<PAGE> 1
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended April 28, 1996
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from ____________________ to ________________________
Commission file number: 0-17868
KRAUSE'S FURNITURE, INC.
(Exact name of registrant as specified in its charter)
Delaware 77-0310773
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation)
200 North Berry Street, Brea, California 92621
(Address of principal executive offices) (Zip Code)
(714) 990-3100
(Registrant's telephone number, including area code)
5980 Stoneridge Drive, Suite 109, Pleasanton, California 94588
(Former name, former address and former fiscal year, if changed since last
report)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. [x] Yes [ ] No
As of June 1, 1996 the Registrant had 4,120,810 shares of common stock
outstanding.
<PAGE> 2
INDEX
Page
PART I FINANCIAL INFORMATION
Item 1. Financial Statements
- Consolidated balance sheets 1
- Consolidated statement of operations (unaudited) 2
- Consolidated statement of cash flows (unaudited) 3
- Notes to consolidated financial statements (unaudited) 4 - 6
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 7 - 9
PART II OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K 10
Signatures 10
<PAGE> 3
KRAUSE'S FURNITURE, INC.
- --------------------------------------------------------------------------------
CONSOLIDATED BALANCE SHEETS
(in thousands, except share data)
<TABLE>
<CAPTION>
April 28, January 28,
1996 1996
--------- -----------
(unaudited)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 2,256 $ 1,336
Accounts receivable, net of allowance for
doubtful accounts of $306 ($291 at January 28, 1996) 717 786
Income tax refund receivable -- 1,467
Inventories 14,463 14,627
Prepaid expenses 241 386
-------- --------
Total current assets 17,677 18,602
Property, equipment, and leasehold improvements, net 6,670 6,738
Goodwill, net 16,151 16,406
Leasehold interests, net 1,747 1,830
Other assets 3,298 3,290
-------- --------
$ 45,543 $ 46,866
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued expenses $ 18,845 $ 16,176
Accrued payroll and related expenses 1,806 1,696
Customer deposits 6,407 7,014
Notes payable 5,550 19
Income taxes payable 582 575
-------- --------
Total current liabilities 33,190 25,480
Long-term liabilities:
Notes payable 65 5,584
Other liabilities 1,940 1,817
-------- --------
Total long-term liabilities 2,005 7,401
Commitments and contingencies
Stockholders' equity:
Convertible preferred stock, $.001 par value;
666,667 shares authorized, 117,694 shares outstanding
at stated value (liquidation preference $67.50 per share) 7,523 7,523
Common stock, $.001 par value; 8,333,333 shares authorized,
4,120,810 shares outstanding 4 4
Capital in excess of par value 27,419 27,419
Accumulated deficit (24,598) (20,961)
-------- --------
Total stockholders' equity 10,348 13,985
-------- --------
$ 45,543 $ 46,866
======== ========
</TABLE>
See accompanying notes.
1
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KRAUSE'S FURNITURE, INC.
CONSOLIDATED STATEMENT OF OPERATIONS
(unaudited)
(in thousands, except per share data)
<TABLE>
<CAPTION>
Thirteen Weeks Ended
-------------------------
April 28, April 30,
1996 1995
--------- --------
<S> <C> <C>
Net furniture sales $29,637 $32,251
Cost of sales 15,723 15,113
------- -------
Gross profit 13,914 17,138
Selling expenses 14,469 14,730
General and administrative expenses 2,696 3,124
Amortization of goodwill 255 255
------- -------
17,420 18,109
------- -------
Loss from operations (3,506) (971)
Interest expense (182) (171)
Other income (expense) 51 151
------- -------
Net loss $(3,637) $ (991)
======= =======
Net loss per share $ (0.88) $ (0.27)
======= =======
Average number of common
shares outstanding 4,121 3,685
</TABLE>
See accompanying notes.
2
<PAGE> 5
KRAUSE'S FURNITURE, INC.
- --------------------------------------------------------------------------------
CONSOLIDATED STATEMENT OF CASH FLOWS
(unaudited)
(In thousands)
<TABLE>
<CAPTION>
Thirteen Weeks Ended
April 28, April 30,
1996 1995
------- --------
<S> <C> <C>
Cash flows from operating activities:
Net loss ($3,637) ($ 991)
Adjustments to reconcile net loss to
net cash provided (used) by operating activities:
Depreciation and amortization 742 804
Change in assets and liabilities :
Accounts receivable 69 (22)
Income tax refund receivable 1,467 --
Inventories 164 (211)
Prepaid expenses and other assets 20 70
Accounts payable and accrued liabilities 2,909 (239)
Customer deposits (607) (871)
------- -------
Net cash provided (used) by operating activities 1,127 (1,460)
------- -------
Cash flows from investing activities:
Capital expenditures (219) (790)
------- -------
Net cash used by investing activities (219) (790)
------- -------
Cash flows from financing activities:
Net borrowings under revolving credit 17 2,712
Principal payments on other debt (5) (7)
------- -------
Net cash provided by financing activities 12 2,705
------- -------
Net increase in cash and cash equivalents 920 455
Cash and cash equivalents at beginning of period 1,336 1,952
------- -------
Cash and cash equivalents at end of period $ 2,256 $ 2,407
======= =======
Supplemental disclosures of cash flow information-
Cash paid during the period for:
Interest $ 163 $ 138
Income taxes -- 200
</TABLE>
See accompanying notes.
3
<PAGE> 6
KRAUSE'S FURNITURE, INC
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. The accompanying consolidated financial statements of Krause's Furniture,
Inc. (the "Company") and its wholly owned subsidiaries, including the Company's
principal subsidiary, Krause's Sofa Factory ("Krause's"), have been prepared
pursuant to the rules and regulations of the Securities and Exchange Commission
and reflect all adjustments which are, in the opinion of management, necessary
for a fair presentation for the periods reported. Certain information and note
disclosures normally included in annual financial statements prepared in
accordance with generally accepted accounting principles have been condensed or
omitted pursuant to those rules or regulations, although management believes
that the disclosures made are adequate to make the information presented not
misleading.
On August 1, 1995 the Company effected a one-for-three reverse split of
its common stock and preferred stock. Share and per share data for the thirteen
weeks ended April 30, 1995 have been restated to reflect the reverse split.
These financial statements should be read in conjunction with the
consolidated financial statements and the notes thereto included in the
Company's Annual Report on Form 10-K for the year ended January 28, 1996. The
results of operations for the thirteen weeks ended April 28, 1996 are not
necessarily indicative of results to be expected in future periods.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenue and expenses during the reported
periods. Actual results could differ from those estimates.
2. On May 10, 1996, the Company's revolving credit agreement (Note 4) was
amended to extend the expiration date of the agreement to January 1998, provide
for additional borrowing availability and revise certain covenants and other
conditions. As a result of recurring operating losses, Krause's currently does
not comply with the revised technical covenants requiring maintenance of certain
levels of working capital and stockholders' equity. As a result of the covenant
violations, the lender may declare the entire amount of such indebtedness due
and payable immediately. Accordingly, the amount outstanding under the revolving
credit agreement has been reclassified and reflected as a current liability in
the accompanying April 28, 1996 consolidated balance sheet.
4
<PAGE> 7
During fiscal 1995 and the first quarter of fiscal 1996 the Company
incurred operating losses of $9,388,000 and $3,506,000, respectively, and as of
April 28, 1996 the Company has a working capital deficiency of $15,513,000 and
an accumulated deficit of $24,598,000. Management has identified certain
initiatives and taken steps to return to profitability. Principal planned
strategic objectives and initiatives include downsizing showroom square footage
to reduce occupancy expenses, upgrading and remodeling showrooms to provide a
more appealing setting for customers, remerchandising, refocusing and reducing
advertising expenditures, improving manufacturing processes, and reducing
corporate expenses. Some of these initiatives can be undertaken presently while
others will require capital expenditures and, therefore, additional financing.
To provide necessary financing for current operations as well as to
begin to obtain necessary funding for the capital expenditures contemplated by
management's strategic initiatives, the Company, in June 1996, obtained
$2,950,000 from issuances of notes to certain stockholders and to affiliates of
certain stockholders (Note 4). Substantial operating losses are expected to
continue at least through the second quarter of the current fiscal year. The
Company will need to obtain additional financing to continue to fund these
expected operating losses and to implement all of the strategic objectives and
initiatives contemplated by the strategic plan. Should required additional
financing not be obtained, there is substantial doubt as to the Company's
ability to continue as a going concern. The accompanying consolidated financial
statements do not include any adjustments relating to the recoverability and
classification of asset carrying amounts or the classification of liabilities
that might result should the Company be unable to continue as a going concern.
3. Inventories are carried at the lower of cost or market using the first-in,
first-out method and are comprised of the following:
<TABLE>
<CAPTION>
April 28, 1996 January 28, 1996
-------------- ----------------
<S> <C> <C>
Finished goods $11,476,000 $12,345,000
Work-in-process 441,000 297,000
Raw materials 2,546,000 1,985,000
------------ -----------
$14,463,000 $14,627,000
=========== ===========
</TABLE>
4. Notes payable consists of the following:
<TABLE>
<CAPTION>
April 28, 1996 January 28, 1996
-------------- ----------------
<S> <C> <C>
Secured revolving credit notes $5,532,000 $5,515,000
Other notes 83,000 88,000
---------- ----------
5,615,000 5,603,000
Less current portion 5,550,000 19,000
---------- ----------
$ 65,000 $5,584,000
========== ==========
</TABLE>
5
<PAGE> 8
The secured revolving credit notes were issued under a revolving credit
facility with a financial institution that expires in January 1998. Borrowings
under the revolving credit facility are based on the value of eligible
inventory, as defined, and as of April 28, 1996 were limited to approximately
$6.5 million. Interest on the loans is payable monthly at the rate of 1.5% in
excess of the prime rate (8.25% at April 28, 1996). Substantially all of
Krause's assets are pledged as collateral for the notes.
Since April 28, 1996 the Company received proceeds from related parties
in connection with the issuances of convertible notes of $950,000 and a 20%
demand promissory note of $2,000,000. The convertible notes will mature in three
years and bear interest at 10% for the first year and will be convertible into
common stock after the first anniversary of the notes at a conversion price
ranging from $.80 to $4 per share depending on the market price of the Company's
common stock during a defined period prior to the date of conversion.
5. Net loss per share amounts were computed based on the weighted average number
of common shares outstanding during the periods reported. Common equivalent
shares are not included in the computation since such share equivalents are
antidilutive.
6
<PAGE> 9
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULT OF OPERATIONS
RESULTS OF OPERATIONS
Thirteen Weeks Ended April 28, 1996 Compared to Thirteen Weeks Ended April 30,
1995
Net furniture sales for the first fiscal quarter 1996 were $29,637,000
which was a decrease of approximately 8.1% from net sales in the comparable
first quarter of 1995. The sales decrease was primarily attributable to a 10.2%
decrease in same-store sales in the first quarter 1996 compared to the first
quarter 1995. Such decrease was the result, among other things, of an
industry-wide softness in retail sales, the fact that Krause's operated five
fewer stores in the 1996 quarter and the sale of a higher level of clearance
merchandise in the 1996 period.
Gross margin was 46.9% of net sales in the first quarter 1996 compared
to 53.1% in the first quarter 1995. The lower gross margins resulted primarily
from higher product promotions (price discounts), changes in product mix and the
sale of a higher level of clearance merchandise in the 1996 period.
Selling expenses as a percentage of sales were 48.8% in the first
quarter 1996 compared to 45.7% in the same period last year. Selling expenses
were $14,469,000 in the first quarter 1996 and $14,730,000 in the first quarter
1995. The decrease in total selling expenses was principally because of variable
selling expenses attributable to lower sales, reduced occupancy expenses from
fewer stores operating in 1996 and lower advertising costs, offset by higher
delivery expenses and sales payroll incentives.
General administrative expenses, exclusive of employee termination
costs of $164,000 in the first quarter 1996 and $415,000 in first quarter 1995,
decreased by $177,000 as a result of the Company's continuing expense reduction
plan.
As a result of the above factors, net loss was $3,637,000 in the first
quarter ended April 28, 1996 compared to a loss of $991,000 in the first quarter
ended April 30, 1995. Net loss per share in the 1996 quarter was $.88 based on
4,121,000 average shares outstanding. In the comparable 1995 quarter the net
loss per share was $.27 based on 3,685,000 average shares outstanding.
No tax benefits were available for first quarter 1996 or 1995 operating
losses.
7
<PAGE> 10
LIQUIDITY AND CAPITAL RESOURCES
As of April 28, 1996, the Company had $2,256,000 in cash and cash
equivalents compared to $1,336,000 as of January 28, 1996.
Cash Flow - Thirteen Weeks Ended April 28, 1996
Cash and cash equivalents increased by $920,000 during the period.
Operating activities provided net cash of $1,127,000, principally from an
increase in accounts payable and other liabilities of $2,302,000 and collections
of income tax receivables of $1,467,000, offset by a cash loss from operations
of $2,895,000. Investing activities during the period were capital expenditures
of $219,000, principally for additions to leasehold improvements at retail
showrooms. Financing activities during the period were net borrowings of $17,000
under the Company's revolving credit facility offset by $5,000 of payments on
short-term notes.
Cash Flow - Thirteen Weeks Ended April 30, 1995
Cash and cash equivalents increased by $455,000 during the period.
Operating activities used net cash of $1,460,000, principally from a $187,000
cash loss from operations, an increase in inventories of $211,000 and a decrease
in current liabilities of $1,110,000, offset by an increase in prepaid expenses
and other assets of $70,000. Investing activities were capital expenditures of
$790,000, principally for costs of construction of a showroom in Dallas and for
additions to leasehold improvements of new showrooms. The Dallas showroom was
sold for approximately $1 million cash in May 1995 and leased back. This sale
and leaseback resulted in a $386,000 deferred profit to be amortized over the
term of the lease. Financing activities included $2,712,000 of net borrowings
under a revolving credit agreement.
Outlook
On May 10, 1996 Krause's revolving credit agreement was amended to
extend the credit agreement to January 1998, provide for additional borrowing
availability and revise certain covenants and conditions. Krause's currently
does not comply with the revised technical covenants requiring maintenance of
certain levels of working capital and stockholder's equity. As a result of the
covenant violations, the lender may declare the entire amount of such
indebtedness due and payable immediately. Accordingly, the amount outstanding
under the revolving credit agreement has been reclassified and reflected a
current liability in the April 28, 1996 consolidated balance sheet included
elsewhere herein.
8
<PAGE> 11
During fiscal 1995 and the first quarter of fiscal 1996 the Company
incurred operating losses of $9,388,000 and $3,506,000, respectively, and as of
April 28, 1996 the Company had a working capital deficiency of $15,513,000 and
an accumulated deficit of $24,598,000. Management has identified certain
initiatives and taken steps to return to profitability. Principal planned
strategic objectives and initiatives include downsizing showroom square footage
to reduce occupancy expenses, upgrading and remodeling showrooms to provide a
more appealing setting for customers, remerchandising, refocusing and reducing
advertising expenditures, improving manufacturing processes, and reducing
corporate expenses. Some of these initiatives can be undertaken presently while
others will require capital expenditures and, therefore, additional financing.
The Company has no significant long-term capital expenditure requirements.
To provide necessary financing for current operations as well as to
begin to obtain necessary funding for the capital expenditures contemplated by
management's strategic initiatives, in June 1996 the Company obtained $2,950,000
of funding from issuance of notes, described in Note 4 of the notes to
consolidated financial statements, to certain stockholders and to affiliates of
certain stockholders.
Substantial operating losses are expected to continue at least through
the second quarter 1996. The Company will need to obtain additional financing to
fund the expected operating losses and to implement all of the strategic
objectives and initiative contemplated by the strategic plan. Should required
additional financing not be obtained, there is substantial doubt as to the
Company's ability to continue as a going concern.
Management is continuing to seek additional debt or equity financing;
however, there are no agreements for additional financing currently, and no
assurances can be given that additional financing will be available on terms
acceptable to the Company or at all.
9
<PAGE> 12
PART II - OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K filed during the quarter ended April
28, 1996
(a) Exhibits
4.1 Demand Promissory Note dated May 21, 1996
4.2 Form of Convertible Promissory Note
(b) Reports on Form 8-K
The Registrant did not file any reports on Form 8-K during the
quarter covered by this report.
SIGNATURES
Pursuant to the requirements of the Securities and Exchange Act of
1934, the Registrant has duly caused this report to be signed on its behalf by
the undersigned thereunto duly authorized.
KRAUSE'S FURNITURE, INC.
(Registrant)
Date: July 18, 1996 /s/ Stephen P. Anderson
------------------------
Stephen P. Anderson
President
Date: July 18, 1996 /s/ Robert G. Sharpe
------------------------
Robert G. Sharpe
Executive Vice President
and Treasurer
10
<PAGE> 1
EXHIBIT 4.1
DEMAND PROMISSORY NOTE
Pleasanton, California
US $1,500,000.00 May 21, 1996
FOR VALUE RECEIVED, the undersigned, KRAUSE'S FURNITURE, INC., a
Delaware corporation (the "Maker"), HEREBY PROMISES TO PAY ON DEMAND to the
order of EDSON INVESTMENTS INC., a British Virgin Islands corporation (the
"Payee") at Tortola, British Virgin Islands, in lawful currency of the United
States of America the sum of One Million Five Hundred Thousand Dollars
($1,500,000.00), in cash, together with interest on the declining balance of
principal from the date hereof until paid in full at the rate of the lesser of
20% per annum or the maximum rate of interest allowed by law.
Payment hereunder is due at or prior to 11:00 A.M. (Delaware time)
within seven days following demand for payment thereof. Whenever payment
hereunder shall be stated to be due on a day other than a day of the year on
which banks are not required or authorized to close in San Francisco, California
or New York City, New York (any such other day being a "Business Day"), such
payment shall be made on the next succeeding Business Day.
Maker shall be entitled to prepay the indebtedness owed hereunder in
whole or in part at any time or from time to time, without penalty. Any
prepayments shall be credited first to accrued interest and then to principal.
In the event of any default in payment of this Note, the holder hereof
shall be entitled to receive all costs of collection including, without
limitation, reasonable attorneys' fees.
This Demand Promissory Note shall be governed by and construed in
accordance with the laws of the State of Delaware. The Maker (i) irrevocably
submits to the jurisdiction of any Delaware State court or Federal court sitting
in Delaware in any action arising out of this Demand Promissory Note, (ii)
agrees that all claims in such action may be decided in such court, (iii)
waives, to the fullest extent it may effectively do so, the defense of
inconvenient forum and (iv) consents to the service of process by mail. Nothing
herein shall affect the right of any party to serve legal process in any manner
permitted by law or affect its right to bring any action in any other court.
KRAUSE'S FURNITURE, INC.
By__________________________
Its_________________________
<PAGE> 1
EXHIBIT 4.2
THESE SECURITIES HAVE NOT BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933. THEY
MAY NOT BE SOLD, OFFERED FOR SALE, PLEDGED OR HYPOTHECATED IN THE ABSENCE OF A
REGISTRATION STATEMENT IN EFFECT WITH RESPECT TO THE SECURITIES UNDER SUCH ACT
OR AN OPINION OF COUNSEL SATISFACTORY TO THE COMPANY THAT SUCH REGISTRATION IS
NOT REQUIRED OR UNLESS SOLD PURSUANT TO RULE 144 OF SUCH ACT.
KRAUSE'S FURNITURE, INC.
CONVERTIBLE PROMISSORY NOTE
SERIES 1996-I, NO. ___ PLEASANTON, CALIFORNIA
$____________ ___________, 1996
KRAUSE'S FURNITURE, INC. (the "Company"), a Delaware corporation, for
value received, hereby promises to pay to ____________________________ or order
(the "Holder"), on demand at any time on or after ____________, 1999 (the "Due
Date"), the principal amount of _________________________ Dollars ($________),
together with interest thereon at the annual rate of Ten Percent (10%) for the
first year after the date hereof. Thereafter, no interest shall accrue
hereunder. Payments of principal and interest shall be made in lawful money of
the United States of America at Holder's address set forth on the signature page
hereto or at such other place in the United States as Holder shall have
designated to the Company in writing. This Note may not be prepaid prior to the
first anniversary of the date of this Note but may be prepaid at any time after
the first anniversary of the date of this Note and before the Due Date only upon
thirty (30) days' advance written notice to Holder.
1. CONVERSION.
a. CONVERSION AT ELECTION OF HOLDER. Subject to adjustment as set
forth herein, the entire outstanding principal amount of this Note and all
accrued interest may be converted at the election of Holder into shares of the
Company's Common Stock at any time after the first anniversary of the date of
this Note.
b. CONVERSION AT ELECTION OF COMPANY. Subject to adjustment as set
forth herein, the entire outstanding principal amount of this Note and all
accrued interest may be converted at the election of the Company into shares of
the Company's Common Stock at any time after the date that is ninety (90) days
before the Due Date.
<PAGE> 2
c. NUMBER OF SHARES. The number of shares of the Company's Common
Stock into which this Note may be converted shall be determined by dividing the
total of the outstanding principal amount of the Note and the interest accrued
thereon by the Conversion Price, as defined in SECTION 1.d. Upon issuance of
such shares of the Company's Common Stock in accordance with the terms hereof,
such shares will be fully paid and nonassessable, and this Note shall become
null and void and shall cease to have any effect.
d. CONVERSION PRICE. The Conversion Price shall be an amount equal
to eighty percent (80)% of the average "Closing Price" of the Company's Common
Stock for the sixty (60) consecutive trading days immediately preceding the
first anniversary of the date of this Note. The foregoing notwithstanding but
subject only to appropriate adjustment pursuant to SECTION 3.a below, in no
event shall the Conversion Price be greater than $4.00 or less than $0.80. The
term "Closing Price" when used herein means the closing bid price of the Common
Stock of the Company reported by the National Association of Securities Dealers
Automated Quotation Systems, Inc. ("NASDAQ") or, if the shares of Common Stock
of the Company are then listed on a National Securities Exchange (registered
under the Securities Exchange Act of 1934), or the NASDAQ National Market System
or other comparable listing which lists last sale prices, the reported last sale
price per share or, in case no such reported sale takes place on such day, the
average of reported closing bid and asked prices per share, in either case on
such exchange, or if such prices are not recorded by NASDAQ and the shares of
Common Stock are not listed or admitted to trading on such a National Securities
Exchange, the mean between the closing bid and asked prices as furnished by any
member of the National Association of Securities Dealers, Inc. selected from
time to time by the Company for that purpose.
2. METHOD OF CONVERSION.
a. METHOD OF CONVERSION BY HOLDER. The exercise by Holder of its
conversion right hereunder shall be effected by the surrender of this Note,
together with a duly executed copy of a Holder Conversion Notice in the form
attached hereto as APPENDIX 1, to the Company at its principal office.
b. METHOD OF CONVERSION BY COMPANY. The exercise by the Company of
its conversion right hereunder shall be effected by its delivering to Holder a
duly-executed copy of a Company Conversion Notice in the form attached hereto as
APPENDIX 2. Upon its receipt of the Company Conversion Notice, Holder shall, as
promptly as practicable, surrender the Note to the Company at its principal
office. In the event Holder shall fail to so deliver the Note, the Company's
conversion rights shall nonetheless be effective, and this Note shall be deemed
paid in full and shall cease to have any further effect.
c. DELIVERY OF STOCK CERTIFICATES; FRACTIONAL SHARES. As promptly as
practicable after the conversion of this Note, the Company at its expense shall
issue and deliver to Holder a certificate or certificates for the number of full
shares of Company Stock
2
<PAGE> 3
issuable upon such conversion of the Note. In lieu of any fractional share to
which Holder would otherwise be entitled, the Company shall make a cash payment
equal to the then fair market value of such fractional share as determined by
the Company's Board of Directors.
3. CERTAIN ADJUSTMENTS.
a. ADJUSTMENTS TO CONVERSION PRICE. The Conversion Price shall be
subject to adjustment as set forth in this SECTION 3.a.
i. ADJUSTMENT FOR STOCK SPLITS AND COMBINATIONS. In case
outstanding shares of the Company's Common Stock shall be subdivided into a
greater number of shares of Common Stock, the Conversion Price in effect at the
opening of business on the date following the day upon which such subdivision
becomes effective shall be proportionately reduced, and, conversely, in case
outstanding shares of the Company's Common Stock shall be combined into a
smaller number of shares of Common Stock, the Conversion Price in effect at the
opening of business on the date following the day upon which such combination
becomes effective shall be proportionately increased, such reductions or
increases to be effected as provided below. In the event of any such subdivision
or combination, the Conversion Price then in effect shall be reduced or
increased, as the case may be, by multiplying it by a fraction of which the
numerator shall be the number of shares of the Company's Common Stock
outstanding at the close of business on the date immediately preceding the
effective date of such subdivision or combination and the denominator shall be
the number of shares of Common Stock outstanding immediately after such
subdivision or combination becomes effective.
ii. ADJUSTMENT FOR CERTAIN DIVIDENDS AND DISTRIBUTIONS. In the
event the Company, at any time or from time to time, makes or fixes a record
date for the determination of holders of shares of Common Stock entitled to
receive a dividend or other distribution payable in additional shares of Common
Stock, then and in each such event the Conversion Price then in effect shall be
reduced by multiplying the Conversion Price by a fraction (A) the numerator of
which shall be the total number of shares of Common Stock issued and outstanding
immediately prior to the time of such issuance or the close of business on such
record date and (B) the denominator of which shall be the total number of shares
of Common Stock issued and outstanding immediately prior to the time of such
issuance or the close of business on such record date plus the number of shares
of Common Stock issuable in payment of such dividend or distribution; provided,
however, that if such record date is fixed and such dividend is not fully paid
or if such distribution is not fully made on the date fixed therefor, the
Conversion Price shall be recomputed accordingly as of the close of business on
such record date and thereafter the Conversion Price shall be adjusted pursuant
to this SECTION 3.a.ii as of the time of actual payment of such dividends or
distributions.
b. OTHER ADJUSTMENTS.
i. ADJUSTMENTS FOR OTHER DIVIDENDS AND DISTRIBUTIONS. In the
event the Company at any time or from time to time makes, or fixes a record date
for the
3
<PAGE> 4
determination of holders of shares of Common Stock entitled to receive a
dividend or other distribution payable in securities of the Company other than
shares of Common Stock, then in each such event provision shall be made so that
Holder shall receive upon conversion of this Note, in addition to the number of
shares of Common Stock receivable thereupon, the amount of securities of the
Company which Holder would have received had this Note been converted into
shares of Common Stock on the date of such event and had Holder thereafter,
during the period from the date of such event to and including the date of
conversion, retained such securities receivable by it as aforesaid during such
period, subject to all other adjustments called for during such period under
this SECTION 3.
ii. ADJUSTMENT FOR RECLASSIFICATION, EXCHANGE AND SUBSTITUTION.
If the shares of Common Stock issuable upon the conversion of this Note are
changed into the same or a different number of shares of any other class or
classes of stock, whether by recapitalization, reclassification or otherwise
(other than a subdivision or combination of shares or stock dividend or a
reorganization, merger, consolidation or sale of assets, provided for elsewhere
in this SECTION 3), then and in any such event Holder shall have the right
thereafter to convert this Note into the kind and amount of stock and other
securities and property receivable upon such recapitalization, reclassification
or other change by holders of the number of shares of Common Stock into which
this Note might have been converted immediately prior to such recapitalization,
reclassification or change.
iii. REORGANIZATION, MERGER, CONSOLIDATION OR SALE OF ASSETS. If
at any time or from time to time there is a capital reorganization of the shares
of Common Stock (other than a recapitalization, subdivision, combination,
reclassification or exchange of shares provided for elsewhere in this SECTION 3)
or a merger or consolidation of the Company with or into another corporation, or
the sale of all or substantially all of the Company's properties and assets to
any other person, then, as a part of such capital reorganization, merger,
consolidation or sale, provision shall be made so that Holder shall thereafter
be entitled to receive, upon conversion of this Note, the number of shares of
stock or other securities or property of the Company, or of the successor
corporation resulting from such merger, consolidation or sale, to which a holder
of shares of Common Stock deliverable upon conversion hereof would have been
entitled on such capital reorganization, merger, consolidation or sale. In any
such case (except to the extent any cash or property is received in such
transaction), appropriate adjustment shall be made in the application of the
provisions of this SECTION 3.b.iii with respect to the rights of Holder after
the capital reorganization, merger, consolidation or sale to the end that the
provisions of this SECTION 3.b.iii (including adjustment of the number of shares
of Common Stock issuable upon conversion of this Note) shall be applicable after
that event and be as nearly equivalent to the provisions hereof as may be
practicable.
c. NO IMPAIRMENT. The Company will not, by amendment of its
Certificate of Incorporation or through any reorganization, transfer of assets,
consolidation, merger, dissolution, issuance or sale of securities or any other
voluntary action, avoid or seek to avoid the observance or performance of any of
the terms to be observed or
4
<PAGE> 5
performed hereunder by the Company, but will at all times in good faith assist
in the carrying out of all the provisions of this SECTION 3 and in the taking of
all such action as may be necessary or appropriate in order to protect the
conversion rights of Holder against dilution or other impairment.
d. CERTIFICATE AS TO ADJUSTMENTS. Promptly following conversion, the
Company will compute such adjustments in accordance with the terms of SECTION
3.a and SECTION 3.b and cause a certificate setting forth all such adjustments
and showing in detail the facts upon which such adjustments are
based to be delivered to Holder.
4. RESERVATION OF SHARES OF COMMON STOCK. The Company shall at all
times have authorized and reserved, free from preemptive rights, a sufficient
number of shares of Common Stock to provide for the conversion of this Note. If
at any time the number of authorized but unissued shares of Common Stock shall
not be sufficient to effect the conversion of this Note, in addition to such
other remedies as shall be available to Holder, the Company shall use its
reasonable best efforts to take such corporate action as may, in the opinion of
its counsel, be necessary to increase its authorized but unissued shares of
Common Stock to such number of shares as shall be sufficient for such purposes.
5. PRIVILEGE OF STOCK OWNERSHIP. Prior to the conversion of this Note,
Holder, by reason of its ownership of this Note, shall not be entitled to any
rights of a shareholder of the Company, including (without limitation) the right
to vote, receive dividends or other distributions or exercise preemptive rights.
6. INVESTMENT REPRESENTATIONS. Holder represents that:
a. PURCHASE FOR OWN ACCOUNT. This Note and the shares of Common
Stock to be received upon conversion of this Note are being acquired for
Holder's own account, not as a nominee or agent and not with a view to resale or
distribution of any part thereof, and Holder has no present intention of
selling, granting any participation in, or otherwise distributing the same.
Holder further represents that it does not have any contract, undertaking,
agreement or arrangement with any person to sell, transfer or grant
participations to any third person with respect to this Note or the Common
Stock.
b. RESTRICTED SECURITIES. Holder understands that this Note and the
Common Stock may be characterized as "restricted securities" under the federal
securities laws inasmuch as they are being acquired from the Company in
transactions not involving a public offering and that under such laws and
applicable regulations such securities may be resold without registration under
the Securities Act of 1933, as amended (the "Act"), only in certain limited
circumstances. In this connection, Holder represents that it is familiar with
SEC Rule 144, as presently in effect, and understands the resale limitations
imposed thereby and by the Act.
5
<PAGE> 6
c. RESTRICTIONS ON DISPOSITION. Without in any way limiting the
representations set forth above, Holder agrees not to make any disposition of
this Note or all or any portion of the Common Stock unless and until either of
the following applies:
i. There is then in effect a registration statement under the Act
covering such proposed disposition and such disposition is made in accordance
with such registration statement.
ii. Holder shall (1) have notified the Company of the proposed
disposition and shall have furnished the Company with a detailed statement of
the circumstances surrounding the proposed disposition, and (2) if reasonably
requested, Holder shall have furnished the Company with an opinion of counsel,
reasonably satisfactory to the Company that such disposition will not require
registration of the Company Stock under the Act. It is agreed that the Company
will not require opinions of counsel for sale made pursuant to Rule 144 except
in unusual circumstances.
d. LEGEND. Holder understands the instruments evidencing the shares
of Common Stock to be issued upon conversion of this Note may bear the following
legend:
THE SHARES REPRESENTED BY THIS CERTIFICATE HAVE NOT BEEN REGISTERED
UNDER THE SECURITIES ACT OF 1933, AS AMENDED, AND SAID SHARES MAY
NOT BE OFFERED, SOLD, TRANSFERRED, PLEDGED OR HYPOTHECATED UNLESS
THEY HAVE FIRST BEEN REGISTERED UNDER SAID ACT, OR UNLESS COUNSEL
SATISFACTORY TO THE CORPORATION HAS GIVEN AN OPINION THAT
REGISTRATION UNDER SAID ACT IS NOT REQUIRED.
7. REGISTRATION RIGHTS. The Holder and the Company shall, on the date
hereof, have executed and delivered a Registration Rights Agreement
substantially in the form attached hereto as APPENDIX 3.
8. MISCELLANEOUS.
a. TITLES AND SUBTITLES. The titles and subtitles used in this Note
are for convenience only and are not to be considered in construing or
interpreting this Note.
b. NOTICES. Any notice required or permitted under this Note shall
be given in writing and shall be deemed effectively given upon personal delivery
to the party to be notified or upon deposit with the United States Post Office,
by registered or certified mail, postage prepaid.
6
<PAGE> 7
c. AMENDMENTS AND WAIVERS. Any term of this Note may be amended and
the observance of any term of this Note may be waived (either generally or in a
particular instance and either retroactively or prospectively), only with the
written consent of the Company and Holder hereof. Any amendment or waiver
effected in accordance with this SECTION 8.c shall be binding upon Holder of
this Note and the Company.
d. SEVERABILITY. If one or more provisions of this Note are held to
be unenforceable under applicable law, such provision shall be excused from this
Note and the balance of the Note shall be interpreted as if such provision were
so excluded and shall be enforceable in accordance with its terms.
e. ATTORNEYS' FEES. If any legal action or any arbitration or other
proceeding is brought for the enforcement of this Note, or because of an alleged
dispute, breach, default or misrepresentation in connection with any of the
provisions of this Note, the successful or prevailing party or parties shall be
entitled to recover reasonable attorney fees and other costs incurred in that
action or proceeding, in addition to any other relief to which it or they may be
entitled.
f. GOVERNING LAW. This Note shall be governed by and constructed and
enforced in accordance with the laws of the State of California without giving
effect to conflicts of law principals.
KRAUSE'S FURNITURE, INC.
By____________________________
_________________ President
7
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