entity either (x)
expressly assumes all of the obligations of the Trust under the Trust Securities
or (y) substitutes for the Convertible Preferred Securities other securities
having substantially the same terms as the Trust Securities (the "Successor
Securities"), so long as the Successor Securities rank the same as the Trust
Securities rank with respect to distributions and payments upon liquidation,
redemption and otherwise, (ii) Kmart expressly acknowledges a trustee of such
successor entity possessing the same powers and duties as the Institutional
Trustee as the holder of the Convertible Debentures, (iii) the Convertible
Preferred Securities or any Successor Securities are listed, or any Successor
Securities will be listed upon notification of issuance, on any national
securities exchange or with another organization on which the Convertible
Preferred Securities are then listed or quoted, (iv) such merger, consolidation,
amalgamation or replacement does not cause the Convertible Preferred Securities
(including any Successor Securities) to be downgraded by any nationally
recognized statistical rating organization, (v) such merger, consolidation,
amalgamation or replacement does not adversely affect the rights, preferences
and privileges of the holders of the Trust Securities (including any Successor
Securities) in any material respect (other than with respect to any dilution of
the holders' interest in the new entity), (vi) such successor entity has a
purpose identical to that of the Trust, (vii) prior to such merger,
consolidation, amalgamation or replacement, Kmart has received an opinion of a
nationally recognized independent counsel to the Trust experienced in such
matters to the effect that, (A) such merger, consolidation, amalgamation or
replacement does not adversely affect the rights, preferences and privileges of
the holders of the Trust Securities (including any Successor Securities) in any
material respect (other than with respect to any dilution of the holders'
interest in the new entity), and (B) following such merger, consolidation,
amalgamation or replacement, neither the Trust nor such successor entity will be
required to register as an investment company under the 1940 Act and (viii)
Kmart guarantees the obligations of such successor entity under the Successor
Securities at least to the extent provided by the Guarantee and the Common
Securities Guarantee (as described in the accompanying Prospectus).
Notwithstanding the foregoing, the Trust shall not, except with the consent of
holders of 100% in liquidation amount of the Trust Securities, consolidate,
amalgamate, merge with or into, or be replaced by any other entity or permit any
other entity to consolidate, amalgamate, merge with or into, or replace it, if
such consolidation, amalgamation, merger or replacement would cause the Trust or
the Successor Entity to be classified as other than a grantor trust for United
States federal income tax purposes.
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BOOK-ENTRY ONLY ISSUANCE-THE DEPOSITORY TRUST COMPANY
The Depository Trust Company ("DTC") will act as securities depositary (the
"Depositary") for the Convertible Preferred Securities. The Convertible
Preferred Securities will be issued only as fully-registered securities
registered in the name of Cede & Co. (DTC's nominee). One or more
fully-registered global Convertible Preferred Securities certificates,
representing the total aggregate number of Convertible Preferred Securities,
will be issued and will be deposited with DTC.
The laws of some jurisdictions require that certain purchasers of
securities take physical delivery of securities in definitive form. Such laws
may impair the ability to transfer beneficial interests in the global
Convertible Preferred Securities as represented by a global certificate.
DTC is a limited-purpose trust company organized under the New York Banking
Law, a "banking organization" within the meaning of the New York Banking Law, a
member of the Federal Reserve System, a "clearing corporation" within the
meaning of the New York Uniform Commercial Code and a "clearing agency"
registered pursuant to the provisions of Section 17A of the Securities Exchange
Act of 1934, as amended (the "Exchange Act"). DTC holds securities that its
participants ("Participants") deposit with DTC. DTC also facilitates the
settlement among Participants of securities transactions, such as transfers and
pledges, in deposited securities through electronic computerized book-entry
changes in Participants' accounts, thereby eliminating the need for physical
movement of securities certificates. Direct Participants include securities
brokers and dealers, banks, trust companies, clearing corporations and certain
other organizations ("Direct Participants"). DTC is owned by a number of its
Direct Participants and by the New York Stock Exchange, the American Stock
Exchange, Inc., and the National Association of Securities Dealers, Inc. Access
to the DTC system is also available to others, such as securities brokers and
dealers, banks and trust companies that clear transactions through or maintain a
direct or indirect custodial relationship with a Direct Participant either
directly or indirectly ("Indirect Participants"). The rules applicable to DTC
and its Participants are on file with the Securities and Exchange Commission.
Purchases of Convertible Preferred Securities within the DTC system must be
made by or through Direct Participants, which will receive a credit for the
Convertible Preferred Securities on DTC's records. The ownership interest of
each actual purchaser of each Convertible Preferred Security ("Beneficial
Owner") is in turn to be recorded on the Direct and Indirect Participants'
records. Beneficial Owners will not receive written confirmation from DTC of
their purchases, but Beneficial Owners are expected to receive written
confirmations providing details of the transactions, as well as periodic
statements of their holdings, from the Direct or Indirect Participants through
which the Beneficial Owners purchased Convertible Preferred Securities.
Transfers of ownership interests in the Convertible Preferred Securities are to
be accomplished by entries made on the books of Participants acting on behalf of
Beneficial Owners. Beneficial Owners will not receive certificates representing
their ownership interests in the Convertible Preferred Securities, except in the
event that use of the book-entry system for the Convertible Preferred Securities
is discontinued.
To facilitate subsequent transfers, all the Convertible Preferred
Securities deposited by Participants with DTC are registered in the name of
DTC's nominee, Cede & Co. The deposit of Convertible Preferred Securities with
DTC and their registration in the name of Cede & Co. effect no change in
beneficial ownership. DTC has no knowledge of the actual Beneficial Owners of
the Convertible Preferred Securities. DTC's records reflect only the identity of
the Direct Participants to whose accounts such Convertible Preferred Securities
are credited, which may or may not be the Beneficial Owners. The Participants
will remain responsible for keeping account of their holdings on behalf of their
customers.
Conveyance of notices and other communications by DTC to Direct
Participants, by Direct Participants to Indirect Participants and by Direct
Participants and Indirect Participants to Beneficial Owners will be governed by
arrangements among them, subject to any statutory or regulatory requirements
that may be in effect from time to time.
Redemption notices shall be sent to Cede & Co. If less than all of the
Convertible Preferred Securities are being redeemed, DTC will reduce the amount
of the interest of each Direct Participant in such Convertible Preferred
Securities in accordance with its procedures.
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Although voting with respect to the Convertible Preferred Securities is
limited, in those cases where a vote is required, neither DTC nor Cede & Co.
will itself consent or vote with respect to Convertible Preferred Securities.
Under its usual procedures, DTC would mail an Omnibus Proxy to the Trust as soon
as possible after the record date. The Omnibus Proxy assigns Cede & Co.
consenting or voting rights to those Direct Participants to whose accounts the
Convertible Preferred Securities are credited on the record date (identified in
a listing attached to the Omnibus Proxy). Kmart and the Trust believe that the
arrangements among DTC, Direct and Indirect Participants, and Beneficial Owners
will enable the Beneficial Owners to exercise rights equivalent in substance to
the rights that can be directly exercised by a holder of a beneficial interest
in the Trust.
Distribution payments on the Convertible Preferred Securities will be made
to DTC. DTC's practice is to credit Direct Participants' accounts on the
relevant payment date in accordance with their respective holdings shown on
DTC's records unless DTC has reason to believe that it will not receive payments
on such payment date. Payments by Participants to Beneficial Owners will be
governed by standing instructions and customary practices, as is the case with
securities held for the account of customers in bearer form or registered in
"street name," and such payments will be the responsibility of such Participant
and not of DTC, the Trust or Kmart, subject to any statutory or regulatory
requirements to the contrary that may be in effect from time to time. Payment of
distributions to DTC is the responsibility of the Trust, disbursement of such
payments to Direct Participants is the responsibility of DTC, and disbursement
of such payments to the Beneficial Owners is the responsibility of Direct and
Indirect Participants.
Except as provided herein, a Beneficial Owner in a global Convertible
Preferred Security certificate will not be entitled to receive physical delivery
of Convertible Preferred Securities. Accordingly, each Beneficial Owner must
rely on the procedures of DTC to exercise any rights under the Convertible
Preferred Securities.
DTC may discontinue providing its services as securities depositary with
respect to the Convertible Preferred Securities at any time by giving reasonable
notice to the Trust. Under such circumstances, in the event that a successor
securities depositary is not obtained, certificates for the Convertible
Preferred Securities are required to be printed and delivered. Additionally, the
Regular Trustees (with the consent of Kmart) may decide to discontinue use of
the system of book-entry transfers through DTC (or any successor depositary)
with respect to the Convertible Preferred Securities. In that event,
certificates for the Convertible Preferred Securities will be printed and
delivered.
The information in this section concerning DTC and DTC's book-entry system
has been obtained from sources that Kmart and the Trust believe to be reliable,
but neither Kmart nor the Trust takes responsibility for the accuracy thereof.
INFORMATION CONCERNING THE INSTITUTIONAL TRUSTEE
The Institutional Trustee, prior to the occurrence of a default with
respect to the Trust Securities and after the curing of any defaults that may
have occurred, undertakes to perform only such duties as are specifically set
forth in the Declaration and, after default, shall exercise the same degree of
care as a prudent individual would exercise in the conduct of his or her own
affairs. Subject to such provisions, the Institutional Trustee is under no
obligation to exercise any of the powers vested in it by the Declaration at the
request of any holder of Convertible Preferred Securities, unless offered
reasonable indemnity by such holder against the costs, expenses and liabilities
which might be incurred thereby. The holders of Convertible Preferred Securities
will not be required to offer such indemnity in the event such holders, by
exercising their voting rights, direct the Institutional Trustee to take any
action it is empowered to take under the Declaration following a Declaration
Event of Default. The Institutional Trustee also serves as trustee under the
Guarantee and the Indenture.
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CONVERSION AGENT AND PAYING AGENT
The Bank of New York shall act as Conversion Agent. In addition, in the
event that the Convertible Preferred Securities do not remain in book-entry only
form, the following provisions would apply:
The Institutional Trustee will act as paying agent and may designate an
additional or substitute paying agent at any time. Registration of transfers of
Convertible Preferred Securities will be effected without charge by or on behalf
of the Trust, but upon payment (with the giving of such indemnity as the Trust
or Kmart may require) in respect of any tax or other government charges that may
be imposed in relation to it. The Trust will not be required to register or
cause to be registered the transfer of Convertible Preferred Securities after
such Convertible Preferred Securities have been called for redemption.
GOVERNING LAW
The Declaration and the Convertible Preferred Securities will be governed
by, and construed in accordance with, the internal laws of the State of
Delaware.
MISCELLANEOUS
The Regular Trustees are authorized and directed to operate the Trust in
such a way so that the Trust will not be required to register as an "investment
company" under the 1940 Act or characterized as other than a grantor trust for
United States federal income tax purposes. Kmart is authorized and directed to
conduct its affairs so that the Convertible Debentures will be treated as
indebtedness of Kmart for United States federal income tax purposes. In this
connection, Kmart and the Regular Trustees are authorized to take any action,
not inconsistent with applicable law, the certificate of trust of the Trust or
the certificate of incorporation of Kmart, that each of Kmart and the Regular
Trustees determine in their discretion to be necessary or desirable to achieve
such end, as long as such action does not adversely affect the interests of the
holders of the Convertible Preferred Securities or vary the terms thereof.
Holders of the Convertible Preferred Securities have no preemptive rights.
DESCRIPTION OF THE GUARANTEE
Pursuant to the Guarantee, Kmart will irrevocably and unconditionally
agree, to the extent set forth therein, to pay in full, to the holders of the
Convertible Preferred Securities issued by the Trust, the Guarantee Payments (as
defined in the accompanying Prospectus) (except to the extent paid by the
Trust), as and when due, regardless of any defense, right of set-off or
counterclaim which the Trust may have or assert. The Company's obligation to
make a Guarantee Payment may be satisfied by direct payment of the required
amounts by the Company to the holders of Convertible Preferred Securities or by
causing the Trust to pay such amounts to such holders. The Guarantee will be
qualified as an indenture under the Trust Indenture Act. The Bank of New York
will act as indenture trustee under the Guarantee (the "Guarantee Trustee"). The
terms of the Guarantee will be those set forth in such Guarantee and those made
part of such Guarantee by the Trust Indenture Act. The Guarantee will be held by
the Guarantee Trustee for the benefit of the holders of the Convertible
Preferred Securities. A summary description of the Guarantee appears in the
accompanying Prospectus under the caption "Description of Trust Preferred
Securities Guarantees."
DESCRIPTION OF THE CONVERTIBLE DEBENTURES
Set forth below is a description of the specific terms of the Convertible
Debentures in which the Trust will invest the proceeds from the issuance and
sale of the Trust Securities. This description supplements the description of
the general terms and provisions of the Convertible Debentures set forth in the
accompanying Prospectus under the caption "Description of Debt Securities." The
following description is subject to, and is qualified in its entirety by
reference to, the description in the accompanying Prospectus and the
Subordinated Indenture, dated as of , 1996 (the "Base Indenture"),
between Kmart and The Bank of New York, as Trustee (the "Debt Trustee"), as
supplemented by a First Supplemental Indenture, dated as of
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, 1996 (the Base Indenture, as so supplemented, is hereinafter
referred to as the "Indenture"), the forms of which are filed as Exhibits to the
Registration Statement of which this Prospectus Supplement and the accompanying
Prospectus form a part. Certain capitalized terms used herein are defined in the
Indenture.
Under certain circumstances involving the dissolution of the Trust
following the occurrence of a Special Event, Convertible Debentures may be
distributed to the holders of the Trust Securities in liquidation of the Trust.
See "Description of the Convertible Preferred Securities -- Special Event
Distribution; Tax Event Redemption."
If the Convertible Debentures are distributed to the holders of the
Convertible Preferred Securities, Kmart will use its best efforts to have the
Convertible Debentures listed on the New York Stock Exchange or on such other
national securities exchange or similar organization on which the Convertible
Preferred Securities are then listed or quoted.
GENERAL
The Convertible Debentures will be issued as unsecured debt under the
Indenture. The Convertible Debentures will be limited in aggregate principal
amount to approximately $889,175,300, such amount being the sum of the aggregate
stated liquidation of the Convertible Preferred Securities and the capital
contributed by Kmart in exchange for the Common Securities (the "Kmart
Payment").
The Convertible Debentures are not subject to a sinking fund provision. The
entire principal amount of the Convertible Debentures will mature and become due
and payable, together with any accrued and unpaid interest thereon including
Compound Interest (as defined herein) and Additional Interest (as defined
herein), if any, on June 15, 2016.
If Convertible Debentures are distributed to holders of Convertible
Preferred Securities in liquidation of such holders' interests in the Trust,
such Convertible Debentures will initially be issued as a Global Security (as
defined herein). As described herein, under certain limited circumstances,
Convertible Debentures may be issued in certificated form in exchange for a
Global Security. See "Book-Entry and Settlement" below. In the event that
Convertible Debentures are issued in certificated form, such Convertible
Debentures will be in denominations of $50 and integral multiples thereof and
may be transferred or exchanged at the offices described below. Payments on
Convertible Debentures issued as a Global Security will be made to DTC, a
successor depositary or, in the event that no depositary is used, to a Paying
Agent for the Convertible Debentures. In the event Convertible Debentures are
issued in certificated form, principal and interest will be payable, the
transfer of the Convertible Debentures will be registrable and Convertible
Debentures will be exchangeable for Convertible Debentures of other
denominations of a like aggregate principal amount at the corporate trust office
of the Institutional Trustee in New York, New York; provided, that at the option
of Kmart payment of interest may be made at the option of Kmart by check mailed
to the address of the holder entitled thereto or by wire transfer to an account
appropriately designated by the holder entitled thereto. Notwithstanding the
foregoing, so long as the holder of any Convertible Debentures is the
Institutional Trustee, the payment of principal and interest on the Convertible
Debentures held by the Institutional Trustee will be made at such place and to
such account as may be designated by the Institutional Trustee.
The Indenture does not contain provisions that afford the Convertible
Debentures protection in the event of a highly leveraged transaction involving
Kmart.
SUBORDINATION
The Indenture provides that the Convertible Debentures are subordinated and
junior in right of payment to all Senior Indebtedness of Kmart. No payment of
principal (including redemption and sinking fund payments), premium, if any, or
interest on the Convertible Debentures may be made (i) if any Senior
Indebtedness of Kmart is not paid when due and any applicable grace period with
respect to such default has ended and such default has not been cured or waived
or ceased to exist, (ii) if the maturity of any Senior Indebtedness of Kmart has
been accelerated because of a default or (iii) if an Event of Default has
occurred and is continuing under the New Credit Agreement or any refinancing of
the New Credit Agreement in the bank credit market (including institutional
participants therein) that would permit the lenders under the New Credit
Agreement or such refinancing to accelerate the maturity thereof or demand
payment in full. Upon any
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distribution of assets of Kmart to creditors upon any dissolution, winding-up,
liquidation or reorganization, whether voluntary or involuntary, or in
bankruptcy, insolvency, receivership or other proceedings, all principal,
premium, if any, and interest due or to become due on all Senior Indebtedness of
Kmart must be paid in full before the holders of Convertible Debentures are
entitled to receive or retain any payment. Upon satisfaction of all claims of
all Senior Indebtedness then outstanding, the rights of the holders of the
Convertible Debentures will be subrogated to the rights of the holders of
Indebtedness of Kmart to receive payments or distributions applicable to Senior
Indebtedness until all amounts owing on the Convertible Debentures are paid in
full.
The term "Senior Indebtedness" means, with respect to Kmart, (i) the
principal, premium, if any, and interest in respect of (A) indebtedness of such
obligor, for money borrowed and (B) indebtedness evidenced by securities,
debentures, bonds or other similar instruments issued by such obligor,
including, without limitation, in the case of Kmart, all indebtedness, and all
obligations of Kmart to pay fees and other amounts, under the New Credit
Agreement, and any refinancing of the New Credit Agreement in the bank credit
market (including institutional participants therein), including interest
accruing on or after a bankruptcy or other similar event, whether or not an
allowed claim therein, (ii) all capital lease obligations of such obligor, (iii)
all obligations of such obligor issued or assumed as the deferred purchase price
of property, all conditional sale obligations of such obligor and all
obligations of such obligor under any title retention agreement (but excluding
trade accounts payable arising in the ordinary course of business), (iv) all
obligations of such obligor for the reimbursement on any letter of credit,
banker's acceptance, security purchase facility or similar credit transaction,
(v) all obligations of the types referred to in clauses (i) through (iv) above
of other persons for the payment of which such obligor is responsible or liable
as obligor, guarantor or otherwise and (vi) all obligations of the types
referred to in clauses (i) through (v) above of other persons secured by any
lien on any property or asset of such obligor (whether or not such obligation is
assumed by such obligor), except for (1) any such indebtedness that is by its
terms subordinated to or pari passu with the Convertible Debentures and (2) any
indebtedness between or among such obligor or its affiliates, including all
other debt securities and guarantees in respect of those debt securities, issued
to (a) any other Kmart Trust or a trustee of such trust and (b) any other trust,
or a trustee of such trust, partnership or other entity affiliated with Kmart
that is a financing vehicle of Kmart (a "financing entity") in connection with
the issuance by such financing entity of Convertible Preferred Securities or
other securities that rank pari passu with, or junior to, the Convertible
Preferred Securities. Such Senior Indebtedness shall continue to be Senior
Indebtedness and be entitled to the benefits of the subordination provisions
irrespective of any amendment, modification or waiver of any term of such Senior
Indebtedness.
The Indenture does not limit the aggregate amount of Senior Indebtedness
that may be issued by Kmart. Borrowings pursuant to the New Credit Agreement,
which provides for facilities aggregating $3.7 billion, would constitute Senior
Indebtedness. In addition, in the event the Company grants a security interest
in inventory to vendors as permitted by the New Credit Agreement, the
Convertible Debentures will be subordinated in right of payment to the
obligations secured by such security interest with respect to such inventory.
REDEMPTION AT THE OPTION OF KMART
Kmart shall have the right to redeem the Convertible Debentures, in whole
or in part, from time to time, on or after June 18, 1999, upon not less than 30
nor more than 60 days notice, at the following prices (expressed as percentages
of the principal amount of the Convertible Debentures) together with accrued and
unpaid interest, including Compound Interest (as defined herein) to, but
excluding, the redemption date, if redeemed during the 12-month period beginning
June 18:
<TABLE>
<CAPTION>
REDEMPTION
YEAR PRICE
---- ----------
<S> <C>
1999............................................................. %
2000.............................................................
2001.............................................................
2002.............................................................
2003.............................................................
2004.............................................................
2005.............................................................
</TABLE>
and 100% if redeemed on or after June 18, 2006.
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If Convertible Debentures are redeemed on any March 15, June 15, September
15, or December 15, accrued and unpaid interest shall be payable to holders of
record on the relevant record date.
Kmart shall also have the right to redeem the Convertible Debentures at any
time in certain circumstances upon the occurrence of a Special Event as
described under "Description of the Convertible Preferred Securities -- Special
Event Distribution; Tax Event Redemption" at 100% of the principal amount
thereof together with accrued and unpaid interest (including Compound Interest)
to the redemption date.
So long as the corresponding Convertible Preferred Securities are
outstanding, the proceeds from the redemption of any of the Convertible
Debentures will be used to redeem Convertible Preferred Securities.
If a partial redemption of the Convertible Preferred Securities resulting
from a partial redemption of the Convertible Debentures would result in the
delisting of the Convertible Preferred Securities, Kmart may only redeem the
Convertible Debentures in whole.
INTEREST
Each Convertible Debenture shall bear interest at the rate of % per
annum from the first date of original issuance, payable quarterly in arrears on
March 15, June 15, September 15 and December 15 of each year (each an "Interest
Payment Date"), commencing September 15, 1996, to the person in whose name such
Convertible Debenture is registered, subject to certain exceptions, at the close
of business on the Business Day next preceding such Interest Payment Date. In
the event the Convertible Debentures shall not continue to remain in book-entry
only form, Kmart shall have the right to select record dates, which shall be
more than one Business Day prior to the Interest Payment Date.
The amount of interest payable for any period will be computed on the basis
of a 360-day year of twelve 30-day months. The amount of interest payable for
any period shorter than a full quarterly period for which interest is computed,
will be computed on the basis of the actual number of days elapsed per 30-day
month. In the event that any date on which interest is payable on the
Convertible Debentures is not a Business Day, then payment of the interest
payable on such date will be made on the next succeeding day that is a Business
Day (and without any interest or other payment in respect of any such delay),
except that, if such Business Day is in the next succeeding calendar year, then
such payment shall be made on the immediately preceding Business Day, in each
case with the same force and effect as if made on such date.
PROPOSED TAX LEGISLATION
Please refer to discussion above under the heading "Description of the
Convertible Preferred Securities -- Proposed Tax Legislation."
OPTION TO EXTEND INTEREST PAYMENT PERIOD
So long as Kmart shall not be in default in the payment of interest on the
Convertible Debentures, Kmart shall have the right at any time, and from time to
time, during the term of the Convertible Debentures to defer payments of
interest by extending the interest payment period for a period not exceeding 20
consecutive quarters, at the end of which Extension Period, Kmart shall pay all
interest then accrued and unpaid (including any Additional Interest, as herein
defined) together with interest thereon compounded quarterly at the rate
specified for the Convertible Debentures to the extent permitted by applicable
law ("Compound Interest"); provided, that during any such Extension Period, (a)
Kmart shall not declare or pay dividends on, make any distribution with respect
to, or redeem, purchase, acquire or make a liquidation payment with respect to
any of its capital stock (other than (i) purchases or acquisitions of shares of
Kmart Common Stock in connection with the satisfaction by Kmart of its
obligations under any employee benefit plans, (ii) as a result of a
reclassification of Kmart capital stock or the exchange or conversion of one
class or series of Kmart's capital stock for another class or series of Kmart
capital stock or (iii) the purchase of fractional interests in shares of Kmart's
capital stock pursuant to the conversion or exchange provisions of such Kmart
capital stock or the security being converted or exchanged), (b) Kmart shall not
make any payment of interest, principal or premium, if any, on or repay,
repurchase or redeem any debt securities issued by Kmart
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that rank pari passu with or junior to the Convertible Debentures and (c) Kmart
shall not make any guarantee payments with respect to the foregoing (other than
pursuant to the Guarantee). Prior to the termination of any such Extension
Period, Kmart may further defer payments of interest by extending the interest
payment period; provided, however, that, such Extension Period, including all
such previous and further extensions, may not exceed 20 consecutive quarters or
extend beyond the maturity of the Convertible Debentures. Upon the termination
of any Extension Period and the payment of all amounts then due, Kmart may
commence a new Extension Period, subject to the terms set forth in this section.
No interest during an Extension Period, except at the end thereof, shall be due
and payable. Kmart has no present intention of exercising its right to defer
payments of interest by extending the interest payment period on the Convertible
Debentures. If the Institutional Trustee shall be the sole holder of the
Convertible Debentures, Kmart shall give the Regular Trustees and the
Institutional Trustee notice of its selection of such Extension Period one
Business Day prior to the earlier of (i) the date distributions on the
Convertible Preferred Securities are payable or (ii) the date the Regular
Trustees are required to give notice to the New York Stock Exchange (or other
applicable self-regulatory organization) or to holders of the Convertible
Preferred Securities of the record date or the date such distribution is
payable. The Regular Trustees shall give notice of Kmart's selection of such
Extension Period to the holders of the Convertible Preferred Securities. If the
Institutional Trustee shall not be the sole holder of the Convertible
Debentures, Kmart shall give the holders of the Convertible Debentures notice of
its selection of such Extension Period ten Business Days prior to the earlier of
(i) the Interest Payment Date or (ii) the date upon which Kmart is required to
give notice to the New York Stock Exchange (or other applicable self-regulatory
organization) or to holders of the Convertible Debentures of the record or
payment date of such related interest payment.
CONVERSION OF THE CONVERTIBLE DEBENTURES
The Convertible Debentures are convertible into Kmart Common Stock at the
option of the holders of the Convertible Debentures at any time beginning 60
days following the first date that any Convertible Preferred Securities are
issued and prior to the close of business on June 15, 2016 (or, in the case of
Convertible Debentures called for redemption, the close of business on the
Business Day prior to the Redemption Date) at the initial conversion price set
forth on the cover page of this Prospectus subject to the conversion price
adjustments described under "Description of the Convertible Preferred Securities
- -- Conversion Rights". The Trust has agreed not to convert Convertible
Debentures held by it except pursuant to a notice of conversion delivered to the
Conversion Agent by a holder of Convertible Preferred Securities. Upon surrender
of a Convertible Preferred Security to the Conversion Agent for conversion, the
Trust will distribute Convertible Debentures to the Conversion Agent on behalf
of the holder of the Convertible Preferred Securities so converted, whereupon
the Conversion Agent will convert such Convertible Debentures to Kmart Common
Stock on behalf of such holder. Kmart's delivery to the holders of the
Convertible Debentures (through the Conversion Agent) of the fixed number of
shares of Kmart Common Stock into which the Convertible Debentures are
convertible (together with the cash payment, if any, in lieu of fractional
shares) will be deemed to satisfy Kmart's obligation to pay the principal amount
of the Convertible Debentures so converted, and the accrued and unpaid interest
thereon attributable to the period from the last date to which interest has been
paid or duly provided for; provided, however, that if any Convertible Debenture
is converted after a record date for payment of interest, the interest payable
on the related interest payment date with respect to such Convertible Debenture
shall be paid to the Trust (which will distribute such interest to the
converting holder) or other holder of Convertible Debentures, as the case may
be, despite such conversion.
ADDITIONAL INTEREST
If at any time the Trust shall be required to pay any taxes, duties,
assessments or governmental charges of whatever nature (other than withholding
taxes) imposed by the United States, or any other taxing authority, then, in any
such case, Kmart will pay as additional interest ("Additional Interest") such
additional amounts as shall be required so that the net amounts received and
retained by the Trust after paying any such taxes, duties, assessments or other
governmental charges will be not less than the amounts the Trust would have
received had no such taxes, duties, assessments or other governmental charges
been imposed.
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INDENTURE EVENTS OF DEFAULT
If any Indenture Event of Default shall occur and be continuing, the
Institutional Trustee, as the holder of the Convertible Debentures, will have
the right to declare the principal of and the interest on the Convertible
Debentures (including any Compound Interest and Additional Interest, if any) and
any other amounts payable under the Indenture to be forthwith due and payable
and to enforce its other rights as a creditor with respect to the Convertible
Debentures. See "Description of Debt Securities -- Events of Default" in the
accompanying Prospectus for a description of the Events of Default. An Indenture
Event of Default also constitutes a Declaration Event of Default. The holders of
Convertible Preferred Securities in certain circumstances have the right to
direct the Institutional Trustee to exercise its rights as the holder of the
Convertible Debentures. See "Description of the Convertible Preferred Securities
- -- Declaration Events of Default" and "-- Voting Rights." Notwithstanding the
foregoing, if an Event of Default has occurred and is continuing and such event
is attributable to the failure of Kmart to pay interest or principal on the
Convertible Debentures on the date such interest or principal is otherwise
payable (or in the case of redemption, the redemption date), Kmart acknowledges
that then a holder of Convertible Preferred Securities may institute a Direct
Action for payment on or after the respective due date specified in the
Convertible Debentures. Notwithstanding any payments made to such holder of
Convertible Preferred Securities by Kmart in connection with a Direct Action,
Kmart shall remain obligated to pay the principal of or interest on the
Convertible Debentures held by the Trust or the Institutional Trustee of the
Trust, and Kmart shall be subrogated to the rights of the holder of such
Convertible Preferred Securities with respect to payments on the Convertible
Preferred Securities to the extent of any payments made by Kmart to such holder
in any Direct Action. The holders of Convertible Preferred Securities will not
be able to exercise directly any other remedy available to the holders of the
Convertible Debentures.
BOOK-ENTRY AND SETTLEMENT
If distributed to holders of Convertible Preferred Securities in connection
with the involuntary or voluntary dissolution, winding-up or liquidation of the
Trust as a result of the occurrence of a Special Event, the Convertible
Debentures will be issued in the form of one or more global certificates (each a
"Global Security") registered in the name of the depositary or its nominee.
Except under the limited circumstances described below, Convertible Debentures
represented by the Global Security will not be exchangeable for, and will not
otherwise be issuable as, Convertible Debentures in definitive form. The Global
Securities described above may not be transferred except by the depositary to a
nominee of the depositary or by a nominee of the depositary to the depositary or
another nominee of the depositary or to a successor depositary or its nominee.
The laws of some jurisdictions require that certain purchasers of
securities take physical delivery of such securities in definitive form. Such
laws may impair the ability to transfer beneficial interests in such a Global
Security.
Except as provided below, owners of beneficial interests in such a Global
Security will not be entitled to receive physical delivery of Convertible
Debentures in definitive form and will not be considered the holders (as defined
in the Indenture) thereof for any purpose under the Indenture, and no Global
Security representing Convertible Debentures shall be exchangeable, except for
another Global Security of like denomination and tenor to be registered in the
name of the Depositary or its nominee or to a successor Depositary or its
nominee. Accordingly, each Beneficial Owner must rely on the procedures of the
Depositary or if such person is not a Participant, on the procedures of the
Participant through which such person owns its interest to exercise any rights
of a holder under the Indenture.
THE DEPOSITARY
If Convertible Debentures are distributed to holders of Convertible
Preferred Securities in liquidation of such holders' interests in the Trust, DTC
will act as securities depositary for the Convertible Debentures. For a
description of DTC and the specific terms of the depositary arrangements, see
"Description of the Convertible Preferred Securities-Book-Entry Only Issuance --
The Depository Trust Company." As of the date of this Prospectus Supplement, the
description therein of DTC's book-entry system and DTC's practices as they
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relate to purchases, transfers, notices and payments with respect to the
Convertible Preferred Securities apply in all material respects to any debt
obligations represented by one or more Global Securities held by Kmart. Kmart
may appoint a successor to DTC or any successor depositary in the event DTC or
such successor depositary is unable or unwilling to continue as a depositary for
the Global Securities.
None of Kmart, the Trust, the Institutional Trustee, any paying agent and
any other agent of Kmart or the Debt Trustee will have any responsibility or
liability for any aspect of the records relating to or payments made on account
of beneficial ownership interests in a Global Security for such Convertible
Debentures or for maintaining, supervising or reviewing any records relating to
such beneficial ownership interests.
DISCONTINUANCE OF THE DEPOSITARY'S SERVICES
A Global Security shall be exchangeable for Convertible Debentures
registered in the names of persons other than the Depositary or its nominee only
if (i) the Depositary notifies Kmart that it is unwilling or unable to continue
as a depositary for such Global Security and no successor depositary shall have
been appointed, (ii) the Depositary, at any time, ceases to be a clearing agency
registered under the Exchange Act at which time the Depositary is required to be
so registered to act as such depositary and no successor depositary shall have
been appointed, (iii) Kmart, in its sole discretion, determines that such Global
Security shall be so exchangeable or (iv) there shall have occurred an Event of
Default with respect to such Convertible Debentures. Any Global Security that is
exchangeable pursuant to the preceding sentence shall be exchangeable for
Convertible Debentures registered in such names as the Depositary shall direct.
It is expected that such instructions will be based upon directions received by
the Depositary from its Participants with respect to ownership of beneficial
interests in such Global Security.
GOVERNING LAW
The Indenture and the Convertible Debentures will be governed by, and
construed in accordance with, the internal laws of the State of New York.
MISCELLANEOUS
The Indenture will provide that Kmart will pay all fees and expenses
related to (i) the offering of the Trust Securities and the Convertible
Debentures, (ii) the organization, maintenance and dissolution of the Trust,
(iii) the retention of the Kmart Trustees and (iv) the enforcement by the
Institutional Trustee of the rights of the holders of the Convertible Preferred
Securities. The payment of such fees and expenses will be fully and
unconditionally guaranteed by Kmart.
Kmart will have the right at all times to assign any of its respective
rights or obligations under the Indenture to a direct or indirect wholly-owned
subsidiary of Kmart; provided that, in the event of any such assignment, Kmart
will remain liable for all of their respective obligations. Subject to the
foregoing, the Indenture will be binding upon and inure to the benefit of the
parties thereto and their respective successors and assigns. The Indenture
provides that it may not otherwise be assigned by the parties thereto.
EFFECT OF OBLIGATIONS UNDER THE
CONVERTIBLE DEBENTURES AND THE GUARANTEE
As set forth in the Declaration, the sole purpose of the Trust is to issue
the Trust Securities evidencing undivided beneficial interests in the assets of
the Trust, and to invest the proceeds from such issuance and sale in the
Convertible Debentures.
As long as payments of interest and other payments are made when due on the
Convertible Debentures, such payments will be sufficient to cover distributions
and payments due on the Trust Securities because of the following factors: (i)
the aggregate principal amount of Convertible Debentures will be equal to the
sum of the aggregate stated liquidation amount of the Trust Securities; (ii) the
interest rate and the interest and other payment dates on the Convertible
Debentures will match the distribution rate and distribution and other payment
dates for the Convertible Preferred Securities; (iii) Kmart shall pay all, and
the Trust shall not be
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obligated to pay, directly or indirectly, all costs, expenses, debt, and
obligations of the Trust (other than with respect to the Trust Securities); and
(iv) the Declaration further provides that the Kmart Trustees shall not take or
cause or permit the Trust to, among other things, engage in any activity that is
not consistent with the purposes of the Trust.
Payments of distributions (to the extent funds therefor are available) and
other payments due on the Convertible Preferred Securities (to the extent funds
therefor are available) are guaranteed by Kmart as and to the extent set forth
under "Description of Trust Preferred Securities Guarantees" in the accompanying
Prospectus. If Kmart does not make interest payments on the Convertible
Debentures purchased by the Trust, it is expected that the Trust will not have
sufficient funds to pay distributions on the Convertible Preferred Securities.
The Guarantee is a full guarantee on a subordinated basis with respect to the
Convertible Preferred Securities issued by the Trust from the time of its
issuance but does not apply to any payment of distributions unless and until the
Trust has sufficient funds for the payment of such distributions. The Guarantee
covers the payment of distributions and other payments on the Convertible
Preferred Securities only if and to the extent that Kmart has made a payment of
interest or principal on the Convertible Debentures held by the Trust as its
sole asset. The Guarantee, when taken together with Kmart's obligations under
the Convertible Debentures, the Indenture and the Declaration, including its
obligations to pay costs, expenses, debts and liabilities of the Trust (other
than with respect to the Trust Securities), provides a full and unconditional
guarantee of amounts on the Convertible Preferred Securities.
If Kmart fails to make interest or other payments on the Convertible
Debentures when due (taking account of any Extension Period), the Declaration
provides a mechanism whereby a holder of the Convertible Preferred Securities,
using the procedures described in "Description of the Convertible Preferred
Securities -- Book-Entry Only Issuance -- The Depository Trust Company" and "--
Voting Rights," may direct the Institutional Trustee to enforce its rights under
the Convertible Debentures. Notwithstanding the foregoing, in such circumstances
a holder of Convertible Preferred Securities may institute a Direct Action for
payment on or after the respective due date specified in the Convertible
Debentures. In connection with such Direct Action, Kmart will be subrogated to
the rights of such holder of Convertible Preferred Securities under the
Declaration to the extent of any payment made by Kmart to such holder of
Convertible Preferred Securities in such Direct Action. Kmart, under the
Guarantee, acknowledges that the Guarantee Trustee shall enforce the Guarantee
on behalf of the holders of the Convertible Preferred Securities. If Kmart fails
to make payments under the Guarantee, the Guarantee provides a mechanism whereby
the holders of the Convertible Preferred Securities may direct the Guarantee
Trustee to enforce its rights thereunder. Any holder of Convertible Preferred
Securities may institute a legal proceeding directly against Kmart to enforce
such holder's right to receive payment under the Guarantee without first
instituting a legal proceeding against the Trust, the Guarantee Trustee, or any
other person or entity.
UNITED STATES FEDERAL INCOME TAXATION
GENERAL
The following is a summary of certain of the material United States federal
income tax consequences of the purchase, ownership and disposition of
Convertible Preferred Securities. Unless otherwise stated, this summary deals
only with Convertible Preferred Securities held as capital assets by holders who
purchase the Convertible Preferred Securities upon original issuance ("Initial
Holders"). It does not deal with special classes of holders such as banks,
thrifts, real estate investment trusts, regulated investment companies,
insurance companies, dealers in securities or currencies, tax-exempt investors,
or persons that will hold the Convertible Preferred Securities as a position in
a "straddle," as part of a "synthetic security" or "hedge," as part of a
"conversion transaction" or other integrated investment, or as other than a
capital asset. This summary also does not address the tax consequences to
persons that have a functional currency other than the U.S. Dollar or the tax
consequences to shareholders, partners or beneficiaries of a holder of
Convertible Preferred Securities. Further, it does not include any description
of any alternative minimum tax consequences or the tax laws of any state or
local government or of any foreign government that may be applicable to the
Convertible Preferred Securities. This summary is based on the Internal Revenue
Code of 1986, as amended
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(the "Code"), Treasury regulations thereunder and administrative and judicial
interpretations thereof, as of the date hereof, all of which are subject to
change, possibly on a retroactive basis.
CLASSIFICATION OF THE CONVERTIBLE DEBENTURES
The Company intends to take the position that the Convertible Debentures
will be classified for United States federal income tax purposes as indebtedness
of Kmart under current law, and, by acceptance of a Convertible Preferred
Security, each holder covenants to treat the Convertible Debentures as
indebtedness and the Convertible Preferred Securities as evidence of an indirect
beneficial ownership interest in the Convertible Debentures. No assurance can be
given, however, that such position of the Company will not be challenged by the
Internal Revenue Service. The remainder of this discussion assumes that the
Convertible Debentures will be classified for United States income tax purposes
as indebtedness of Kmart.
CLASSIFICATION OF KMART FINANCING
In connection with the issuance of the Convertible Preferred Securities,
Skadden, Arps, Slate, Meagher & Flom, special tax counsel to Kmart and the
Trust, will render its opinion generally to the effect that, under then current
law and assuming full compliance with the terms of the Declaration and the
Indenture (and certain other documents), and based on certain facts and
assumptions contained in such opinion, the Trust will be classified for United
States federal income tax purposes as a grantor trust and not as an association
taxable as a corporation. Accordingly, for United States federal income tax
purposes, each holder of Convertible Preferred Securities generally will be
considered the owner of an undivided interest in the Convertible Debentures, and
pursuant to the agreement to treat the Convertible Debentures as indebtedness,
each holder will be required to include in its gross income any OID accrued with
respect to its allocable share of those Convertible Debentures.
ORIGINAL ISSUE DISCOUNT
Because Kmart has the option, under the terms of the Convertible
Debentures, to defer payments of interest by extending interest payment periods
for up to 20 quarters, all of the stated interest payments on the Convertible
Debentures will be treated as "original issue discount." Holders of debt
instruments issued with OID must include that discount in income daily on an
economic accrual basis before the receipt of cash attributable to the interest,
regardless of their method of tax accounting. Generally, all of a holder's
taxable interest income with respect to the Convertible Debentures will be
accounted for as OID, and actual distributions of stated interest will not be
separately reported as taxable income. The amount of OID that accrues in any
month will approximately equal the amount of the interest that accrues on the
Convertible Debentures in that month at the stated interest rate. In the event
that the interest payment period is extended, holders will continue to accrue
OID approximately equal to the amount of the interest payment due at the end of
the extended interest payment period on an economic accrual basis over the
length of the extended interest period.
Assuming that the Convertible Debentures will constitute debt, corporate
holders of Convertible Preferred Securities will not be entitled to a
dividends-received deduction with respect to any income recognized with respect
to the Convertible Preferred Securities.
MARKET DISCOUNT AND BOND PREMIUM
Holders of Convertible Preferred Securities and holders that purchase the
Convertible Preferred Securities at a price other than the issue price may be
considered to have acquired their undivided interests in the Convertible
Debentures with market discount or acquisition premium as such phrases are
defined for United States federal income tax purposes. Such holders are advised
to consult their tax advisors as to the income tax consequences of the
acquisition, ownership and disposition of the Convertible Preferred Securities.
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RECEIPT OF CONVERTIBLE DEBENTURES OR CASH UPON LIQUIDATION OF KMART FINANCING
Under certain circumstances, as described under the caption "Description of
the Convertible Preferred Securities -- Special Event Distribution; Tax Event
Redemption," Convertible Debentures may be distributed to holders in exchange
for the Convertible Preferred Securities and in liquidation of the Trust. Under
current law, such a distribution, for United States federal income tax purposes,
would be treated as a non-taxable event to each holder, and each holder would
receive an aggregate tax basis in the Convertible Debentures equal to such
holder's aggregate tax basis in its Convertible Preferred Securities. A holder's
holding period in the Convertible Debentures so received in liquidation of the
Trust would include the period during which the Convertible Preferred Securities
were held by such holder. If, however, the related special event is a Tax Event
which results in the Trust being treated as an association taxable as a
corporation, the distribution would likely constitute a taxable event to holders
of the Convertible Preferred Securities.
Under certain circumstances described herein (see "Description of the
Convertible Preferred Securities"), the Convertible Debentures may be redeemed
for cash and the proceeds of such redemption distributed to holders in
redemption of their Convertible Preferred Securities. Under current law, such a
redemption would, for United States federal income tax purposes, constitute a
taxable disposition of the redeemed Convertible Preferred Securities, and a
holder could recognize gain or loss as if it sold such redeemed Convertible
Preferred Securities for cash. See "-- Sales of Convertible Preferred
Securities."
SALES OF CONVERTIBLE PREFERRED SECURITIES
A holder that sells Convertible Preferred Securities will recognize gain or
loss equal to the difference between its adjusted tax basis in the Convertible
Preferred Securities and the amount realized on the sale of such Convertible
Preferred Securities. A holder's adjusted tax basis in the Convertible Preferred
Securities generally will be its initial purchase price increased by OID
previously includable in such holder's gross income to the date of disposition
and decreased by payments received on the Convertible Preferred Securities. Such
gain or loss generally will be a capital gain or loss and generally will be a
long-term capital gain or loss if the Convertible Preferred Securities have been
held for more than one year.
The Convertible Preferred Securities may trade at a price that does not
accurately reflect the value of accrued but unpaid interest with respect to the
underlying Convertible Debentures. A holder who disposes of his Convertible
Preferred Securities between record dates for payments of distributions thereon
will be required to include accrued but unpaid interest on the Convertible
Debentures through the date of disposition in income as ordinary income, and to
add such amount to his adjusted tax basis in his pro rata share of the
underlying Convertible Debentures deemed disposed of. To the extent the selling
price is less than the holder's adjusted tax basis (which will include, in the
form of OID, all accrued but unpaid interest) a holder will recognize a capital
loss. Subject to certain limited exceptions, capital losses cannot be applied to
offset ordinary income for United States federal income tax purposes.
CONVERSION OF CONVERTIBLE PREFERRED SECURITIES TO KMART COMMON STOCK
A holder of Convertible Preferred Securities will not recognize income,
gain or loss upon the conversion through the Conversion Agent, of Convertible
Debentures into Kmart Common Stock. A holder of Convertible Preferred Securities
will, however, recognize gain upon the receipt of cash in lieu of a fractional
share of Kmart Common Stock equal to the amount of cash received less such
holder's tax basis in such fractional share. Such a holder's tax basis in the
Kmart Common Stock received upon conversion should generally be equal to such
holder's tax basis in the Convertible Preferred Securities delivered to the
Conversion Agent for exchange less the basis allocated to any fractional share
for which cash is received and such holder's holding period in the Kmart Common
Stock received upon conversion should generally begin on the date such holder
acquired the Convertible Preferred Securities delivered to the Conversion Agent
for exchange.
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ADJUSTMENT OF CONVERSION PRICE
Treasury Regulations promulgated under section 305 of the Code would treat
holders of Convertible Preferred Securities as having received a constructive
distribution from Kmart in the event the conversion ratio of the Convertible
Debentures were adjusted if (i) as result of such adjustment, the proportionate
interest (measured by the quantum of Kmart Common Stock into or for which the
Convertible Debentures are convertible or exchangeable) of the holders of the
Convertible Preferred Securities in the assets or earnings and profits of Kmart
were increased, and (ii) the adjustment was not made pursuant to a bona fide,
reasonable anti-dilution formula. An adjustment in the conversion ratio would
not be considered made pursuant to such a formula if the adjustment was made to
compensate for certain taxable distributions with respect to the Kmart Common
Stock. Thus, under certain circumstances, a reduction in the conversion price
for the holders may result in deemed dividend income to holders to the extent of
the current or accumulated earnings and profits of Kmart. Holders of the
Convertible Debentures would be required to include their allocable share of
such deemed dividend in gross income but will not receive any cash related
thereto.
PROPOSED TAX LEGISLATION
Please refer to discussion above under the heading "Description of the
Convertible Preferred Securities -- Proposed Tax Legislation."
UNITED STATES ALIEN HOLDERS
For purposes of this discussion, a "United States Alien Holder" is any
corporation, individual, partnership, estate or trust that is, as to the United
States, a foreign corporation, a non-resident alien individual, a foreign
partnership, or a non-resident fiduciary of a foreign estate or trust.
As discussed above, the Company intends to take the position that the
Convertible Debentures will be classified for United States federal income tax
purposes as indebtedness of Kmart under current law; no assurance can be given,
however, that such position of the Company will not be challenged by the
Internal Revenue Service. See "-- Classification of the Convertible Debentures."
Assuming that the Convertible Debentures are classified for United States
federal income tax purposes as indebtedness of Kmart, under present United
States federal income tax law: (i) payments by the Trust or any of its paying
agents to any holder of a Convertible Preferred Security who or which is a
United States Alien Holder would not be subject to United States federal
withholding tax; provided that, (a) the beneficial owner of the Convertible
Preferred Security does not actually or constructively own 10% or more of the
total combined voting power of all classes of stock of Kmart entitled to vote,
(b) the beneficial owner of the Convertible Preferred Security is not a
controlled foreign corporation that is related to Kmart through stock ownership,
and (c) either (A) the beneficial owner of the Convertible Preferred Security
certifies to the Trust or its agent, under penalties of perjury, that it is not
a United States holder and provides its name and address or (B) a securities
clearing organization, bank or other financial institution that holds customers'
securities in the ordinary course of its trade or business (a "Financial
Institution"), and holds the Convertible Preferred Security in such capacity,
that certifies to the Trust or its agent, under penalties of perjury, that such
statement has been received from the beneficial owner by it or by a Financial
Institution between it and the beneficial owner and furnishes the Trust or its
agent with a copy thereof; and (ii) a United States Alien Holder of a
Convertible Preferred Security generally would not be subject to United States
federal withholding tax on any gain realized upon the sale or other disposition
of a Convertible Preferred Security.
However, a United States Alien Holder of a Convertible Preferred Security
would be subject to United States federal income tax on gain realized on the
sale, exchange or other disposition of the security if (i) the United States
Alien Holder is an individual who is present in the United States for 183 days
or more in the taxable year of disposition, and certain other conditions apply
or (ii) the gain is effectively connected with the conduct by the United States
Alien Holder of a trade or business in the United States.
The Company believes that it is not a "United States real property holding
corporation" within the meaning of section 897(c)(2) of the Code. However, there
can be no assurance that the Company will not
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qualify as a United States real property holding corporation in the future.
Should it so qualify, gain realized on a disposition of Convertible Preferred
Securities by a United States Alien Holder that is not deemed to have owned more
than five percent of all Convertible Preferred Securities at any time during the
shorter of the five-year period preceding such disposition or such holder's
holding period will not be subject to United States federal income tax provided
that the Convertible Preferred Securities continue to be "regularly traded on an
established securities market" (within the meaning of Section 897(c)(3) of the
Code and the regulations issued pursuant thereto) at the time of disposition. If
a United States Alien Holder is deemed to own more than five percent of all the
Convertible Preferred Securities at any time during the shorter of the five-year
period preceding such disposition or such holder's holding period, such United
States Alien Holder may be subject to United States federal income tax upon a
disposition (including a conversion) of such Convertible Preferred Securities if
the Company is a United States real property holding corporation at such time,
and, therefore, is urged to consult its tax advisor.
If the Convertible Debentures were not classified for United States federal
income tax purposes as indebtedness of Kmart, payments by the Trust or any of
its paying agents to any holder of a Convertible Preferred Security who or which
is a United States Alien Holder could be subject to United States withholding
tax at a 30% rate (or a lower rate prescribed by an applicable tax treaty)
unless certain exemptions were applicable. Prospective investors that would be
United States Alien Holders should consult their tax advisors concerning the
possible application of these rules.
On April 15, 1996, the Internal Revenue Service proposed regulations (the
"Proposed Regulations") that could affect the procedures to be followed by a
United States Alien Holder in establishing such United States Alien Holder's
non-United States person status. The Proposed Regulations would generally be
effective for payments made after December 31, 1997. United States Alien Holders
should consult their tax advisors regarding the effect, if any, of the Proposed
Regulations on their purchase, ownership, and disposition of the Convertible
Preferred Securities.
INFORMATION REPORTING TO HOLDERS
Subject to the qualifications discussed below, income on the Convertible
Preferred Securities will be reported to holders on Forms 1099, which forms
should be mailed to holders of Convertible Preferred Securities by January 31
following each calendar year.
The Trust will be obligated to report annually to Cede & Co., as holder of
record of the Convertible Preferred Securities, the OID related to the
Convertible Debentures that accrued during the year. The Trust currently intends
to report such information on Form 1099 prior to January 31 following each
calendar year even though the Trust is not legally required to report to record
holders until April 15 following each calendar year. The Underwriters have
indicated to the Trust that, to the extent that they hold Convertible Preferred
Securities as nominees for beneficial holders, they currently expect to report
to such beneficial holders on Forms 1099 by January 31 following each calendar
year. Under current law, holders of Convertible Preferred Securities who hold as
nominees for beneficial holders will not have any obligation to report
information regarding the beneficial holders to the Trust. The Trust, moreover,
will not have any obligation to report to beneficial holders who are not also
record holders. Thus, beneficial holders of Convertible Preferred Securities who
hold their Convertible Preferred Securities through the Underwriters will
receive Forms 1099 reflecting the income on their Convertible Preferred
Securities from such nominee holders rather than the Trust.
BACKUP WITHHOLDING
Payments made on, and proceeds from the sale of, the Convertible Preferred
Securities or the Convertible Debentures distributed to holders of the
Convertible Preferred Securities may be subject to a "backup" withholding tax of
31% unless the holder complies with certain identification requirements. Any
withheld amounts will be allowed as a refund or a credit against the holder's
United States federal income tax, provided the required information is provided
to the Service.
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THE UNITED STATES FEDERAL INCOME TAX DISCUSSION SET FORTH ABOVE IS INCLUDED FOR
GENERAL INFORMATION ONLY AND MAY NOT BE APPLICABLE DEPENDING UPON A HOLDER'S
PARTICULAR SITUATION. HOLDERS SHOULD CONSULT THEIR TAX ADVISORS WITH RESPECT TO
THE TAX CONSEQUENCES TO THEM OF THE PURCHASE, OWNERSHIP AND DISPOSITION OF THE
CONVERTIBLE PREFERRED SECURITIES, INCLUDING THE TAX CONSEQUENCES UNDER STATE,
LOCAL, FOREIGN AND OTHER TAX LAWS AND THE POSSIBLE EFFECTS OF CHANGES IN UNITED
STATES FEDERAL OR OTHER TAX LAWS (WITH POSSIBLE RETROACTIVE EFFECT).
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UNDERWRITERS
Under the terms and subject to the conditions contained in an Underwriting
Agreement dated the date hereof (the "Underwriting Agreement"), the U.S.
Underwriters named below, for whom Morgan Stanley & Co. Incorporated, Merrill
Lynch, Pierce, Fenner & Smith Incorporated, CS First Boston Corporation, Lehman
Brothers Inc. and Salomon Brothers Inc are acting as representatives (the "U.S.
Representatives"), and the International Underwriters named below, for whom
Morgan Stanley & Co. International Limited, Merrill Lynch International, CS
First Boston Limited, Lehman Brothers International (Europe) and Salomon
Brothers International Limited are acting as representatives (the "International
Representatives"), have severally agreed to purchase, and the Trust has agreed
to sell them, severally, the number of Convertible Preferred Securities set
forth opposite their respective names below:
<TABLE>
<CAPTION>
NUMBER OF
CONVERTIBLE
NAME PREFERRED SECURITIES
- ---------------------------------------------------------------------------- --------------------
<S> <C>
U.S. Underwriters:
Morgan Stanley & Co. Incorporated...........................................
Merrill Lynch, Pierce, Fenner & Smith
Incorporated...................................................
CS First Boston Corporation.................................................
Lehman Brothers Inc.........................................................
Salomon Brothers Inc........................................................
----------
Subtotal............................................................. 12,750,000
----------
International Underwriters:
Morgan Stanley & Co. International Limited..................................
Merrill Lynch International.................................................
CS First Boston Limited.....................................................
Lehman Brothers International (Europe)......................................
Salomon Brothers International Limited......................................
----------
Subtotal............................................................. 2,250,000
----------
Total..................................................................... 15,000,000
==========
</TABLE>
The U.S. Underwriters and the International Underwriters are collectively
referred to as the "Underwriters." The Underwriting Agreement provides that the
obligations of the several Underwriters to pay for and accept delivery of the
Convertible Preferred Securities offered hereby are subject to the concurrent
funding of the New Credit Agreement, the approval of certain legal matters by
their counsel and certain other conditions. The Underwriters are obligated to
take and pay for all of the Convertible Preferred Securities offered hereby if
any are taken (other than those covered by the U.S. Underwriters' overallotment
option described below).
The Underwriters initially propose to offer part of the Convertible
Preferred Securities directly to the public at the Price to Public set forth on
the cover page hereof and part of the Convertible Preferred Securities to
dealers at a price that represents a concession not in excess of $ a
Convertible Preferred Security under the Price to Public. Any Underwriter may
allow, and such dealers may reallow, a concession not in excess of $ a
Convertible Preferred Security to other Underwriters or to certain other
dealers. After the initial offering of the Convertible Preferred Securities, the
offering price and other selling terms may from time to time be varied by the
Representatives.
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Pursuant to the Agreement Between U.S. and International Underwriters, each
U.S. Underwriter has represented and agreed that, with certain exceptions: (i)
it is not purchasing any U.S. Convertible Preferred Securities (as defined
below) for the account of anyone other than a United States or Canadian Person
(as defined below) and (ii) it has not offered or sold, and will not offer or
sell, directly or indirectly, any U.S. Convertible Preferred Securities or
distribute any prospectus relating to the U.S. Convertible Preferred Securities
outside the United States or Canada or to anyone other than a United States or
Canadian Person. Pursuant to the Agreement Between U.S. and International
Underwriters, each International Underwriter has represented and agreed that,
with certain exceptions: (i) it is not purchasing any International Convertible
Preferred Securities (as defined below) for the account of any United States or
Canadian Person and (ii) it has not offered or sold, and will not offer or sell,
directly or indirectly, any International Convertible Preferred Securities or
distribute any prospectus relating to the International Convertible Preferred
Securities within the United States or Canada or to any United States or
Canadian Person. The foregoing limitations do not apply to stabilization
transactions or to certain other transactions specified in the Agreement Between
U.S. and International Underwriters. As used herein, "United States or Canadian
Person" means any national or resident of the United States or Canada, or any
corporation, pension, profit-sharing or other trust or other entity organized
under the laws of the United States or Canada or of any political subdivision
thereof (other than a branch located outside the United States and Canada of any
United States or Canadian Person) and includes any United States or Canadian
branch of a person who is otherwise not a United States or Canadian Person. All
Convertible Preferred Securities to be purchased by the U.S. Underwriters and
the International Underwriters are referred to herein as the "U.S. Convertible
Preferred Securities" and the "International Convertible Preferred Securities,"
respectively.
Pursuant to the Agreement Between U.S. and International Underwriters,
sales may be made between the U.S. Underwriters and International Underwriters
of any number of Convertible Preferred Securities to be purchased pursuant to
the Underwriting Agreement as may be mutually agreed. The per security price of
any Convertible Preferred Securities so sold shall be the Price to Public set
forth on the cover page hereof, in United States dollars, less an amount not
greater than the per security amount of the concession to dealers set forth
below.
Pursuant to the Agreement Between U.S. and International Underwriters, each
U.S. Underwriter has represented that it has not offered or sold, and has agreed
not to offer or sell, Convertible Preferred Securities, directly or indirectly,
in any province or territory of Canada in contravention of the securities laws
thereof and has represented that any offer or sale of Convertible Preferred
Securities in Canada will be made only pursuant to an exemption from the
requirement to file a prospectus in the province or territory of Canada in which
such offer or sale is made. Each U.S. Underwriter has further agreed to send to
any dealer who purchases from it any Convertible Preferred Securities a notice
stating in substance that, by purchasing such Convertible Preferred Securities,
such dealer represents and agrees that is has not offered or sold, and will not
offer or sell, directly or indirectly, any of such Convertible Preferred
Securities in any province or territory of Canada or to, or for the benefit of,
any resident of any province or territory of Canada in contravention of the
securities laws thereof and that any offer or sale of Convertible Preferred
Securities in Canada will be made only pursuant to an exemption from the
requirement to file a prospectus in the province or territory of Canada in which
such offer or sale is made, and that such dealer will deliver to any other
dealer to whom it sells any of such Convertible Preferred Securities a notice to
the foregoing effect.
Pursuant to the Agreement Between U.S. and International Underwriters, each
International Underwriter has represented that: (i) it has not offered or sold
and, prior to the date six months after the Closing Date (as defined in the
Underwriting Agreement), will not offer or sell any Convertible Preferred
Securities to persons in the United Kingdom except to persons whose ordinary
activities involve them in acquiring, holding, managing or disposing of
investments (as principal or agent) for the purposes of their businesses or
otherwise in circumstances which have not resulted and will not result in an
offer to the public in the United Kingdom within the meaning of the Public
Offers of Securities Regulations 1995 (the "Regulations"); (ii) it has complied
and will comply with all applicable provisions of the Financial Services Act
1986 and the Regulations with respect to anything done by it in relation to the
Convertible Preferred Securities offered hereby in, from or otherwise involving
the United Kingdom and (iii) it has only issued or passed on and will
S-82
<PAGE> 83
only issue or pass on to any person in the United Kingdom any document received
by it in connection with the issue of the Convertible Preferred Securities to a
person who is of a kind described in Article 11(3) of the Financial Services Act
1986 (Investment Advertisements) (Exemptions) Order 1995, or is a person to whom
such document may otherwise lawfully be issue or passed on.
Pursuant to the Underwriting Agreement, the Trust has granted the U.S.
Underwriters an option, exercisable for 30 days from the date of this Prospectus
Supplement, to purchase up to 2,250,000 additional Convertible Preferred
Securities at the Price to Public set forth on the cover page hereof, less
underwriting discounts and commissions. The U.S. Underwriters may exercise such
option to purchase solely for the purpose of covering over-allotments, if any,
made in connection with the offerings of the Convertible Preferred Securities
offered hereby. To the extent such option is exercised, each U.S. Underwriter
will become obligated, subject to certain conditions, to purchase approximately
the same percentage of such additional Convertible Preferred Securities as the
number set forth next to such U.S. Underwriter's name in the preceding table
bears to the total number of Convertible Preferred Securities offered by the
U.S. Underwriters hereby.
The Trust and Kmart have agreed in the Underwriting Agreement, subject to
certain exceptions, that, without the prior written consent of Morgan Stanley &
Co. Incorporated on behalf of the Underwriters, they will not, during the period
ending 90 days after the date of this Prospectus Supplement, (i) offer, pledge,
sell, contract to sell, sell any option or contract to purchase, purchase any
option or contract to sell, grant any option, right or warrant to purchase or
otherwise transfer or dispose of, directly or indirectly, any shares of Kmart
Common Stock, any securities convertible into or exercisable for Kmart Common
Stock or (ii) enter into any swap or other agreement that transfers to another,
in whole or in part, any of the economic consequences of ownership of Kmart
Common Stock, or any preferred stock of Kmart, the Trust or any similar trust
whether any such transaction described in clause (i) or (ii) above is to be
settled by delivery of Kmart Common Stock, any preferred stock of Kmart, the
Trust or any similar trust or such other securities in cash or otherwise.
From time to time, the Underwriters have provided, and continue to provide,
investment banking services to Kmart.
The Trust and Kmart have agreed to indemnify the several Underwriters
against certain liabilities, including liabilities under the Securities Act of
1933, as amended.
S-83
<PAGE> 84
LEGAL MATTERS
The validity of the Convertible Preferred Securities, Convertible
Debentures, the Guarantee and certain matters relating thereto and certain
United States federal income taxation matters will be passed upon for Kmart and
Kmart Financing by Skadden, Arps, Slate, Meagher & Flom, New York, New York,
special counsel to the Company. The validity of the Kmart Common Stock issuable
upon conversion will be passed upon for Kmart and Kmart Financing by A.N.
Palizzi, Executive Vice President, General Counsel of the Company. Certain legal
matters will be passed upon for the Underwriters by Davis Polk & Wardwell, New
York, New York.
EXPERTS
The consolidated financial statements of Kmart as of January 31, 1996 and
January 25, 1995 and for each of the three years in the period ended January 31,
1996 included in this Prospectus Supplement have been so included in reliance on
the report of Price Waterhouse LLP, independent accountants, given on the
authority of said firm as experts in accounting and auditing.
S-84
<PAGE> 85
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Management's Responsibility for Financial Statements.................................. F-2
Report of Independent Accountants..................................................... F-3
Consolidated Statements of Operations................................................. F-4
Consolidated Balance Sheets........................................................... F-5
Consolidated Statements of Cash Flows................................................. F-6
Consolidated Statements of Shareholders' Equity....................................... F-7
Notes to Consolidated Financial Statements............................................ F-8
</TABLE>
F-1
<PAGE> 86
KMART CORPORATION
MANAGEMENT'S RESPONSIBILITY FOR FINANCIAL STATEMENTS
Management is responsible for the preparation of the Company's consolidated
financial statements and related information appearing in this annual report.
These financial statements have been prepared in conformity with generally
accepted accounting principles on a consistent basis, except for the adoption of
Financial Accounting Standard No. 121 "Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to Be Disposed Of," applying certain
estimates and judgments based upon currently available information and
management's view of current conditions and circumstances. On this basis, we
believe that these financial statements reasonably present the Company's
financial position and results of operations.
To fulfill our responsibility, we maintain comprehensive systems of
internal controls designed to provide reasonable assurance that assets are
safeguarded and transactions are executed in accordance with established
procedures. The concept of reasonable assurance is based upon a recognition that
the cost of the controls should not exceed the benefit derived. We believe our
systems of internal controls provide this reasonable assurance.
The Board of Directors of the Company has an Audit Committee, consisting
solely of outside directors. The duties of the Committee include keeping
informed of the financial condition of the Company and reviewing its financial
policies and procedures, its internal accounting controls and the objectivity of
its financial reporting. Both the Company's independent accountants and the
internal auditors have free access to the Audit Committee and meet with the
Committee periodically, with and without management present.
FLOYD HALL MARTIN E. WELCH III
Chairman of the Board, Senior Vice President
President and Chief Executive Officer and Chief Financial Officer
F-2
<PAGE> 87
KMART CORPORATION
REPORT OF INDEPENDENT ACCOUNTANTS
To the Shareholders and Board of Directors of Kmart Corporation
In our opinion, the accompanying consolidated balance sheets and the
related consolidated statements of operations, of shareholders' equity and of
cash flows present fairly, in all material respects, the financial position of
Kmart Corporation and its subsidiaries at January 31, 1996 and January 25, 1995,
and the results of their operations and their cash flows for each of the three
years in the period ended January 31, 1996, in conformity with generally
accepted accounting principles. 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 of these statements in accordance with generally accepted auditing
standards which 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, assessing the
accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for the opinion expressed above.
As discussed in the notes to the consolidated financial statements, the
Company adopted Statement of Financial Accounting Standard No. 121, "Accounting
for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed
Of," in fiscal 1995.
PRICE WATERHOUSE LLP
Detroit, Michigan
March 7, 1996
F-3
<PAGE> 88
KMART CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
FISCAL YEAR ENDED
-----------------------------------------
JANUARY 31, JANUARY 25, JANUARY 26,
1996 1995 1994
----------- ----------- -----------
<S> <C> <C> <C>
Sales........................................................ $34,389 $32,514 $33,295
Licensee fees and other income............................... 265 286 294
------- ------- -------
34,654 32,800 33,589
------- ------- -------
Cost of merchandise sold, including buying and occupancy
costs...................................................... 26,996 24,868 24,950
Selling, general and administrative expenses................. 7,554 7,376 7,477
Store restructuring and other charges........................ -- -- 1,130
Asset impairment charges..................................... 532 -- --
Gain on pension curtailment.................................. (124) -- --
Interest expense:
Debt, net.................................................. 220 258 302
Capital lease obligations and other........................ 226 235 192
------- ------- -------
35,404 32,737 34,051
------- ------- -------
Income (loss) from continuing retail operations before income
taxes and equity income.................................... (750) 63 (462)
Equity in net income of unconsolidated companies............. 38 52 52
Income tax provision (credit)................................ (222) 11 (150)
------- ------- -------
Net income (loss) from continuing retail operations before
extraordinary items and the effect of accounting changes... (490) 104 (260)
Discontinued operations including the effect of accounting
changes, net of income taxes of $59 and $(91),
respectively............................................... -- 75 (169)
Gain (loss) on disposal of discontinued operations, net of
income taxes of $88, $282 and $(248), respectively......... (30) 117 (521)
Extraordinary items, net of income taxes of $(27) and $(6),
respectively............................................... (51) -- (10)
Effect of accounting changes, net of income taxes of $(36)... -- -- (14)
------- ------- -------
Net income (loss)............................................ $ (571) $ 296 $ (974)
======= ======= =======
Earnings (loss) per common share:
Continuing retail operations............................... $ (1.08) $ .21 $ (.59)
Discontinued operations.................................... -- .16 (.37)
Gain (loss) on disposal of discontinued operations......... (.06) .26 (1.14)
Extraordinary items........................................ (.11) -- (.02)
Effect of accounting changes............................... -- -- (.03)
------- ------- -------
Net income (loss)............................................ $ (1.25) $ .63 $ (2.15)
======= ======= =======
459.9 456.6 456.7
Weighted average shares (millions)........................... ======= ======= =======
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
The Consolidated Statements of Operations for prior periods
have been restated for discontinued operations.
F-4
<PAGE> 89
KMART CORPORATION
CONSOLIDATED BALANCE SHEETS
(DOLLARS IN MILLIONS)
<TABLE>
<CAPTION>
JANUARY 31, JANUARY 25,
1996 1995
----------- -----------
<S> <C> <C>
ASSETS
Current Assets:
Cash (including temporary investments of $637 and $32,
respectively)..................................................... $ 1,095 $ 353
Merchandise inventories.............................................. 6,635 6,853
Other current assets................................................. 1,092 1,290
Net current assets of discontinued operations........................ -- 369
------- -------
Total current assets................................................... 8,822 8,865
Investments in affiliated retail companies............................. 94 108
Property and equipment, net............................................ 5,301 6,011
Other assets and deferred charges...................................... 1,180 913
Net long-term assets of discontinued operations........................ -- 745
------- -------
$15,397 $16,642
======= =======
LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities:
Long-term debt due within one year................................... $ 7 $ 235
Notes payable........................................................ -- 748
Trade accounts payable............................................... 1,993 2,638
Accrued payrolls and other liabilities............................... 1,076 1,158
Taxes other than income taxes........................................ 188 268
Income taxes......................................................... -- 256
------- -------
Total current liabilities.............................................. 3,264 5,303
Capital lease obligations.............................................. 1,629 1,777
Long-term debt and notes payable....................................... 3,935 2,003
Other long-term liabilities............................................ 1,289 1,527
Shareholders' Equity:
Preferred stock, 10,000,000 shares authorized; Series C, 790,287
shares authorized; 658,315 shares issued at January 25, 1995...... -- 132
Common stock, 1,500,000,000 shares authorized; 486,511,184 and
464,549,561 shares issued, respectively........................... 486 465
Capital in excess of par value....................................... 1,624 1,505
Retained earnings.................................................... 3,326 4,074
Treasury shares and restricted stock................................. (92) (86)
Foreign currency translation adjustment.............................. (64) (58)
------- -------
Total shareholders' equity............................................. 5,280 6,032
------- -------
$15,397 $16,642
======= =======
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
The Consolidated Balance Sheet for the prior period has been restated for
discontinued operations.
F-5
<PAGE> 90
KMART CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN MILLIONS)
<TABLE>
<CAPTION>
FISCAL YEAR ENDED
-----------------------------------------
JANUARY 31, JANUARY 25, JANUARY 26,
1996 1995 1994
----------- ----------- -----------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net Income (loss) from continuing retail operations before
extraordinary items and the effect of accounting changes... $ (490) $ 104 $ (260)
Adjustments to reconcile net income (loss) from continuing
retail operations to net cash from operating activities:
Extraordinary item......................................... (51) -- --
Asset impairment charges................................... 532 -- --
Depreciation and amortization.............................. 729 680 677
Cash used for store restructuring and other charges........ (231) (133) (87)
Store restructuring and other charges...................... -- -- 1,130
Deferred income taxes...................................... (9) 40 (252)
Undistributed equity income................................ 14 (15) 7
Other, net................................................. 39 (158) (425)
Increase (decrease) in other long-term liabilities......... (12) 112 47
(Increase) decrease in inventories......................... 236 (628) 1,199
Increase (decrease) in accounts payable.................... (645) 420 --
Changes in certain assets and liabilities.................. (342) 288 74
------ ------- -------
Net cash provided by (used for) continuing retail
operations................................................. (230) 710 2,110
------ ------- -------
Discontinued Operations:
Income (loss) from discontinued operations................. -- 75 (169)
Gain (loss) on disposal of discontinued operations......... (30) 117 (521)
Cash used for discontinued operations...................... (22) (362) (268)
Items not affecting cash, net.............................. 178 (636) (375)
------ ------- -------
Net cash provided by (used for) discontinued operations.... 126 (806) (1,333)
------ ------- -------
NET CASH PROVIDED BY (USED FOR) OPERATING ACTIVITIES....... (104) (96) 777
------ ------- -------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures....................................... (578) (1,125) (871)
Proceeds from asset sales and subsidiary public
offerings............................................... 1,245 2,431 793
Other, net................................................. (346) (229) (77)
------ ------- -------
NET CASH PROVIDED BY (USED FOR) INVESTING ACTIVITIES....... 321 1,077 (155)
------ ------- -------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of long-term debt and notes
payable................................................. 1,948 62 644
Reduction in long-term debt and notes payable.............. (985) (515) (928)
Reduction in capital lease obligations..................... (173) (124) (123)
Capital contributions from minority interest............... 15 15 29
Issuance of common stock................................... 3 6 32
Reissuance of treasury shares.............................. -- 23 13
Extraordinary item for bond redemptions.................... -- -- (10)
Dividends paid............................................. (283) (474) (465)
------ ------- -------
NET CASH PROVIDED BY (USED FOR) FINANCING ACTIVITIES....... 525 (1,007) (808)
------ ------- -------
NET INCREASE (DECREASE) IN CASH.............................. 742 (26) (186)
CASH, BEGINNING OF YEAR...................................... 353 379 565
------ ------- -------
CASH, END OF YEAR............................................ $ 1,095 $ 353 $ 379
====== ======= =======
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
The Consolidated Statements of Cash Flows for prior periods
have been restated for discontinued operations.
F-6
<PAGE> 91
KMART CORPORATION
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
<TABLE>
<CAPTION>
TREASURY
SERIES B, C SHARES AND
SERIES A AND D PERFORMANCE FOREIGN
CONVERSION CONVERTIBLE CAPITAL IN RESTRICTED STOCK CURRENCY TOTAL
PREFERRED PREFERRED COMMON EXCESS OF RETAINED DEFERRED TRANSLATION SHAREHOLDERS'
STOCK STOCK STOCK PAR VALUE EARNINGS COMPENSATION ADJUSTMENT EQUITY
---------- ----------- ------ ---------- -------- ---------------- ----------- -------------
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
BALANCE AT JANUARY
27, 1993........... $ 986 $ 157 $416 $ 506 $5,700 $ (124) $(105) $ 7,536
Net loss for the
year............... (974) (974)
Cash dividends
declared, common,
$.96 per share..... (392) (392)
Cash dividends
declared, $3.41
Depositary Share,
$3.41 per share.... (78) (78)
Cash dividends
declared, Series B
convertible
preferred, $11.50
per share.......... (9) (9)
Minimum pension
liability in excess
of intangible
pension asset...... (10) (10)
Common issued under
stock option
plans.............. 1 14 15
Common issued under
Performance
Restricted Stock
Plan............... 2 (1) 1
Treasury shares
reissued to the
Employee Savings
Plan............... 16 13 29
Foreign currency
translation
adjustment......... (25) (25)
----- ----- ---- ------ ------ ----- ----- ------
BALANCE AT JANUARY
26, 1994........... 986 157 417 538 4,237 (112) (130) 6,093
Net income for the
year............... 296 296
Cash dividends
declared, common,
$.96 per share..... (418) (418)
Cash dividends
declared, $3.41
Depositary Share,
$1.71 per share.... (39) (39)
Cash dividends
declared, Series C
convertible
preferred, $11.50
per share.......... (9) (9)
Decrease in
additional minimum
pension liability
in excess of
intangible pension
asset.............. 7 7
Common issued under
stock option
plans.............. 2 2
Common issued under
Performance
Restricted Stock
Plan............... (1) 3 2
Common issued from
conversion of
Series A conversion
preferred.......... (986) 46 940 --
Common issued from
redemption of
Series C
convertible
preferred.......... (25) 2 23 --
Treasury shares
reissued to the
Employee Savings
Plan............... 3 23 26
Foreign currency
translation
adjustment......... 72 72
----- ----- ---- ------ ------ ----- ----- ------
BALANCE AT JANUARY
25, 1995........... -- 132 465 1,505 4,074 (86) (58) 6,032
Net loss for the
year............... (571) (571)
Cash dividends
declared, common,
$.36 per share..... (165) (165)
Cash dividends
declared, Series C
convertible
preferred, $11.50
per share.......... (6) (6)
Increase in
additional minimum
pension liability
in excess of
intangible pension
asset.............. (6) (6)
Common issued under
Performance
Restricted Stock
Plan............... 1 7 (6) 2
Common issued from
redemption of
Series C and D
convertible
preferred.......... (132) 20 112 --
Foreign currency
translation
adjustment......... (6) (6)
----- ----- ---- ------ ------ ----- ----- ------
BALANCE AT JANUARY
31, 1996........... $ -- $ -- $486 $1,624 $3,326 $ (92) $ (64) $ 5,280
===== ===== ==== ====== ====== ===== ===== ======
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
Common stock, authorized 1,500,000,000 shares, $1 par value.
Preferred stock, authorized 10,000,000 shares, no par value.
F-7
<PAGE> 92
KMART CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Kmart Corporation's ("the Company" or "Kmart") significant accounting
policies, which conform to generally accepted accounting principles applied on a
consistent basis between years, except for the adoption of Financial Accounting
Standard No. 121 "Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to Be Disposed Of" ("FAS 121"), are described below.
Nature of Operations: The Company's operations consist principally of
discount department stores located in all 50 states, Puerto Rico, the U.S.
Virgin Islands and Guam. Kmart also operates discount stores in Canada, the
Czech and Slovak Republics (see Note 2 of Notes to Consolidated Financial
Statements) and has joint ventures in Mexico and Singapore. Kmart's operations
also include Builders Square, Inc. ("Builders Square"), a chain of home
improvement stores. Kmart's equity investments consist of 49% of substantially
all of the Meldisco subsidiaries of Melville Corporation, which operate the
footwear departments in domestic Kmart stores, and an approximate 46% interest
in Thrifty PayLess Holdings ("TPH"), a drugstore chain located in the western
United States.
Basis of Consolidation: Kmart includes all majority-owned subsidiaries in
the consolidated financial statements. Investments in affiliated retail
companies owned 20% or more are accounted for by the equity method using their
fiscal year-end financial statements. Intercompany transactions and accounts
have been eliminated in consolidation.
Fiscal Year: The Company's fiscal years end on the last Wednesday in
January. Fiscal year 1995 consisted of 53 weeks and ended on January 31, 1996.
Fiscal years 1994 and 1993 each consisted of 52 weeks and ended on January 25,
1995 and January 26, 1994, respectively.
Cash: For the purpose of reporting cash flows, cash includes cash on hand
in stores, deposits in banks, certificates of deposit and short-term marketable
securities with maturities of 90 days or less.
Inventories: Inventories are stated at the lower of cost or market,
primarily using the retail method. As of year end 1995, 1994 and 1993, the
last-in, first-out (LIFO) method, utilizing internal inflation indices, was used
to determine cost for $6,131, $6,518 and $5,874 of inventory, respectively.
Inventories valued on LIFO at year end 1995, 1994 and 1993 were $751, $804 and
$861 lower than amounts that would have been reported using the first-in,
first-out (FIFO) method. The FIFO method was used to determine cost at year end
1995 and 1994 for $504 and $335 of inventory, respectively.
Property and Equipment: Property and equipment are recorded at cost, less
any impairment losses relating to FAS 121, including a provision for capitalized
interest. Capitalized amounts include expenditures which materially extend the
useful lives of existing facilities and equipment. Expenditures for repairs and
maintenance which do not materially extend the useful lives of the related asset
are charged to expense as incurred.
Expenditures for owned properties, primarily self-developed locations,
which Kmart intends to sell and lease-back within one year are included in other
current assets, and those extending beyond one year are included in other assets
and deferred charges.
Depreciation and Amortization: Depreciation and amortization, which
includes amortization of property held under capital leases over the respective
lease terms, are computed based upon the estimated useful lives of the
respective assets using the straight-line method for financial statement
purposes and accelerated methods for tax purposes. The general range of lives is
twenty-five to fifty years for buildings, five to twenty-five years for
leasehold improvements and three to seventeen years for furniture and fixtures.
F-8
<PAGE> 93
KMART CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
Financial Instruments: With the exception of long-term debt, shareholders'
equity and equity investments, Kmart records all financial instruments,
including accounts receivable, accounts payable and marketable securities at
cost, which approximates market value.
Foreign Operations: Foreign currency assets and liabilities are translated
into U.S. dollars at the exchange rates in effect at the balance sheet date.
Results of operations are translated at average exchange rates during the period
for revenues and expenses. Translation gains and losses resulting from
fluctuations in the exchange rates are accumulated as a separate component of
shareholders' equity.
Licensee Sales: Kmart's policy is to exclude sales of licensed departments
from total sales. Sales from licensed departments are primarily comprised of
sales from the Meldisco subsidiaries of Melville Corporation which operate the
footwear departments in domestic Kmart stores.
Pre-Opening and Closing Costs: Costs associated with the opening of a new
store are expensed during the first full month of operations. When the decision
to close a retail unit is made, Kmart provides for the future net lease
obligation and nonrecoverable investment in fixed assets directly related to
discontinuance of operations and, prior to 1994, other expenses and estimated
operating losses through the expected closing dates.
Advertising Costs: Advertising costs are expensed the first time the
advertising takes place. Included in selling, general and administrative
expenses for fiscal 1995, 1994 and 1993 are $515, $459, and $481, respectively,
of advertising expenses.
Income Taxes: Deferred income taxes are provided on temporary differences
between financial statement and taxable income. Kmart accrues appropriate U.S.
and foreign taxes payable on all of the earnings of subsidiaries, except with
respect to earnings that are intended to be permanently reinvested, or are
expected to be distributed free of additional tax by operation of relevant
statutes currently in effect and by utilization of available tax credits and
deductions.
Earnings (Loss) Per Common Share: Kmart computes earnings (loss) per common
share by dividing net income (loss) less dividends paid on Series C convertible
preferred stock by the weighted average number of shares of common stock and
dilutive common stock equivalents outstanding ("weighted average common shares")
during each year. As of January 31, 1996, all the outstanding shares of Series C
convertible preferred stock were exchanged for the same number of shares of
Series D convertible preferred stock and all the Series D shares were then
redeemed for shares of Kmart common stock. The redemption of the remaining
outstanding shares of Series D convertible preferred stock had no effect on the
weighted average common shares. In determining the weighted average number of
fully diluted common shares outstanding, the Series A conversion preferred
stock, prior to its conversion into common stock in September 1994, was treated
as common stock.
Use of Estimates: The preparation of financial statements in conformity
with generally accepted accounting principles requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities at the date of the financial statements and the reported amounts of
revenues and expenses during the reporting period. Actual results could differ
from those estimates.
Reclassifications: Certain reclassifications of prior year amounts have
been made to conform to the 1995 presentation.
2) SUBSEQUENT EVENT
In March 1996, Kmart entered into an agreement with Tesco PLC ("Tesco") for
the purchase of Kmart's businesses in the Czech and Slovak Republics. Under the
terms of the agreement, Tesco will purchase two companies which operate six
Kmart stores in the Czech Republic and seven stores in the Slovak
F-9
<PAGE> 94
KMART CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
Republic for approximately $118, which approximates net book value. The final
transaction may be subject to certain regulatory approvals and is expected to be
concluded by the end of the second quarter of 1996.
3) DISCONTINUED OPERATIONS AND DISPOSITIONS
Discontinued operations include Borders Group, Inc. ("Borders Group"),
OfficeMax, Inc. ("OfficeMax"), The Sports Authority, Inc. ("The Sports
Authority"), Coles Myer, Ltd. ("Coles Myer"), PACE Membership Warehouse, Inc.
("PACE") and Furr's/Bishop ("Furr's") cafeteria chains.
1995 ACTIVITY
Discontinued operations for 1995 include the Borders Group, whose initial
public offering ("IPO") was completed in June 1995. In this IPO, Kmart sold 87%
of its equity interest for net proceeds of approximately $493. Additionally, in
July 1995, the Borders Group agreed to purchase all of Kmart's remaining 13%
interest which resulted in net proceeds of approximately $73. As a result of
these transactions, the Company recorded an after-tax loss of $185.
Also in July 1995, OfficeMax completed the public offering of Kmart's
remaining equity interest in OfficeMax. Kmart received net proceeds of
approximately $360 and recorded an after-tax gain of $107.
In October 1995, The Sports Authority completed the public offering of
Kmart's remaining equity interest in The Sports Authority. Kmart received
approximately $151 in net proceeds and recorded an after-tax gain of $48.
As the Company no longer owns any interest in the aforementioned entities,
they are accounted for as discontinued operations in the accompanying financial
statements.
In November 1995, Kmart disposed of the assets of its automotive service
centers at a book value of approximately $84 receiving approximately $50 in cash
and the balance in a five-year interest-bearing note. Under the terms of the
agreement, the centers will continue to operate at Kmart locations in exchange
for various rents and fees for services provided by Kmart. The Company also
disposed of certain Senior Notes of Thrifty PayLess Holdings, Inc. ("TPH")
acquired in 1993 in connection with the sale of PayLess Drug Stores Northwest,
Inc. ("PayLess") for approximately $102.
1994 ACTIVITY
Discontinued operations for 1994 include OfficeMax, whose IPO was completed
in November 1994. This IPO reduced Kmart's interest in OfficeMax from over 90%
to approximately 25% and resulted in net proceeds of approximately $642. Also,
in November 1994, the IPO of The Sports Authority was completed reducing Kmart's
interest from 100% to approximately 30% and resulted in net proceeds of
approximately $254. These transactions resulted in an after-tax gain of $101.
Additionally, in November 1994, Kmart completed the sale of its 21.5%
equity interest in Coles Myer, an Australian retailer which operates department
and general merchandise stores including certain stores using the "Kmart" name.
Net cash proceeds of $928 were realized from the sale resulting in an after-tax
gain of $48. As part of the transaction, Kmart extended a long-term license
agreement that allows Coles Myer to use the "Kmart" name in Australia and New
Zealand.
In January 1995, Kmart charged $32 to loss on disposal of discontinued
operations for sublease exposure related to lease guarantees on properties
sublet to Furr's, which was sold by Kmart in 1986.
Due to the 1995 completion of the divestitures of the Borders Group,
OfficeMax and The Sports Authority, results of these operations for 1994 and
1993 have been restated and accounted for as discontinued
F-10
<PAGE> 95
KMART CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
operations. The results of Coles Myer and the charge for Furr's have also been
included as discontinued operations. Kmart's interest in the results of these
operations was an after-tax gain of $75 during 1994.
1993 ACTIVITY
In January 1994, PACE sold the assets and lease obligations of 93 of its
warehouses and virtually all of the inventory and membership files in the 34
warehouses not included in the transaction to Sam's Club, a division of
Wal-Mart, for approximately $774 in cash. Operations of the 34 remaining PACE
sites not included in the transaction were discontinued, and PACE was
subsequently divested in August 1995. Included in this loss were the write-off
of unamortized goodwill of $395, a provision for the expected remaining lease
obligations in the warehouses not sold, other PACE liabilities and a provision
for additional costs anticipated during the wind-down of PACE operations.
The loss on disposal of discontinued operations in 1993 of $521 includes
the losses on disposal of PACE assets and the divestiture of PayLess. The
operations of these businesses were reclassified to discontinued operations to
reflect their respective plans for disposition. The sale of PayLess was
completed in April 1994 to TPH and its subsidiary Thrifty PayLess, Inc. for
approximately $595 in cash, $100 in Senior Notes of TPH and approximately 46% of
the common equity of TPH.
Kmart had originally intended to complete the divestiture of its TPH equity
interest within a one-year time frame and had, accordingly, classified the
results of operations as a component of discontinued operations. During the
latter part of 1994, Kmart pursued the disposition of its interest in TPH, but
did not locate an acceptable buyer during this time frame. Therefore, management
reclassified the results of operations for PayLess in 1993 and prior from
discontinued operations to continuing retail operations.
4) STORE RESTRUCTURING AND OTHER CHARGES
On January 5, 1994 the Kmart Board of Directors approved a restructuring
plan involving domestic and Canadian Kmart stores, Builders Square and the
Walden division of the Borders Group. As a result, in the fourth quarter of
1993, Kmart recorded a pretax charge (Store Restructuring and Other Charges) of
$1,348, $862 after tax. The portion of the charge associated with the Borders
Group, $218 pretax and $139 after tax, has subsequently been restated as
discontinued operations. The remaining restructuring provision included
anticipated costs of $1,130 associated with Kmart stores which were to be closed
and relocated, enlarged or refurbished in the U.S. and Canada and the closing
and relocation of certain Builders Square stores. These costs included lease
obligations for store closings as well as fixed asset write-downs, primarily
furniture and fixtures, and inventory dispositions and related operating losses
for all affected stores. The restructuring provision also included $20 to
increase the reserve for lease obligations for stores closed as part of Kmart's
1989 restructuring plan. Other charges included the estimated costs of $76 for
re-engineering programs (principally severance) and other nonrecurring charges
and an accrual of $12 for a nonroutine legal judgment resulting from the
insolvency of an insurer.
F-11
<PAGE> 96
KMART CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
The following table sets forth the 1993 restructuring plan and related
activity through January 31, 1996:
<TABLE>
<CAPTION>
ACTIVITY TO DATE
---------------------------------------
NONCASH COSTS RESERVE AT
PROVISION CASH COSTS AND ASSET CHANGES IN JANUARY 31,
RECORDED INCURRED WRITE-DOWNS ESTIMATE 1996
-------- ---------- ------------- ---------- -----------
<S> <C> <C> <C> <C> <C>
1993 Restructuring Plan:
Lease obligation costs................... $ 577 $166 $ (75)(a) $(57) $ 429
Asset write-downs........................ 181 -- 201 49 29
Inventory disposition costs and related
operating losses...................... 264 35 159 13 83
Re-engineering and other nonrecurring
charges............................... 76 54 25 12 9
Nonroutine legal accrual................. 12 7 -- (5) --
------ ---- ---- ---- ----
$1,110 $262 $ 310 $ 12 $ 550
====== ==== ==== ==== ====
</TABLE>
- -------------------------
(a) Represents $35 and $40 for interest expense accreted during 1995 and 1994 on
discounted lease obligations.
Cash costs incurred for the 1993 restructuring plan of $262, include $177,
$80 and $5 for 1995, 1994 and 1993, respectively. Noncash charges of $310
include $159, $146 and $5 for the same periods, respectively.
Changes in estimate are representative of management's assessment in the
fourth quarter of 1995 and 1994 that, based on actual experiences to date,
certain charges will be higher than originally planned while others will be less
than planned.
Builders Square and Kmart Canada substantially completed their
restructuring plans during 1995. Actual results were in line with the original
reserve of $226 and $39 for Builders Square and Canada, respectively.
The 1989 restructuring plan, with the $20 addition in 1993, included $526
for stores which were closed and relocated, enlarged or refurbished, and through
January 31, 1996, $509 was charged against this reserve. Cash costs relating to
the 1989 restructuring plan were $54, $53 and $82 for 1995, 1994 and 1993,
respectively. There were no noncash charges for 1995 compared to $29 and $137
for 1994 and 1993, respectively.
The restructuring obligation is included primarily in "Other long-term
liabilities" in the Consolidated Balance Sheets.
5) ASSET IMPAIRMENT CHARGES
Kmart adopted Financial Accounting Standard No. 121 "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of"
("FAS 121") in the fourth quarter of 1995. This statement requires companies to
record impairments of long-lived assets, certain identifiable intangibles, and
associated goodwill on an exception basis, when there is evidence that events or
changes in circumstances have made recovery of an asset's carrying value
unlikely. In conducting its review, management considered, among other things,
its current and expected operating cash flows together with a judgment as to the
fair value the Company could receive upon sale of its investment. Based on this
review, Kmart recorded a $532 pretax charge, $390 after tax, relating to
Builders Square and certain international operations.
6) EXTRAORDINARY ITEMS
The Company entered into agreements whereby holders of approximately $550
of certain real estate related debt agreed to eliminate put features which would
have required Kmart to purchase the debt from the
F-12
<PAGE> 97
KMART CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
holders if Kmart's long-term debt rating was lowered to noninvestment grade or
the lowest level of investment grade rating in certain cases. As a result, Kmart
recorded an extraordinary noncash charge of $51, net of income taxes, primarily
relating to make-whole premiums payable under such agreements.
In August 1993, Kmart called for early redemption of all $200 of its 8 1/8%
debentures due January 1, 1997. The debentures were redeemed at 100% of the
principal amount plus interest accrued to the date of redemption. In April 1993,
Kmart called for early redemption of all $200 of its 10 1/2 Sinking Fund
Debentures due December 1, 2017. The resulting redemption premium of $10, net of
applicable income taxes, was reported as an extraordinary item.
7) PROPERTY AND EQUIPMENT
The components of property and equipment are as follows:
<TABLE>
<CAPTION>
JANUARY 31, JANUARY 25,
1996 1995
----------- -----------
<S> <C> <C>
Property owned:
Land................................................................. $ 153 $ 153
Buildings............................................................ 440 446
Leasehold improvements............................................... 1,438 1,619
Furniture and fixtures............................................... 5,132 5,540
Construction in progress............................................. 78 132
Property under capital leases.......................................... 2,811 3,055
------- -------
10,052 10,945
Less-accumulated depreciation and amortization:
Property owned....................................................... (3,262) (3,426)
Property under capital leases........................................ (1,489) (1,508)
------- -------
Total........................................................... $ 5,301 $ 6,011
======= =======
</TABLE>
Accumulated depreciation for owned property includes $29 and $122 of the
store restructuring provision as of January 31, 1996 and January 25, 1995,
respectively. Interest costs capitalized were $7, $17 and $14 in 1995, 1994 and
1993, respectively.
8) INVESTMENTS IN AFFILIATED RETAIL COMPANIES
All U.S. Kmart footwear departments are operated under license agreements
with the Meldisco subsidiaries of Melville Corporation, substantially all of
which are 49% owned by Kmart and 51% owned by Melville. Fees and income earned
under the license agreements in 1995, 1994 and 1993 of $182, $204 and $195,
respectively, are included in licensee fees and other income. Kmart's equity in
the income of footwear departments in Kmart stores and dividends received were
as follows:
<TABLE>
<CAPTION>
1995 1994 1993
---- ---- ----
<S> <C> <C> <C>
Equity in income............................................ $38 $52 $52
=== === ===
Dividends................................................... $52 $38 $55
=== === ===
</TABLE>
F-13
<PAGE> 98
KMART CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
Meldisco's summarized financial information is as follows:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
--------------------------
1995 1994 1993
------ ------ ------
<S> <C> <C> <C>
Net sales............................................. $1,141 $1,235 $1,175
====== ====== ======
Gross profit.......................................... $ 487 $ 548 $ 525
====== ====== ======
Net income............................................ $ 79 $ 107 $ 97
====== ====== ======
Inventory............................................. $ 135 $ 148 $ 137
Other current assets.................................. 74 117 85
Non-current assets.................................... 1 2 2
------ ------ ------
Total assets.......................................... 210 267 224
Current liabilities................................... 15 42 30
------ ------ ------
Net assets............................................ $ 195 $ 225 $ 194
====== ====== ======
Equity of Kmart....................................... $ 94 $ 108 $ 94
====== ====== ======
</TABLE>
Unremitted earnings included in consolidated retained earnings were $72,
$86 and $64 at year end 1995, 1994 and 1993, respectively.
9) NOTES PAYABLE, LINES OF CREDIT AND OTHER COMMITMENTS AND CONTINGENCIES
The following table is a summary of annual short-term borrowings:
<TABLE>
<CAPTION>
JANUARY 31, JANUARY 25,
1996 1995
----------- -----------
<S> <C> <C>
Maximum amount outstanding............................... $ 2,660 $ 3,784
Average amount outstanding............................... 1,043 1,915
Amount outstanding at year end........................... -- 748
Weighted average interest rate at year end............... -- 6.1%
Weighted average annual interest rate.................... 6.4% 4.6%
</TABLE>
At January 31, 1996, Kmart had guaranteed lines of credit of which $199 had
been borrowed against to fund certain of Kmart's real estate development joint
ventures. These lines of credit mature February 1997. In addition, Kmart had
guaranteed a line of credit of which $385 had been borrowed against to fund
certain of Kmart's real estate development projects. This line of credit had a
weighted average interest rate at January 31, 1996 of 7.6%. Additional
borrowings in excess of repayments will be conditioned upon the approval of the
banks.
Kmart has outstanding guarantees for leases of certain previously sold
subsidiaries including Furr's, the Borders Group, OfficeMax and The Sports
Authority. Also, Kmart has entered into certain real estate arrangements whereby
Kmart is obligated to purchase completed projects. The aggregate amount
guaranteed was $1,542 at January 31, 1996.
Kmart and Coles Myer have guaranteed indebtedness related to certain
properties in Australia on a joint and several basis. Coles Myer subsequently
indemnified Kmart from any liability incurred pursuant to the Kmart guarantees.
As of January 31, 1996, the amount guaranteed was approximately $18.
Kmart has guaranteed indebtedness of other parties related to certain of
its leased properties financed by industrial revenue bonds. At January 31, 1996,
the total amount of such guaranteed indebtedness was $218, of which $81 was
included in capital lease obligations. The agreements will expire during fiscal
years 2004 to
F-14
<PAGE> 99
KMART CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
2009. Kmart's exposure to credit loss, in the event of nonperformance by the
other parties to the agreements, was $137 at January 31, 1996. However, no
concentration of credit risk exists and Kmart does not anticipate nonperformance
by the other parties.
There are various claims, lawsuits and pending actions against Kmart
incident to its operations. It is the opinion of management that the ultimate
resolution of these matters will not have a material effect on Kmart's
liquidity, financial position or results of operations.
10) LONG-TERM DEBT AND NOTES PAYABLE
Long-term debt and notes payable, net of unamortized discount, is comprised
of the following:
<TABLE>
<CAPTION>
JANUARY 31, JANUARY 25,
1996 1995
----------- -----------
<S> <C> <C>
Notes payable due 1997 (7.76% weighted average interest rate).......... $ 1,998 $ --
12 1/8% notes due 1995................................................. -- 150
8 1/8% notes due 2006.................................................. 199 199
8 1/4% notes due 2022.................................................. 99 99
12 1/2% debentures due 2005............................................ 100 100
8 3/8% debentures due 2022............................................. 100 100
7 3/4% debentures due 2012............................................. 198 198
7.95% debentures due 2023.............................................. 299 299
Medium-term notes due 1997 through 2020 (8.22% weighted average
interest rate)....................................................... 605 680
Mortgages.............................................................. 301 306
Other.................................................................. 43 107
------ ------
Total............................................................. 3,942 2,238
Portion due within one year............................................ (7) (235)
------ ------
Long-term debt and notes payable....................................... $ 3,935 $ 2,003
====== ======
</TABLE>
As of March 7, 1996, Kmart had $1,988 borrowed under its credit facilities.
Additional borrowings in excess of repayments will be conditioned upon the
approval of the banks.
In early 1996, Kmart's long-term senior unsecured debt rating was
downgraded to non-investment grade (BB by Standard and Poor's Corporation and
Ba2 by Moody's Investors Services, Inc.). As a result of the ratings downgrade,
higher interest rates became effective on Kmart's bank debt. Prior to the
downgrade, Kmart had entered into agreements in principle (a) with a group of
debt holders to eliminate put features from approximately $550 of real estate
related debt in exchange for repayment of such debt, including make-whole
premiums on certain debt, in October 1997 or such earlier date as the debt
matures or is refinanced and (b) with its bankers, to modify the terms of
certain of Kmart's credit facilities. The maturities of Kmart's seasonal bank
credit facility and certain of the bank real estate debt were extended to
February 1997, and the maturity of all other bank credit facilities remained at
October 1997. Under the agreements, Kmart is required to maintain $400 in
balances in its cash management system with its credit facility banks. The
current credit agreements contain certain restrictive provisions regarding the
maintenance of net worth and a fixed charge coverage ratio. At January 31, 1996,
Kmart was in compliance with all covenants under these agreements. In addition,
included in the agreements is a prohibition against declaration or payment of
dividends.
Real estate debt in the principal amount of approximately $90 was not
subject to the agreements described in the preceding paragraph and relates to
real estate debt of certain of the Company's former subsidiaries. Of the $90
outstanding, subsequent to year end, $20 was put to the Company and repaid,
along
F-15
<PAGE> 100
KMART CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
with a $3 make-whole premium. Kmart expects to sell and/or remarket such debt to
the former subsidiaries or other third parties. Kmart does not expect that any
losses incurred by it as a result of such repayment will exceed $15, which is
the threshold absent a waiver for an event of default under the agreements
described in the preceding paragraph.
During the first half of 1996, Kmart expects to explore the renegotiation
and/or restructuring of its bank credit facilities to enhance its credit,
liquidity and financial flexibility and to enable Kmart, under its current
forecast, to meet its committed and other capital needs and scheduled debt
repayments throughout 1996 and later years. In that connection, Kmart also
intends to explore other alternatives, including the possible divestiture of
additional non-core assets, sale-leaseback of certain real estate and the sale
of debt or equity securities. There can be no assurance, however, as to Kmart's
ability to effect such modifications in its capital structure or as to the terms
of any such modification.
Kmart's liquidity is presently sufficient, and it remains generally current
with trade vendors, continues to receive and honor usual and customary trade
terms and remains in compliance with all bank covenants. However, should Kmart's
operating performance deteriorate or should providers of goods and services to
Kmart tighten credit terms, Kmart may need to consider alternative sources of
funds, a reduction in capital expenditures or additional restructuring of its
capital structure.
In June 1994, Kmart called for early redemption of all $300 of its 8 3/8%
debentures due January 15, 2017. The resulting redemption premium and associated
cost of $18, net of applicable taxes, has been reported as part of the loss on
disposal of PayLess included in discontinued operations in 1993.
Based on the quoted market prices for the same, or similar issues, or on
the current rates offered to Kmart for debt of the same remaining maturities,
the fair value of long-term debt was $3,462 and $2,106 at January 31, 1996 and
January 25, 1995, respectively.
The principal maturities of long-term debt for years subsequent to 1995
are: 1996-$7, 1997-$2,167, 1998-$94, 1999-$70, 2000-$65 and 2001 and
later-$1,539.
Cash paid for interest, net of amounts capitalized, was $460, $521 and $465
in 1995, 1994 and 1993, respectively.
11) LEASES
Kmart conducts operations primarily in leased facilities. Kmart store
leases are generally for terms of 25 years with multiple five-year renewal
options which allow the Company the option to extend the life of the lease up to
50 years beyond the initial noncancelable term. Substantially all Builders
Square retail units are leased, generally for terms from five to 25 years with
varying renewal options.
Certain leases provide for additional rental payments based on a percent of
sales in excess of a specified base. Also, certain leases provide for the
payment by the lessee of executory costs (taxes, maintenance and insurance).
Some selling space has been sublet to other retailers in certain of Kmart's
leased facilities.
F-16
<PAGE> 101
KMART CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
Lease Commitments: Future minimum annual lease payments with respect to
noncancellable capital and operating leases as of January 31, 1996 are
summarized below for the years indicated:
<TABLE>
<CAPTION>
MINIMUM LEASE
PAYMENTS
--------------------
CAPITAL OPERATING
------- ---------
<S> <C> <C>
Fiscal Year:
1996.................................................................... $ 385 $ 591
1997.................................................................... 376 569
1998.................................................................... 361 557
1999.................................................................... 345 540
2000.................................................................... 326 530
Later years............................................................. 2,933 7,261
------- -------
Total minimum lease payments......................................... 4,726 10,048
Less -- minimum sublease rental income.................................... -- (777)
------- -------
Net minimum lease payments................................................ 4,726 $ 9,271
=======
Less:
Estimated executory costs............................................... (1,290)
Amount representing interest............................................ (1,688)
-------
1,748
Portion due within one year............................................... (119)
-------
Long-term lease obligations............................................... $ 1,629
=======
</TABLE>
A summary of operating lease rental expense and short-term rentals is as
follows:
<TABLE>
<CAPTION>
1995 1994 1993
----- ----- -----
<S> <C> <C> <C>
Minimum rentals..................................................... $ 680 $ 691 $ 695
Percentage rentals.................................................. 36 33 42
Less -- sublease rentals............................................ (111) (120) (101)
----- ----- -----
Total............................................................... $ 605 $ 604 $ 636
===== ===== =====
</TABLE>
Kmart incurred capital lease obligations to obtain store facilities and
equipment of $7, $189 and $177 in 1995, 1994 and 1993, respectively. These
noncash transactions have been excluded from the Consolidated Statements of Cash
Flows.
12) INCOME TAXES
Components of income (loss) from continuing retail operations and equity in
net income of unconsolidated companies before income taxes are as follows:
<TABLE>
<CAPTION>
1995 1994 1993
----- ---- -----
<S> <C> <C> <C>
U.S.................................................................. $(513) $ 89 $(422)
Foreign.............................................................. (199) 26 12
----- ---- -----
Total................................................................ $(712) $115 $(410)
===== ==== =====
</TABLE>
F-17
<PAGE> 102
KMART CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
The provision (credit) for income taxes consists of the following:
<TABLE>
<CAPTION>
1995 1994 1993
----- ---- -----
<S> <C> <C> <C>
Current:
Federal............................................................ $(211) $(48) $ 39
State and local.................................................... 1 6 (3)
Foreign............................................................ (3) 8 26
Deferred:
Store restructuring and other charges.............................. 122 38 (334)
Excess of tax over book depreciation............................... -- 58 84
LIFO inventory..................................................... (13) 14 68
Property taxes..................................................... 17 13 (16)
Pension funding.................................................... 29 (22) (3)
Inventory reserve.................................................. -- (34) --
Fixed asset impairment............................................. (199) -- --
Valuation allowance................................................ 57 -- --
Tax credits........................................................ (29) -- --
Other.............................................................. 7 (22) (11)
----- ---- -----
Total income taxes................................................... $(222) $ 11 $(150)
===== ==== =====
</TABLE>
A reconciliation between the federal statutory income tax rate to Kmart's
effective tax rate is shown below stated as a percent of income (loss) from
continuing retail operations and equity in net income of unconsolidated
companies:
<TABLE>
<CAPTION>
1995 1994 1993
----- ----- -----
<S> <C> <C> <C>
Provision (credit) at federal statutory rate %........................ (35.0) 35.0 (35.0)
State and local taxes, net of federal tax benefit..................... 0.1 3.7 (2.2)
Tax credits........................................................... (1.1) (9.5) (1.8)
Equity in net income of affiliated retail companies subject to lower
tax rates........................................................... (1.5) (12.7) (3.2)
Enacted federal tax rate change....................................... -- -- 3.3
Valuation allowance................................................... 8.1 -- --
Tax rate differential in international................................ (2.1) 1.2 (0.2)
ESOP dividend......................................................... (0.5) (4.4) (1.2)
Basis differences on IPO's............................................ -- -- 3.4
Other................................................................. 0.8 (3.7) 0.3
----- ----- -----
Effective tax rate %.................................................. (31.2) 9.6 (36.6)
===== ===== =====
</TABLE>
F-18
<PAGE> 103
KMART CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
Deferred tax assets and liabilities which are included in the accompanying
consolidated balance sheets are comprised of the following:
<TABLE>
<CAPTION>
JANUARY 31, JANUARY 25,
1996 1995
----------- -----------
<S> <C> <C>
Deferred tax assets:
Federal benefit for state and foreign deferred....................... $ 32 35
Discontinued operations.............................................. 93 199
Accruals and other liabilities....................................... 202 200
Capital leases....................................................... 140 145
Store restructuring obligations...................................... 238 396
Other................................................................ 122 56
---- ------
Total deferred tax assets....................................... 827 1,031
---- ------
Deferred tax liabilities:
Inventory............................................................ 236 283
Property and equipment............................................... 370 542
Valuation allowance.................................................. 57 --
Other................................................................ 86 58
---- ------
Total deferred tax liabilities.................................. 749 883
---- ------
Net deferred tax assets......................................... $ 78 $ 148
==== ======
</TABLE>
Kmart has not recorded deferred income taxes applicable to undistributed
earnings of foreign subsidiaries that are indefinitely reinvested in foreign
operations. Undistributed earnings totaled $7, $181 and $189 at year end 1995,
1994, and 1993, respectively.
The Company has available alternative minimum tax credit carryforwards of
approximately $54 which may be carried forward indefinitely.
Cash paid for income taxes was $80, $83 and $270 in 1995, 1994 and 1993,
respectively.
Effective in the first quarter of 1993, Kmart adopted Financial Accounting
Standard No. 109 "Accounting for Income Taxes" ("FAS 109"). FAS 109 is an asset
and liability approach that requires the recognition of deferred tax assets and
liabilities for the expected future tax consequences of events that have been
recognized in a company's financial statements or tax returns. In estimating
future tax consequences, FAS 109 generally considers all expected future events
other than enactment of changes in the tax law or rates. The adoption of FAS 109
resulted in the recording of a one-time credit, as the cumulative effect of an
accounting change, of $64 in the first quarter of 1993.
13) SHAREHOLDERS' EQUITY
In August 1991, Kmart sold 23,000,000 $3.41 Depositary Shares, each
representing one quarter of a share of Series A conversion preferred stock, for
$44 per Depositary Share. In September 1994, each of the outstanding Depositary
Shares automatically converted into two shares of Kmart common stock.
In October 1992, Kmart issued 784,938 shares of Series B convertible
preferred stock in exchange for all the outstanding stock of Borders, Inc. In
July 1994, all outstanding shares of Series B convertible preferred stock were
exchanged for the same number of shares of Series C convertible preferred stock.
As of January 31, 1996, all of the outstanding shares of Series C convertible
preferred stock were exchanged for the same number of shares of Series D
convertible preferred stock and all the Series D shares were then redeemed for
shares of Kmart common stock.
F-19
<PAGE> 104
KMART CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
Common and treasury shares outstanding and related changes for year end
1995, 1994 and 1993, are as follows:
<TABLE>
<CAPTION>
1995 1994 1993
----------- ----------- -----------
<S> <C> <C> <C>
Common Shares:
Beginning of the year............................... 464,549,561 416,546,780 415,640,206
Sold under stock option plans....................... 292,715 237,230 791,425
Issued under performance restricted stock plan...... 504,635 95,162 192,526
Issued under directors stock plan................... 9,472 2,518 1,950
Common issued from conversion of Series A conversion
preferred........................................ -- 46,000,000 --
Common issued from redemption of Series C and D
convertible preferred............................ 21,313,503 1,874,799 --
Forfeited or withheld under performance restricted
stock plan....................................... (36,565) (178,255) (28,955)
Retirement of shares, at cost....................... (122,137) (28,673) (50,372)
----------- ----------- -----------
End of the year..................................... 486,511,184 464,549,561 416,546,780
=========== =========== ===========
Treasury Shares:
Beginning of the year............................... 5,882,487 7,468,564 8,756,822
Reacquisition of shares............................. 219 -- --
Reissue of shares for the retirement savings plan... -- (1,586,077) (1,288,258)
----------- ----------- -----------
End of the year..................................... 5,882,706 5,882,487 7,468,564
=========== =========== ===========
</TABLE>
14) PENSION PLANS
Prior to 1996, U.S. Kmart and Builders Square had defined benefit pension
plans covering eligible associates who meet certain requirements of age, length
of service and hours worked per year. Effective January 31, 1996, the pension
plans were frozen and associates no longer earn additional benefits under the
plans. Benefits paid to retirees are based upon age at retirement and years of
credited service and earnings as of January 31, 1996. Kmart Canada Limited
associates are covered by a defined contribution plan. Kmart's policy is to fund
at least the minimum amounts required by the Employee Retirement Income Security
Act of 1974. The plans' assets consist primarily of equity securities, fixed
income securities, guaranteed insurance contracts and real estate. Kmart
contributed $6 and $64 to its principal pension plan during fiscal 1995 and
1994, respectively, but was not required to contribute to its principal pension
plan in fiscal 1993. The total consolidated pension expense was $44, $81 and $66
in 1995, 1994 and 1993, respectively.
As a result of freezing the plans, the Company recorded a pretax net
pension curtailment gain of $124 in the first quarter of 1995.
F-20
<PAGE> 105
KMART CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
For Kmart's pension plans, the following tables summarize the funded
status, components of pension cost and actuarial assumptions:
<TABLE>
<CAPTION>
JANUARY 31, 1996 JANUARY 25, 1995
----------------------------- -----------------------------
EMPLOYEE NON-QUALIFIED EMPLOYEE NON-QUALIFIED
PENSION PLAN PLANS PENSION PLAN PLANS
------------ ------------- ------------ -------------
<S> <C> <C> <C> <C>
Actuarial value of benefit obligations:
Estimated present value of vested
benefits............................... $ (1,742) $ (36) $ (1,379) $ (29)
Estimated present value of non-vested
benefits............................... (127) (1) (140) (1)
------- ---- ------- ----
Accumulated benefit obligation............ (1,869) (37) (1,519) (30)
Value of future pay increases............. -- -- (189) (4)
------- ---- ------- ----
Projected benefit obligation.............. (1,869) (37) (1,708) (34)
Estimated market value of plan assets....... 1,778 -- 1,462 --
------- ---- ------- ----
Plan assets under projected benefit
obligation................................ (91) (37) (246) (34)
Unrecognized net asset...................... (89) -- (97) 3
Unrecognized prior service cost............. -- -- 38 4
Unrecognized net loss and other............. 85 10 112 7
Adjustment required to recognize minimum
liability................................. -- (9) -- (10)
------- ---- ------- ----
Accrued pension costs....................... $ (95) $ (36) $ (193) $ (30)
======= ==== ======= ====
</TABLE>
<TABLE>
<CAPTION>
1995 1994 1993
----- ----- -----
<S> <C> <C> <C>
Components of pension cost:
Normal service cost................................................ $ 51 $ 77 $ 65
Interest cost on projected benefit obligation...................... 136 140 132
Return on plan assets.............................................. (378) 30 (159)
Net amortization and deferral of other components.................. 233 (167) 27
----- ----- -----
Total................................................................ $ 42 $ 80 $ 65
===== ===== =====
Actuarial assumptions at end of year:
Discount rates..................................................... 7.25% 8.25% 7.25%
Expected return on plan assets..................................... 9.50% 9.50% 9.50%
Salary increases................................................... 4.50% 4.50% 4.50%
</TABLE>
Under the provisions of Financial Accounting Standard No. 87 ("FAS 87"),
"Employers' Accounting for Pensions," Kmart is required to record an unfunded
pension liability when the accumulated benefit obligation exceeds plan assets.
This liability is partially offset by an intangible pension asset, with the
intangible asset being limited to the amount of unrecognized prior service cost,
including unamortized transition obligation. At January 31, 1996, the unfunded
pension liability exceeded the intangible pension asset by $9. FAS 87 requires
this excess to be recorded as a reduction in shareholders' equity.
15) OTHER POSTRETIREMENT AND POSTEMPLOYMENT BENEFIT PLANS
Kmart adopted Financial Accounting Standard No. 106 "Employers' Accounting
for Postretirement Benefits Other Than Pensions" ("FAS 106") at the beginning of
1993. This statement requires Kmart to accrue for future postretirement medical
benefits. In prior years, these claims were expensed when paid. As a result of
adopting FAS 106, Kmart recorded an after tax charge of $78, as the cumulative
effect of an accounting change, in 1993.
F-21
<PAGE> 106
KMART CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
Kmart sponsors a health care plan that offers postretirement continuation
of medical benefits to full-time associates who have worked 10 years and who
have retired after age 55, with the option of participation in Kmart's medical
plan, until age 65. The plan is contributory, with retiree contributions
adjusted annually.
The accounting for the plan anticipates future cost-sharing changes to the
written plan that are consistent with Kmart's expressed intent to increase the
retiree contribution rate annually for the expected inflation rate for that
year. The accrued postretirement benefit costs under FAS 106 were $104 and $107
at January 31, 1996 and January 25, 1995, respectively.
16) RETIREMENT SAVINGS PLAN
The Retirement Savings Plan provides that associates of Kmart and certain
subsidiaries who have completed one year of service can invest from 1% to 16% of
their earnings in the associate's choice of a growth equity fund, an
international equity fund, a core equity fund, a balanced equity fund, a managed
income fund, a Kmart common stock fund or a choice of three pre-mixed portfolio
funds. For each dollar the participant contributes, up to 6% of earnings, Kmart
will contribute an additional 50 cents which is invested in the Employee Stock
Ownership Plan (ESOP). Effective January 1, 1995, a new profit sharing program
was introduced as part of the Retirement Savings Plan. The Company makes all
contributions based on profits, with minimum yearly contributions required of
$32. Kmart's expense related to the Retirement Savings Plan was $73 for 1995 and
$46 for 1994 and 1993.
17) PERFORMANCE RESTRICTED STOCK PLAN
Under the Performance Restricted Stock Plan, the Compensation and
Incentives Committee of the Board of Directors may grant awards of common stock
to officers and other key employees of Kmart and its subsidiaries. As of January
31, 1996, there were awards for 3,000,000 shares outstanding and shares
available for grant of 442,100. Kmart recorded $(1), $1 and $3 of compensation
expense related to the Performance Restricted Stock Plan in 1995, 1994 and 1993,
respectively.
18) STOCK OPTION PLANS
Under the 1992 Stock Option Plan, the Compensation and Incentives Committee
may grant options to acquire shares of common stock to officers and other key
employees of Kmart and its subsidiaries at no less than 100% of the fair market
value of the common stock on the date of grant. Such options may be either
incentive options (ISO's) with a maximum term of ten years pursuant to Section
422 of the Internal Revenue Code or non-qualified stock options with a maximum
term of ten years and two days (NQSO's). Options become exercisable three years
after the date of grant for the 1992 Stock Option Plan and two years after the
date of grant for the 1973 and 1981 Stock Option Plans. The ability to grant
options under the 1973 and 1981 Plans expired in August 1991 according to the
terms of those Plans.
Twenty million shares of common stock were authorized for issuance under
the 1992 Stock Option Plan. Payment upon exercise of an option may be made in
cash, already owned shares or a combination of both according to the terms of
the Plan.
F-22
<PAGE> 107
KMART CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
Pertinent information covering the Plans follows:
<TABLE>
<CAPTION>
1995 1994
--------------------------- --------------------------
NUMBER OPTION PRICE NUMBER OPTION PRICE
OF SHARES PER SHARE OF SHARES PER SHARE
---------- ------------- ---------- ------------
<S> <C> <C> <C> <C>
Outstanding at beginning of year......... 23,210,037 $ 9.90-$26.03 22,095,167 $9.90-$26.03
Granted.................................. 4,961,900 $ 6.31-$15.44 3,325,500 $18.88
Exercised................................ (292,715) $10.94 (237,230) $9.90-$20.66
Canceled................................. (1,412,932) $10.94-$26.03 (1,973,400) $9.90-$26.03
---------- ----------
Outstanding at end of year............... 26,466,290 $ 6.31-$26.03 23,210,037 $9.90-$26.03
========== ==========
Exercisable at end of year............... 16,151,681 $17.16-$26.03 15,357,537 $9.90-$23.03
========== ==========
Available for grant at end of year....... 11,436,791 12,072,800
========== ==========
</TABLE>
In October 1995, the Financial Accounting Standards Board issued Financial
Accounting Standard No. 123, "Accounting for Stock-Based Compensation" ("FAS
123") which is effective for fiscal years beginning after December 15, 1995. As
permitted by FAS 123, the Company has elected to continue to account for its
stock-based plans under APB No. 25, "Accounting for Stock Issued to Employees".
19) BUSINESS GROUP INFORMATION
Kmart's consolidated operations consist primarily of the operation of
general merchandise, discount retail stores under the Kmart name in the United
States. Operations also include a chain of home improvement stores operated
under the name Builders Square. The results of operations for PayLess, which was
sold to TPH in the first quarter of 1994, are included as continuing retail
operations in the consolidated financial statements, on a fully consolidated
basis, for 1993. The results of operations for the Borders Group, OfficeMax and
The Sports Authority, for which public offerings were completed in 1995, are
included as discontinued operations. Business group information follows:
<TABLE>
<CAPTION>
INCOME (LOSS)
EQUITY IN NET FROM CONTINUING CAPITAL
OPERATING INCOME OF NET RETAIL OPERATIONS DEPRECIATION EXPENDITURES
INCOME UNCONSOLIDATED INTEREST BEFORE INCOME AND -- OWNED AND
YEAR SALES (LOSS)(A) COMPANIES EXPENSE TAXES(B) AMORTIZATION LEASED(C)
---- ------- --------- -------------- ------- ----------------- ------------ --------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
General
Merchandise:........ 1995 $31,713 $ 83 $ 38 $(434) $(313) $689 $ 547
1994 29,563 528 52 (478) 102 641 1,182
1993 28,038 110 52 (472) (310) 591 936
Builders Square:...... 1995 2,676 (387) -- (12) (399) 40 38
1994 2,951 28 -- (15) 13 39 132
1993 2,719 (166) -- (9) (175) 35 112
Divested Specialty
Retail Business:.... 1993 2,538 88 -- (13) 75 51 --
Total Kmart:.......... 1995 34,389 (304) 38 (446) (712) 729 585
1994 32,514 556 52 (493) 115 680 1,314
1993 33,295 32 52 (494) (410) 677 1,048
</TABLE>
- -------------------------
(a) Operating income (loss) for 1995 includes charges of $162, $370 and $532
related to the adoption of FAS 121 regarding the accounting for impairment
of long-lived assets for General Merchandise, Builders Square and Kmart,
respectively. Operating income (loss) for 1993 includes store restructuring
and other charges of $904, $226 and $1,130 for General Merchandise, Builders
Square and Kmart, respectively. Operating income also includes corporate
expense of $40 and $41 for 1994 and 1993, respectively. Corporate expenses
were not significant in 1995.
(b) Including equity in net income of unconsolidated companies.
(c) Leased asset additions for Kmart were $7, $189 and $177 for 1995, 1994 and
1993, respectively.
F-23
<PAGE> 108
KMART CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
INVESTMENTS IN
AFFILIATED
IDENTIFIABLE RETAIL DISCONTINUED TOTAL
YEAR ASSETS COMPANIES OPERATIONS ASSETS
---- ------------ -------------- ------------ -------
<S> <C> <C> <C> <C> <C>
General Merchandise:........................ 1995 $ 14,283 $ 94 $ 7 $14,384
1994 14,133 108 76 14,317
Builders Square:............................ 1995 1,013 -- -- 1,013
1994 1,211 -- -- 1,211
Divested/Discontinued Specialty
Retail Businesses:........................ 1995 -- -- -- --
1994 -- -- 1,114 1,114
Total Kmart:................................ 1995 15,296 94 7 15,397
1994 15,344 108 1,190 16,642
</TABLE>
F-24
<PAGE> 109
KMART CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
20) QUARTERLY FINANCIAL INFORMATION (UNAUDITED)
Each of the quarters includes 13 weeks, except for the fourth quarter of
1995 which includes 14 weeks. Earnings per share amounts for each quarter are
required to be computed independently and may not equal the amount computed for
the total year.
<TABLE>
<CAPTION>
QUARTER
-------------------------------------
FIRST SECOND THIRD FOURTH
------ ------ ------ -------
<S> <C> <C> <C> <C>
1995
Gross revenue from continuing retail operations.......... $7,443 $8,440 $7,975 $10,531
Cost of merchandise sold................................. $5,788 $6,544 $6,286 $ 8,378
Net income (loss) from continuing retail operations
before extraordinary item............................. $ (25) $ 22 $ (118) $ (369)
Discontinued operations, net of income taxes............. (3) 1 1 1
Gain (loss) on disposal of discontinued operations, net
of income taxes....................................... -- (77) 48 (1)
Extraordinary item, net of income taxes.................. -- -- -- (51)
------ ------ ------ -------
Net loss................................................. $ (28) $ (54) $ (69) $ (420)
====== ====== ====== =======
Earnings (loss) per common share:
Continuing retail operations.......................... $ (.06) $ .05 $ (.26) $ (.80)
Gain (loss) on disposal of discontinued operations.... -- (.17) .11 --
Extraordinary item.................................... -- -- -- (.11)
------ ------ ------ -------
Net loss................................................. $ (.06) $ (.12) $ (.15) $ (.91)
====== ====== ====== =======
Common stock price range (calendar quarters):
High.................................................. $14 3/8 $15 3/8 $16 1/4 $14 1/2
Low................................................... 12 12 5/8 13 5/8 6
Dividends paid per common share (calendar quarters)...... .24 .12 .12 .12
1994
Gross revenue from continuing retail operations.......... $6,913 $7,942 $7,783 $ 9,876
Cost of merchandise sold................................. $5,153 $5,963 $5,883 $ 7,869
Net income (loss) from continuing retail operations...... $ 14 $ 85 $ 21 $ (16)
Discontinued operations, net of income taxes............. 4 9 18 44
Gain on disposal of discontinued operations, net of
income taxes.......................................... -- -- -- 117
------ ------ ------ -------
Net income............................................... $ 18 $ 94 $ 39 $ 145
====== ====== ====== =======
Earnings (loss) per common share:
Continuing retail operations.......................... $ .03 $ .18 $ .04 $ (.04)
Discontinued operations............................... .01 .02 .04 .09
Gain on disposal of discontinued operations........... -- -- -- .26
------ ------ ------ -------
Net income............................................... $ .04 $ .20 $ .08 $ .31
====== ====== ====== =======
Common stock price range (calendar quarters):
High.................................................. $21 1/2 $18 5/8 $18 5/8 $17 3/4
Low................................................... 17 7/8 15 15 3/4 12 3/4
Dividends paid per common share (calendar quarters)...... .24 .24 .24 .24
</TABLE>
F-25
<PAGE> 110
KMART CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
Kmart implemented a new inventory accounting system in 1995 which provides
more precise, detailed departmental information by store. This system results in
a more accurate valuation of inventories and the recording of gross profit
margins during interim periods in a manner consistent with that used to value
inventory at year end. The use of this more precise interim information had no
effect on annual results. However, gross profits reported during each of the
first three quarters of fiscal 1995 were lower than those that would have been
reported using the prior method, with an equivalent positive effect in the
fourth quarter. The new inventory accounting system contributed to approximately
1.3%, 0.2% and 0.5%, as a percentage of sales, of the U.S. Kmart gross margin
decline in the first, second and third quarters of 1995, respectively, and 1.5%,
as a percentage of sales, of the U.S. Kmart gross margin increase in the fourth
quarter of 1995.
The first quarter of 1995 included a $124 pretax net pension curtailment
gain resulting from the decision to replace the defined benefit pension plans
with a profit sharing program. The fourth quarter of 1995 included a pretax
provision of $532 related to the adoption of FAS 121.
The fourth quarters of 1995 and 1994 included LIFO credits of $43 and $57,
respectively. Also, the fourth quarter of 1994 included provisions for inventory
markdowns and shrinkage aggregating $188 and charges totaling $61 for closings
of regional offices and the Kmart Fashions division headquarters, the
cancellation of certain real estate projects and the sale of corporate aircraft.
Previously published quarterly financial data have been restated for
discontinued operations.
In December 1995, the common stock dividend was eliminated.
As of January 31, 1996, there were 94,656 Kmart shareholders of record.
Kmart common stock is listed on the New York, Pacific and Chicago stock
exchanges (trading symbol KM).
F-26
<PAGE> 111
PROSPECTUS
- ----------
KMART CORPORATION
DEBT SECURITIES, PREFERRED STOCK, DEPOSITARY SHARES,
COMMON STOCK AND WARRANTS
------------
KMART FINANCING I
KMART FINANCING II
KMART FINANCING III
KMART FINANCING IV
TRUST PREFERRED SECURITIES
FULLY AND UNCONDITIONALLY GUARANTEED BY
KMART CORPORATION
------------
Kmart Corporation (the "Company") may offer from time to time, together or
separately, (i) its debt securities (the "Debt Securities"), which may be either
senior debt securities (the "Senior Debt Securities") or subordinated debt
securities (the "Subordinated Debt Securities"), consisting of notes, debentures
or other secured or unsecured evidences of indebtedness in one or more series,
(ii) shares of its preferred stock, no par value (the "Preferred Stock"), which
may be issued in the form of depositary shares evidenced by depositary receipts
(the "Depositary Shares"), (iii) shares of its common stock, par value $1.00 per
share (the "Common Stock"), and (iv) warrants to purchase Debt Securities,
Preferred Stock, Depositary Shares, or Common Stock or any combination thereof,
as shall be designated by the Company at the time of the offering (the
"Warrants") in amounts, at prices and on terms to be determined at the time of
the offering.
Kmart Financing I, Kmart Financing II, Kmart Financing III and Kmart
Financing IV (each, a "Kmart Trust"), each a statutory business trust formed
under the laws of the State of Delaware, may offer, from time to time, preferred
securities, representing undivided beneficial interests in the assets of the
respective Kmart Trust ("Trust Preferred Securities"). The payment of periodic
cash distributions ("distributions") with respect to Trust Preferred Securities
of each of the Kmart Trusts out of moneys held by each of the Kmart Trusts, and
payment on liquidation, redemption or otherwise with respect to such Trust
Preferred Securities, will be guaranteed by the Company to the extent described
herein (each a "Trust Preferred Securities Guarantee"). See "Description of
Trust Preferred Securities Guarantees." The Company's obligations under the
Trust Preferred Securities Guarantees will be subordinate and junior in right of
payment to all other liabilities of the Company and rank pari passu with the
most senior preferred stock, if any, issued from time to time by the Company.
Subordinated Debt Securities may be issued and sold from time to time in one or
more series to a Kmart Trust, or a trustee of such Kmart Trust, in connection
with the investment of the proceeds from the offering of Trust Preferred
Securities and Trust Common Securities (as defined herein, together the "Trust
Securities") of such Kmart Trust. The Subordinated Debt Securities purchased by
a Kmart Trust may be subsequently distributed pro rata to holders of Trust
Preferred Securities and Trust Common Securities in connection with the
dissolution of such Kmart Trust upon the occurrence of certain events as may be
described in an accompanying Prospectus Supplement. The Trust Preferred
Securities Guarantees, when taken together with the Company's obligations under
the Subordinated Debt Securities, the Indenture related thereto and the
Declaration of Trust, including its obligations to pay costs, expenses, debts
and liabilities of the
(continued on next page)
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE
ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE
CONTRARY IS A CRIMINAL OFFENSE.
------------------------
The date of this Prospectus is April 9, 1996
<PAGE> 112
(continued from previous page)
Kmart Trusts (other than with respect to the Trust Securities), will provide a
full and unconditional guarantee on a subordinated basis by the Company of
payments due on the Trust Preferred Securities. The Debt Securities, Preferred
Stock, Depositary Shares, Common Stock, Warrants and the Trust Preferred
Securities and the related Trust Preferred Securities Guarantees are
collectively called the "Securities."
The Securities may be offered as separate series or issuances at an
aggregate initial public offering price not to exceed $1,350,000,000
($1,150,000,000 in the case of the Trust Preferred Securities) or, if
applicable, the equivalent thereof in one or more foreign currencies, currency
units, composite currencies or in amounts determined by reference to an index as
shall be designated by the Company, in amounts, at prices and on terms to be
determined in light of market conditions at the time of sale and set forth in
the applicable Prospectus Supplement. The Prospectus Supplement relating to any
series of Securities will contain information concerning United States federal
income tax considerations, if applicable.
Unless otherwise specified in a Prospectus Supplement, the Senior Debt
Securities, when issued, will be unsecured and will rank on a parity with all
other unsecured and unsubordinated indebtedness of the Company. The Subordinated
Debt Securities, when issued, will be subordinated in right of payment to all
Senior Debt (as hereinafter defined) of the Company. If the Debt Securities are
secured, the security, which may consist of real estate properties or other
assets owned by the Company, and any related mortgage will be described in the
Prospectus Supplement.
Certain specific terms of the particular Securities in respect of which
this Prospectus is being delivered will be set forth in the applicable
Prospectus Supplement, including, where applicable, (i) in the case of Debt
Securities, the title, aggregate principal amount, denominations, maturity,
subordination terms, if any, any interest rate (which may be fixed or variable)
and time of payment of any interest, the right of the Company, if any, to defer
payment of interest on the Debt Securities and the maximum length of such
deferral period, any terms for redemption at the option of the Company or the
holder, any terms for sinking fund payments, any terms for conversion or
exchange into other Securities, currency or currencies of denomination and
payment, if other than U.S. dollars, any security applicable to Debt Securities
which are secured, any listing on a securities exchange and any other terms in
connection with the offering and sale of the Debt Securities in respect of which
this Prospectus is delivered, as well as the initial public offering price; (ii)
in the case of Trust Preferred Securities, the designation and number,
liquidation preference per Trust Preferred Security, initial public offering
price, any listing on a securities exchange, distribution rate (or method of
calculation thereof), dates on which distributions shall be payable and dates
from which distributions shall accrue, any voting rights, terms for any
conversion or exchange into other Securities, any redemption, exchange or
sinking fund provisions, any other rights, preferences, privileges, limitations
or restrictions relating to the Trust Preferred Securities and the terms upon
which the proceeds of the sale of the Trust Preferred Securities shall be used
to purchase a specific series of Subordinated Debt Securities of the Company;
(iii) in the case of Preferred Stock and Depositary Shares, the specific title,
the aggregate amount, any dividend (including the method of calculating payment
of dividends), seniority, liquidation, redemption, voting and other rights, any
terms for any conversion or exchange into other Securities, any listing on a
securities exchange, the initial public offering price and any other terms; (iv)
in the case of Common Stock, the number of shares of Common Stock and the terms
of offering thereof; and (v) in the case of Warrants, the designation and
number, the exercise price, any listing of the Warrants or the underlying
Securities on a securities exchange and any other terms in connection with the
offering, sale and exercise of the Warrants.
The Company's Common Stock is listed on the New York Stock Exchange, the
Chicago Stock Exchange and the Pacific Stock Exchange under the trading symbol
"KM." Any Common Stock sold pursuant to a Prospectus Supplement will be listed
on such exchange, subject to official notice of issuance.
The Company and/or each of the Kmart Trusts may sell the Securities
directly, through agents, underwriters or dealers as designated from time to
time, or through a combination of such methods. See "Plan of Distribution." If
agents of the Company and/or any Kmart Trust or any dealers or underwriters are
involved in the sale of the Securities in respect of which this Prospectus is
being delivered, the names of such agents, dealers or underwriters and any
applicable commissions or discounts will be set forth in or may be calculated
from the Prospectus Supplement with respect to such Securities. The net proceeds
to the Company from such sale also will be set forth in the applicable
Prospectus Supplement.
This Prospectus may not be used to consummate sales of securities unless
accompanied by a Prospectus Supplement.
2
<PAGE> 113
NO PERSON HAS BEEN AUTHORIZED TO GIVE ANY INFORMATION OR TO MAKE ANY
REPRESENTATIONS OTHER THAN THOSE CONTAINED IN THIS PROSPECTUS, ANY ACCOMPANYING
PROSPECTUS SUPPLEMENT OR THE DOCUMENTS INCORPORATED OR DEEMED INCORPORATED BY
REFERENCE HEREIN, AND ANY INFORMATION OR REPRESENTATIONS NOT CONTAINED HEREIN OR
THEREIN MUST NOT BE RELIED UPON AS HAVING BEEN AUTHORIZED BY THE COMPANY OR BY
ANY AGENT, DEALER OR UNDERWRITER. THIS PROSPECTUS AND ANY ACCOMPANYING
PROSPECTUS SUPPLEMENT DO NOT CONSTITUTE AN OFFER TO SELL OR A SOLICITATION OF AN
OFFER TO BUY THE SECURITIES IN ANY CIRCUMSTANCES IN WHICH SUCH OFFER OR
SOLICITATION IS UNLAWFUL. THE DELIVERY OF THIS PROSPECTUS OR ANY PROSPECTUS
SUPPLEMENT AT ANY TIME DOES NOT IMPLY THAT THE INFORMATION HEREIN OR THEREIN IS
CORRECT AS OF ANY TIME SUBSEQUENT TO THE DATE OF SUCH INFORMATION.
AVAILABLE INFORMATION
This Prospectus constitutes part of a combined Registration Statement on
Form S-3 (together with all amendments and exhibits thereto, the "Registration
Statement") filed by the Company and the Kmart Trusts with the Securities and
Exchange Commission (the "Commission") under the Securities Act of 1933, as
amended (the "Securities Act"), with respect to the Securities offered hereby.
This Prospectus and any accompanying Prospectus Supplement do not contain all
information set forth in the Registration Statement, certain parts of which are
omitted in accordance with the rules and regulations of the Commission.
Reference is made to the Registration Statement and to the exhibits relating
thereto for further information with respect to the Company, the Kmart Trusts
and the Securities offered hereby.
The Company is subject to the informational requirements of the Securities
Exchange Act of 1934 (the "Exchange Act") and in accordance therewith files
reports and other information with the Commission. Such reports, proxy
statements, and other information filed by the Company can be inspected and
copied at the public reference facilities of the Commission at Room 1024,
Judiciary Plaza, 450 Fifth Street, N.W., Washington, D.C. 20549, and at the
following Regional Offices of the Commission: 7 World Trade Center, 13th Floor,
New York, New York 10048; and Citicorp Center, 500 West Madison Street, Suite
1400, Chicago, Illinois 60661-2511. Copies of such material can be obtained from
the Public Reference Section of the Commission, 450 Fifth Street, N.W.,
Washington, D.C. 20549, at prescribed rates. The Company's Common Stock is
listed on the New York Stock Exchange, the Chicago Stock Exchange and the
Pacific Stock Exchange. Reports, proxy statements and other information
concerning the Company can be inspected and copied at the offices of The New
York Stock Exchange, Inc. ("New York Stock Exchange"), 20 Broad Street, New
York, New York 10005 and at the Pacific Stock Exchange, 301 Pine Street, San
Francisco, California 94104.
No separate financial statements of any of the Kmart Trusts have been
included herein. The Company does not consider that such financial statements
would be material to holders of the Trust Preferred Securities because (i) all
of the voting securities of each of the Kmart Trusts will be owned, directly or
indirectly, by the Company, a reporting company under the Exchange Act, (ii)
each of the Kmart Trusts has no independent operations but exists for the sole
purpose of issuing securities representing undivided beneficial interests in the
assets of such Kmart Trust and investing the proceeds thereof in Subordinated
Debt Securities issued by the Company, and (iii) the Company's obligations
described herein and in any accompanying Prospectus Supplement under the
Declarations of each Trust, the guarantee issued with respect to Trust Preferred
Securities issued by that Trust, the Subordinated Debt Securities purchased by
that Trust and the related Indenture, taken together, constitute a full and
unconditional guarantee of payments due on the Trust Preferred Securities. See
"Description of Debt Securities" and "Description of Trust Preferred Securities
Guarantees."
The Kmart Trusts are not currently subject to the information reporting
requirements of the Exchange Act. The Kmart Trusts will become subject to such
requirements upon the effectiveness of the Registration Statement, although they
intend to seek and expect to receive exemptions therefrom.
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INCORPORATION OF CERTAIN DOCUMENTS BY REFERENCE
The following documents filed by the Company with the Commission pursuant
to the Exchange Act (File No. 1-327) are incorporated herein by reference:
(1) Annual Report on Form 10-K for the fiscal year ended January 31, 1996;
(2) Current Report on Form 8-K filed on March 12, 1996; and
(3) Current Report on Form 8-K filed on March 21, 1996.
All documents filed by the Company with the Commission pursuant to Section
13(a), 13(c), 14 or 15(d) of the Exchange Act subsequent to the date of this
Prospectus and prior to the filing of a post-effective amendment which indicates
the termination of the offering of the Securities made by this Prospectus shall
be deemed to be incorporated by reference in this Prospectus and to be a part of
this Prospectus from the date of filing of such documents. Any statement
contained in a document, all or a portion of which is incorporated or deemed to
be incorporated by reference herein, or contained in this Prospectus, shall be
deemed to be modified or superseded for purposes of this Prospectus to the
extent that a statement contained herein or in any subsequently filed document
which also is or is deemed to be incorporated by reference herein modifies or
supersedes such statement. Any such statement so modified or superseded shall
not be deemed, except as so modified or superseded, to constitute a part of this
Prospectus.
The Company will provide without charge to each person, including any
beneficial owner, to whom a copy of this Prospectus is delivered, upon the
written or oral request of such person, a copy of any and all of the documents
referred to above which have been or may be incorporated by reference in this
Prospectus (without exhibits to such documents other than exhibits specifically
incorporated by reference into such documents). Such written or oral request
should be directed to the Corporate Reporting Department, Kmart Corporation,
3100 West Big Beaver Road, Troy, Michigan 48084 (telephone number (810)
643-1093).
THE COMPANY
The Company is one of the world's largest mass merchandise retailers. The
dominant portion of the Company's business consists of the operation of a chain
of more than 2,100 Kmart discount stores with locations in each of the 50 United
States, Puerto Rico, the U.S. Virgin Islands, Guam and Canada. In addition, the
Company has joint venture operations in Mexico and Singapore. The Company also
holds significant equity interests in substantially all of the Meldisco
subsidiaries of Melville Corporation, which operate the footwear departments in
Kmart stores in the United States, and in Thrifty PayLess Holdings Inc. The
Company also owns and operates Builders Square, Inc., a home improvement and
home decor superstore retailer.
The Company was incorporated under the laws of the State of Michigan on
March 9, 1916. The principal executive offices of the Company are located at
3100 West Big Beaver Road, Troy, Michigan 48084, and its telephone number is
(810) 643-1000.
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THE TRUSTS
Each of Kmart Financing I, Kmart Financing II, Kmart Financing III and
Kmart Financing IV is a statutory business trust formed under Delaware law
pursuant to (i) a separate declaration of trust (each a "Declaration") executed
by the Company, as sponsor for such trust (the "Sponsor") and the Kmart Trustees
(as defined herein) for such trust and (ii) the filing of a certificate of trust
with the Delaware Secretary of State on February 16, 1996. Each Kmart Trust
exists for the exclusive purposes of (i) issuing the Trust Preferred Securities
and common securities representing undivided beneficial interests in the assets
of such Trust (the "Trust Common Securities" and, together with the Trust
Preferred Securities, the "Trust Securities"), (ii) investing the gross proceeds
of the Trust Securities in a specific series of Subordinated Debt Securities and
(iii) engaging in only those other activities necessary or incidental thereto.
All of the Trust Common Securities will be directly or indirectly owned by the
Company. The Trust Common Securities will rank pari passu, and payments will be
made thereon pro rata, with the Trust Preferred Securities except that upon an
event of default under the Declaration, the rights of the holders of the Trust
Common Securities to payment in respect of distributions and payments upon
liquidation, redemption and otherwise will be subordinated to the rights of the
holders of the Trust Preferred Securities. The Company will, directly or
indirectly, acquire Trust Common Securities in an aggregate liquidation amount
equal to 3% of the total capital of each Kmart Trust. Each Kmart Trust has a
term of approximately 55 years, but may earlier terminate as provided in the
Declaration. Each Kmart Trust's business and affairs will be conducted by the
trustees (the "Kmart Trustees") appointed by the Company, as the direct or
indirect holder of all the Trust Common Securities. The holder of the Trust
Common Securities will be entitled to appoint, remove or replace any of, or
increase or reduce the number of, the Kmart Trustees of a Kmart Trust. The
duties and obligations of the Kmart Trustees shall be governed by the
Declaration of such Kmart Trust. A majority of the Kmart Trustees (the "Regular
Trustees") of each Kmart Trust will be persons who are employees or officers of
or affiliated with the Company. One Kmart Trustee of each Kmart Trust will be a
financial institution which will be unaffiliated with the Company and which
shall act as property trustee and as indenture trustee for purposes of the Trust
Indenture Act of 1939 (the "Trust Indenture Act"), pursuant to the terms set
forth in a Prospectus Supplement (the "Property Trustee"). In addition, unless
the Property Trustee maintains a principal place of business in the State of
Delaware, and otherwise meets the requirements of applicable law, one Kmart
Trustee of each Kmart Trust will have its principal place of business or reside
in the State of Delaware (the "Delaware Trustee"). The Company will pay all fees
and expenses related to the Kmart Trusts and the offering of Trust Securities,
the payment of which will be guaranteed by the Company. The office of the
Delaware Trustee for each Kmart Trust in the State of Delaware is The Bank of
New York (Delaware), White Clay Center, Route 273, Newark, Delaware 19711. The
principal place of business of each Kmart Trust shall be c/o Kmart Corporation,
3100 West Big Beaver Road, Troy, Michigan 48084.
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<PAGE> 116
RATIOS OF EARNINGS TO FIXED CHARGES AND OF EARNINGS
TO COMBINED FIXED CHARGES AND PREFERRED STOCK
DIVIDENDS (UNAUDITED)
<TABLE>
<CAPTION>
FISCAL YEAR ENDED
-------------------------------------------------------------------
JANUARY 31, JANUARY 25, JANUARY 26, JANUARY 27, JANUARY 29,
1996 1995 1994 1993 1992
----------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C>
Ratio of earnings to fixed charges........ --(a) 1.2 --(b) 3.0 3.0
Ratio of earnings to combined fixed
charges and preferred stock dividends... --(a) 1.1 --(b) 2.5 2.7
</TABLE>
In computing the ratios, earnings consist of pre-tax income from continuing
retail operations before extraordinary item and the effect of accounting
changes, less undistributed equity income of unconsolidated affiliated retail
companies, plus fixed charges (excluding capitalized interest). Fixed charges
represent total interest charges, a portion of operating rentals representative
of the interest factor, and amortization of debt discount and expense. Certain
prior year amounts have been restated for the effect of discontinued operations.
- -------------------------
(a) The deficiency of earnings from continuing retail operations versus fixed
charges was $733 million for the fiscal year ended January 31, 1996. The
deficiency of earnings from continuing retail operations versus combined
fixed charges and preferred dividends was $739 million for the fiscal year
ended January 31, 1996.
(b) The deficiency of earnings from continuing retail operations versus fixed
charges was $426 million for the fiscal year ended January 26, 1994.
Excluding the pre-tax provision of $1,130 million for store restructuring
and other charges, the ratio of earnings to fixed charges was 2.0 for the
fiscal year ended January 26, 1994. The deficiency of earnings from
continuing retail operations versus combined fixed charges and preferred
dividends was $514 million for the fiscal year ended January 26, 1994.
USE OF PROCEEDS
Unless otherwise specified in the attached Prospectus Supplement, the
Company will apply the net proceeds from the sale of its Securities to general
corporate purposes. The Kmart Trusts will invest all proceeds received from the
sale of its Trust Securities in a particular series of Subordinated Debt
Securities.
DESCRIPTION OF DEBT SECURITIES
The following description sets forth certain general terms and provisions
of the Debt Securities to which any Prospectus Supplement may relate. The
particular terms of the Debt Securities offered by any Prospectus Supplement and
the extent, if any, to which such general provisions may not apply to the Debt
Securities so offered will be described in the Prospectus Supplement relating to
such Debt Securities.
The Senior Debt Securities will be issued under an Indenture (the "Senior
Indenture"), to be entered into between the Company and the trustee named in the
Indenture. The Subordinated Debt Securities will be issued under a separate
Indenture, as supplemented by one or more supplemental indentures (as so
supplemented, the "Subordinated Indenture"), to be entered into between the
Company and The Bank of New York, as trustee. The Senior Indenture and the
Subordinated Indenture are sometimes referred to collectively as the
"Indentures." Copies of the forms of the Senior Indenture and the Subordinated
Indenture have been filed as exhibits to the Registration Statement. The
trustees under the Senior Indenture and under the Subordinated Indenture are
referred to herein as the "Debt Trustees."
The following summaries of certain material provisions of the Senior Debt
Securities, the Subordinated Debt Securities and the Indentures are subject to,
and qualified in their entirety by reference to, all the provisions of the
Indenture applicable to a particular series of Debt Securities, including the
definitions therein of certain terms. Wherever particular Sections, Articles or
defined terms of the Indentures are referred to herein or in a Prospectus
Supplement, it is intended that such Sections, Articles or defined terms shall
be
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<PAGE> 117
incorporated by reference herein or therein, as the case may be. Section and
Article references used herein are references to the applicable Indenture.
Except as otherwise indicated, the terms of the Senior Indenture and the
Subordinated Indenture are identical. Capitalized terms not otherwise defined
herein shall have the meanings given to them in the applicable Indenture.
GENERAL
The Indentures will not limit the aggregate principal amount of Debt
Securities which may be issued thereunder, and each Indenture provides that Debt
Securities may be issued thereunder from time to time in one or more series up
to the aggregate amount from time to time authorized by the Company for each
series. (Section 3.1) Unless otherwise specified in the Prospectus Supplement,
the Senior Debt Securities when issued will be unsecured and unsubordinated
obligations of the Company and will rank equally and ratably with all other
unsecured and unsubordinated indebtedness of the Company. Unless otherwise
specified in the Prospectus Supplement, the Subordinated Debt Securities when
issued will be unsecured obligations of the Company, subordinated in right of
payment to the prior payment in full of all Senior Debt (as defined in the
Subordinated Indenture) of the Company as described in the applicable Prospectus
Supplement. (Section 15.1 of the Subordinated Indenture) If the Debt Securities
are secured, the security, which may consist of real estate properties or other
assets owned by the Company, and any related mortgage will be described in the
Prospectus Supplement.
In the event Subordinated Debt Securities are issued to a Kmart Trust or a
trustee of such trust in connection with the issuance of Trust Securities by
such Kmart Trust, such Subordinated Debt Securities subsequently may be
distributed pro rata to the holders of such Trust Securities in connection with
the dissolution of such Kmart Trust upon the occurrence of certain events
described in the Prospectus Supplement relating to such Trust Securities. Only
one series of Subordinated Debt Securities will be issued to a Kmart Trust or a
trustee of such trust in connection with the issuance of Trust Securities by
such Kmart Trust.
Reference is made to the Prospectus Supplement relating to the particular
series of Debt Securities offered thereby for a description of the following
terms or additional provisions of the Debt Securities: (1) the title of the Debt
Securities; (2) whether the Debt Securities are Senior Debt Securities or
Subordinated Debt Securities and the terms of subordination; (3) any limit on
the aggregate principal amount of the Debt Securities; (4) whether the Debt
Securities are to be issuable as Registered Securities or Bearer Securities or
both, whether any of the Debt Securities shall be issuable in whole or in part
in temporary or permanent global form or in the form of Book-Entry Securities
and, if so, the circumstances under which any such global securities or
Book-Entry Securities may be exchanged for Debt Securities registered in the
name of, and any transfer of such global or Book-Entry Securities may be
registered to, a Person other than the depository for such temporary or
permanent global securities or Book-Entry Securities or its nominee; (5) the
price or prices (expressed as a percentage of the aggregate principal amount
thereof) at which the Debt Securities will be issued; (6) the date or dates on
which the Debt Securities will mature and the right, if any, to extend such date
or dates; (7) the rate or rates per annum at which the Debt Securities will bear
interest, if any, and the date from which any such interest will accrue; (8) the
Interest Payment Dates on which any such interest on the Debt Securities will be
payable, the Regular Record Date for any interest payable on any Debt Securities
which are Registered Securities on any Interest Payment Date and the extent to
which, or the manner in which, any interest payable on a temporary global
Security on an Interest Payment Date will be paid; (9) the right, if any, to
extend the interest payment periods and the duration of such extension; (10) any
mandatory or optional sinking fund or analogous provisions; (11) each office or
agency where, subject to the terms of the applicable Indenture as described
below under "Payment and Paying Agents," the principal of and any premium and
interest on the Debt Securities will be payable and each office or agency where,
subject to the terms of the applicable Indenture as described below under "Form,
Exchange, Registration and Transfer," the Debt Securities may be presented for
registration of transfer or exchange; (12) the date, if any, after which and the
price or prices at which the Debt Securities may, pursuant to any optional or
mandatory redemption provisions, be redeemed, in whole or in part, and the other
detailed terms and provisions of any such optional or mandatory redemption
provisions, which may include with respect to a particular series or particular
Debt
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<PAGE> 118
Securities within a series, a redemption option of Holders upon certain
conditions, as defined in the applicable Indenture; (13) the denominations in
which any Debt Securities which are Registered Securities will be issuable, if
other than denominations of $1,000 and any integral multiple thereof, and the
denomination or denominations in which any Debt Securities which are Bearer
Securities will be issuable, if other than the denomination of $5,000; (14) the
currency or currency units of payment of the principal of (and premium, if any)
and interest on the Debt Securities; (15) any index used to determine the amount
of payments of the principal of (and premium, if any) and interest on the Debt
Securities and the manner in which such amounts shall be determined; (16) the
terms and conditions, if any, pursuant to which such Debt Securities are
convertible or exchangeable into a security or securities of the Company; (17)
the terms pursuant to which such Debt Securities are subject to defeasance; (18)
the terms and conditions, if any, pursuant to which such Debt Securities are
secured; and (19) any other terms of the Debt Securities not inconsistent with
the provisions of the applicable Indenture. Any such Prospectus Supplement will
also describe any special provisions for the payment of additional amounts with
respect to the Debt Securities. Debt Securities may also be issued under the
Indenture upon the exercise of Warrants. See "Description of Warrants."
Debt Securities may be issued as Original Issue Discount Securities. An
Original Issue Discount Security is a Debt Security, including any Zero-Coupon
Security, which is issued at a price lower than the amount payable upon the
Stated Maturity thereof and which provides that upon redemption or acceleration
of the maturity, an amount less than the amount payable upon the Stated
Maturity, determined in accordance with the terms of such Debt Security, shall
become due and payable. (Sections 3.1 and 5.2) Certain special United States
federal income tax considerations applicable to Debt Securities sold at an
original issue discount will be described in the Prospectus Supplement relating
thereto. In addition, certain special United States federal income tax or other
considerations applicable to any Debt Securities which are denominated in a
currency or currency unit other than United States dollars may be described in
the applicable Prospectus Supplement relating thereto.
Under the Indentures, the Company will have the ability, in addition to the
ability to issue Debt Securities with terms different from those of Debt
Securities previously issued, without the consent of the holders, to reopen a
previous issue of a series of Debt Securities and issue additional Debt
Securities of such series (unless such reopening was restricted when such series
was created), in an aggregate principal amount determined by the Company.
(Section 3.1)
FORM, EXCHANGE, REGISTRATION AND TRANSFER
Debt Securities of a series may be issuable in definitive form solely as
Registered Securities, solely as Bearer Securities or as both Registered
Securities and Bearer Securities. (Section 3.1) Unless otherwise indicated in an
applicable Prospectus Supplement, Bearer Securities will have interest coupons
attached. (Section 2.1) The Indentures also will provide that Debt Securities of
a series may be issuable in temporary or permanent global form and may be issued
as Book-Entry Securities that will be deposited with, or on behalf of, The
Depository Trust Company (the "Depository") or another depository named by the
Company and identified in a Prospectus Supplement with respect to such series.
See "Global and Book-Entry Debt Securities."
In connection with its original issuance, no Bearer Security (including a
Debt Security exchangeable for a Bearer Security or a Debt Security in global
form that is either a Bearer Security or exchangeable for Bearer Securities)
shall be mailed or otherwise delivered to any location in the United States (as
defined under "Limitations on Issuance of Bearer Securities") and a Bearer
Security may be delivered in connection with its original issuance only if the
Person entitled to receive such Bearer Security furnishes written certification
of the beneficial ownership of the Bearer Security as required by Treasury
Regulation Section 1.163-5(c)(2)(i)(D)(3) (or any comparable successor
provisions). In the case of a Bearer Security in permanent global form, such
certification must be given in connection with notation of a beneficial owner's
interest therein in connection with the original issuance of such Debt Security.
See "Global and Book-Entry Debt Securities" and "Limitations on Issuance of
Bearer Securities."
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Registered Securities of any series will be exchangeable for other
Registered Securities of the same series of any authorized denominations and of
a like aggregate principal amount and tenor. In addition, if Debt Securities of
any series are issuable as both Registered Securities and Bearer Securities, at
the option of the Holder upon request confirmed in writing, and subject to the
terms of the applicable Indenture, Bearer Securities (with all unmatured
coupons, except as provided below, and all matured coupons in default) of such
series will be exchangeable into Registered Securities of the same series of any
authorized denominations and of a like aggregate principal amount and tenor.
Bearer Securities surrendered in exchange for Registered Securities between a
Regular Record Date or a Special Record Date and the relevant date for payment
of interest shall be surrendered without the coupon relating to such date for
payment of interest and interest accrued as of such date will not be payable in
respect of the Registered Security issued in exchange for such Bearer Security,
but will be payable only to the Holder of such coupon when due in accordance
with the terms of the applicable Indenture. Registered Securities will not be
issued in exchange for Bearer Securities (Section 3.5). Each Bearer Security,
and any coupon attached thereto, other than a temporary global Bearer Security
will bear the following legend: "Any United States person who holds this
obligation will be subject to limitations under the United States income tax
laws, including the limitations provided in Sections 165(j) and 1287(a) of the
United States Internal Revenue Code." A Book-Entry Security may not be
registered for transfer or exchange (other than as a whole by the Depository to
a nominee or by such nominee to such Depository) unless the Depository or such
nominee notifies the Company that it is unwilling or unable to continue as
Depository or the Depository ceases to be qualified as required by the
applicable Indenture or the Company instructs the Trustee in accordance with the
applicable Indenture that such Book-Entry Securities shall be so registrable and
exchangeable or there shall have occurred and be continuing an Event of Default
or an event which after notice or lapse of time would be an Event of Default
with respect to the Debt Securities evidenced by such Book-Entry Securities or
there shall exist such other circumstances if any, as may be specified in the
applicable Prospectus Supplement.
Debt Securities may be presented for exchange as provided above, and
Registered Securities may be presented or surrendered for registration of
transfer or for exchange (with the form of transfer endorsed thereon duly
executed), at the office of the Security Registrar or at the office of any
transfer agent designated by the Company for such purpose with respect to any
series of Debt Securities and referred to in an applicable Prospectus
Supplement, without service charge and upon payment of any taxes and other
governmental charges as described in the applicable Indenture. Such transfer or
exchange will be effected upon the Security Registrar or such transfer agent, as
the case may be, being satisfied with the documents of title and identity of the
person making the request. If a Prospectus Supplement refers to any transfer
agents (in addition to the Security Registrar) initially designated by the
Company with respect to any series of Debt Securities, the Company may at any
time rescind the designation of any such transfer agent or approve a change in
the location through which any such transfer agent acts, except that, if Debt
Securities of a series are issuable solely as Registered Securities, the Company
will be required to maintain a transfer agent in each Place of Payment for such
series and, if Debt Securities of a series are issuable as Bearer Securities,
the Company will be required to maintain (in addition to the Security Registrar)
a transfer agent in a Place of Payment for such series located outside the
United States. The Company may at any time designate additional transfer agents
with respect to any series of Debt Securities. (Section 10.2)
In the event of any redemption in part, the Company shall not be required
to (i) issue, register the transfer of or exchange Debt Securities of any series
during a period beginning at the opening of business 15 days before any
selection of Debt Securities of that series to be redeemed and ending at the
close of business on (A) if Debt Securities of the series are issuable only as
Registered Securities, the day of mailing of the relevant notice of redemption
and (B) if Debt Securities of the series are issuable as Bearer Securities, the
day of the first publication of the relevant notice of redemption or, if Debt
Securities of the series are also issuable as Registered Securities and there is
no publication, the mailing of the relevant notice of redemption; (ii) register
the transfer of or exchange any Registered Security being redeemed in part,
except the unredeemed portion of any Registered Security being redeemed in part;
or (iii) exchange any Bearer Security so selected for redemption, except that
such Bearer Security may be exchanged for a Registered Security of that series
and like tenor, provided that such Registered Security shall be simultaneously
surrendered for redemption. (Section 3.5)
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PAYMENT AND PAYING AGENTS
Unless otherwise indicated in an applicable Prospectus Supplement, payment
of the principal of (and premium, if any) and interest on Bearer Securities will
be made, subject to any applicable laws and regulations, at the offices of such
Paying Agents outside the United States as the Company may designate from time
to time, at the option of the Holder, by check or by transfer to an account
maintained by the payee with a bank located outside the United States. Unless
otherwise indicated in an applicable Prospectus Supplement, payment of interest
on Bearer Securities on any Interest Payment Date will be made only against
surrender to the Paying Agent of such coupon relating to such Interest Payment
Date. (Section 10.1) No payment with respect to any Bearer Security will be made
at any office or agency of the Company in the United States or by check mailed
to any address in the United States or by transfer to an account maintained with
a bank located in the United States. Notwithstanding the foregoing, payments of
the principal of (and premium, if any) and interest on Bearer Securities
denominated and payable in U.S. dollars will be made at the office of the
Company's Paying Agent in the Borough of Manhattan, The City of New York, if
(but only if) payment of the full amount thereof in U.S. dollars at all offices
or agencies outside the United States is illegal or effectively precluded by
exchange controls or other similar restrictions. (Section 10.2)
Unless otherwise indicated in an applicable Prospectus Supplement, payment
of the principal of (and premium, if any) and interest on Registered Securities
will be made at the office of such Paying Agent or Paying Agents as the Company
may designate from time to time, except that at the option of the Company
payment of any interest may be made by check mailed to the address of the person
entitled thereto as such address shall appear in the Security Register. Unless
otherwise indicated in an applicable Prospectus Supplement, payment of any
installment of interest on Registered Securities will be made to the Person in
whose name such Registered Security is registered at the close of business on
the Regular Record Date for such interest. (Section 3.7)
Unless otherwise indicated in an applicable Prospectus Supplement, the
Corporate Trust Office of the Debt Trustee in The City of New York will be
designated as a Paying Agent for the Company for payments with respect to Debt
Securities which are issuable solely as Registered Securities and the Company
will maintain a Paying Agent outside of the United States for payments with
respect to Debt Securities (subject to the limitations described above in the
case of Bearer Securities) which are issuable solely as Bearer Securities or
both Registered Securities and Bearer Securities. (Section 10.2) Any Paying
Agents outside the United States and any other Paying Agent in the United States
initially designated by the Company for the Debt Securities will be named in an
applicable Prospectus Supplement. The Company may at any time designate
additional Paying Agents or rescind the designation of any Paying Agent or
approve a change in the office through which any Paying Agent acts, except that,
if Debt Securities of a series are issuable solely as Registered Securities, the
Company will be required to maintain a Paying Agent in each Place of Payment for
such series and, if Debt Securities of a series are issuable as Bearer
Securities, the Company will be required to maintain (i) a Paying Agent in the
Borough of Manhattan, The City of New York for payments with respect to any
Registered Securities of the series (and for payments with respect to Bearer
Securities of the series in the circumstances described above, but not
otherwise), and (ii) a Paying Agent in a Place of Payment located outside the
United States where Debt Securities of such series and any coupons appertaining
thereto may be presented and surrendered for payment; provided that if the Debt
Securities of such series are listed on The Stock Exchange of the United Kingdom
and the Republic of Ireland or the Luxembourg Stock Exchange or any other stock
exchange located outside the United States and such stock exchange shall so
require, the Company will maintain a Paying Agent in London or Luxembourg or any
other required city located outside the United States, as the case may be, for
the Debt Securities of such series. (Section 10.2)
Payments of the principal of (and premium, if any) and interest on
Book-Entry Securities registered in the name of any Depository or its nominee
will be made to the Depository or its nominee, as the case may be, as the
registered owner of the global security representing such Book-Entry Securities.
The Company expects that the Depository, upon receipt of any payment of the
principal of (and premium, if any) or interest, will credit immediately
participants' accounts with payments in amounts proportionate to their
respective beneficial interests as shown on the records of such Depository or
its nominee. Neither the Company, the Debt Trustee, any Paying Agent nor the
Securities Registrar for such Debt Securities will have any responsibility or
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liability for any aspects of the records relating to, or payments made on
account of, such beneficial ownership interests in the Book-Entry Securities or
for maintaining, supervising or reviewing any records relating to such
beneficial ownership interests.
All moneys paid by the Company to a Paying Agent for the payment of the
principal of (and premium, if any) or interest on any Debt Securities which
remain unclaimed at the end of two years after such principal, premium or
interest shall have become due and payable will be repaid to the Company and the
Holder of such Debt Security or any coupon will thereafter, as an unsecured
general creditor, look only to the Company for payment thereof. (Section 10.3)
GLOBAL AND BOOK-ENTRY DEBT SECURITIES
If so specified in an applicable Prospectus Supplement, the portion of the
Debt Securities of a series which are issuable as Bearer Securities will
initially be represented by one or more temporary or permanent global Debt
Securities, without interest coupons, to be deposited with a common depositary
in London for the benefit of Euro-clear System ("Euro-clear") and Cedel Bank,
Societe Anonyme ("Cedel") for credit to the respective accounts of the
beneficial owners of such Debt Securities (or to such other accounts as they may
direct). (Section 3.4) Unless otherwise indicated by an applicable Prospectus
Supplement, on or after 40 days following its issuance, each such temporary
global Debt Security will be exchangeable for definitive Bearer Securities,
definitive Registered Securities or all or a portion of a permanent global Debt
Security, or any combination thereof, as specified in an applicable Prospectus
Supplement, only upon written certification in the form and to the effect
described under "Form, Exchange, Registration and Transfer." No Bearer Security
(including a Debt Security in permanent global form) delivered in exchange for a
portion of a temporary or permanent global Debt Security shall be mailed or
otherwise delivered to any location in the United States in connection with such
exchange. (Section 3.5)
A person having a beneficial interest in a permanent global Debt Security
will, except with respect to payment of the principal of (and premium, if any)
and interest on such permanent global Debt Security, be treated as a Holder of
such principal amount of Outstanding Debt Securities represented by such
permanent global Debt Security as shall be specified in a written statement of
the Holder of such permanent global Debt Security or, in the case of a permanent
global Debt Security in bearer form, of the operator of Euro-clear or Cedel
which is provided to the Trustee by such Person. (Section 2.3)
If Debt Securities to be sold in the United States are designated by the
Company in a Prospectus Supplement as Book-Entry Securities, a global security
representing the Book-Entry Securities will be deposited in the name of Cede &
Co., as nominee for the Depository representing the securities to be sold in the
United States. Upon such deposit of the Book-Entry Securities, the Depository
shall credit an account maintained or designated by an institution to be named
by the Company or any purchaser of the Debt Securities represented by the
Book-Entry Securities with an aggregate amount of Debt Securities equal to the
total number of Debt Securities that have been so purchased. The specific terms
of any depository arrangement with respect to any portion of a series of Debt
Securities to be represented by one or more global securities will be described
in the applicable Prospectus Supplement. Beneficial interests in such Debt
Securities will only be evidenced by, and transfers thereof will only be
effected through, records maintained by the Depository and the institutions that
are Depository participants.
SUBORDINATION OF SUBORDINATED DEBT SECURITIES
Unless otherwise indicated in the Prospectus Supplement, the following
provisions will apply to the Subordinated Debt Securities.
The Subordinated Debt Securities will, to the extent set forth in the
Subordinated Indenture, be subordinate in right of payment to the prior payment
in full of all Senior Debt. (Section 15.1 of the Subordinated Indenture) In the
event of (a) any insolvency or bankruptcy case or proceeding, or any
receivership, liquidation, reorganization or other similar case or proceeding in
connection therewith, relative to the Company or to its creditors, as such, or
to its assets, or (b) any liquidation, dissolution or other winding up of the
Company, whether voluntary or involuntary and whether or not involving
insolvency or bankruptcy, or
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(c) any assignment for the benefit of creditors or any other marshaling of
assets and liabilities of the Company, then and in any such event the holders of
Senior Debt shall be entitled to receive payment in full of all amounts due or
to become due on or in respect of all Senior Debt, or provision shall be made
for such payment in cash, before the Holders of Subordinated Debt Securities are
entitled to receive any payment on account of principal of (or premium, if any)
or interest on Subordinated Debt Securities, and to that end the holders of
Senior Debt shall be entitled to receive, for application to the payment
thereof, any payment or distribution of any kind or character, whether in cash,
property or securities, including any such payment or distribution which may be
payable or deliverable by reason of the payment of any other indebtedness of the
Company being subordinated to the payment of Subordinated Debt Securities, which
may be payable or deliverable in respect of the Subordinated Debt Securities in
any such case, proceeding, dissolution, liquidation or other winding up event.
(Section 15.2 of the Subordinated Indenture)
By reason of such subordination, in the event of liquidation or insolvency,
creditors of the Company may recover less, ratably, than Holders of Senior Debt
and may recover more, ratably, than the Holders of the Subordinated Debt
Securities.
In the event of the acceleration of the maturity of any Subordinated Debt
Securities, the Holders of all Senior Debt outstanding at the time of such
acceleration will first be entitled to receive payment in full of all amounts
due thereon before the Holders of the Subordinated Debt Securities will be
entitled to receive any payment upon the principal of (and premium, if any) or
interest on, the Subordinated Debt Securities. (Section 15.3 of the Subordinated
Indenture)
No payments on account of the principal of (and premium, if any) or
interest in respect of the Subordinated Debt Securities may be made if there
shall have occurred and be continuing a default in any payment with respect to
Senior Debt, or an event of default with respect to any Senior Debt resulting in
the acceleration of the maturity thereof. (Section 15.4 of the Subordinated
Indenture) For purposes of the subordination provisions, the payment, issuance
and delivery of cash, property or securities (other than common stock and
certain subordinated securities of the Company) upon conversion of a
Subordinated Debt Security will be deemed to constitute payment on account of
the principal of such Subordinated Debt Security. (Section 15.15 of the
Subordinated Indenture)
The Subordinated Indenture does not limit or prohibit the incurrence of
additional Senior Debt, which may include indebtedness that is senior to the
Subordinated Debt Securities, but subordinate to other obligations of the
Company. The Senior Debt Securities constitute Senior Debt under the
Subordinated Indenture.
"Senior Debt" is defined to include the principal of (and premium, if any)
and interest (including interest accrued on or after the filing of any petition
in bankruptcy or for reorganization relating to the Company to the extent that
such claim for post-petition interest is allowed in such proceeding) on all
indebtedness of the Company (including indebtedness of others guaranteed by the
Company), other than the Subordinated Debt Securities, whether outstanding on
the date of the Subordinated Indenture or thereafter created, incurred or
assumed, which is (i) for money borrowed, (ii) evidenced by a note or similar
instrument given in connection with the acquisition by the Company or any
subsidiary of the Company of any businesses, properties or assets of any kind,
(iii) obligations of the Company as lessee under leases required to be
capitalized on the balance sheet of the lessee under generally accepted
accounting principles or leases of property or assets made as part of any sale
and leaseback transaction to which the Company is a party, and (iv) amendments,
renewals, extensions, modifications and refundings of any such indebtedness or
obligation, unless in any case the instrument creating or evidencing any such
indebtedness or obligation or pursuant to which the same is outstanding provides
that such indebtedness or obligation is not superior in right of payment to the
Subordinated Debt Securities. (Section 1.1 of the Subordinated Indenture)
The Prospectus Supplement may further describe the provisions, if any,
applicable to the subordination of the Subordinated Debt Securities of a
particular series.
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CERTAIN COVENANTS OF THE COMPANY
If Subordinated Debt Securities are issued to a Kmart Trust or a trustee of
such trust in connection with the issuance of Trust Securities by such Kmart
Trust and (i) there shall have occurred any event that would constitute an Event
of Default, (ii) the Company shall be in default with respect to its payment of
any obligations under the related Trust Preferred Securities Guarantee or Trust
Common Securities Guarantee, or (iii) the Company shall have given notice of its
election to defer payments of interest on such Subordinated Debt Securities by
extending the interest payment period as provided in the Indenture and such
period, or any extension thereof, shall be continuing, then (a) the Company
shall not declare or pay any dividend on, make any distributions with respect
to, or redeem, purchase or make a liquidation payment with respect to, any of
its capital stock (other than (i) purchases or acquisitions of shares of Common
Stock in connection with the satisfaction by the Company of its obligations
under any employee benefit plans, (ii) as a result of a reclassification of the
Company's capital stock or the exchange or conversion of one class or series of
the Company's capital stock for another class or series of the Company's capital
stock or, (iii) the purchase of fractional interests in shares of the Company's
capital stock pursuant to the conversion or exchange provisions of such capital
stock of the Company or the security being converted or exchanged) or make any
guarantee payments with respect to the foregoing, and (b) the Company shall not
make any payment of interest, principal or premium, if any, on or repay,
repurchase or redeem any debt securities (including guarantees) issued by the
Company which rank pari passu with or junior to such Subordinated Debt
Securities.
In the event Subordinated Debt Securities are issued to a Kmart Trust or a
trustee of such trust in connection with the issuance of Trust Securities of
such Kmart Trust, for so long as such Trust Securities remain outstanding, the
Company will covenant (i) to directly or indirectly maintain 100% ownership of
the Trust Common Securities of such Kmart Trust; provided, however, that any
permitted successor of the Company under the Indenture may succeed to the
Company's ownership of such Trust Common Securities, (ii) to use its reasonable
efforts to cause such Kmart Trust (a) to remain a statutory business trust,
except in connection with the distribution of Subordinated Debt Securities to
the holders of Trust Securities in liquidation of such Kmart Trust, the
redemption of all of the Trust Securities of such Kmart Trust, or certain
mergers, consolidations or amalgamations, each as permitted by the Declaration
of such Kmart Trust, and (b) to continue to be classified as a grantor trust for
United States federal income tax purposes and (iii) to use its reasonable
efforts to cause each holder of Trust Securities to be treated as owning an
undivided beneficial interest in the Subordinated Debt Securities. (Section
10.5)
CONVERSION OR EXCHANGE RIGHTS
The terms on which Debt Securities of any series are convertible into or
exchangeable for Common Stock or other securities of the Company will be set
forth in the Prospectus Supplement relating thereto. Such terms will include
provisions as to whether conversion or exchange is mandatory, at the option of
the Holder or at the option of the Company, and may include provisions pursuant
to which the number of shares of Common Stock or other securities of the Company
to be received by the Holders of Debt Securities would be subject to adjustment.
(Section 3.1 and Article XIV)
SECURITY FOR SECURED DEBT SECURITIES
The terms and conditions pursuant to which the Debt Securities of any
series are secured, a description of the security, which may consist of real
estate properties or other assets owned by the Company, and the related mortgage
will be set forth in the Prospectus Supplement relating thereto. (Section 3.1)
CONSOLIDATION, MERGER AND SALE OF ASSETS
The Company may not merge or consolidate or sell or convey all or
substantially all of its assets unless the successor corporation (if other than
the Company) is a domestic corporation and assumes the Company's obligations on
the Debt Securities and under the applicable Indenture, and unless after giving
effect to such transaction the Company or the successor corporation would not be
in default under the applicable Indenture. (Section 8.1)
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Unless otherwise specified in the Prospectus Supplement, the Indentures
contain no restrictive covenant that would afford holders of the Debt Securities
protection in the event of a change in control or a highly leveraged transaction
involving the Company or any of its affiliates.
EVENTS OF DEFAULT
Any one of the following events will constitute an Event of Default under
the applicable Indenture with respect to Debt Securities of any series: (a)
failure to pay any interest on any Debt Security of that series when due,
continued for 30 days (in the case of the Subordinated Indenture, whether or not
such payment is prohibited by the subordination provisions) provided, however,
that a valid extension of the interest payment period shall not constitute a
default in the payment of interest for this purpose; (b) failure to pay the
principal of (or premium, if any) on any Debt Security of that series when due
(in the case of the Subordinated Indenture, whether or not such payment is
prohibited by the subordination provisions) provided, however, that a valid
extension of the maturity of such Debt Securities shall not constitute a default
for this purpose; (c) failure to deposit any sinking fund payment, when due, in
respect of any Debt Security of that series (in the case of the Subordinated
Indenture, whether or not such deposit is prohibited by the subordination
provisions); (d) failure to perform any other covenant of the Company in the
applicable Indenture or such Debt Security (other than a covenant included in
the applicable Indenture solely for the benefit of a series of Debt Securities
other than that series), continued for 90 days after written notice has been
given as provided in the applicable Indenture; (e) if the Debt Securities are
convertible into shares of Common Stock, failure by the Company to deliver
Common Stock upon an appropriate election by the holder or holders of the Debt
Securities to convert the Debt Securities into shares of Common Stock; (f)
certain events in bankruptcy, insolvency or reorganization involving the
Company; (g) in the event Subordinated Debt Securities are issued to a Kmart
Trust or a trustee of such trust in connection with the issuance of Trust
Securities by such Kmart Trust, the voluntary or involuntary dissolution,
winding-up or termination of such Kmart Trust, except in connection with the
distribution of Subordinated Debt Securities to the holders of Trust Securities
in liquidation of such Kmart Trust, the redemption of all of the Trust
Securities of such Kmart Trust, or certain mergers, consolidations or
amalgamations, each as permitted by the Declaration of such Kmart Trust; or (h)
any other Event of Default provided with respect to the Debt Securities of that
series. (Section 5.1) No event of default described in clause (a), (b), (c) or
(d) above with respect to a particular series of Debt securities necessarily
constitutes an Event of Default with respect to any other series of Debt
Securities.
The Indentures provide that if an Event of Default under clauses (a), (b),
(c), (d), (e) or (g) above shall have occurred and be continuing (but in the
case of clause (d), only if the Event of Default is with respect to less than
all series of Debt Securities then outstanding), either the Trustee or the
holders of not less than 25% in aggregate principal amount of the then
outstanding Debt Securities of the series affected by such Event of Default
(each such series voting as a separate class) may declare the principal (or
portion thereof specified in the terms of any series) of all the Debt Securities
of such series, together with any accrued interest, to be due and payable
immediately. If an Event of Default under clause (d) (if the Event of Default
under clause (d) is with respect to all of the series of Debt Securities then
outstanding), or (f) above shall have occurred and be continuing, either the
Trustee or the holders of not less than 25% in aggregate principal amount of all
the Debt Securities then outstanding (voting as one class) may declare the
principal (or portion thereof specified in the terms of the series) of all the
Debt Securities, together with any accrued interest, to be due and payable
immediately. Upon certain conditions such declaration (including a declaration
caused by a default in the payment of principal or interest, the payment for
which has subsequently been provided) may be annulled by the holders of a
majority in principal amount of the Debt Securities of each series as was
entitled to declare such default (each such series voting as a separate class)
or of all the Debt Securities voting as one class, as the case may be. In
addition, past defaults may be waived by the holders of a majority in principal
amount of the Debt Securities of each series as was entitled to declare such
default (each such series voting as a separate class) or of all the Debt
Securities voting as one class, as the case may be, except a default in the
payment of principal or interest on the Debt Securities or in respect of a
covenant or provision of the Indenture which cannot be modified or amended
without the approval of the holder of each Debt Security affected (Section 5.2).
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Notwithstanding anything in the Indenture to the contrary, the right of any
holder of a Debt Security to receive payment of the principal of and interest on
such Debt Security, on and after the respective due dates expressed in such Debt
Security (as the same may be extended in accordance with the terms of such Debt
Security) or to institute suit for the enforcement of any such payment shall not
be impaired or affected without the consent of such holder, including, in the
case of a Subordinated Debt Security issued to a Kmart Trust, the holders of the
Trust Preferred Securities issued by such Kmart Trust. In addition, in the case
of a Subordinated Debt Security issued to a Kmart Trust, if an Event of Default
has occurred and is continuing and such event is attributable to the failure of
the Company to pay interest or principal then a holder of Trust Preferred
Securities of such Kmart Trust may directly institute a proceeding against the
Company for payment.
The Indentures will provide that, subject to the duty of the Debt Trustee
during default to act with the required standard of care, the Debt Trustee will
be under no obligation to exercise any of its rights or powers under the
applicable Indenture at the request or direction of any of the Holders, unless
such Holders shall have offered to the Debt Trustee reasonable indemnity.
(Section 6.1) Subject to such provisions for the indemnification of the Debt
Trustee, the Holders of a majority in aggregate principal amount of the
Outstanding Debt Securities of any series will have the right to direct the
time, method and place of conducting any proceeding for any remedy available to
the Debt Trustees or exercising any trust or power conferred on the Debt
Trustee, with respect to the Debt Securities of that series. (Section 5.12)
The Company will be required to furnish to the applicable Debt Trustee
annually a statement as to the performance of certain of its obligations under
the applicable Indenture and as to any default in such performance. (Section
10.7)
DEFEASANCE AND DISCHARGE
If so specified with respect to any particular series of Debt Securities,
the Company may discharge its indebtedness and its obligations or certain of its
obligations under the applicable Indenture with respect to such series by
depositing funds or obligations issued or guaranteed by the United States of
America with the Trustee. (Section 4.3)
The Indentures will provide that, if so specified with respect to the Debt
Securities of any series, the Company will be discharged from any and all
obligations in respect of the Debt Securities of such series (including, in the
case of Subordinated Debt Securities, the subordination provisions described
under "Subordination of Subordinated Debt Securities" herein and, except for
certain obligations relating to temporary Debt Securities and exchange of Debt
Securities, registration of transfer or exchange of Debt Securities of such
series, replacement of stolen, lost or mutilated Debt Securities of such series,
maintenance of paying agencies, to hold monies for payment in trust, payment of
additional amounts, if any, required in consequence of United States withholding
taxes imposed on payments to non-United States persons and, if applicable,
conversion of the Debt Securities into Common Stock or other securities) upon
the deposit with the Debt Trustee, in trust, of money and/or U.S. Government
Obligations which through the payment of interest and principal in respect
thereof in accordance with their terms will provide money in an amount
sufficient to pay the principal of (and premium, if any), each installment of
interest on, and any sinking fund payments on, the Debt Securities of such
series on the Stated Maturity of such payments in accordance with the terms of
the applicable Indenture and the Debt Securities of such series. (Section 4.6)
Such a trust may only be established if, among other things, (a) the Company has
delivered to the applicable Debt Trustee an Opinion of Counsel to the effect
that (i) the Company has received from, or there has been published by, the
Internal Revenue Service a ruling, or (ii) since the date of the applicable
Indenture there has been a change in applicable federal income tax law, in
either case to the effect that, and based thereon such Opinion of Counsel shall
confirm that, the Holders of Debt Securities of such series will not recognize
income, gain or loss for federal income tax purposes as a result of such
deposit, defeasance and discharge, and will be subject to federal income tax on
the same amounts and in the same manner and at the same times as would have been
the case if such deposit, defeasance and discharge had not occurred; (b) the
Debt Securities of such series, if then listed on any domestic or foreign
securities exchange, will not be delisted as a result of such deposit,
defeasance and discharge; and (c) in the case of the Subordinated Debt
Securities, (x) no default in the
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payment of the principal of (and premium, if any) or any interest on any Senior
Debt beyond any applicable grace period shall have occurred and be continuing,
and (y) no other default with respect to any Senior Debt shall have occurred and
be continuing and shall have resulted in the acceleration of such Senior Debt.
In the event of any such defeasance and discharge of Debt Securities of such
series, Holders of Debt Securities of such series would be able to look only to
such trust fund for payment of principal of and any premium and any interest on
their Debt Securities until Maturity. (Section 4.6)
DEFEASANCE OF CERTAIN OBLIGATIONS
The Indentures will provide that, if so specified with respect to the Debt
Securities of any series, the Company may omit to comply with any covenants
applicable to such Debt Securities which are subject to covenant defeasance and
any such omission shall not be an Event of Default with respect to the Debt
Securities of such series, upon the irrevocable deposit with the Debt Trustee,
in trust, of money and/or U.S. Government Obligations which through the payment
of interest and principal in respect thereof in accordance with their terms will
provide money in an amount sufficient to pay the principal of (and premium, if
any), each installment of interest on and any sinking fund payments thereof and
in accordance with their terms will provide money in an amount sufficient to pay
the principal of (and premium, if any), and each installment of principal (and
premium, if any) and interest on the Debt Securities of such series on the
Stated Maturity of such payments or upon optional redemption and any mandatory
sinking fund payments or analogous payments on the Debt Securities of such
series on the day on which such payments are due and payable in accordance with
the terms of the applicable Indenture and the Debt Securities of such series.
(Sections 4.5 and 4.6) The obligations of the Company under the applicable
Indenture and the Debt Securities of such series other than with respect to such
covenants shall remain in full force and effect. (Section 4.5) Such a trust may
be established only if, among other things, the Company has delivered to the
Debt Trustee an Opinion of Counsel to the effect that (i) the Holders of the
Debt Securities of such series will not recognize income, gain or loss for
federal income tax purposes as a result of such deposit, defeasance and
discharge of certain obligations and will be subject to federal income tax on
the same amount and in the same manner and at the same times as would have been
the case if such deposit, defeasance and discharge had not occurred and (ii) the
Debt Securities of such series, if then listed on any domestic or foreign
securities exchange, will not be delisted as a result of such deposit,
defeasance and discharge. (Section 4.6)
In the event the Company exercises its option to omit compliance with the
covenants described in any Prospectus Supplement with respect to the Debt
Securities of such series and such Debt Securities are declared due and payable
because of the occurrence of any Event of Default, then the amount of money and
U.S. Government Obligations on deposit with the Debt Trustee will be sufficient
to pay amounts due on the Debt Securities of such series at the time of their
Stated Maturity but may not be sufficient to pay amounts due on the Debt
Securities of such series at the time of the acceleration resulting from such
Default. The Company shall in any event remain liable for such payments as
provided in the Indentures.
The Debt Trustee must deliver or pay to the Company from time to time, upon
request of the Company, any amounts held by it with respect to any Securities
which, in the opinion of a nationally recognized firm of independent public
accountants, are in excess of the amount which would then be required to be
deposited to effect a satisfaction, discharge or defeasance, as the case may be,
with respect to such Securities.
MEETINGS, MODIFICATION AND WAIVER
Modifications and amendments of the Indentures may be made by the Company
and the Debt Trustee under the applicable Indenture with the consent of the
Holders of not less than a majority in principal amount of the Outstanding Debt
Securities issued under the applicable Indenture and affected by such
modification or amendment unless a greater percentage of such principal amount
is specified in the applicable Prospectus Supplement; provided, however, that no
such modification or amendment may, without the consent of each Holder of each
Outstanding Debt Security affected thereby, (a) change the Stated Maturity of
the principal of, or any installment of principal of or interest on, any such
Debt Security, (b) reduce the principal amount of (and premium, if any) or
interest on, any such Debt Security, (c) change any obligation of the Company to
pay additional amounts, (d) reduce the amount of principal of an Original Issue
Discount Security or any
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other Debt Security payable upon acceleration of the maturity thereof, (e)
change the coin or currency in which any Debt Security or any premium or
interest thereon is payable, (f) impair the right to institute suit for the
enforcement of any payment on or with respect to any such Debt Security, (g)
adversely change the right to convert or exchange, including decreasing the
conversion rate or increasing the conversion price of, such Debt Security (if
applicable), (h) in the case of the Subordinated Indenture, modify the
subordination provisions in a manner adverse to the Holders of the Subordinated
Debt Securities, (i) if the Debt Securities are secured, change the terms and
conditions pursuant to which the Debt Securities are secured in a manner adverse
to the Holders of the secured Debt Securities, (j) reduce the percentage in
principal amount of Outstanding Debt Securities of any series, the consent of
whose Holders is required for modification or amendment of the applicable
Indenture or for waiver of compliance with certain provisions of the applicable
Indenture or for waiver of certain defaults, (k) reduce the requirements
contained in the applicable Indenture for quorum or voting, (l) change any
obligations of the Company to maintain an office or agency in the places and for
the purposes required by the Indentures, or (m) modify any of the above
provisions. (Section 9.2)
Modifications and amendments of the Indentures may be made by the Company
and the Debt Trustee under the applicable Indenture without the consent of any
Holder to evidence a successor to the Company, to add to the Company's covenants
or Events of Default, to permit or facilitate Debt Securities to be issued by
book entry or in bearer form or relating to the place of payment thereof, to
provide for a successor trustee, to establish forms or terms of Debt Securities,
to change or eliminate any provisions not adversely affecting any interests of
Holders of Outstanding Debt Securities in any material respect or to cure any
ambiguity or inconsistency.
The Holders of at least a majority in principal amount of the Outstanding
Debt Securities of each series may, on behalf of the Holders of all the Debt
Securities of that series, waive, insofar as that series is concerned,
compliance by the Company with certain restrictive provisions of the applicable
Indenture and, if applicable, such Debt Securities, unless a greater percentage
of such principal amount is specified in the applicable Prospectus Supplement.
(Section 5.13)
If a Kmart Trust or the Property Trustee of a Kmart Trust holds a series of
Subordinated Debt Securities, no such supplemental indenture which requires the
approval of the holders of a certain percentage in aggregate principal amount of
Subordinated Debt Securities shall be effective without the approval of the
holders of the same percentage of aggregate liquidation preference of Preferred
Securities
The applicable Indenture will provide that in determining whether the
Holders of the requisite principal amount of the Outstanding Debt Securities
have given any request, demand, authorization, direction, notice, consent or
waiver thereunder or are present at a meeting of Holders of Debt Securities for
quorum purposes, (i) the principal amount of an Original Issue Discount Security
that shall be deemed to be Outstanding shall be the amount of the principal
thereof that would be due and payable as of the date of such determination upon
acceleration of the Maturity thereof, and (ii) the principal amount of a Debt
Security denominated in a foreign currency or currency units shall be the U.S.
dollar equivalent, determined on the date of original issuance of such Debt
Security, of the principal amount of such Debt Security or, in the case of an
Original Issue Discount Security, the U.S. dollar equivalent, determined on the
date of original issuance of such Debt Security, of the amount determined as
provided in (i) above.
The applicable Indenture will contain provisions for convening meetings of
the Holders of Debt Securities of a series if Debt Securities of that series are
issuable as Bearer Securities. A meeting may be called at any time by the Debt
Trustee, and also, upon request, by the Company or the Holders of at least 25%
in principal amount of the Outstanding Debt Securities of such series, in any
such case upon notice given in accordance with "Notices" below. (Sections 13.1
and 13.2) Except for any consent which must be given by the Holder of each
Outstanding Debt Security affected thereby, as described above, any resolution
presented at a meeting or adjourned meeting at which a quorum is present may be
adopted by the affirmative vote of the Holders of a majority in principal amount
of the Outstanding Debt Securities of that series; provided, however, that,
except for any consent which must be given by the Holder of each Outstanding
Debt Security affected thereby, as described above, any resolution with respect
to any consent or waiver which may be given by the Holders of not less than a
majority in principal amount of the Outstanding Debt Securities of a series may
be adopted at a
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meeting or an adjourned meeting at which a quorum is present only by the
affirmative vote of a majority in principal amount of the Outstanding Debt
Securities of that series; and provided, further, that, except for any consent
which must be given by the Holder of each Outstanding Debt Security affected
thereby, as described above, any resolution with respect to any request, demand,
authorization, direction, notice, consent, waiver or other action which may be
made, given or taken by the Holders of a specified percentage, which is less
than a majority in principal amount of the Outstanding Debt Securities of a
series may be adopted at a meeting or adjourned meeting duly reconvened at which
a quorum is present by the affirmative vote of the Holders of such specified
percentage in the principal amount of the Outstanding Debt Securities of that
series. Any resolution passed or decision taken at any meeting of Holders of
Debt Securities of any series duly held in accordance with the applicable
Indenture will be binding on all Holders of Debt Securities of that series and
the related coupons. The quorum at any meeting called to adopt a resolution or
with respect to a consent or a waiver which may be given by the Holders of not
less than a majority in principal amount of the Outstanding Debt Securities of a
series, and at any reconvened meeting, will be persons holding or representing a
majority in principal amount of the Outstanding Debt Securities of a series;
provided, however, that if any action is to be taken at such meeting with
respect to a consent or waiver which may be given by the Holders of not less
than a majority in principal amount of the Outstanding Debt Securities of a
series then, with respect to such action (and only such action) the Holders
entitled to vote such lesser or greater percentage in principal amount of the
Outstanding Securities shall constitute a quorum. (Section 13.4)
NOTICES
Except as otherwise provided in the applicable Indenture, notices to
Holders of Bearer Securities will be given by publication at least twice in a
daily newspaper in The City of New York and in such other city or cities as may
be specified in such Debt Securities. Notices to Holders of Registered
Securities will be given by mail to the address of such Holders as they appear
in the Security Register. (Section 1.6)
TITLE
Title to any temporary global Debt Security, any Bearer Securities
(including Bearer Securities in permanent global form) and any coupons
appertaining thereto will pass by delivery. The Company, the Debt Trustee and
any agent of the Company or the Debt Trustee may treat the bearer of any Bearer
Security and the bearer of any coupon and the registered owner of any Registered
Security as the absolute owner thereof (whether or not such Debt Security or
coupon shall be overdue and notwithstanding any notice to the contrary) for the
purpose of making payment and for all other purposes. (Section 3.8)
REPLACEMENT OF DEBT SECURITIES AND COUPONS
Any mutilated Debt Security or a Debt Security with a mutilated coupon
appertaining thereto will be replaced by the Company at the expense of the
Holder upon surrender of such Debt Security to the Debt Trustee. Debt Securities
or coupons that became destroyed, stolen or lost will be replaced by the Company
at the expense of the Holder upon delivery to the Debt Trustee of the Debt
Security and coupons or evidence of the destruction, loss or theft thereof
satisfactory to the Company and the Debt Trustee; in the case of any coupon
which becomes destroyed, stolen or lost, such coupon will be replaced by
issuance of a new Debt Security in exchange for the Debt Security to which such
coupon appertains. In the case of a destroyed, lost or stolen Debt Security or
coupon, an indemnity satisfactory to the Debt Trustee and the Company may be
required at the expense of the Holder of such Debt Security or coupon before a
replacement Debt Security will be issued. (Section 3.6)
GOVERNING LAW
The Indentures, the Debt Securities and the coupons will be governed by,
and construed in accordance with, the laws of the State of New York without
regard to principles of conflicts of laws. (Section 1.13)
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REGARDING THE DEBT TRUSTEE
The Indentures contain limitations on the right of the Debt Trustee, as a
creditor of the Company, to obtain payment of claims in certain cases or to
realize on certain property received in respect of any such claim as security or
otherwise. (Section 6.10) In addition, the Debt Trustee may be deemed to have a
conflicting interest and may be required to resign as Debt Trustee if at the
time of a default under one of the Indentures it is a creditor of the Company.
(Section 6.8) The Company may from time to time maintain deposit accounts and
conduct its banking transactions with a Debt Trustee in the ordinary course of
business. (Section 6.3)
DESCRIPTION OF TRUST PREFERRED SECURITIES
Each Kmart Trust may issue, from time to time, only one series of Trust
Preferred Securities having terms described in the Prospectus Supplement
relating thereto. The Declaration of each Kmart Trust authorizes the Regular
Trustees of such Kmart Trust to issue on behalf of such Kmart Trust one series
of Trust Preferred Securities. The Declaration will be qualified as an indenture
under the Trust Indenture Act. The Trust Preferred Securities will have such
terms, including distributions, redemption, voting, liquidation, conversion
rights and such other preferred, deferred or other special rights or such
restrictions as shall be set forth in the Declaration or made part of the
Declaration by the Trust Indenture Act, and which will mirror the terms of the
Subordinated Debt Securities held by the Kmart Trust and described in the
Prospectus Supplement related thereto. Reference is made to the Prospectus
Supplement relating to the Trust Preferred Securities of any Kmart Trust for
specific terms, including (i) the distinctive designation of such Trust
Preferred Securities; (ii) the number of Trust Preferred Securities issued by
such Kmart Trust; (iii) the annual distribution rate (or method of determining
such rate) for Trust Preferred Securities issued by such Kmart Trust and the
date or dates upon which such distributions shall be payable; provided, however,
that distributions on such Trust Preferred Securities shall be payable on a
quarterly basis to holders of such Trust Preferred Securities as of a record
date in each quarter during which such Trust Preferred Securities are
outstanding; (iv) whether distributions on Trust Preferred Securities issued by
such Kmart Trust shall be cumulative, and, in the case of Trust Preferred
Securities having such cumulative distribution rights, the date or dates or
method of determining the date or dates from which distributions on Trust
Preferred Securities issued by such Kmart Trust shall be cumulative; (v) the
amount or amounts which shall be paid out of the assets of such Kmart Trust to
the holders of Trust Preferred Securities of such Kmart Trust upon voluntary or
involuntary dissolution, winding-up or termination of such Kmart Trust; (vi) the
obligation, if any, of such Kmart Trust to purchase or redeem Trust Preferred
Securities issued by such Kmart Trust and the price or prices at which, the
period or periods within which, and the terms and conditions upon which, Trust
Preferred Securities issued by such Kmart Trust shall be purchased or redeemed,
in whole or in part, pursuant to such obligation; (vii) the voting rights, if
any, of Trust Preferred Securities issued by such Kmart Trust in addition to
those required by law, including the number of votes per Preferred Security and
any requirement for the approval by the holders of Trust Preferred Securities,
or of Trust Preferred Securities issued by one or more Kmart Trusts, or of both,
as a condition to specified action or amendments to the Declaration of such
Kmart Trust; (viii) the terms and conditions, if any, upon which Trust Preferred
Securities issued by such Kmart Trust may be converted into shares of Common
Stock, including the conversion price per share and the circumstances, if any,
under which any such conversion right shall expire; (ix) the terms and
conditions, if any, upon which the Subordinated Debt Securities may be
distributed to holders of Trust Preferred Securities; (x) if applicable, any
securities exchange upon which the Trust Preferred Securities shall be listed;
and (xi) any other relevant rights, preferences, privileges, limitations or
restrictions of Trust Preferred Securities issued by such Kmart Trust not
inconsistent with the Declaration of such Kmart Trust or with applicable law.
All Trust Preferred Securities offered hereby will be guaranteed by the Company
to the extent set forth below under "Description of Trust Preferred Securities
Guarantees." Certain United States federal income tax considerations applicable
to any offering of Trust Preferred Securities will be described in the
Prospectus Supplement relating thereto.
In connection with the issuance of Trust Preferred Securities, each Kmart
Trust will issue one series of Trust Common Securities. The Declaration of each
Kmart Trust authorizes the Regular Trustees of such trust to issue on behalf of
such Kmart Trust one series of Trust Common Securities having such terms
including
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distributions, redemption, voting and liquidation rights or such restrictions as
shall be set forth therein. The terms of the Trust Common Securities issued by a
Kmart Trust will be substantially identical to the terms of the Trust Preferred
Securities issued by such trust and the Trust Common Securities will rank pari
passu, and payments will be made thereon pro rata, with the Trust Preferred
Securities except that, upon an event of default under the Declaration, the
rights of the holders of the Trust Common Securities to payment in respect of
distributions and payments upon liquidation, redemption and otherwise will be
subordinated to the rights of the holders of the Trust Preferred Securities.
Except in certain limited circumstances, the Trust Common Securities will also
carry the right to vote to appoint, remove or replace any of the Kmart Trustees
of a Kmart Trust. All of the Trust Common Securities of each Kmart Trust will be
directly or indirectly owned by the Company.
PROPOSED TAX LEGISLATION
On December 7, 1995, as part of President Clinton's Seven-Year Balanced
Budget Proposal, the Treasury Department proposed legislation (the "Proposed
Legislation") that, among other things, would prevent companies from deducting
interest on debt instruments with a maturity of more than 40 years and would
treat as equity for United States federal income tax purposes instruments with a
maximum term of more than 20 years that are not shown as indebtedness on the
consolidated balance sheet of the issuer. If the Proposed Legislation were
enacted in its current form, it would apply to the Subordinated Debt Securities
and the Trust Preferred Securities if their maximum term were more than 20
years. If the Proposed Legislation were to apply to the Subordinated Debt
Securities, the United States federal income tax consequences of the purchase,
ownership and disposition of the Trust Preferred Securities would differ from
those described herein. In addition, if the Proposed Legislation were to apply
to the Subordinated Debt Securities, the Company would not be able to deduct
interest paid on the Subordinated Debt Securities, which would constitute a Tax
Event. A Tax Event could result in the distribution of the Subordinated Debt
Securities to holders of the Trust Preferred Securities or, at the Company's
option, redemption of the Subordinated Debt Securities by the Company. Although
it is not the Company's intention to issue securities to which the Proposed
Legislation would apply in such a way as to create a Tax Event, there can be no
assurances as to whether or in what form the Proposed Legislation may be enacted
into law or whether other legislation will be enacted that otherwise adversely
affects the tax treatment of the Subordinated Debt Securities and the Trust
Preferred Securities. The discussion herein assumes that the Proposed
Legislation, if enacted, will not apply to the Subordinated Debt Securities or
the Trust Preferred Securities.
ENFORCEMENT OF CERTAIN RIGHTS BY HOLDERS OF TRUST PREFERRED SECURITIES
If an Event of Default under the Declaration of a Kmart Trust occurs and is
continuing, then the holders of Trust Preferred Securities of such Kmart Trust
would rely on the enforcement by the Property Trustee of its rights as a holder
of the applicable series of Subordinated Debt Securities against the Company. In
addition, the holders of a majority in liquidation amount of the Trust Preferred
Securities of such Kmart Trust will have the right to direct the time, method,
and place of conducting any proceeding for any remedy available to the Property
Trustee or to direct the exercise of any trust or power conferred upon the
Property Trustee under the applicable Declaration, including the right to direct
the Property Trustee to exercise the remedies available to it as a holder of the
Subordinated Debt Securities. If the Property Trustee fails to enforce its
rights under the applicable series of Subordinated Debt Securities, a holder of
Trust Preferred Securities of such Kmart Trust may institute a legal proceeding
directly against the Company to enforce the Property Trustee's rights under the
applicable series of Subordinated Debt Securities without first instituting any
legal proceeding against the Property Trustee or any other person or entity.
Notwithstanding the foregoing, if an Event of Default under the applicable
Declaration has occurred and is continuing and such event is attributable to the
failure of the Company to pay interest or principal on the applicable series of
Subordinated Debt Securities on the date such interest or principal is otherwise
payable (or in the case of redemption, on the redemption date), then a holder of
Trust Preferred Securities of such Kmart Trust may directly institute a
proceeding for enforcement of payment to such holder of the principal of or
interest on the applicable series of Subordinated Debt Securities having a
principal amount equal to the aggregate liquidation amount of the Trust
Preferred Securities of such holder (a "Direct Action") on or after the
respective due date specified in the applicable series of
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Subordinated Debt Securities. In connection with such Direct Action, the Company
will be subrogated to the rights of such holder of Trust Preferred Securities
under the applicable Declaration to the extent of any payment made by the
Company to such holder of Trust Preferred Securities in such Direct Action.
DESCRIPTION OF TRUST PREFERRED SECURITIES GUARANTEES
Set forth below is a summary of information concerning the Trust Preferred
Securities Guarantees which will be executed and delivered by the Company for
the benefit of the holders from time to time of Trust Preferred Securities. Each
Trust Preferred Securities Guarantee will be qualified as an indenture under the
Trust Indenture Act. The Bank of New York will act as the independent trustee
under each Trust Preferred Securities Guarantee (the "Preferred Guarantee
Trustee") for purposes of the Trust Indenture Act. The terms of each Trust
Preferred Securities Guarantee will be those set forth in such Trust Preferred
Securities Guarantee and those made part of such Trust Preferred Securities
Guarantee by the Trust Indenture Act. The summary is subject in all respects to
the provisions of, and is qualified in its entirety by reference to, the form of
Trust Preferred Securities Guarantee, which is filed as an exhibit to the
Registration Statement of which this Prospectus forms a part, and the Trust
Indenture Act. Each Trust Preferred Securities Guarantee will be held by the
Preferred Guarantee Trustee for the benefit of the holders of the Trust
Preferred Securities of the applicable Kmart Trust.
GENERAL
Pursuant to each Trust Preferred Securities Guarantee, the Company will
agree, to the extent set forth therein, to pay in full, to the holders of the
Trust Preferred Securities issued by a Kmart Trust, the Guarantee Payments (as
defined herein)(except to the extent paid by such Kmart Trust), as and when due,
regardless of any defense, right of setoff or counterclaim which such Kmart
Trust may have or assert. The following payments with respect to Trust Preferred
Securities issued by a Kmart Trust to the extent not paid by such Kmart Trust
(the "Guarantee Payments"), will be subject to the Trust Preferred Securities
Guarantee thereon (without duplication): (i) any accrued and unpaid
distributions which are required to be paid on such Trust Preferred Securities,
to the extent such Kmart Trust shall have funds available therefor; (ii) the
redemption price set forth in the applicable Prospectus Supplement (the
"Redemption Price"), which will not be lower than the liquidation amount, and
all accrued and unpaid distributions, to the extent such Kmart Trust has funds
available therefor with respect to any Trust Preferred Securities called for
redemption by such Kmart Trust and (iii) upon a voluntary or involuntary
dissolution, winding-up or termination of such Kmart Trust (other than in
connection with the distribution of Subordinated Debt Securities to the holders
of Trust Preferred Securities or the redemption of all of the Trust Preferred
Securities), the lesser of (a) the aggregate of the liquidation amount and all
accrued and unpaid distributions on such Trust Preferred Securities to the date
of payment, to the extent such Kmart Trust has funds available therefor and (b)
the amount of assets of such Kmart Trust remaining available for distribution to
holders of such Trust Preferred Securities in liquidation of such Kmart Trust.
The Company's obligation to make a Guarantee Payment may be satisfied by direct
payment of the required amounts by the Company to the holders of Trust Preferred
Securities or by causing the applicable Kmart Trust to pay such amounts to such
holders.
Each Trust Preferred Securities Guarantee will not apply to any payment of
distributions on the Trust Preferred Securities except to the extent such Kmart
Trust shall have funds available therefor. If the Company does not make interest
payments on the Subordinated Debt Securities purchased by a Kmart Trust, such
Kmart Trust will not pay distributions on the Trust Preferred Securities issued
by such Kmart Trust and will not have funds available therefor. See "Description
of Debt Securities -- Certain Covenants of the Company." The Trust Preferred
Securities Guarantee, when taken together with the Company's obligations under
the Subordinated Debt Securities, the Indenture and the Declaration, including
its obligations to pay costs, expenses, debts and liabilities of such Kmart
Trust (other than with respect to the Trust Securities), will provide a full and
unconditional guarantee on a subordinated basis by the Company of payments due
on the Trust Preferred Securities.
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The Company has also agreed separately to irrevocably and unconditionally
guarantee the obligations of the Kmart Trusts with respect to the Trust Common
Securities (the "Trust Common Securities Guarantees") to the same extent as the
Trust Preferred Securities Guarantee, except that upon an event of default under
the Indenture, holders of Trust Preferred Securities shall have priority over
holders of Trust Common Securities with respect to distributions and payments on
liquidation, redemption or otherwise.
CERTAIN COVENANTS OF THE COMPANY
In each Trust Preferred Securities Guarantee, the Company will covenant
that, so long as any Trust Preferred Securities issued by the applicable Kmart
Trust remain outstanding, if there shall have occurred any event that would
constitute an event of default under such Trust Preferred Securities Guarantee
or the Declaration of such Kmart Trust, then (a) the Company shall not declare
or pay any dividend on, make any distributions with respect to, or redeem,
purchase or make a liquidation payment with respect to, any of its capital stock
(other than (i) purchases or acquisitions of shares of Common Stock in
connection with the satisfaction by the Company of its obligations under any
employee benefit plans, (ii) as a result of a reclassification of the Company's
capital stock or the exchange or conversion of one class or series of the
Company's capital stock for another class or series of the Company's capital
stock or, (iii) the purchase of fractional interests in shares of the Company's
capital stock pursuant to the conversion or exchange provisions of such capital
stock of the Company or the security being converted or exchanged) or make any
guarantee payments with respect to the foregoing and (b) the Company shall not
make any payment of interest, principal or premium, if any, on or repay,
repurchase or redeem any debt securities (including guarantees) issued by the
Company which rank pari passu with or junior to such Subordinated Debt
Securities.
MODIFICATION OF THE TRUST PREFERRED SECURITIES GUARANTEES; ASSIGNMENT
Except with respect to any changes which do not adversely affect the rights
of holders of Trust Preferred Securities (in which case no vote will be
required), each Trust Preferred Securities Guarantee may be amended only with
the prior approval of the holders of not less than a majority in liquidation
amount of the outstanding Trust Preferred Securities issued by the applicable
Kmart Trust. The manner of obtaining any such approval of holders of such Trust
Preferred Securities will be as set forth in an accompanying Prospectus
Supplement. All guarantees and agreements contained in a Trust Preferred
Securities Guarantee shall bind the successors, assigns, receivers, trustees and
representatives of the Company and shall inure to the benefit of the holders of
the Trust Preferred Securities of the applicable Kmart Trust then outstanding.
TERMINATION
Each Trust Preferred Securities Guarantee will terminate as to the Trust
Preferred Securities issued by the applicable Kmart Trust (a) upon full payment
of the Redemption Price of all Trust Preferred Securities of such Kmart Trust,
(b) upon distribution of the Subordinated Debt Securities held by such Kmart
Trust to the holders of the Trust Preferred Securities of such Kmart Trust or
(c) upon full payment of the amounts payable in accordance with the Declaration
of such Kmart Trust upon liquidation of such Kmart Trust. Each Trust Preferred
Securities Guarantee will continue to be effective or will be reinstated, as the
case may be, if at any time any holder of Trust Preferred Securities issued by
the applicable Kmart Trust must restore payment of any sums paid under such
Trust Preferred Securities or such Trust Preferred Securities Guarantee. The
subordination provisions of the Subordinated Debt Securities provide that in the
event payment is made on the Subordinated Debt Securities or the Trust Preferred
Securities Guarantee in contravention of such provisions, such payments shall be
paid over to the holders of Senior Indebtedness.
EVENTS OF DEFAULT
An event of default under a Trust Preferred Securities Guarantee will occur
upon (a) the failure of the Company to perform any of its payment or other
obligations thereunder or (b) if applicable, the failure by the Company to
deliver Common Stock upon an appropriate election by the holder or holders of
Trust Preferred Securities to convert the Trust Preferred Securities into shares
of Common Stock.
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The holders of a majority in liquidation amount of the Trust Preferred
Securities relating to such Trust Preferred Securities Guarantee have the right
to direct the time, method and place of conducting any proceeding for any remedy
available to the Preferred Guarantee Trustee in respect of the Trust Preferred
Securities Guarantee or to direct the exercise of any trust or power conferred
upon the Preferred Guarantee Trustee under such Trust Preferred Securities. If
the Preferred Guarantee Trustee fails to enforce such Trust Preferred Securities
Guarantee, any holder of Trust Preferred Securities relating to such Trust
Preferred Securities Guarantee may institute a legal proceeding directly against
the Company to enforce the Preferred Guarantee Trustee's rights under such Trust
Preferred Securities Guarantee, without first instituting a legal proceeding
against the relevant Kmart Trust, the Preferred Guarantee Trustee or any other
person or entity. Notwithstanding the foregoing, if the Company has failed to
make a guarantee payment, a holder of Trust Preferred Securities may directly
institute a proceeding against the Company for enforcement of the Trust
Preferred Securities Guarantee for such payment. The Company waives any right or
remedy to require that any action be brought first against such Kmart Trust or
any other person or entity before proceeding directly against the Company.
STATUS OF THE TRUST PREFERRED SECURITIES GUARANTEES
The Trust Preferred Securities Guarantees will constitute unsecured
obligations of the Company and will rank (i) subordinate and junior in right of
payment to all other liabilities of the Company, (ii) pari passu with the most
senior preferred or preference stock now or hereafter issued by the Company and
with any guarantee now or hereafter entered into by the Company in respect of
any preferred or preference stock of any affiliate of the Company; and (iii)
senior to Common Stock. The terms of the Trust Preferred Securities provide that
each holder of Trust Preferred Securities issued by the applicable Kmart Trust
by acceptance thereof agrees to the subordination provisions and other terms of
the Trust Preferred Securities Guarantee relating thereto.
The Trust Preferred Securities Guarantees will constitute a guarantee of
payment and not of collection (that is, the guaranteed party may institute a
legal proceeding directly against the guarantor to enforce its rights under the
guarantee without instituting a legal proceeding against any other person or
entity).
INFORMATION CONCERNING THE PREFERRED GUARANTEE TRUSTEE
The Preferred Guarantee Trustee, prior to the occurrence of a default with
respect to a Trust Preferred Securities Guarantee, undertakes to perform only
such duties as are specifically set forth in such Trust Preferred Securities
Guarantee and, after default, shall exercise the same degree of care as a
prudent individual would exercise in the conduct of his or her own affairs.
Subject to such provisions, the Preferred Guarantee Trustee is under no
obligation to exercise any of the powers vested in it by a Trust Preferred
Securities Guarantee at the request of any holder of Trust Preferred Securities,
unless offered reasonable indemnity against the costs, expenses and liabilities
which might be incurred thereby.
DESCRIPTION OF CAPITAL STOCK
Under the Restated Articles of Incorporation, as amended, of the Company
(the "Articles"), the authorized capital stock of the Company consists of
1,500,000,000 shares of Common Stock, $1.00 par value, and 10,000,000 shares of
Preferred Stock, no par value ("Preferred Stock"). As of February 1, 1996, there
were outstanding (a) 480,628,478 shares of Common Stock and (b) employee stock
options to purchase an aggregate of approximately 26,926,231 shares of Common
Stock.
DESCRIPTION OF COMMON STOCK
GENERAL
Subject to the prior rights of the holders of Preferred Stock and except as
set forth below, the holders of Common Stock are entitled to receive, when and
as declared by the board of directors, out of the assets of the Company which by
law are available therefor, dividends payable either in cash, in property, or in
Common Stock. No dividends (other than dividends payable in Common Stock) may be
paid on the Common Stock if
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cash dividends in full on all outstanding Preferred Stock to which the holders
thereof are entitled shall not have been paid or declared and set apart for
payment or if any sinking fund for the Preferred Stock is in arrears.
At every meeting of stockholders, the holders of Common Stock shall have
the right with the holders of Preferred Stock, voting as a single class, to vote
in the election of directors and upon each other matter coming before any
meeting of the stockholders on the basis of one vote for each share of Common
Stock or Preferred Stock held.
In the event of any liquidation, dissolution or winding up of the business
of the Company, whether voluntary or involuntary, the holders of Common Stock
shall be entitled, after payment or provisions for payment of the debts and
other liabilities of the Company and the amounts to which the holders of
Preferred Stock are entitled, to share ratably in the remaining net assets of
the Company.
The holders of Common Stock have no preemptive rights, cumulative voting
rights or subscription rights. The Common Stock is listed on the New York Stock
Exchange, the Chicago Stock Exchange and the Pacific Stock Exchange. First
National Bank of Boston, N.A. is the Transfer Agent, Registrar and Dividend
Paying Agent for the Common Stock.
CERTAIN PROVISIONS
The Articles and bylaws of the Company contain provisions, summarized
below, that could have the effect of delaying, deterring or preventing a merger,
tender offer or other takeover attempt of the Company. This summary is subject
to, and qualified in its entirety by, the provisions of the Articles and the
bylaws, as well as the provisions of any applicable laws.
The board of directors is divided into three classes of directors serving
staggered three-year terms, with a minimum of seven directors and a maximum of
21 directors constituting the entire board of directors. The directors may be
removed by the vote of the holders of a majority of the shares entitled to vote
at an election of directors only for cause or by the vote of a majority of the
directors with or without cause. The total number of directors and the number of
directors constituting each class of directors (with each of the three classes
being required to be equal as nearly as possible) can be fixed or changed, from
time to time, by the board of directors within such authorized limits. Incumbent
directors are delegated the power to fill any vacancies on the board of
directors, however occurring, whether by an increase in the number of directors,
death, resignation, retirement, disqualification, removal from office or
otherwise. In addition, provisions in the Company's bylaws require stockholders
to give advance notice of proposals to be presented at meetings of stockholders,
including director nominations.
The Company is subject to Chapter 7A of the Michigan Business Corporation
Act (the "MBCA"), which provides that business combinations subject to Chapter
7A between a Michigan corporation and a beneficial owner of shares entitled to
10% or more of the voting power of such corporation generally require the
affirmative vote of 90% of the votes of each class of stock entitled to vote,
and not less than 2/3 of each class of stock entitled to vote (excluding voting
shares owned by such 10% owner), voting as a separate class. Such requirements
do not apply if (i) the corporation's board of directors approves the
transaction prior to the time the 10% owner becomes such or (ii) the transaction
satisfies certain fairness standards, certain other conditions are met and the
10% owner has been such for at least five years.
Chapter 7B of the MBCA provides that, unless a corporation's articles of
incorporation or bylaws provide that Chapter 7B does not apply, "control shares"
of a corporation acquired in a control share acquisition have no voting rights
except as granted by the stockholders of the corporation. "Control shares" are
shares which, when added to shares previously owned by a stockholder, increase
such stockholder's ownership of voting stock to more than 20% but less than
33 1/3%, more than 33 1/3% but less than a majority, or more than a majority, of
the votes to which all of the capital stock of the corporation is entitled. A
control share acquisition must be approved by the affirmative vote of a majority
of all shares entitled to vote excluding voting shares owned by the acquiror and
certain officers and directors. However, no such approval is required for gifts
or other transactions not involving consideration, for a merger to which the
corporation is a party or certain other
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transactions described in Chapter 7B. The bylaws of the Company currently
contain a provision pursuant to which the Company has opted not to be subject to
Chapter 7B, but the board of directors may, in its sole discretion, elect to
become subject to Chapter 7B by amending such bylaws.
DESCRIPTION OF PREFERRED STOCK
The following summary contains a description of certain general terms of
the Preferred Stock to which any Prospectus Supplement may relate. Certain terms
of any series of Preferred Stock offered by any Prospectus Supplement will be
described in the Prospectus Supplement relating thereto. If so indicated in the
Prospectus Supplement, the terms of any series may differ from the terms set
forth below. The description of certain material provisions of the Preferred
Stock is subject to and qualified in its entirety by reference to the provisions
of the Company's Articles, and the Certificate of Designation (the "Certificate
of Designation") relating to each particular series of Preferred Stock which
will be filed or incorporated by reference, as the case may be, as an exhibit to
the Registration Statement of which this Prospectus is a part at or prior to the
time of the issuance of such Preferred Stock.
GENERAL
Under the Articles, the board of directors of the Company is authorized,
without further stockholder action, to provide for the issuance of up to
10,000,000 shares of Preferred Stock. As of February 1, 1996, no shares of
Preferred Stock were outstanding. The board of directors of the Company may from
time to time authorize the issuance of shares of Preferred Stock in series, and
each such series shall have such dividend and liquidation preferences,
redemption prices, conversion rights, and other terms and provisions as may be
contained in the resolutions of the board of directors of the Company providing
for their issuance. The shares of any series of Preferred Stock will be, when
issued, fully paid and non-assessable and holders thereof will have no
preemptive rights in connection therewith.
RANK
All series of Preferred Stock rank on a parity with each other and rank
senior to Common Stock with respect to payment of dividends and distributions of
assets upon liquidation.
DIVIDENDS
Holders of each series of Preferred Stock will be entitled to receive,
when, as and if declared by the board of directors of the Company out of funds
legally available therefor, cash dividends at such rates and on such dates as
are set forth in the Prospectus Supplement relating to such series of Preferred
Stock. Such rate may be fixed or variable or both. Dividends will be payable to
holders of record of Preferred Stock as they appear on the books of the Company
(or, if applicable, the records of the Depositary referred to below under
"Description of Depositary Shares") on such record dates as shall be fixed by
the board of directors. Dividends on any series of Preferred Stock will be
cumulative. Accumulations of dividends will not bear interest.
No full dividends may be declared or paid on funds set apart for the
payment of dividends on any series of Preferred Stock unless dividends shall
have been paid or set apart for such payment on the Preferred Stock of all
series. If full dividends are not so paid, all series of Preferred Stock shall
share ratably in the payment of dividends.
CONVERSION AND EXCHANGE
The Prospectus Supplement for any series of Preferred Stock will state the
terms, if any, on which shares of that series are convertible into shares of
another series of Preferred Stock or Common Stock or exchangeable for another
series of Preferred Stock, Common Stock or Debt Securities of the Company. The
Common Stock of the Company is described under "Description of Common Stock."
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REDEMPTION
A series of Preferred Stock may be redeemable at any time, in whole or in
part, at the option of the Company or the holder thereof and may be subject to
mandatory redemption pursuant to a sinking fund or otherwise upon terms and at
the redemption prices set forth in the Prospectus Supplement relating to such
series. The board of directors of the Company shall not create a sinking fund
for the redemption or purchase of shares of any series of Preferred Stock unless
provision for a sinking fund at least as beneficial to all issued and
outstanding shares of Preferred Stock shall either then exist or be at the same
time created.
In the event of partial redemptions of Preferred Stock, whether by
mandatory or optional redemption, the shares to be redeemed will be determined
by lot or pro rata, as may be determined by the board of directors of the
Company, or by any other method determined to be equitable by the board of
directors.
On and after a redemption date, unless the Company defaults in the payment
of the redemption price, dividends will cease to accrue on shares of Preferred
Stock called for redemption and all rights of holders of such shares will
terminate except for the right to receive the redemption price.
LIQUIDATION PREFERENCE
Upon any voluntary or involuntary liquidation, dissolution or winding up of
the Company, holders of each series of Preferred Stock will be entitled to
receive out of assets of the Company available for distribution to shareholders,
before any distribution is made on any Common Stock, distributions upon
liquidation in the amount set forth in the Certificate of Designation or the
Prospectus Supplement, as applicable, relating to such series of Preferred
Stock, plus an amount equal to any accrued and unpaid dividends. If, upon any
voluntary or involuntary liquidation, dissolution or winding up of the Company,
the amounts payable with respect to the Preferred Stock of any series are not
paid in full, the holders of the Preferred Stock of such series and all other
series of Preferred Stock will share ratably in any such distribution of assets
of the Company in proportion to the full liquidation preferences to which each
is entitled. After payment of the full amount of the liquidation preference to
which they are entitled, the holders of Preferred Stock will not be entitled to
any further participation in any distribution of assets of the Company.
VOTING RIGHTS
At every meeting of stockholders, the holders of Preferred Stock shall have
the right with the holders of Common Stock, voting as a single class, to vote in
the election of directors and upon each other matter coming before any meeting
of the stockholders on the basis of one vote for each share of Preferred Stock
or Common Stock held. If at the time of any meeting of shareholders, dividends
on all series of Preferred Stock then outstanding are in arrears in an aggregate
amount equal to six quarterly dividends, then the shares of all series of
Preferred Stock then outstanding, voting separately as a class, will have the
right at each meeting of stockholders thereafter held to elect two of the total
directors to be selected at such meeting until all arrearages of dividends
accumulated on all series of Preferred Stock for all preceding dividend periods
shall have been paid or declared or set apart for payment. While holders of
Preferred Stock voting as a class are entitled to elect two directors they are
not entitled to vote on the election of any other directors. Whenever all
arrearages of dividends have been paid or declared and set apart for payment,
the tenure of all directors so elected by them will automatically terminate.
TRANSFER AGENT AND REGISTRAR
The transfer agent for each series of Preferred Stock will be described in
the applicable Prospectus Supplement.
DESCRIPTION OF DEPOSITARY SHARES
The description set forth below of certain material provisions of the
Deposit Agreement (as defined below) and of the Depositary Shares and Depositary
Receipts (as defined below) is subject to and qualified in its entirety by
reference to the forms of Deposit Agreement and Depositary Receipt relating to
the Preferred
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Stock, which will be filed or incorporated by reference, as the case may be, as
exhibits to the Registration Statement of which this Prospectus is a part.
GENERAL
The Company may, at its option, elect to offer fractional shares of
Preferred Stock, rather than full shares of Preferred Stock. In such event, the
Company will issue receipts for Depositary Shares, each of which will represent
a fraction (to be set forth in the Prospectus Supplement relating to a
particular series of Preferred Stock) of a share of a particular series of
Preferred Stock as described below.
The shares of any series of Preferred Stock represented by Depositary
Shares will be deposited under a Deposit Agreement (the "Deposit Agreement")
between the Company and a bank or trust company selected by the Company having
its principal office in the United States and having a combined capital and
surplus of at least $60,000,000 (the "Depositary"). Subject to the terms of the
Deposit Agreement, each owner of a Depositary Share will be entitled, in
proportion to the applicable fraction of a share of Preferred Stock represented
by such Depositary Share, to all the rights and preferences of the Preferred
Stock represented thereby (including dividend, voting, redemption, conversion
and liquidation rights).
The Depositary Shares will be evidenced by depositary receipts issued
pursuant to the Deposit Agreement (the "Depositary Receipts"). Depositary
Receipts will be distributed to those persons purchasing the fractional shares
of Preferred Stock in accordance with the terms of the applicable Prospectus
Supplement.
Pending the preparation of definitive Depositary Receipts, the Depositary
may, upon the written order of the Company or any holder of deposited Preferred
Stock, execute and deliver temporary Depositary Receipts which are substantially
identical to, and entitle the holders thereof to all the rights pertaining to,
the definitive Depositary Receipts. Depositary Receipts will be prepared
thereafter without unreasonable delay, and temporary Depositary Receipts will be
exchangeable for definitive Depositary Receipts.
DIVIDENDS AND OTHER DISTRIBUTIONS
The Depositary will distribute all cash dividends or other cash
distributions received in respect of the deposited Preferred Stock to the record
holders of Depositary Shares relating to such Preferred Stock in proportion to
the numbers of such Depositary Shares owned by such holders.
In the event of a distribution other than in cash, the Depositary will
distribute property received by it to the record holders of Depositary Shares
entitled thereto. If the Depositary determines that it is not feasible to make
such distribution, it may, with the approval of the Company, sell such property
and distribute the net proceeds from such sale to such holders.
REDEMPTION OF STOCK
If a series of Preferred Stock represented by Depositary Shares is to be
redeemed, the Depositary Shares will be redeemed from the proceeds received by
the Depositary resulting from the redemption, in whole or in part, of such
series of Preferred Stock held by the Depositary. The Depositary Shares will be
redeemed by the Depositary at a price per Depositary Share equal to the
applicable fraction of the redemption price per share payable in respect of the
shares of Preferred Stock so redeemed. Whenever the Company redeems shares of
Preferred Stock held by the Depositary, the Depositary will redeem as of the
same date the number of Depositary Shares representing shares of Preferred Stock
so redeemed. If fewer than all the Depositary Shares are to be redeemed, the
Depositary Shares to be redeemed will be selected by the Depositary by lot or
pro rata or by any other equitable method as may be determined by the
Depositary.
WITHDRAWAL OF STOCK
Any holder of Depositary Shares may, upon surrender of the Depositary
Receipts at the corporate trust office of the Depositary (unless the related
Depositary Shares have previously been called for redemption), receive the
number of whole shares of the related series of Preferred Stock and any money or
other property
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<PAGE> 138
represented by such Depositary Receipts. Holders of Depositary Shares making
such withdrawals will be entitled to receive whole shares of Preferred Stock on
the basis set forth in the related Prospectus Supplement for such series of
Preferred Stock, but holders of such whole shares of Preferred Stock will not
thereafter be entitled to deposit such Preferred Stock under the Deposit
Agreement or to receive Depositary Receipts therefor. If the Depositary Shares
surrendered by the holder in connection with such withdrawal exceed the number
of Depositary Shares that represent the number of whole shares of Preferred
Stock to be withdrawn, the Depositary will deliver to such holder at the same
time a new Depositary Receipt evidencing such excess number of Depositary
Shares.
VOTING DEPOSITED PREFERRED STOCK
Upon receipt of notice of any meeting at which the holders of any series of
deposited Preferred Stock are entitled to vote, the Depositary will mail the
information contained in such notice of meeting to the record holders of the
Depositary Shares relating to such series of Preferred Stock. Each record holder
of such Depositary Shares on the record date (which will be the same date as the
record date for the relevant series of Preferred Stock) will be entitled to
instruct the Depositary as to the exercise of the voting rights pertaining to
the amount of the Preferred Stock represented by such holder's Depositary
Shares. The Depositary will endeavor, insofar as practicable, to vote the amount
of such series of Preferred Stock represented by such Depositary Shares in
accordance with such instructions, and the Company will agree to take all
reasonable actions that may be deemed necessary by the Depositary in order to
enable the Depositary to do so. The Depositary will abstain from voting shares
of the Preferred Stock to the extent it does not receive specific instructions
from the holder of Depositary Shares representing such Preferred Stock.
AMENDMENT AND TERMINATION OF THE DEPOSIT AGREEMENT
The form of Depositary Receipt evidencing the Depositary Shares and any
provision of the Deposit Agreement may at any time be amended by agreement
between the Company and the Depositary. However, any amendment which materially
and adversely alters the rights of the holders of the Depositary Shares
representing Preferred Stock of any series will not be effective unless such
amendment has been approved by the holders of at least the amount of the
Depositary Shares then outstanding representing the minimum amount of Preferred
Stock of such series necessary to approve any amendment that would materially
and adversely affect the rights of the holders of the Preferred Stock of such
series. Every holder of an outstanding Depositary Receipt at the time any such
amendment becomes effective, or any transferee of such holder, shall be deemed,
by continuing to hold such Depositary Receipt, or by reason of the acquisition
thereof, to consent and agree to such amendment and to be bound by the Deposit
Agreement as amended thereby. The Deposit Agreement automatically terminates if
(i) all outstanding Depositary Shares have been redeemed; or (ii) each share of
Preferred Stock has been converted into other Preferred Stock or Common Stock or
has been exchanged for Debt Securities; or (iii) there has been a final
distribution in respect of the Preferred Stock in connection with any
liquidation, dissolution or winding up of the Company and such distribution has
been distributed to the holders of Depositary Shares.
CHARGES OF DEPOSITARY
The Company will pay all transfer and other taxes and governmental charges
arising solely from the existence of the depositary arrangements. The Company
will pay all charges of the Depositary in connection with the initial deposit of
the relevant series of Preferred Stock and any redemption of such Preferred
Stock. Holders of Depositary Receipts will pay other transfer and other taxes
and governmental charges and such other charges or expenses as are expressly
provided in the Deposit Agreement to be for their accounts.
RESIGNATION AND REMOVAL OF DEPOSITARY
The Depositary may resign at any time by delivering to the Company notice
of its intent to do so, and the Company may at any time remove the Depositary,
any such resignation or removal to take effect upon the appointment of a
successor Depositary and its acceptance of such appointment. Such successor
Depositary must be appointed within 60 days after delivery of the notice of
resignation or removal and must be a bank or
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trust company having its principal office in the United States and having a
combined capital and surplus of at least $60,000,000.
MISCELLANEOUS
The Depositary will forward all reports and communications from the Company
which are delivered to the Depositary and which the Company is required to
furnish to the holders of the deposited Preferred Stock.
Neither the Depositary nor the Company will be liable if it is prevented or
delayed by law or any circumstances beyond its control in performing its
obligations under the Deposit Agreement. The obligations of the Company and the
Depositary under the Deposit Agreement will be limited to performance in good
faith of their duties thereunder and they will not be obligated to prosecute or
defend any legal proceeding in respect of any Depositary Shares, Depositary
Receipts or shares of Preferred Stock unless satisfactory indemnity is
furnished. They may rely upon written advice of counsel or accountants, or upon
information provided by holders of Depositary Receipts or other persons believed
to be competent and on documents believed to be genuine.
DESCRIPTION OF WARRANTS
The Company may issue Warrants, including Warrants to purchase Debt
Securities ("Debt Warrants"), Preferred Stock, including Preferred Stock
represented by Depositary Shares ("Preferred Stock Warrants"), Common Stock
("Common Stock Warrants"), or any combination thereof. Warrants may be issued
independently or together with any Securities and may be attached to or separate
from such Securities. The Warrants are to be issued under warrant agreements
(each a "Warrant Agreement") to be entered into between the Company and a bank
or trust company, as warrant agent (the "Warrant Agent"), all as shall be set
forth in the Prospectus Supplement relating to Warrants being offered pursuant
thereto.
DEBT WARRANTS
The applicable Prospectus Supplement will describe the terms of Debt
Warrants offered thereby, the Warrant Agreement relating to such Debt Warrants
and the certificates representing such Debt Warrants, including the following:
(1) the title of such Debt Warrants; (2) the aggregate number of such Debt
Warrants; (3) the price or prices at which such Debt Warrants will be issued;
(4) the currency or currencies, including composite currencies or currency
units, in which the price of such Debt Warrants may be payable; (5) the
designation, aggregate principal amount and terms of the Debt Securities
purchasable upon exercise of such Debt Warrants, and the procedures and
conditions relating to the exercise of such Debt Warrants; (6) the designation
and terms of any related Debt Securities with which such Debt Warrants are
issued, and the number of such Debt Warrants issued with each such Debt
Security; (7) the currency or currencies, including composite currencies or
currency units, in which the principal of or any premium or interest on the Debt
Securities purchasable upon exercise of such Debt Warrants will be payable; (8)
the date, if any, on and after which such Debt Warrants and the related Debt
Securities will be separately transferable; (9) the principal amount of Debt
Securities purchasable upon exercise of each Debt Warrant, and the price at
which and the currency or currencies, including composite currencies or currency
units, in which such principal amount of Debt Securities may be purchased upon
such exercise; (10) the date on which the right to exercise such Debt Warrants
will commence, and the date on which such right will expire; (11) the maximum or
minimum number of such Debt Warrants which may be exercised at any time; (12) a
discussion of any material federal income tax considerations; and (13) any other
terms of such Debt Warrants and terms, procedures and limitations relating to
the exercise of such Debt Warrants.
Certificates representing Debt Warrants will be exchangeable for new
certificates representing Debt Warrants of different denominations, and Debt
Warrants may be exercised at the corporate trust office of the Warrant Agent or
any other office indicated in the Prospectus Supplement. Prior to the exercise
of their Debt Warrants, holders of Debt Warrants will not have any of the rights
as holders of the Debt Securities purchasable upon such exercise and will not be
entitled to payment of principal of or any premium or interest on the Debt
Securities purchasable upon such exercise.
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PREFERRED STOCK WARRANTS
The applicable Prospectus Supplement will describe the terms of Preferred
Stock Warrants offered thereby, the Warrant Agreement relating to such Preferred
Stock Warrants and the certificates representing such Preferred Stock Warrants,
including the following: (1) the title of such Preferred Stock Warrants; (2) the
aggregate number of such Preferred Stock Warrants; (3) the price or prices at
which such Preferred Stock Warrants will be issued; (4) the currency or
currencies, including composite currencies or currency units, in which the price
of such Preferred Stock Warrants may be payable; (5) the designation, number of
shares and terms (including, among others, dividend, liquidation, redemption and
voting rights) of the Preferred Stock (including Preferred Stock represented by
Depositary Shares) purchasable upon exercise of such Preferred Stock Warrants,
and the procedures and conditions relating to the exercise of such Preferred
Stock Warrants; (6) the designation and terms of any related Securities of the
Company with which such Warrants are issued, and the number of such Preferred
Stock Warrants issued with each such Security; (7) the date, if any, on and
after which such Preferred Stock Warrants and the related Securities will be
separately transferable; (8) the maximum or minimum number of Preferred Stock
Warrants which may be exercised at any time; (9) if applicable, a discussion of
any material federal income tax considerations; and (10) any other terms of such
Preferred Stock Warrants, including terms, procedures and limitations relating
to the exchange and exercise of such Preferred Stock Warrants.
Certificates representing Preferred Stock Warrants will be exchangeable for
new certificates representing Preferred Stock Warrants of different
denominations, and Preferred Stock Warrants may be exercised at the corporate
trust office of the Warrant Agent or any office indicated in the Prospectus
Supplement. Prior to the exercise of their Preferred Stock Warrants, holders of
such Preferred Stock Warrants will not have any of the rights as holders of the
Preferred Stock purchasable upon such exercise and will not be entitled to any
dividend payments, liquidation premiums or voting rights of the Preferred Stock
(including Preferred Stock represented by Depositary Shares) purchasable upon
such exercise.
COMMON STOCK WARRANTS
The applicable Prospectus Supplement will describe the terms of any Common
Stock Warrants, the Warrant Agreement relating to such Common Stock Warrants and
the certificates representing such Common Stock Warrants in respect of which
this Prospectus is being delivered which may include: (1) the title of such
Common Stock Warrants; (2) the aggregate number of such Common Stock Warrants;
(3) the price or prices at which such Common Stock Warrants will be issued; (4)
the currency or currencies, including composite currencies or currency units, in
which the price of such Common Stock Warrants may be payable; (5) if applicable,
the designation and terms of any related Security with which such Common Stock
Warrants are issued, and the number of such Common Stock Warrants issued with
each such related Security; (6) if applicable, the date on and after which such
Common Stock Warrants and the related Security will be separately transferable;
(7) the date on which the right to exercise such Common Stock Warrants will
commence, and the date on which such right will expire; (8) the maximum or
minimum number of such Common Stock Warrants which may be exercised at any time;
(9) if applicable, a discussion of any material federal income tax
considerations; and (10) any other terms of such Common Stock Warrants,
including terms, procedures and limitations relating to the exchange and
exercise of such Common Stock Warrants.
Certificates representing Common Stock Warrants will be exchangeable for
new certificates representing Common Stock Warrants of different denominations,
and Common Stock Warrants may be exercised at the corporate trust office of the
Warrant Agent or any other office indicated in the Prospectus Supplement. Prior
to the exercise of their Common Stock Warrants, holders of Common Stock Warrants
will not have any of the rights as holders of Common Stock purchasable upon such
exercise and will not be entitled to dividend payments, if any, or voting rights
of the Common Stock purchasable upon such exercise.
EXERCISE OF WARRANTS
Each Warrant will entitle the holder to purchase for cash such principal
amount of Debt Securities or number of shares of Preferred Stock or Common Stock
at such exercise price as shall in each case be set forth
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in, or be determinable as set forth in, the Prospectus Supplement relating to
the Warrants offered thereby. Warrants may be exercised as set forth in the
Prospectus Supplement relating to the Warrants offered thereby. Upon receipt of
payment and the certificate representing the Warrants properly completed and
duly executed at the corporate trust office of the Warrant Agent or any other
office indicated in the Prospectus Supplement, the Company will, as soon as
practicable, forward the Securities purchasable upon such exercise. If less than
all of the Warrants represented by such certificate are exercised, a new
certificate will be issued for the remaining Warrants. Warrants may be exercised
at any time up to the close of business on the expiration date set forth in the
Prospectus Supplement relating to the Warrants offered thereby. After the close
of business on the expiration date, unexercised Warrants will become void.
LIMITATIONS ON ISSUANCE OF BEARER SECURITIES
In compliance with United States federal tax laws and regulations, Bearer
Securities (including Debt Securities that are exchangeable for Bearer
Securities and Debt Securities in permanent global form that are either Bearer
Securities or exchangeable for Bearer Securities) may not be offered, sold,
resold or delivered in connection with their original issuance in the United
States or to United States persons (each as defined below) except as otherwise
permitted by Treasury Regulation Section 1.163-5(c)(2)(i)(D) including offers
and sales to offices located outside the United States of United States
financial institutions (as defined in Treasury Regulation Section
1.165-12(c)(1)(v)) which agree in writing to comply with the requirements of
Section 165(j)(3)(A),(B) or (C) of the Code, as defined below, and the
regulations thereunder, and any underwriters, agents and dealers participating
in the offering of Debt Securities must agree in writing that they will not
offer, sell or resell any Bearer Securities to persons within the United States
or to United States persons (except as described above) nor deliver Bearer
Securities within the United States. In addition, any such underwriters, agents
and dealers must represent in writing that they have in effect, in connection
with the offer and sale of the Debt Securities, procedures reasonably designed
to ensure that their employees or agents who are directly engaged in selling the
Debt Securities are aware that Bearer Securities cannot be offered or sold to a
person who is within the United States or is a United States person except as
otherwise permitted by Treasury Regulation Section 1.163-5(c)(2)(i)(D).
Furthermore, the owner of the obligation (or the financial institution or
clearing organization through which the owner holds the obligation) must certify
to the Company that the owner is not a United States Person. Bearer Securities
and any coupons attached hereto will bear the following legend: "Any United
States person who holds this obligation will be subject to limitations under the
United States income tax laws, including the limitations provided in Sections
165(j) and 1287(a) of the United States Internal Revenue Code." Purchasers of
Bearer Securities may be affected by certain limitations under United States tax
laws.
As used herein, "United States person" means (i) an individual who is, for
United States Federal income tax purposes, a citizen or resident of the United
States, (ii) a corporation, partnership or other entity created or organized in
or under the laws of the United States or of any political subdivision thereof,
or (iii) an estate or trust the income of which is subject to United States
Federal income taxation regardless of its source, and "United States" means the
United States of America (including the States and the District of Columbia),
its territories and its possessions.
PLAN OF DISTRIBUTION
The Company may sell any series of Debt Securities, Preferred Stock,
Depositary Shares, Common Stock and Warrants and the Kmart Trusts may sell the
Preferred Securities being offered hereby, to or through underwriters or
dealers, directly to other purchasers, or through agents. The Prospectus
Supplement with respect to the Securities will set forth the terms of the
offering of the Securities, including the name or names of any underwriters,
dealers or agents, the price of the offered Securities and the net proceeds to
the Company from such sale, any underwriting discounts or other items
constituting underwriters' compensation, any discounts or concessions allowed or
reallowed or paid to dealers and any securities exchanges on which the
Securities may be listed.
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If underwriters are used in the sale, the Securities will be acquired by
the underwriters for their own account and may be resold from time to time in
one or more transactions, including negotiated transactions, at a fixed public
price or at varying prices determined at the time of sale. The underwriter or
underwriters with respect to a particular underwritten offering of Securities
will be named in the Prospectus Supplement relating to such offering, and if an
underwriting syndicate is used, the managing underwriter or underwriters will be
set forth on the cover of such Prospectus Supplement. Unless otherwise set forth
in the Prospectus Supplement, the obligations of the underwriters or agents to
purchase the Securities will be subject to certain conditions precedent and the
underwriters will be obligated to purchase all the Securities if any are
purchased. Any initial public offering price and any discounts or concessions
allowed or reallowed or paid to dealers may be changed from time to time.
If a dealer is utilized in the sale of any Securities in respect of which
this Prospectus is delivered, the Company and/or, if applicable, any Kmart Trust
will sell such Securities to the dealer, as principal. The dealer may then
resell such Securities to the public at varying prices to be determined by such
dealer at the time of resale. The name of the dealer and the terms of the
transaction will be set forth in the Prospectus Supplement relating thereto.
Securities may be sold directly by the Company and/or, if applicable, any
Kmart Trust to one or more institutional purchasers, or through agents
designated by the Company and/or, if applicable, any Kmart Trust from time to
time, at a fixed price, or prices, which may be changed, or at varying prices
determined at time of sale. Any agent involved in the offer or sale of the
Securities will be named, and any commissions payable by the Company and/or, if
applicable, any Kmart Trust to such agent will be set forth, in the Prospectus
Supplement relating thereto. Unless otherwise indicated in the Prospectus
Supplement, any such agent will be acting on a best efforts basis for the period
of its appointment.
In connection with the sale of the Securities, underwriters or agents may
receive compensation from the Company and/or, if applicable, any Kmart Trust or
from purchasers or Securities for whom they may act as agents in the form of
discounts, concessions, or commissions. Underwriters, agents, and dealers
participating in the distribution of the Securities may be deemed to be
underwriters, and any discounts or commissions received by them from the Company
and/or, if applicable, any Kmart Trust and any profit on the resale of the
Securities by them may be deemed to be underwriting discounts or commissions
under the Securities Act.
Each underwriter, dealer and agent participating in the distribution of any
Debt Securities which are issuable in bearer form will agree that it will not
offer, sell or deliver, directly or indirectly, Debt Securities in bearer form
in the United States or to United States persons except as otherwise permitted
by Treasury Regulation Section 1.163-5(c)(2)(i)(D). See "Limitations on Issuance
of Bearer Securities."
Each series of Securities will be a new issue with no established trading
market, other than the Common Stock which is listed on the New York Stock
Exchange, the Chicago Stock Exchange and the Pacific Stock Exchange. Any Common
Stock sold pursuant to a Prospectus Supplement will be listed on the New York
Stock Exchange, the Chicago Stock Exchange and the Pacific Stock Exchange,
subject to official notice of issuance. Any underwriters to whom Securities are
sold by the Company or the Kmart Trusts for public offering and sale may make a
market in such Securities, but such underwriters will not be obligated to do so
and may discontinue any market making at any time without notice. No assurance
can be given as to the liquidity of the trading market for any Securities.
Agents, dealers, and underwriters may be entitled under agreements entered
into with the Company and/or any Kmart Trust to indemnification by the Company
and/or any Kmart Trust against certain civil liabilities, including liabilities
under the Securities Act, or to contribution with respect to payments that such
agents, dealers, or underwriters may be required to make with respect thereto.
Underwriters, dealers, or agents and their associates may be customers of,
engage in transactions with and perform services for, the Company in the
ordinary course of business.
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LEGAL MATTERS
The legality of the Securities offered hereby will be passed upon for the
Company by Dickinson, Wright, Moon, Van Dusen & Freeman, Detroit, Michigan, and
Skadden, Arps, Slate, Meagher & Flom, New York, New York.
EXPERTS
The consolidated financial statements incorporated in this Prospectus by
reference to the Annual Report on Form 10-K for the year ended January 31, 1996,
have been so incorporated in reliance on the report of Price Waterhouse LLP,
independent accountants, given on the authority of said firm as experts in
accounting and auditing.
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[KMART LOGO]
<PAGE> 145
PROSPECTUS SUPPLEMENT (Subject to Completion)
(To Prospectus dated April 9, 1996)
Issued May 24, 1996
15,000,000 TRUST CONVERTIBLE PREFERRED SECURITIES
KMART FINANCING I
% TRUST CONVERTIBLE PREFERRED SECURITIES
(Liquidation Amount $50 Per Convertible Preferred Security)
Guaranteed to the Extent Set Forth Herein by
KMART CORPORATION
----------
Of the 15,000,000 % Trust Convertible Preferred Securities (the "Convertible
Preferred Securities") being offered hereby, 2,250,000 are being offered
initially outside of the United States and Canada by the International
Underwriters and 12,750,000 are being offered initially in the
United States and Canada by the U.S. Underwriters.
The Convertible Preferred Securities offered hereby represent preferred
undivided beneficial interests in the assets of Kmart Financing I, a statutory
business trust formed under the laws of the State of Delaware ("Kmart
Financing" or the "Trust"). Kmart Corporation, a Michigan corporation
("Kmart" or the "Company"), will directly or indirectly own all the common
securities (the "Common Securities" and, together with the Convertible
Preferred Securities, the "Trust Securities") representing undivided
beneficial interests in the assets of Kmart Financing. Kmart Financing
exists for the sole purpose of issuing the Convertible Preferred
Securities and Common Securities and investing the proceeds thereof
in % Convertible Junior Subordinated Debentures (the "Convertible
Debentures") of Kmart in an aggregate principal amount equal to the
aggregate liquidation amount of the Trust Securities. The
Convertible Debentures and the Convertible Preferred Securities
in respect of which this Prospectus Supplement is being delivered
shall be referred to herein as the "Offered Securities." The
Convertible Debentures when issued will be unsecured obligations
of Kmart and will be subordinate and junior in right of payment
to certain other indebtedness of Kmart as described herein. Upon
an event of default under the Declaration (as defined herein),
the holders of Convertible Preferred Securities will have a
preference over the holders of the Common Securities with
respect to payments in respect of distributions and
payments upon redemption, liquidation and otherwise.
(continued on next page)
SEE "RISK FACTORS" BEGINNING ON PAGE S-13 OF THIS PROSPECTUS SUPPLEMENT FOR
CERTAIN INFORMATION RELEVANT TO AN INVESTMENT IN THE
CONVERTIBLE PREFERRED SECURITIES.
The Convertible Preferred Securities have been approved for listing on the New
York Stock Exchange, Inc. (the "New York Stock Exchange"), subject to official
notice of issuance.
----------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE
SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES
COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS
SUPPLEMENT OR THE PROSPECTUS TO WHICH IT RELATES. ANY
REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
----------
PRICE $50 PER CONVERTIBLE PREFERRED SECURITY
----------
<TABLE>
<CAPTION>
Underwriting
Price to Discounts and Proceeds to
Public (1) Commissions (2) Trust (3)(4)
------------------ ------------------ ------------------
<S> <C> <C> <C>
Per Convertible Preferred Security............ $50 (3) $
Total (5)..................................... $750,000,000 (3) $
</TABLE>
- ------------
(1) Plus accrued distributions, if any, from June , 1996.
(2) Kmart Financing and Kmart have agreed to indemnify the Underwriters against
certain liabilities, including liabilities under the Securities Act of 1933.
See "Underwriters."
(3) In view of the fact that the proceeds of the sale of the Convertible
Preferred Securities will be invested in the Convertible Debentures, Kmart
has agreed to pay to the Underwriters as compensation for their arranging
the investment therein of such proceeds $ per Convertible Preferred
Security (or $ in the aggregate).
(4) Before deducting expenses payable by Kmart estimated at $ .
(5) Kmart Financing and Kmart have granted the U.S. Underwriters an option,
exercisable within 30 days of the date hereof, to purchase up to an
aggregate of 2,250,000 additional Convertible Preferred Securities at the
price to public less underwriting discounts and commissions for the purpose
of covering over-allotments, if any. If the U.S. Underwriters exercise such
option in full, the total price to public, underwriting discounts and
commissions and proceeds to Kmart Financing will be $ , $ and
$ , respectively. See "Underwriters."
----------
The Convertible Preferred Securities are offered, subject to prior sale,
when as and if accepted by the Underwriters and subject to the approval of
certain legal matters by Davis Polk & Wardwell, counsel for the Underwriters. It
is expected that delivery of the Convertible Preferred Securities will be made
on or about June , 1996 through the book-entry facilities of The Depository
Trust Company against payment therefor in immediately available funds.
----------
MORGAN STANLEY & CO. MERRILL LYNCH INTERNATIONAL
International
CS FIRST BOSTON
LEHMAN BROTHERS
June , 1996 SALOMON BROTHERS INTERNATIONAL LIMITED
INFORMATION CONTAINED HEREIN IS SUBJECT TO COMPLETION OR AMENDMENT. A
REGISTRATION STATEMENT RELATING TO THESE SECURITIES HAS BEEN FILED WITH THE
SECURITIES AND EXCHANGE COMMISSION. THESE SECURITIES MAY NOT BE SOLD NOR
MAY OFFERS TO BUY BE ACCEPTED PRIOR TO THE TIME A FINAL PROSPECTUS
SUPPLEMENT IS DELIVERED. THIS PROSPECTUS SUPPLEMENT SHALL NOT CONSTITUTE AN
OFFER TO SELL OR THE SOLICITATION OF AN OFFER TO BUY NOR SHALL THERE BE ANY
SALE OF THESE SECURITIES IN ANY JURISDICTION IN WHICH SUCH OFFER,
SOLICITATION OR SALE WOULD BE UNLAWFUL PRIOR TO REGISTRATION OR
QUALIFICATION UNDER THE SECURITIES LAWS OF ANY SUCH JURISDICTION.
