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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
(MARK ONE)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF
THE SECURITIES EXCHANGE ACT OF 1934
[FEE REQUIRED]
FOR THE FISCAL YEAR ENDED JANUARY 28, 1996
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF
THE SECURITIES EXCHANGE ACT OF 1934
[NO FEE REQUIRED]
FOR THE TRANSITION PERIOD FROM TO .
COMMISSION FILE NUMBER 0-17868
KRAUSE'S FURNITURE, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
<TABLE>
<S> <C>
DELAWARE 77-0310773
(STATE OR OTHER JURISDICTION OF (IRS EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
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200 NORTH BERRY STREET, BREA, CALIFORNIA 92621-3903
(ZIP
CODE)
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)
(714) 990-3100
(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT: NONE
SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT:
COMMON STOCK, $.001 PAR VALUE
(TITLE OF CLASS)
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. YES /X/ No / /
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment of this
Form 10-K. /X/
As of March 28, 1996 the aggregate market value of Registrant's $.001 par
value Common Stock held by non-affiliates was approximately $2,400,000 based on
the closing price for the stock. As of March 28, 1996 there were 4,120,810
shares of $.001 par value Common Stock outstanding.
Documents Incorporated by Reference: Proxy Statement for 1996 Annual
Meeting of Stockholders with respect to information required in Part III.
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This Report on Form 10-K contains certain forward-looking statements that
are based on current expectations. In light of the important factors that can
materially affect results, including those set forth in this Form 10-K, the
inclusion of forward-looking information herein should not be regarded as a
representation by the Company or any other person that the objectives or plans
of the Company will be achieved. The Company may encounter competitive,
financial and business challenges making it more difficult than expected to
continue to develop, market, manufacture and ship products on a timely basis;
competitive conditions may change adversely; demand for the Company's products
may weaken; the market may not accept the Company's merchandising strategies and
products; the Company may be unable to retain existing key management personnel;
the Company's forecasts may not accurately anticipate customer demand; and there
may be other material adverse changes in the Company's operations or business.
Certain important factors affecting the forward looking statements made herein
include, but are not limited to (i) timely identifying, designing, and
delivering new products as well as enhancing existing products, (ii)
implementing current strategic plans, (iii) accurately forecasting capital
expenditures, and (iv) obtaining new sources of external financing. Assumptions
relating to budgeting, marketing, advertising, product development and other
management decisions are subjective in many respects and thus susceptible to
interpretations and periodic revisions based on actual experience and business
developments, the impact of which may cause the Company to alter its marketing,
advertising, capital expenditure or other budgets, which may in turn affect the
Company's financial position and results of operations.
PART I
ITEM 1. BUSINESS
CORPORATE HISTORY. Krause's Furniture, Inc. (the "Company") is a Delaware
corporation which is publicly traded (NASDAQ trading symbol SOFA). The Company
changed its name to Krause's Furniture, Inc. in December 1994. The former name
was Worth Corporation, which had a NASDAQ trading symbol of WRTH until December
12, 1994.
The Company's business is primarily conducted through its wholly-owned
subsidiary, Krause's Sofa Factory ("Krause's"). In April 1991 the Company
acquired for approximately $6.2 million a controlling interest in Krause's, a
manufacturer and retailer of made-to-order upholstered furniture. On October 31,
1993, the Company acquired by merger the then outstanding minority interest in
Krause's through an exchange of stock. Each of Krause's minority shareholders
received 3.24 shares of the Company's common stock for each share of Krause's
capital stock. Krause's was started in San Diego, California in 1973. Originally
incorporated as The Sofa Factory, it changed its name to Krause's Sofa Factory
in 1984.
In May 1993 Krause's acquired certain assets related to the retail
operations of Castro Convertible Corporation. Castro Convertibles, which was
started in 1931, has been known throughout the East Coast for its quality
sofabed products and was an early pioneer in developing the tri-fold sofabed
mechanism. Krause's manufactures products for sale through the Castro stores and
dealerships. Descriptions of the businesses, products, manufacturing and other
information of Krause's are outlined in the following sections of this report.
In August 1994 the Company sold its 18% ownership interest in Mr. Coffee,
inc. ("Mr. Coffee") to Health o meter Products, Inc. for cash totaling $23.3
million. The Company had purchased its equity position in Mr. Coffee through
various stock purchases and exchanges commencing in February 1988. Mr. Coffee is
the leading producer of automatic drip coffeemakers in the United States and
also manufacturers other small kitchen appliances.
In April 1995 the Company changed from a calendar year-end to a fiscal
year-end on the last Sunday of January as determined by the 52/53 retail fiscal
year. The Company's 1995 fiscal year ended January 28, 1996.
KRAUSE'S SOFA FACTORY
BUSINESS. Krause's manufactures made-to-order sofas, sofabeds, loveseats
and chairs, and retails these products (as well as externally-sourced products)
through its own chain of retail showrooms as well as licensed
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dealerships. As of January 28, 1996 there were 83 company-owned showrooms and
four dealers in 12 states. Krause's is believed to be the largest combined
manufacturer and retailer of made-to-order upholstered furniture in the United
States. Krause's market success can be attributed to its unique ability to
supply competitively priced made-to-order upholstered furniture in two to four
weeks from the date ordered by the customer.
The executive offices of Krause's are located at 200 North Berry Street,
Brea, California 92621-3903 and the telephone number is (714) 990-3100.
PRODUCTS. Krause's is a leading manufacturer of high-quality,
affordably-priced made-to-order upholstered furniture. Its product line consists
primarily of upholstered (woven fabric and leather) sofas, sofabeds, chairs and
sectionals, in a wide variety of styles and sizes. Except for a few styles of
occasional and reclining chairs, Krause's manufactures virtually all of its
upholstered furniture, which accounts for approximately 90% of its net sales.
Krause's manufactured upholstered furniture is currently sold exclusively
through its own leased retail showrooms and licensed dealers. In addition to its
exclusive upholstered furniture line, Krause's retails an assortment of tables,
occasional chairs, dining sets, area rugs, mattresses, lamps and other
accessories. Non-upholstered merchandise is purchased from other suppliers and
accounts for approximately 10% of net sales.
At Krause's, customers may choose from approximately 75 different styles,
50 sizes, 600 fabrics (quilted or unquilted), 50 leather choices, and various
weltings. Krause's upholstered furniture product line consists of the following:
SOFAS. Stationary upholstered sofas account for the largest
proportion of Krause's sales. Sofa styles range from classic traditional,
to contemporary, to country, to Eurostyles. In addition, Krause's
manufactures a complete line of upholstered loveseats in various sizes,
styles and fabrics to be sold separately or in combination with its sofas.
INCLINERS. Krause's manufactures its own design of incliners, which
are sofas or loveseats which include a modified incliner footrest mechanism
built directly into the unit. Krause's believes it is the only retailer
which offers an incliner option in the customer's choice of style, size and
fabric.
RECLINERS. Fully reclining sofas and chairs are offered as an option
in a number of sofas and chairs manufactured by Krause's. Krause's offers
not only fully reclining sofas but a complete line of reclining chairs.
Krause's believes it offers more reclining options in the customer's choice
of style, size and fabrics than most competitors.
SECTIONALS. Sectionals are modular units of upholstered furniture
which can be combined or separated to form any variety of seating
arrangements desired. Krause's offers and manufactures a sectional option
for most styles of its sofas.
SOFABEDS. Prior to the acquisition of Castro Convertibles,
approximately 15% of the sofas sold by Krause's were sofabeds. Since Castro
Convertibles is a sofabed specialist, the percentage of Krause's total
sofabed sales has nearly doubled. Working with a third party vendor,
Krause's has developed an enhanced sofabed mechanism to take advantage of
its unique position in sofabed retailing. Krause's offers a super-queen
mattress, which Krause's believes is wider than most other sofabed
mattresses offered in the United States. Although producing only for its
own retail outlets, Krause's believes it is one of the top 15 retailers of
sofabeds in the U.S.
CHAIRS. Krause's manufactures a complementary line of upholstered
chairs, which coordinate with most of the sofa styles offered by Krause's.
Usually these chairs are sold in sets with a sofa, loveseat, incliner,
recliner and/or sofabed. Krause's also manufactures occasional chairs for
customers who desire a chair which coordinates with but does not match the
style or fabric of their primary furnishings.
In order to respond to customer needs and desires as well as to display its
own sofas and upholstered products in room settings, Krause's showrooms offer a
variety of complementary products purchased from outside vendors. Some of these
products may not be customized. Because of its made-to-order strategy,
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Krause's does not require a substantial amount of finished goods, whether they
are manufactured by Krause's or purchased from outside sources.
RETAIL OPERATIONS. Krause's sells its products through company-owned and
licensed retail showrooms in 12 states. Retail showrooms located in California,
Colorado, Arizona, Nevada, Texas, New Mexico, Washington and Illinois are
operated under the name KRAUSE'S SOFA FACTORY(R) or KRAUSE'S SOFAS. Retail
showrooms in New York, New Jersey, Connecticut and Florida are operated under
the name CASTRO CONVERTIBLES(R). Showroom locations are selected on the basis of
strictly defined criteria, including expected population growth, desirable
target consumer demographics and psychographics, high visibility with easy
access from major thoroughfares, adequate parking facilities and proximity to
other furniture retailers.
Retail showrooms vary in size from 1,700 square feet to 24,000 square feet,
with an average size of 13,500 square feet. The typical showroom displays
approximately 60 to 70 styles in coordinated furniture groupings to illustrate
the diversity and availability of contemporary and traditional upholstered
furniture.
When a customer makes a selection, a down payment is collected and the
order is immediately entered in Krause's computer by means of an on-line
terminal at the showroom. The order, reflecting the customer's exact
specifications as to style, color, size, configuration and fabric, is then
registered and scheduled at Krause's manufacturing facility and the
manufacturing or outside purchasing process begins.
When an order has completed the manufacturing and/or outside purchasing
process, it is shipped to a regional warehouse. The manager at this warehouse
has responsibility for the final preparation and delivery of the order to the
customer. Outside delivery services, as well as Krause's personnel in certain
areas, are utilized for this process.
MANUFACTURING. Krause's manufacturing facilities, located in Brea,
California, produce upholstered furniture for sale through Krause's and Castro
Convertibles showrooms. Manufacturing begins with the purchase of lumber
(hardwood and softwood), which is kiln dried for extra strength and
straightness. Mill workers cut the component pieces for each different style,
working to precise standards. Craftsmen, using pneumatic and power tools, take
the wooden parts and assemble them into frames for different furniture models.
All corners are blocked and glued for added strength and proper distribution of
weight and stress.
Krause's primarily uses a one-piece frame method in which the entire frame
is built before any upholstering occurs. This method results in superior frame
strength for a finer tailored appearance. Frame construction is completed with
the installation of metal springs, which contributes to the continued comfort,
durability and appearance of the upholstered furniture.
While the frame is being built, the chosen fabric or leather for that
particular customer order is cut and sewn. Krause's employs quilters as well as
special seamstresses for sewing zippers, bolster covers, ruffles, skirts and
pleats. The pillow back, chair back, and ottoman cushions are assembled prior to
proceeding to the upholstery stage.
Upholstery is performed using an assembly line technique. Several
individuals work on each frame, each specializing in an area of
responsibility -- springs, outside body, seat, arm, inside body and so on. As
the frame is being upholstered, seat cushions are filled with a Foreverflex(TM)
insert (Krause's proprietary seating material). The Foreverflex(TM) cushion
insert is a high-density foam cushion which is injection molded with springs
suspended within the foam. The Foreverflex(TM) cushion insert is manufactured by
an outside supplier to strict specifications set by Krause's and carries a
lifetime guarantee.
Placement of the upholstered cushions on the furniture completes the
manufacturing process. Every piece of finished upholstered furniture undergoes a
quality control inspection during production and again prior to shipment from
the factory to the local distribution center or retail showroom.
Krause's builds approximately 600 pieces of upholstered furniture per day
in a single shift. This represents approximately 75% of single shift
manufacturing capacity. The level of production is primarily determined by
customer orders, since Krause's builds only minor amounts of units for
inventory. Krause's turns its
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manufacturing backlog approximately every 23 to 28 days. Backlog as of January
28, 1996 was approximately $12.8 million compared to $13.9 million at the end of
January 1995.
Many suppliers currently provide Krause's with the materials used in the
manufacture of its upholstered furniture products. One such supplier provides
approximately 25% and another 13% of Krause's purchased raw materials. Krause's
is dependent on the continued supply of components and raw materials, including
fabrics, leather, foam and sofabed and motion mechanisms. Management constantly
seeks new suppliers and better prices through competitive bidding and the
qualification of alternative sources of supply. Inability to develop alternative
sources of supply if and as required or to obtain sufficient single source
products, components and raw materials would adversely affect the Company's
sales and operating results.
TRADEMARKS AND PATENTS. Krause's holds trademarks and patents registered
in the United States for various products and processes. Krause's has a
registered trademark in the United States for the Krause's Sofa Factory(R) and
Castro Convertibles(R) names and logos. Krause's considers these trademarks
important to its business.
GOVERNMENT REGULATIONS. Krause's facilities are subject to numerous
federal, state and local laws and regulations designed to protect the
environment from waste emissions and from hazardous substances. Krause's is also
subject to the federal Occupational Safety and Health Act and other laws and
regulations affecting the safety and health of employees in the production areas
of its facilities. Management of Krause's believes that it is in compliance in
all material respects with all applicable environmental and occupational safety
regulations.
EMPLOYEES. The majority of Krause's employees are not unionized and many
have been with Krause's for over 10 years. Approximately 45 retail employees in
the greater New York area are covered by a union contract which was negotiated
in connection with the acquisition of Castro Convertibles, and which expires in
May 1998. The Krause's total work force numbers approximately 1,000 with
approximately 400 engaged in manufacturing activities, 535 in its
retail/warehousing operations and 65 in administration.
COMPETITION. Krause's competes in retail furniture markets where both
national, regional and strong local competitors are well represented. Other
furniture retailers with which Krause's competes include major department store
chains, as well as independent furniture stores and discount and warehouse
chains. Levitz Furniture, one of the largest U.S. furniture retailers, competes
throughout most of the geographic locations where Krause's and Castro showrooms
are located, and offers mass-produced furniture in the moderate price range.
INSURANCE. Krause's purchases occurrence-based product liability insurance
in the aggregate amount of $17 million. Management of Krause's believes that
based upon its historical liability experience, the amount of insurance it
carries is adequate.
ITEM 2. PROPERTIES
The Company and Krause's maintain their administrative offices and
manufacturing plant in a leased 250,000 sq. ft. facility at 200 North Berry
Street, Brea, California. The lease has a remaining term of 13 years with four
five-year options and grants Krause's certain options to purchase the facility.
Krause's also leases approximately 225,000 sq. ft. for warehouse and
distribution facilities. Retail showrooms are all leased with rents either fixed
or with fixed minimums coupled with contingent rents based on the Consumer Price
Index or a percentage of sales. Krause's 83 company-operated showrooms occupy
approximately one million sq. ft. of space.
ITEM 3. LEGAL PROCEEDINGS
On May 27, 1994, the Company was served with a complaint in the case
captioned Miriam Brown v. Mr. Coffee, inc. et al. (Civil Action No. 13531), in
the Delaware Court of Chancery, New Castle County. The complaint names the
Company, Mr. Coffee and certain individuals including Jean R. Perrette, Chairman
of the Board, and Kenneth W. Keegan, a former director of the Company, as
defendants in a purported class action lawsuit. The complaint alleges that the
individuals named as co-defendants breached their fiduciary
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duties as directors of Mr. Coffee by, among other things, their alleged efforts
to entrench themselves in office and prevent Mr. Coffee's public shareholders
from maximizing the value of their holdings, engaging in plans and schemes
unlawfully to thwart offers and proposals from third parties, and approving or
causing the Company and others to agree to vote in favor of a merger with Health
o meter Products, Inc. The Company is alleged to have participated in and
advanced the alleged breaches. The plaintiff originally sought to enjoin the
merger; however, plaintiff withdrew such action and the merger was completed in
August 1994. The Company and the Mr. Coffee directors filed motions to dismiss
the complaint on August 11, 1994. The motions have not been briefed or ruled
upon by the court. The plaintiff seeks compensatory damages and costs and
disbursements in connection with the action, including attorneys' and experts'
fees, and such other further relief as the court deems just and proper.
For a number of reasons, including the extensive solicitation and
negotiation process which preceded the acceptance by Mr. Coffee's Board of
Directors of the Health o meter offer, the Company believes that the plaintiff's
allegations are without merit. Management believes that any liability in the
event of final adverse determination of any of this matter would not be material
to the Company's consolidated financial position or results of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY
AND RELATED STOCKHOLDER MATTERS
The Company's common stock trades on the NASDAQ Small-Cap Market under the
ticker symbol SOFA. The following table sets forth the high and low per share
sales prices for the Company's common stock for each quarter during the 1995 (52
weeks ended January 28, 1996) and 1994 (calendar year) fiscal years. For the
month of January 1995 the high and low per share sales prices were $7.12 and
$5.62, respectively. Quotations are as reported by NASDAQ, adjusted for periods
prior to August 1, 1995 to reflect a one for three reverse stock split,
effective on that date.
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1995 1994
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QUARTER HIGH LOW HIGH LOW
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First......................... $6.75 $4.87 $8.63 $6.00
Second........................ 6.37 3.00 8.25 5.25
Third......................... 4.37 2.00 7.50 5.63
Fourth........................ 3.00 1.63 7.88 4.50
</TABLE>
As of March 28, 1996 there were approximately 350 holders of record of the
Company's common stock. The Company has paid no dividends to date and does not
expect to do so in the foreseeable future.
ITEM 6. SELECTED FINANCIAL DATA
The following data has been derived from consolidated financial statements
that have been audited by Ernst & Young LLP, independent auditors. The
information set forth below is not necessarily indicative of the results of
future operations and should be read in conjunction with the consolidated
financial statements and notes thereto appearing elsewhere in the Annual Report
on Form 10-K.
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<CAPTION>
FISCAL YEAR ENDED
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JANUARY 28, DECEMBER 31, DECEMBER 31, DECEMBER 31, DECEMBER 31,
1996 1994 1993 1992 1991(2)
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RESULTS OF OPERATIONS:
Net furniture sales......... $ 122,319 $116,471 $ 96,984 $ 87,045 $ 54,753
Gross profit................ 62,467 62,949 50,792 45,688 29,790
Loss from operations........ (9,388) (2,398) (7,852) (5,982) (4,091)
Gain from sale of Mr. Coffee
stock(3).................. -- 12,115 -- -- --
Income (loss) before
extraordinary items....... (8,715) 5,831 (9,751) (3,641) (3,391)
Extraordinary items......... -- (436) (221) 3,330 (86)
Net income (loss)........... (8,715) 5,395 (9,972) (311) (3,477)
Income (loss) per share(1):
Income (loss) before
extraordinary items.... (2.21) 1.08 (3.88) (1.84) (1.93)
Extraordinary items....... -- (0.08) (0.09) 1.68 (0.05)
Net income (loss)......... (2.21) 1.00 (3.97) (0.16) (1.98)
Weighted average common and
common equivalent shares
outstanding(1)............ 3,950 5,394 2,510 1,982 1,761
</TABLE>
<TABLE>
<CAPTION>
JANUARY 28, JANUARY 29, DECEMBER 31, DECEMBER 31, DECEMBER 31,
1996 1995 1993 1992 1991
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BALANCE SHEET DATA:
Total assets................ $ 46,866 $ 53,750 $ 64,749 $ 47,730 $ 46,187
Inventories................. 14,627 18,016 14,690 11,468 12,790
Working capital
deficiency................ (6,878) (3,751) (1,404) (3,603) (3,862)
Intangible assets........... 18,236 19,910 22,826 16,425 12,943
Short-term debt(3).......... 19 17 1,147 458 3,693
Long-term debt(3)........... 5,584 2,181 17,700 15,500 12,376
Stockholders' equity........ 13,985 22,700 20,626 11,170 9,485
</TABLE>
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(1) Previously reported share and per share amounts have been restated to
reflect a one-for-three reverse stock split effected August 1, 1995.
(2) The Company acquired Krause's on April 28, 1991, therefore operations for
1991 are for a period of eight months.
(3) In August 1994 the Company sold its ownership of 1,500,548 shares of Mr.
Coffee common stock for cash of $23.3 million. Proceeds from this sale were
used to retire debt of $18.3 million and pay income taxes of $2.1 million
with the remainder used for working capital.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion should be read in conjunction with the
consolidated financial statements and notes thereto.
LIQUIDITY AND CAPITAL RESOURCES
Cash flow activity for fiscal years ended January 28, 1996, December 31,
1994 and December 31, 1993 is presented in the Consolidated Statement of Cash
Flows.
1995 Cash Flow. During 1995 cash and cash equivalents decreased by
$616,000. Operating activities used net cash of $3,177,000, principally from a
cash loss from operations of $4,752,000 offset by a net change
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in operating assets and liabilities of $1,575,000. Inventories and other
operating assets were reduced by $3,389,000 and $147,000, respectively, while
accounts payable and accrued liabilities were reduced by $1,961,000. Investing
activities during the year included capital expenditures of $1,883,000,
primarily related to Krause's opening of five new showrooms and remodeling of
four showrooms partially offset by $1,039,000 of proceeds from the
sale-leaseback of a showroom in Texas. Financing activities of $3,405,000 in
fiscal 1995 were principally net borrowings under Krause's revolving credit
agreement which was entered into in January 1995.
1994 Cash Flow. In August 1994 the Company sold its ownership of 1,500,548
shares of Mr. Coffee common stock for cash of $23,258,000. Proceeds from this
sale were used to retire debt of $18,317,000 and pay income taxes of $2,100,000,
with the remainder used for working capital.
During 1994 cash and cash equivalents decreased by $4,685,000. Operating
activities used net cash of $6,877,000, principally from a cash loss from
operations of $2,986,000 and a change in operating assets and liabilities of
$3,891,000. Inventories and other operating assets increased by $2,567,000 and
$813,000, respectively, while accounts payable and accrued liabilities were
reduced by $511,000. Investing activities provided cash of $20,935,000 in 1994
including the Mr. Coffee sale proceeds mentioned above, offset by capital
expenditures of $2,323,000, primarily related to Krause's opening of 15 new
showrooms and remodeling of three showrooms during the year. Financing
activities used net cash of $18,743,000 and were comprised primarily of debt
repayments to related parties.
1993 Cash Flow. In late 1993 the Company completed the private placements
of approximately $12,200,000 of convertible preferred stock. Proceeds from the
issuance were used to retire debt of $3,000,000 and prepay interest on senior
secured term notes of $896,000, with the balance used for growth and working
capital.
During 1993 cash and cash equivalents increased by $2,608,000. Operating
activities used net cash of $7,917,000, including a $7,770,000 cash loss from
operations. Net cash used in operations also included an increase in current
liabilities of $5,048,000 and additions of $3,222,000 to inventories and
$1,973,000 to other operating assets. Investing activities during the year
included capital expenditures of $1,841,000, principally for additions to
leasehold improvements to retail showrooms, and $1,790,000 principally for the
purchase of leasehold interests in showrooms acquired from Castro Convertibles.
During the year financing activities provided $14,114,000, principally from the
preferred stock issuances noted above and from a revolving credit arrangement
with related parties.
Outlook. In January 1995 Krause's obtained a revolving line of credit with
a financial institution providing for borrowing of up to $10,000,000 for a
period of two years. Borrowings under the line of credit are based on the value
of inventory and are secured by substantially all of Krause's assets. In
addition, Krause's is required to satisfy certain financial covenants for
working capital and stockholder's equity. As of January 28, 1996 the Company did
not comply with these covenants. On May 10, 1996 the Company's revolving credit
agreement was amended to provide for a waiver by the lender of the technical
noncompliance with financial covenants and to amend those covenants, to extend
the credit agreement to January 1998 and to provide, subject to the Company
obtaining certain additional equity financing, for additional borrowing
availability under the revolving credit facility (Note 4).
During fiscal 1995 the Company incurred an operating loss of $9,388,000,
and as of January 28, 1996 the Company has a working capital deficiency of
$6,878,000 and an accumulated deficit of $20,961,000. Management has identified
certain initiatives and taken steps to return to profitability. Principal
planned strategic objectives and initiatives include a downsizing of showroom
size 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 a corporate
expense reduction with tight budgeting controls. 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 has increased its
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borrowing availability under the amended revolving credit agreement discussed
above. Additionally, the Company has received a commitment from an investor that
will assure it of receiving at least $2 million from a planned convertible debt
offering during the year ending January 31, 1997. As a result, management
believes the Company has sufficient sources of financing to continue operations
throughout fiscal 1996. The Company has no significant long-term capital
expenditure requirements. However, the Company will need to obtain further
financing to implement all of the strategic objectives and initiatives
contemplated by the strategic plan. The Company's long-term success is dependent
upon its ability to obtain necessary financing, the successful execution of
management's plan and, ultimately, the achievement of sustained profitable
operations.
Management has no knowledge of any trends or events that are likely to
substantially increase or decrease liquidity needs in the near future other than
as noted above and as explained in Note 9 of Notes to Consolidated Financial
Statements, or for acquisitions and expansion of the business that the Company
may undertake from time to time.
RESULTS OF OPERATIONS
The following table sets forth for the periods indicated certain items from
the Company's Consolidated Statement of Operations as a percentage of net sales.
<TABLE>
<CAPTION>
FISCAL YEAR ENDED
---------------------------------------------
JANUARY 28, DECEMBER 31, DECEMBER 31,
1996 1994 1993
----------- ------------ ------------
<S> <C> <C> <C>
Net sales.............................................. 100.0% 100.0% 100.0%
Cost of sales.......................................... 48.9 46.0 47.6
----- ----- -----
Gross profit........................................... 51.1 54.0 52.4
Operating expenses:
Selling.............................................. 49.3 45.9 49.8
General and administrative........................... 8.7 9.3 9.9
Amortization of goodwill............................. .8 .9 .8
----- ----- -----
58.8 56.1 60.5
----- ----- -----
Loss from operations................................... (7.7) (2.1) (8.1)
Interest expense....................................... (.6) (1.8) (3.5)
Other income........................................... .1 10.8 1.5
----- ----- -----
Income (loss) before income taxes and extraordinary
items................................................ (8.2) 6.9 (10.1)
Provision (credit) for income taxes.................... (1.1) 1.9 --
----- ----- -----
Income (loss) before extraordinary items............... (7.1) 5.0 (10.1)
Extraordinary items.................................... -- (.4) (.2)
----- ----- -----
Net income (loss)...................................... (7.1)% 4.6% (10.3)%
===== ===== =====
</TABLE>
YEAR ENDED JANUARY 28, 1996 (FISCAL 1995) AS COMPARED TO YEAR ENDED DECEMBER 31,
1994
Net Sales. Furniture sales were $122,319,000 in the 1995 fiscal year, an
increase of 5% from sales in 1994. The sales increase was primarily from sales
of stores opened in late 1994 and early 1995, which were offset somewhat by a
decrease in sales of stores open less than one year. During fiscal 1995 the
Company opened five new stores, relocated four stores and closed nine
underperforming stores. A comparable store sales decline of 2.9% was primarily
the result of general economic conditions in fiscal 1995 compared to 1994.
Cost of Sales and Gross Margins. Cost of sales was higher by approximately
11.8% in fiscal year 1995 compared to 1994. Gross margins in fiscal year 1995
were 51.1% compared to 54.0% in 1994. Lower gross margins in 1995 were due to
price discounting and clearance merchandise sales necessary to generate sales
due to increased competition and generally poor economic conditions in the
Company's two major markets, California and New York. In addition, the Company
provided approximately $760,000 to reduce certain
8
<PAGE> 10
showroom inventory to its estimated net realizable value in fiscal year 1995.
During the fourth quarter of fiscal 1995 Krause's experienced a shortage of
fabric for expected production. This fabric out-of-stock position caused a
disruption in operations, which had the effect of increasing labor costs per
unit and thereby reducing margins. Margin erosion also occurred since additional
discounts were given to customers due to delivery delays. The out-of-stock
position returned to normal levels in early fiscal 1996.
Operating Costs and Expenses. Selling expenses were $60,257,000 in fiscal
1995, an increase of approximately 12.7% from 1994. Selling expenses were 49.3%
of sales compared to 45.9% in 1994. The increase in total selling expenses was
principally attributable to higher sales incentives and operating costs
associated with new stores. Variable selling expenses and advertising expenses
as a percentage of sales are expected to decline in future periods.
General and administrative expenses declined by $289,000 and as a
percentage of sales declined to 8.7% from 9.3%. Exclusive of employee severance
costs in fiscal year 1995 of approximately $800,000, general and administrative
expenses were 8% of sales. General and administrative expenses, exclusive of
employee severance costs, declined by over $1 million principally from
reductions in payroll and related expenses.
Interest Expense. Interest expense decreased by $1,419,000 in fiscal 1995
due to significantly less debt outstanding. In August and September 1994 the
Company paid off approximately $18.3 million of debt with proceeds from the sale
of its investment in Mr. Coffee.
The Company's investment in Mr. Coffee was accounted for by the equity
method which resulted in equity in earnings of $316,000 in 1994. The Company
sold its investment in Mr. Coffee in August 1994.
Income Taxes. Income tax benefits of $1,327,000 represent refundable
income taxes available from the carryback of fiscal year 1995 losses.
YEAR ENDED DECEMBER 31, 1994 AS COMPARED TO YEAR ENDED DECEMBER 31, 1993
Net Sales. Furniture sales were $116,471,000 in 1994, an increase of
approximately 20% from sales in 1993. This sales increase was principally the
result of an increase in same-store sales of 11.7% and sales generated from new
stores in 1994. Management believes comparable store sales increases were
primarily the result of increased consumer confidence from general improvements
in economic conditions. Also contributing to the sales increase in 1994 was a
full year of sales from Castro Convertibles showrooms, which were acquired in
May 1993.
Cost of Sales and Gross Margins. Cost of sales in 1994 increased by about
15.9% from the prior year and gross margins increased to 54.0% from 52.4% in the
prior year. Lower gross margins in 1993 were due to higher promotional pricing
and the inventory liquidation sale conducted at the Castro Convertibles
locations following their acquisition in May 1993. Also in 1994 Krause's
restructured the lease of its Brea, California factory and office resulting in
approximately one-fourth of the gross margin percentage increase in 1994.
Operating Costs and Expenses. Selling expenses in 1994 were $53,460,000 or
45.9% of sales, a reduction from 49.8% of sales in 1993. Advertising expenses
were 8.6% of sales versus 8.9% of sales in the prior year due to better
utilization of ads through new stores added in major advertising areas of
Chicago and New York. The increase in selling expenses was principally due to
higher payroll costs associated with more stores and higher sales volume.
General and administrative expenses increased 13.5% in 1994 compared to
1993. During 1994 approximately $240,000 of expense was incurred for legal
claims and expenses and the write-down of assets related to former business
operations. Also, additional costs were incurred for payroll, travel and
relocation associated with opening new stores in existing and new markets. As a
percentage of net sales, general and administrative expenses declined to 9.3% in
1994 compared to 9.9% in 1993. During 1994 the Company recorded a $400,000
provision for closed store representing the estimated remaining net liability on
a building lease relating to a closed Krause's showroom.
The increase in amortization of goodwill of $280,000 resulted from
additional goodwill associated with the merger of Krause's in October 1993.
9
<PAGE> 11
Mr. Coffee, inc. In August 1994 the Company sold its 18% ownership in the
common stock of Mr. Coffee for $23,258,000 resulting in a pretax gain of
$12,115,000. Equity in earnings of Mr. Coffee in 1994 through the date of sale
was $316,000 compared to $1,208,000 for the full year 1993. See Note 3 of Notes
to Consolidated Financial Statements.
Interest Expense. Interest costs were substantially less in 1994 as
compared with 1993 due to the payoff of $18,317,000 of debt subsequent to the
sale of Mr. Coffee.
Income Taxes. The provision for income taxes in 1994 was approximately 27%
of income before taxes. The 1994 effective tax rate differs from the federal
statutory rate due to the benefit of utilization of net operating loss
carryforwards and the realization of $920,000 of deferred tax assets, offset by
state income taxes and the impact of nondeductible goodwill amortization. No tax
benefits were available for operating losses incurred in 1993.
Statement of Financial Accounting Standards No. 109 provides for the
recognition of deferred tax assets if realization of such assets is more likely
than not. The Company's valuation allowance reduces the deferred tax asset to
the amount available through the carryback of temporary differences expected to
reverse within the carryback period.
Extraordinary Loss. Extraordinary losses, net of income tax benefits,
amounted to $436,000 and $221,000 in 1994 and 1993, respectively, and were from
expensing unamortized deferred debt costs and prepaid interest due to the
retirement of debt of the Company in 1994 and of Mr. Coffee in 1993.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
See Item 14 herein.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
PART III
The information required by Items 10 through 13 of this Part is
incorporated by reference from the Company's Proxy Statement, under the captions
"Election of Directors", "Security Ownership of Certain Beneficial Owners and
Management", "Compensation of Executive Officers" and "Certain Relationships and
Related Transactions", which Proxy Statement will be mailed to stockholders in
connection with the Company's annual meeting of stockholders which is scheduled
to be held on June 18, 1996.
10
<PAGE> 12
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENTS, SCHEDULES AND REPORTS ON FORM 8-K
(A)(1) AND (2) FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULES
<TABLE>
<CAPTION>
PAGE NO.
--------
<S> <C>
Report of Ernst & Young LLP, Independent Auditors.................................. 14
Consolidated Balance Sheet at January 28, 1996 and January 29, 1995................ 15
Consolidated Statement of Operations for the fiscal years ended January 28, 1996,
December 31, 1994 and December 31, 1993.......................................... 16
Consolidated Statement of Stockholders' Equity for the period from January 1, 1993
to January 28, 1996.............................................................. 17
Consolidated Statement of Cash Flows for the fiscal years ended January 28, 1996,
December 31, 1994 and December 31, 1993.......................................... 18
Consolidated Statement of Operations for the months ended January 29, 1995 and
January 30, 1994................................................................. 19
Consolidated Statement of Cash Flows for the months ended January 29, 1995 and
January 30, 1994................................................................. 20
Notes to Consolidated Financial Statements......................................... 21
Schedule II -- Valuation and Qualifying Accounts................................... 31
Schedules I, III, IV, and V have been omitted since they are not applicable.
Independent Auditors' Report of Mr. Coffee, inc.................................... 32
</TABLE>
(A)(3) EXHIBITS
<TABLE>
<C> <C> <S>
3.1 -- Certificate of Incorporation.(1)
3.1(a) -- Certificate of Amendment of Certificate of Incorporation dated November 28,
1994.(5)
3.1(b) -- Certificate of Amendment of Certificate of Incorporation dated August 9, 1995.
3.2 -- By Laws.(1)
4.1 -- Loan and Security Agreement dated January 20, 1995 by and between Congress
Financial Corporation (Western) and Krause's Sofa Factory and Castro Convertible
Corporation.(3)
4.1(a) -- First Amendment to Loan and Security Agreement dated as of May 10, 1996 and by
and between Congress Financial Corporation (Western) and Krause's Sofa Factory
and Castro Convertible Corporation.
4.2 -- Guarantee dated January 20, 1995 by Krause's Furniture, Inc. to Congress
Financial Corporation (Western).(3)
4.5 -- Certificate of Designations of Preferred Stock.(4)
10.1 -- 1994 Directors Stock Option Plan.(5)
10.2 -- 1990 Employees Stock Option Plan.(2)
11 -- Statement regarding computation of per share earnings.
21 -- Subsidiaries.
23.1 -- Consent of Ernst & Young LLP, Independent Auditors
23.2 -- Consent of KPMG Peat Marwick LLP, Independent Auditors
</TABLE>
- ---------------
(1) Incorporated herein by reference to Exhibits to Registrant's Form S-4 dated
June 19, 1992 (File No. 33-48725).
11
<PAGE> 13
(2) Incorporated herein by reference to Exhibit 10.2 to Registrant's Form 10-K
for the year ended December 31, 1990 (File No. 0-17868).
(3) Incorporated herein by reference to Exhibit to Registrant's Form 8-K dated
as of January 20, 1995 (File No. 0-17868).
(4) Incorporated herein by reference to Exhibit 4.3 to Registrant's Form 8-K
dated as of October 7, 1993 (File No. 0-17868).
(5) Incorporated herein by reference to Exhibit 10.1 to Registrant's Form 10-K
dated as of December 31, 1994 (File No. 0-17868).
(B) REPORTS ON FORM 8-K
The Registrant did not file any reports on Form 8-K during the last quarter
of the period covered by this report.
12
<PAGE> 14
SIGNATURES
Pursuant to the requirements of Section 13 or 15 (d) of the Securities
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.
Date: May 10, 1996 By: /s/ STEPHEN P. ANDERSON
-----------------------------------
Stephen P. Anderson
President
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following person on behalf of the Registrant
and in the capacities and on the dates indicated.
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
- ------------------------------------------ ----------------------------------- -------------
<C> <S> <C>
/s/ JEAN R. Director and Chairman of the Board May 10, 1996
PERRETTE
- ------------------------------------------
Jean R. Perrette
/s/ THOMAS M. DELITTO Director and Vice Chairman of the May 10, 1996
- ------------------------------------------ Board (Chief Executive Officer)
Thomas M. DeLitto
/s/ STEPHEN P. ANDERSON President May 10, 1996
- ------------------------------------------
Stephen P. Anderson
/s/ ROBERT G. SHARPE Executive Vice President (Principal May 10, 1996
- ------------------------------------------ Financial Officer and Principal
Robert G. Sharpe Accounting Officer)
/s/ GARY S. VANDEWEGHE Director and Secretary May 10, 1996
- ------------------------------------------
Gary S. Vandeweghe
/s/ KAMAL G. ABDELNOUR Director May 10, 1996
- ------------------------------------------
Kamal G. Abdelnour
/s/ J. RICHARD CORDSEN Director May 10, 1996
- ------------------------------------------
J. Richard Cordsen
/s/ ISAAC ROBERT SOUEDE Director May 10, 1996
- ------------------------------------------
Isaac Robert Souede
</TABLE>
13
<PAGE> 15
REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS
The Board of Directors and Stockholders
Krause's Furniture, Inc.
We have audited the consolidated balance sheets of Krause's Furniture, Inc.
as of January 28, 1996 and January 29, 1995, and the related consolidated
statements of operations, stockholders' equity, and cash flows for the fiscal
years ended January 28, 1996, December 31, 1994 and December 31, 1993 and for
the month ended January 29, 1995. Our audits also included the financial
statement schedule listed in the Index at Item 14(a). These financial statements
and schedule are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements and
schedule based on our audits. The financial statements of Mr. Coffee, inc. (a
corporation in which the Company had an 18% interest) for the year ended
December 26, 1993 have been audited by other auditors whose report has been
furnished to us; insofar as our opinion on the consolidated financial statements
for the year ended December 31, 1993 relates to data included for Mr. Coffee,
inc., it is based solely on their report.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits and the report of other auditors provide a reasonable
basis for our opinion.
In our opinion, based on our audits and the report of other auditors, the
consolidated financial statements referred to above present fairly, in all
material respects, the consolidated financial position of Krause's Furniture,
Inc. at January 28, 1996 and January 29, 1995, and the consolidated results of
its operations and its cash flows for the fiscal years ended January 28, 1996,
December 31, 1994 and December 31, 1993 and for the month ended January 29,
1995, in conformity with generally accepted accounting principles. Also, in our
opinion, the related financial statement schedule, when considered in relation
to the basic financial statements taken as a whole, presents fairly in all
material respects the information set forth therein.
ERNST & YOUNG LLP
Orange County, California
April 26, 1996, except for Notes 1 and 4,
as to which the date is May 10, 1996
14
<PAGE> 16
KRAUSE'S FURNITURE, INC.
CONSOLIDATED BALANCE SHEET
(IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
JANUARY 28, JANUARY 29,
1996 1995
----------- -----------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents....................................... $ 1,336 $ 1,952
Accounts receivable, net of allowance for doubtful accounts of
$291 ($616 at January 29, 1995).............................. 786 1,190
Inventories..................................................... 14,627 18,016
Income tax refund receivable.................................... 1,467 --
Deferred income taxes........................................... -- 920
Prepaid expenses................................................ 386 1,450
-------- --------
Total current assets.................................... 18,602 23,528
Property, equipment, and leasehold improvements, net.............. 6,738 6,519
Goodwill, net..................................................... 16,406 17,425
Leasehold interests, net.......................................... 1,830 2,485
Other assets...................................................... 3,290 3,793
-------- --------
$ 46,866 $ 53,750
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued expenses........................... $ 16,176 $ 17,542
Accrued payroll and related expenses............................ 1,696 1,704
Customer deposits............................................... 7,014 6,809
Notes payable................................................... 19 17
Income taxes payable............................................ 575 1,207
-------- --------
Total current liabilities............................... 25,480 27,279
Long-term liabilities:
Note payable.................................................... 5,584 2,181
Other liabilities............................................... 1,817 1,590
-------- --------
Total long-term liabilities............................. 7,401 3,771
Commitments and contingencies
Stockholders' equity:
Convertible preferred stock, $.001 par value; 666,667 shares
authorized (2,000,000 at January 29, 1995) 117,694 shares
outstanding (483,780 at January 29, 1995) at stated value
(liquidation preference $67.50 per share).................... 7,523 10,455
Common stock, $.001 par value; 8,333,333 shares authorized
(25,000,000 at January 29, 1995), 4,120,810 shares
outstanding (11,054,953 at January 29, 1995)................. 4 11
Capital in excess of par value.................................. 27,419 24,480
Accumulated deficit............................................. (20,961) (12,246)
-------- --------
Total stockholders' equity.............................. 13,985 22,700
-------- --------
$ 46,866 $ 53,750
======== ========
</TABLE>
See accompanying notes.
15
<PAGE> 17
KRAUSE'S FURNITURE, INC.
CONSOLIDATED STATEMENT OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
FISCAL YEARS ENDED
---------------------------------------------
JANUARY 28, DECEMBER 31, DECEMBER 31,
1996 1994 1993
----------- ------------ ------------
<S> <C> <C> <C>
Net furniture sales.................................... $ 122,319 $116,471 $ 96,984
Cost of sales.......................................... 59,852 53,522 46,192
-------- -------- -------
Gross profit........................................... 62,467 62,949 50,792
Operating expenses:
Selling.............................................. 60,257 53,460 48,330
General and administrative........................... 10,578 10,867 9,574
Amortization of goodwill............................. 1,020 1,020 740
-------- -------- -------
71,855 65,347 58,644
-------- -------- -------
Loss from operations................................... (9,388) (2,398) (7,852)
Gain from sale of Mr. Coffee stock..................... -- 12,115 --
Equity in earnings of Mr. Coffee....................... -- 316 1,208
Interest expense....................................... (721) (2,140) (3,399)
Other income........................................... 67 109 292
-------- -------- -------
Income (loss) before income taxes and extraordinary
item................................................. (10,042) 8,002 (9,751)
Provision (benefit) for income taxes................... (1,327) 2,171 --
-------- -------- -------
Income (loss) before extraordinary item................ (8,715) 5,831 (9,751)
Extraordinary loss from debt retirement, net of income
tax.................................................. -- (436) (221)
-------- -------- -------
Net income (loss)...................................... $ (8,715) $ 5,395 $ (9,972)
======== ======== =======
Income (loss) per share:
Income (loss) before extraordinary item.............. $ (2.21) $ 1.08 $ (3.88)
Extraordinary loss................................... -- (0.08) (0.09)
Net income (loss).................................... (2.21) 1.00 (3.97)
Average number of common and common equivalent shares
outstanding.......................................... 3,950 5,394 2,510
</TABLE>
See accompanying notes.
16
<PAGE> 18
KRAUSE'S FURNITURE, INC.
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
(IN THOUSANDS)
<TABLE>
<CAPTION>
CONVERTIBLE
PREFERRED STOCK COMMON STOCK CAPITAL IN TOTAL
---------------- --------------- EXCESS OF ACCUMULATED STOCKHOLDERS'
SHARES AMOUNT SHARES AMOUNT PAR VALUE DEFICIT EQUITY
------ ------- ------ ------ ---------- ----------- -------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at December 31, 1992... -- $ -- 6,939 $ 7 $ 15,611 ($ 4,448) $11,170
Issuance of common stock by
subsidiary................... -- -- -- -- 50 -- 50
Proceeds from issuance of
preferred stock, net of
expenses of $364............. 547 11,856 -- -- -- -- 11,856
Purchase of warrants........... -- -- -- -- (75) -- (75)
Issuance of common stock
related to exercise of stock
options...................... -- -- 8 -- 8 -- 8
Issuance of common stock and
options in merger of
subsidiary, net of expenses
of $200...................... -- -- 3,522 3 7,586 -- 7,589
Net loss....................... -- -- -- -- -- (9,972) (9,972)
---- ------- ------ --- ------- -------- -------
Balance at December 31, 1993... 547 11,856 10,469 10 23,180 (14,420) 20,626
Conversion of Series A
preferred stock.............. (63) (1,401) 636 1 1,400 -- --
Repurchase of common stock..... -- -- (55) -- (105) -- (105)
Issuance of common stock
related to exercise of stock
options...................... -- -- 5 -- 5 -- 5
Net income..................... -- -- -- -- -- 5,395 5,395
---- ------- ------ --- ------- -------- -------
Balance at December 31, 1994... 484 10,455 11,055 11 24,480 (9,025) 25,921
Net loss January 1995.......... -- -- -- -- -- (3,221) (3,221)
---- ------- ------ --- ------- -------- -------
Balance at January 29, 1995.... 484 10,455 11,055 11 24,480 (12,246) 22,700
Conversion of Series B
preferred stock.............. (119) (2,674) 1,190 1 2,673 -- --
Reverse stock split............ (235) -- (8,163) (8) 8 -- --
Conversion of Series A
preferred stock.............. (12) (258) 39 -- 258 -- --
Net loss....................... -- -- -- -- -- (8,715) (8,715)
---- ------- ------ --- ------- -------- -------
Balance at January 28, 1996.... 118 $ 7,523 4,121 $ 4 $ 27,419 ($ 20,961) $13,985
==== ======= ====== === ======= ======== =======
</TABLE>
See accompanying notes.
17
<PAGE> 19
KRAUSE'S FURNITURE, INC.
CONSOLIDATED STATEMENT OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
FISCAL YEARS ENDED
---------------------------------------------
JANUARY 28, DECEMBER 31, DECEMBER 31,
1996 1994 1993
----------- ------------ ------------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income (loss).................................... $(8,715) $ 5,395 $ (9,972)
Adjustments to reconcile net income (loss) to net cash
used by operating activities:
Depreciation and amortization........................ 2,760 3,501 3,189
Deferred income taxes................................ 920 (920) --
Write off of leasehold interests and improvements.... 283 342 --
Gain from sale of Mr. Coffee stock................... -- (12,115) --
Equity in earnings of Mr. Coffee..................... -- (316) (987)
Gain from debt retirement............................ -- 727 --
Provision for closed stores.......................... -- 400 --
Change in assets and liabilities:
Accounts receivable.................................. 404 340 (828)
Inventories.......................................... 3,389 (2,567) (3,222)
Income tax refund receivable......................... (1,467) -- --
Prepaid expenses and other assets.................... 1,210 (1,153) (1,145)
Accounts payable and accrued liabilities............. (1,534) (736) 3,883
Customer deposits.................................... 205 (517) 1,165
Income taxes payable................................. (632) 742 --
----------- ------------ ------------
Net cash used by operating activities........ (3,177) (6,877) (7,917)
----------- ------------ ------------
Cash flows from investing activities:
Capital expenditures................................. (1,883) (2,323) (1,841)
Proceeds from sale-leaseback......................... 1,039 -- --
Proceeds from sale of Mr. Coffee stock............... -- 23,258 --
Purchases of leasehold interests..................... -- -- (1,790)
Other................................................ -- -- 42
----------- ------------ ------------
Net cash provided (used) by investing
activities................................. (844) 20,935 (3,589)
----------- ------------ ------------
Cash flows from financing activities:
Net borrowings-line of credit........................ 3,423 100 5,665
Net borrowings (payments) on short-term notes........ (18) (1,093) 689
Principal payments on long-term debt................. -- (17,700) (2,965)
Issuance of preferred stock, net of expenses......... -- -- 10,967
Other................................................ -- (50) (242)
----------- ------------ ------------
Net cash provided (used) by financing
activities................................. 3,405 (18,743) 14,114
----------- ------------ ------------
Net increase (decrease) in cash and cash equivalents... (616) (4,685) 2,608
Cash and cash equivalents at beginning of year......... 1,952 6,302 3,694
----------- ------------ ------------
Cash and cash equivalents at end of year............... $ 1,336 $ 1,617 $ 6,302
======== ========== ==========
Supplemental disclosures of cash flow information --
Cash paid during the year for:
Interest............................................. $ 543 $ 915 $ 1,768
Income taxes......................................... -- 2,100 5
Noncash investing and financing activities:
Common stock and options issued in merger............ -- -- 7,789
Conversion of preferred stock and other stock
issuances....................................... 2,932 1,401 1,081
</TABLE>
See accompanying notes.
18
<PAGE> 20
KRAUSE'S FURNITURE, INC.
CONSOLIDATED STATEMENT OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
MONTH ENDED
JANUARY 30,
MONTH ENDED 1994
JANUARY 29, ------------
1995
------------ (UNAUDITED)
<S> <C> <C>
Net furniture sales............................................... $ 7,179 $ 7,326
Cost of sales..................................................... 3,647 3,519
------- -------
Gross profit...................................................... 3,532 3,807
Operating expenses:
Selling......................................................... 5,446 4,935
General and administrative...................................... 1,317 913
------- -------
6,763 5,848
------- -------
Loss from operations.............................................. (3,231) (2,041)
Equity in earnings of Mr. Coffee.................................. -- 93
Interest expense.................................................. (12) (258)
Other income...................................................... 22 21
------- -------
Net loss.......................................................... $ (3,221) $ (2,185)
======= =======
Net loss per share................................................ $ (0.87) $ (0.63)
Average number of common shares outstanding....................... 3,685 3,490
</TABLE>
See accompanying notes.
19
<PAGE> 21
KRAUSE'S FURNITURE, INC.
CONSOLIDATED STATEMENT OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
MONTH ENDED
JANUARY 30,
MONTH ENDED 1994
JANUARY 29, -----------
1995
----------- (UNAUDITED)
<S> <C> <C>
Cash flows from operating activities:
Net loss......................................................... $(3,221) $(2,185)
Adjustments to reconcile net loss to net cash used by operating
activities:
Depreciation and amortization.................................... 217 321
Equity in earnings of Mr. Coffee................................. -- (93)
Change in assets and liabilities:
Accounts receivable.............................................. 81 (160)
Inventories...................................................... (759) (1,396)
Prepaid expenses and other assets................................ (719) (196)
Accounts payable and accrued liabilities......................... 343 (1,899)
Customer deposits................................................ 3,113 2,349
Income taxes payable............................................. -- 42
------- -------
Net cash used by operating activities.................... (945) (3,217)
Cash flows from investing activities --
Capital expenditures............................................. (764) (60)
Cash flows from financing activities:
Proceeds from issuance of long-term debt......................... 2,092 --
Principal payments on long-term debt............................. (48) --
------- -------
Net cash provided by financing activities................ 2,044 --
Net increase (decrease) in cash and cash equivalents............... 335 (3,277)
Cash and cash equivalents at beginning of period................... 1,617 6,302
------- -------
Cash and cash equivalents at end of period......................... $ 1,952 $ 3,025
======= =======
Supplemental disclosures of cash flow information --
Cash paid during the period for:
Interest...................................................... $ -- $ 351
Noncash investing and financing activities --
Note receivable reduction in exchange for common stock and
warrants..................................................... -- 50
</TABLE>
See accompanying notes.
20
<PAGE> 22
KRAUSE'S FURNITURE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of presentation
The consolidated financial statements include the accounts of Krause's
Furniture, Inc., (the "Company") and its wholly owned subsidiaries, including
the Company's principal subsidiary, Krause's Sofa Factory ("Krause's") and the
principal subsidiary of Krause's, Castro Convertible Corporation. In April 1995
the Company changed its fiscal year from a calendar year-end to a fiscal year
ending on the last Sunday of January as determined by the 52/53 retail fiscal
year. The Company's 1995 fiscal year ended January 28, 1996. All significant
intercompany transactions and balances have been eliminated. Certain
reclassifications of previously reported financial information were made to
conform to the 1995 presentation.
On August 1, 1995 the Company effected a one-for-three reverse split of its
common and preferred stock. Except for share amounts prior to August 1, 1995
appearing in the accompanying consolidated balance sheet and statement of
stockholders' equity, all share and per share data in this report have been
restated to reflect the reverse split.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the reported
periods. Actual results could differ from those estimates.
Business
Krause's manufactures made-to-order sofas, sofabeds, loveseats and chairs,
and sells these products (as well as externally-sourced products) through its
own chain of retail showrooms, as well as licensed dealerships. As of January
28, 1996 there were 83 company-owned showrooms in 12 states.
Operations
During fiscal 1995 the Company incurred an operating loss of $9,388,000,
and as of January 28, 1996 the Company has a working capital deficiency of
$6,878,000 and an accumulated deficit of $20,961,000. Management has identified
certain initiatives and taken steps to return to profitability. Principal
planned strategic objectives and initiatives include a downsizing of showroom
size 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 a corporate
expense reduction with tight budgeting controls. 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 has amended the terms of the
credit agreement for its revolving credit notes to modify the covenants and
conditions, extend the expiration date of the credit facility to January 1998,
and provide, subject to obtaining certain additional junior debt or equity
financing, additional borrowing availability (Note 4). Additionally, the Company
has received a commitment from an investor that will assure it of receiving at
least $2 million from a planned convertible debt offering during the fiscal year
ending January 1997. As a result, management believes the Company has sufficient
sources of financing to continue operations throughout fiscal 1996. However, the
Company will need to obtain further financing to implement all of the strategic
objectives and initiatives contemplated by the strategic plan. The Company's
long-term success is dependent upon its ability to obtain necessary financing,
the successful execution of management's strategic plan and, ultimately, the
achievement of sustained profitable operations.
21
<PAGE> 23
KRAUSE'S FURNITURE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Cash and cash equivalents
Cash and cash equivalents include U.S. Treasury bills, government agency
securities and commercial paper with original maturities of less than three
months, carried at cost, which approximates fair market value.
Fair values of financial instruments
Fair values of cash and cash equivalents approximate cost due to the short
period of time to maturity. The fair value of the secured revolving credit note
is based on borrowing rates currently available to the Company for loans with
similar terms or maturity and approximates the carrying amount reflected in the
accompanying consolidated financial statements.
Inventories
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>
JANUARY 28, JANUARY 29,
1996 1995
----------- -----------
(IN THOUSANDS)
<S> <C> <C>
Finished goods................................................ $12,345 $13,161
Work in progress.............................................. 297 479
Raw materials................................................. 1,985 4,376
------- -------
$14,627 $18,016
======= =======
</TABLE>
Showroom pre-opening expenses
Showroom pre-opening expenses are capitalized and amortized over periods
ranging from 12 to 24 months subsequent to opening of the unit. Pre-opening
expenses are included in prepaid expenses and were $113,000 and $398,000 at
January 28, 1996 and January 29, 1995, respectively.
Closed store expenses
Future expenses, such as rent and real estate taxes, net of estimated
sublease recovery, relating to closed showrooms are charged to operations upon a
formal decision to close the showroom.
Property, equipment and leasehold improvements
Property, equipment and leasehold improvements are stated at cost less
accumulated depreciation and amortization. Depreciation is computed using the
straight-line method over the estimated useful lives of the assets which range
from three to five years. Leasehold improvements are amortized on a straight
line basis
22
<PAGE> 24
KRAUSE'S FURNITURE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
over the shorter of the estimated useful life or the term of the lease.
Property, equipment and leasehold improvements are summarized as follows:
<TABLE>
<CAPTION>
JANUARY 28, JANUARY 29,
1996 1995
----------- -----------
<S> <C> <C>
Leasehold improvements........................................ $ 8,985 $ 7,862
Construction in progress...................................... 214 493
Machinery and equipment....................................... 2,855 2,738
Office and store furniture.................................... 923 931
------- -------
12,977 12,024
Less accumulated depreciation and amortization................ (6,239) (5,505)
------- -------
$ 6,738 $ 6,519
======= =======
</TABLE>
Goodwill
Goodwill, which represents the excess of purchase price over the fair value
of net assets acquired, is being amortized on a straight-line basis over 20
years (Note 2). Accumulated amortization amounted to $3,920,000 as of January
28, 1996 and $2,900,000 as of January 29, 1995.
Long-lived assets and certain identifiable intangibles held and used by the
Company will be reviewed for impairment whenever events or changes in
circumstances indicate that the carrying amount of an asset may not be
recoverable. Based upon its analysis, the Company believes that no impairment of
the carrying value of its long-lived assets inclusive of goodwill existed at
January 28, 1996. The Company's analysis at January 28, 1996 is based on an
estimate of future undiscounted cash flows using forecasts contained in the
Company's operating plan. Should the results of the operating plan not be
achieved, future analyses may indicate insufficient future undiscounted net cash
flows to recover the carrying value of the Company's long-lived assets, in which
case the carrying value of such assets should be written down to fair value if
lower than the carrying value. The Company would then be required to make a
determination of the fair value of its long-lived assets. The Company is unable
to predict whether any write-down would be required in such circumstances. The
Company's historical results of operations and its cash flows in fiscal years
1995, 1994, and 1993 indicate that it is at least reasonably possible that such
circumstances could arise in the fiscal year 1996.
Leasehold interests
Leasehold interests represent the present value of the excess of fair
market value lease rates on certain retail facility leases as compared to the
stated lease rates contained in the leases as determined at the date the leases
were acquired. Amortization of leasehold interests is on a straight-line basis
over the remaining lease terms. Accumulated amortization amounted to $1,493,000
as of January 28, 1996 and $1,224,000 as of January 29, 1995.
Revenue recognition
Sales are recorded when goods are delivered to the customer. The Company
provides for estimated customer returns and allowances by reducing sales or by a
charge to operations, as appropriate, in the period of the sale.
Advertising expenses
Advertising costs, which are principally newspaper printads, mail inserts
and radio spots, are charged to expense as incurred. Advertising expenses in the
fiscal years ended January 28, 1996, December 31, 1994, and December 31, 1993
were $11,181,000, $10,029,000 and $8,628,000, respectively.
23
<PAGE> 25
KRAUSE'S FURNITURE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Warranty costs
Estimated amounts for future warranty obligations for furniture sold are
charged to operations in the year the products are sold.
Income taxes
Effective January 1, 1993, the Company adopted Statement of Financial
Accounting Standards No. 109 ("FAS 109"), "Accounting for Income Taxes." Under
FAS 109, the liability method is used in accounting for income taxes. Under this
method, deferred tax assets and liabilities are determined based on differences
between financial reporting and tax bases of assets and liabilities, and are
measured using the enacted tax rates and laws that will be in effect when the
differences are expected to reverse. Prior to the adoption of FAS 109, income
tax expense was determined using the deferred method. Deferred tax expense was
based on items of income and expense that were reported in different years in
the financial statements and tax returns and were measured at a tax rate in
effect in the year the difference originated.
As permitted by FAS 109, the Company has elected not to restate the
financial statements of any prior years. The effect of the change on income
taxes for the year ended December 31, 1993 and the cumulative effect of the
change were not material.
Income (loss) per share
Income (loss) per share amounts for 1994 were computed based on the
weighted average number of common and common equivalent shares outstanding.
Common equivalent shares arise from dilutive stock options and warrants and
convertibility of preferred stock into common stock. Loss per share for 1995 and
1993 were computed based on the weighted average number of common shares
outstanding during each period since common stock equivalents were antidilutive.
If the conversions of preferred stock during the year ended January 28, 1996 had
occurred at the beginning of the year, the net loss per share for the fiscal
year 1995 would have been $2.11.
Stock option plans
The Company follows Accounting Principles Board Opinion No. 25, "Accounting
for Stock Issued to Employees," ("APB 25"), and related Interpretations in
accounting for its employee stock options. Under APB 25, because the exercise
price of the Company's employee stock options equals the market price of the
underlying stock on the date of grant, no compensation expense is recognized.
The Company follows the practice of recording amounts received upon the
exercise of options by crediting common stock and additional capital. The
Company realizes an income tax benefit from the exercise or early disposition of
certain stock options. This benefit results in a decrease in current income
taxes payable and an increase in additional capital.
Credit risk
Finance options are offered to consumers through non-affiliated third
parties, at no material risk to the Company. Non-financed retail consumer
receivables are collected during the normal course of operations. There is no
significant concentration of credit risk and credit losses have been minimal.
2. ACQUISITION OF KRAUSE'S SOFA FACTORY
On April 29, 1991, the Company acquired a controlling interest in the
outstanding common stock of Krause's, a manufacturer and retailer of
made-to-order upholstered furniture, for a cash investment of $6,143,000. This
acquisition was accounted for by the purchase method and the results of
operations of
24
<PAGE> 26
KRAUSE'S FURNITURE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Krause's have been consolidated since the date of acquisition. The initial
purchase of Krause's resulted in $12,354,000 of excess of purchase price over
the fair value of net assets acquired, which was equal to the purchase price
plus Krause's stockholders' deficit at acquisition. Since Krause's did not have
positive stockholders' equity, no income or loss has been allocated to minority
interest in the consolidated statement of operations.
Effective October 31, 1993, Krause's became a wholly owned subsidiary of
the Company through a merger accomplished by an exchange of stock. The minority
shareholders of Krause's each received three and twenty- four one-hundredths
(3.24) shares of the Company's common stock for each share of Krause's capital
stock held by them. A total of 3,522,506 shares were issued to the Krause's
minority shareholders in the transaction. This acquisition resulted in
$6,892,000 of excess purchase price over the fair value of net assets acquired,
which was equal to the purchase price.
The following summary presents the unaudited pro forma results of
operations of the Company for the year ended December 31, 1993 as if the
acquisition of Krause's had taken place on January 1, 1993. The summary does not
necessarily reflect the results of operations as they would have been if the
Company and Krause's constituted a single entity during the year (in thousands,
except per share amount).
<TABLE>
<CAPTION>
1993
--------
<S> <C>
Revenues from continuing operations....................................... $ 97,276
========
Loss from continuing operations........................................... $(10,076)
Extraordinary loss........................................................ (221)
--------
Net loss.................................................................. $(10,297)
========
Net loss per share........................................................ $ (2.94)
========
</TABLE>
3. INVESTMENT -- MR. COFFEE, INC.
On August 17, 1994 the Company sold all of its Mr. Coffee common stock
(1,500,548 shares) for $15.50 per share for a total cash consideration of
$23,258,000. The sale was completed pursuant to a merger of Mr. Coffee with
Health o meter Products, Inc. and resulted in a pre-tax gain to the Company of
$12,115,000 as reported in the consolidated statement of operations. Since the
Company and Mr. Coffee had certain members of the Board of Directors in common,
the investment in Mr. Coffee was accounted for on the equity method.
Summarized below (in thousands, except per share amount) is certain
financial information of Mr. Coffee for the fiscal year ended December 1993:
<TABLE>
<S> <C>
Net sales................................................................. $175,045
Operating income.......................................................... 14,625
Interest expense.......................................................... 2,782
Extraordinary loss........................................................ 1,224
Net income applicable to common........................................... 5,453
Net income per share...................................................... .66
</TABLE>
In connection with a refinancing in 1993 Mr. Coffee wrote off certain
unamortized deferred financing costs and discounts resulting in an extraordinary
loss after tax of $1,224,000. The Company's equity share of such loss of
$221,000 has been recorded as an extraordinary loss in the 1993 consolidated
statement of operations.
25
<PAGE> 27
KRAUSE'S FURNITURE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
4. NOTES PAYABLE
Notes payable consists of the following:
<TABLE>
<CAPTION>
JANUARY 28, JANUARY 29,
1996 1995
----------- -----------
(IN THOUSANDS)
<S> <C> <C>
Secured revolving credit notes................................ $ 5,515 $ 2,092
Other notes................................................... 88 106
------ ------
5,603 2,198
Less current portion.......................................... 19 17
------ ------
$ 5,584 $ 2,181
====== ======
</TABLE>
The secured revolving credit notes were issued under a two-year revolving
credit arrangement entered into with a financial institution on January 28,
1995. The credit agreement provides for revolving loans of up to $10 million
based on the value of inventories. As of January 28, 1996, borrowing under the
revolving credit facility was limited to approximately $6.9 million as defined
in the agreement. Substantially all of Krause's assets are pledged as collateral
for the loans which are guaranteed by the Company. Interest on the loans is
payable monthly at the rate of 1.5% in excess of the prime rate (8.5% at January
28, 1996).
Krause's is required to satisfy certain financial covenants for working
capital and stockholders' equity. As of January 28, 1996 the Company did not
comply with these covenants. On May 10, 1996 the Company's revolving credit
agreement was amended to provide for a waiver by the lender of the technical
noncompliance with financial covenants and to amend those covenants, to extend
the credit agreement to January 1998 and to provide, subject to the Company
obtaining certain additional equity financing, for additional borrowing
availability under the revolving credit facility (Note 1).
5. INCOME TAXES
The provision (benefit) for income taxes consists of:
<TABLE>
<CAPTION>
FIDCAL YEAR ENDED
------------------------------
JANUARY 28, DECEMBER 31,
1996 1994
------------ -------------
(IN THOUSANDS)
<S> <C> <C>
Current:
Federal................................................... $ (2,247) $ 2,413
State..................................................... -- 678
------- ------
(2,247) 3,091
Deferred (Federal).......................................... 920 (920)
------- ------
$ (1,327) $ 2,171
======= ======
</TABLE>
26
<PAGE> 28
KRAUSE'S FURNITURE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The provision for income taxes differs from the amounts computed by
applying the federal statutory rate of 34% to income (loss) before income taxes,
as follows:
<TABLE>
<CAPTION>
FISCAL YEAR ENDED
-----------------------------------
DECEMBER 31,
JANUARY 28, ------------------
1996 1994 1993
------------ ------ -------
(IN THOUSANDS)
<S> <C> <C> <C>
Tax at federal statutory rate..................... $ (3,414) $2,721 $(3,726)
Goodwill amortization 346 350 252
Adjustment of valuation allowance................. 2,144 (920) --
Benefit of net operating loss carryforwards....... -- (752) --
State income tax, net of federal benefit.......... -- 630 --
Losses for which no tax benefits are currently
recognizable.................................... -- -- 3,474
Other............................................. (403) 142 --
------- ------ -------
$ (1,327) $2,171 $ --
======= ====== =======
</TABLE>
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. Significant components of
the Company's deferred tax assets and liabilities are as follows:
<TABLE>
<CAPTION>
JANUARY 28, JANUARY 29,
1996 1995
------------ ------------
<S> <C> <C>
Deferred tax liabilities.............................. $ 200 $ 215
Deferred tax assets:
Net operating loss carryforwards.................... 7,510 5,425
Reserves and accruals not currently deductible for
tax purposes..................................... 900 1,362
Deferred gain on asset sales........................ -- 297
Other............................................... 100 217
------- -------
Total deferred tax assets........................... 8,510 7,301
Valuation allowance for deferred tax assets........... (8,310) (6,166)
------- -------
Net deferred tax assets............................. 200 1,135
------- -------
Net deferred tax.................................... $ -- $ 920
======= =======
</TABLE>
The change in the valuation allowance was a net increase of $2,144,000 for
the fiscal year ended January 28, 1996, a net decrease of $485,000 for 1994 and
a net increase of $3,400,000 for 1993. The valuation allowance was increased
since the realization of net deferred tax assets is uncertain.
As of January 28, 1996 the Company has federal net operating loss
carryforwards of approximately $18 million which begin to expire in 2003, if not
utilized. In addition, the Company had state net operating loss carryforwards of
approximately $11.5 million which begin to expire in the year 1997, if not
utilized. As a result of various equity transactions, the Company and its
subsidiaries have experienced changes of ownership as defined in the Internal
Revenue Code. As a result of these ownership changes and other provisions of the
Internal Revenue Code, utilization of these net operating loss carryforwards is
limited to the future income of Krause's and is further limited to approximately
$1 million per year.
6. STOCKHOLDERS' EQUITY
At January 28, 1996 there were outstanding warrants to purchase 199,480
shares of the Company's common stock at prices from $3.18 to $15.00 per share,
which prices were not less than the market value of common stock on the dates
the warrants were issued. The warrants expire between April 1996 and June 2005.
27
<PAGE> 29
KRAUSE'S FURNITURE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
In late 1993 the Company sold, principally to related parties in private
placements, a total of 182,451 shares of preferred stock for gross proceeds of
$12,219,707. Of the preferred shares issued, 142,784 shares were Series A and
39,667 shares were Series B. In 1994 there were 21,191 shares of Series A
preferred stock converted into 211,907 shares of common stock. In 1995 there
were 3,899 shares of Series A and 39,667 shares of Series B preferred stock
converted into 38,994 and 396,667, respectively, shares of common stock. At
January 28, 1996 there were 117,694 shares of Series A preferred stock issued
and outstanding.
Each share of Series A preferred stock is convertible into 10 shares of
common stock, has a liquidation value of $67.50 per share and has voting rights
equal to the equivalent number of shares of common stock into which it would
from time to time be convertible. The preferred stock has dividend rights to the
extent dividends are paid on common stock.
At January 28, 1996 the Company had 1,376,420 shares of common stock
reserved for issuance upon exercise of outstanding warrants and for conversion
of outstanding preferred stock.
7. STOCK OPTION PLANS
The Company has stock option plans for employees and directors. Options
granted under the plans have exercise prices equal to the fair market value of
the common stock on the date of grant.
Option grants under the employee stock option plan are made at the
discretion of the Compensation Committee of the Board of Directors and 83,333
shares of common stock have been reserved for issuance under the plan. Options
granted under the directors' plan are exercisable after nine months from the
date of the grant. Under the directors' plan, 66,667 shares of common stock are
reserved for issuance. Employee and director options generally have a term of 10
years and vest over one to five years.
In connection with the merger of the Company and Krause's (Note 2)
employees of Krause's received the right to purchase, upon exercise of their
outstanding Krause's stock options, an aggregate of 172,800 shares of the
Company's common stock at an exercise price of $4.62 per share. The difference
between the fair value of the Company's common stock and the option exercise
price resulted in additional acquisition cost of $303,264. Also on November 1,
1993, certain Krause's employees were granted options for the right to purchase
131,220 shares of the Company's common stock at $6.375 per share, the market
price of common stock at time of grant. These options are exercisable at various
times through 1999 and expire December 1, 2000.
The following table reflects exercise prices and activity under all stock
option plans from January 1, 1993 through January 28, 1996.
<TABLE>
<CAPTION>
PRICE RANGE
NUMBER OF OF SHARES
OPTIONS UNDER OPTION
--------- -------------
<S> <C> <C>
Outstanding December 31, 1994............................ 359,843 $3.09 - $8.34
Granted.................................................. 140,828 $2.16 - $6.48
Forfeited................................................ (140,298) $3.09 - $6.38
--------
Outstanding January 28, 1996............................. 360,373 $2.16 - $8.34
========
</TABLE>
As of January 28, 1996, under all options and option plans, a total of
449,854 shares of common stock are reserved for future issuance, options to
purchase 360,373 shares of common stock were outstanding, options to purchase
236,642 shares were exercisable and options for 89,481 shares were available for
future grants.
8. RETIREMENT PLAN
Krause's has a 401(k) retirement plan (effective January 1, 1994) to which
eligible employees may contribute up to 18% of their annual earnings. At its
discretion Krause's matches employees' contributions.
28
<PAGE> 30
KRAUSE'S FURNITURE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
During the fiscal years ended January 28, 1996 and December 31, 1994, Krause's
matched employee contributions up to $75 and $50 per participant, respectively,
which amounted to a total of $7,500 and $10,000, respectively.
9. COMMITMENTS AND CONTINGENCIES
The Company and its subsidiaries lease production, office and retail
facilities and equipment under operating leases. Lease terms range from three to
25 years and most leases contain renewal options and certain leases contain
purchase options. Krause's administrative offices and manufacturing facilities
lease has a remaining term of 13 years with four five-year options. Retail
showrooms are all leased with rents either fixed or with fixed minimums coupled
with contingent rents based on the Consumer Price Index or a percentage of
sales. Certain facilities were leased from a director of the Company and the
director's family. Commitments as of January 28, 1996 under operating leases
require approximate future minimum annual rental payments as follows:
<TABLE>
<CAPTION>
RELATED
FISCAL YEAR PARTIES OTHER TOTAL
----------------------------------------------- ------- ------- -------
(IN THOUSANDS)
<S> <C> <C> <C>
1996........................................... $ 858 $14,349 $15,207
1997........................................... 857 13,247 14,104
1998........................................... 857 11,874 12,731
1999........................................... 735 10,138 10,873
2000........................................... 710 8,014 8,724
Thereafter..................................... 701 29,350 30,051
------ ------- -------
$ 4,718 $86,972 $91,690
====== ======= =======
</TABLE>
Total rent expense under all operating leases was approximately
$15,631,000, $14,965,000, and $15,031,000 for the fiscal years ended January 28,
1996, December 31, 1994 and December 31, 1993, respectively, including $802,000
and $846,000, and $1,166,000, respectively, to related parties.
During 1994 Krause's negotiated a restructuring of its factory and
administrative office facilities lease resulting in a lower rental rate and the
addition of a purchase option. In connection with the restructuring a bank
issued, on behalf of Krause's, a $1,000,000 letter of credit to the landlord.
This letter of credit is supported by a bank certificate of deposit in the same
amount which is included in other assets in the consolidated balance sheet.
The Company and its subsidiaries are also parties to various legal actions
and proceedings incident to normal business activity. Management believes that
any liability in the event of final adverse determination of any of these
matters would not be material to the Company's financial position, liquidity or
results of operations.
10. OTHER RELATED PARTY TRANSACTIONS
The Company has an agreement with an affiliate (Permal Capital Management,
Inc.) to provide executive management, financial consulting and other services
to the Company (the Company's Vice Chairman and Chief Executive Officer is
President of Permal Capital Management, Inc.). Charges for services under this
agreement were $100,000 in the fiscal year ended January 28, 1996 and $200,000
in each of 1994 and 1993. In 1993 Permal Capital Management, Inc. also received
$200,000 cash, 2,370 shares (at $67.50 per share) of the Company's Series A
preferred stock and warrants to purchase 16,667 shares of the Company's common
stock (at $7.13 per share) for services in connection with the Company's private
placement of $12,220,000 of preferred stock (Note 6).
29
<PAGE> 31
KRAUSE'S FURNITURE, INC.
SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTS
FISCAL YEAR AND MONTH ENDED JANUARY 29, 1995, AND
YEARS ENDED DECEMBER 31, 1994 AND DECEMBER 31, 1993
<TABLE>
<CAPTION>
ADDITIONS
----------
BALANCE CHARGED TO CHARGED BALANCE
ALLOWANCES FOR BEGINNING COST AND TO OTHER END
DOUBTFUL ACCOUNTS OF PERIOD EXPENSES ACCOUNTS DEDUCTIONS(A) OF PERIOD
- ------------------------------------- --------- ---------- --------- ------------- ---------
<S> <C> <C> <C> <C> <C>
1995(c).............................. $ 616,148 $218,414 $ -- $ 543,075 $ 291,487
Month ended January 29, 1995......... 591,744 24,404 -- -- 616,148
1994................................. 395,322 566,000 (320,000)(b) 49,578 591,744
1993................................. 250,441 265,000 -- 120,119 395,322
</TABLE>
- ---------------
(a) Represents accounts written off.
(b) Represents allowance for sales returns reclassified to accrued liabilities
to conform to the presentation for the fiscal year ended January 28, 1996.
(c) Fiscal year ended January 28, 1996.
30
<PAGE> 32
INDEPENDENT AUDITORS' REPORT
The Board of Directors
Mr. Coffee, inc.:
We have audited the accompanying balance sheets of Mr. Coffee, inc. as of
December 26, 1993 and December 27, 1992, and the related statements of
operations, stockholders' equity, and cash flows for each of the years in the
three-year period ended December 26, 1993. These financial statements (not
presented separately herein) are the responsibility of the Company's management.
Our responsibility is to express an opinion on these financial statements based
on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Mr. Coffee, inc. at December
26, 1993 and December 27, 1992, and the results of its operations and its cash
flows for each of the years in the three-year period ended December 26, 1993 in
conformity with generally accepted accounting principles.
KPMG PEAT MARWICK LLP
Cleveland, Ohio
February 18, 1994
31
<PAGE> 1
EXHIBIT 3.1(B)
CERTIFICATE OF AMENDMENT
OF
CERTIFICATE OF INCORPORATION
KRAUSE'S FURNITURE, INC., a corporation organized and existing under and by
virtue of the General Corporation Law of the State of Delaware,
DOES HEREBY CERTIFY:
FIRST: That the Board of Directors of KRAUSE'S FURNITURE, INC., at a
meeting duly held on June 29, 1995, adopted a resolution proposing and declaring
advisable the following amendment to the Certificate of Incorporation of said
corporation:
RESOLVED, that the Certificate of Incorporation of KRAUSE'S FURNITURE, INC.
be amended by changing the FOURTH Article thereof so that, as amended, said
Article shall be and read as follows:
"The total number of shares of stock which the corporation shall have
authority to issue is Nine Million (9,000,000), of which Eight Million Three
Hundred Thirty-Three Thousand Three Hundred Thirty-Three (8,333,333) shares of
the par value of One Tenth of One Cent ($0.001) each, amounting in the aggregate
to Eight Thousand Three Hundred Thirty-Three and 33/100ths ($8,333.33) Dollars
shall be common stock, and of which Six Hundred Sixty-Six Thousand, Six Hundred
Sixty-Seven (666,667) shares of the par value of One Tenth of One Cent ($0.001)
each, shall be preferred stock.
"Preferred shares may be issued in one or more series and the number of
shares, designations, preferences, rights and restrictions of each series shall
be fixed by resolution or resolutions by the Board of Directors.
"Upon the amendment of this article to read as hereinabove set forth, each
three (3) outstanding shares is combined, reconstituted and converted into one
(1) share."
SECOND: That in lieu of a meeting and vote of stockholders, the
stockholders have given written consent to said amendment in accordance with the
provisions of Section 228 of the General Corporation Law of the State of
Delaware, and written notice of the adoption of the amendment has been given as
provided in Section 228 of the General Corporation Law of the State of Delaware
to every stockholder entitled to such notice.
THIRD: That the aforesaid amendment was duly adopted in accordance with
the applicable provisions of Sections 242 and 228 of the General Corporation Law
of the State of Delaware.
IN WITNESS WHEREOF, said KRAUSE'S FURNITURE, INC. has caused this
certificate to be signed by STEPHEN P. ANDERSON, its President, and attested by
GARY S. VANDEWEGHE, its Secretary, this 28th day of July, 1995.
<TABLE>
<S> <C>
ATTEST: KRAUSE'S FURNITURE, INC.
/s/ GARY S. VANDEWEGHE By: /s/ Stephen P. Anderson
- --------------------------------------------- ---------------------------------------------
GARY S. VANDEWEGHE STEPHEN P. ANDERSON
Secretary President
</TABLE>
32
<PAGE> 1
Exhibit 4.1(a)
FIRST AMENDMENT TO LOAN AND SECURITY AGREEMENT
THIS FIRST AMENDMENT TO LOAN AND SECURITY AGREEMENT (the "Amendment"),
dated as of May 10, 1996, is entered into between CONGRESS FINANCIAL
CORPORATION (WESTERN), a California corporation ("Lender"), with a place of
business at 225 South Lake Avenue, Suite 1000, Pasadena, California 91101 and
KRAUSE'S SOFA FACTORY, a California corporation, and its wholly owned
subsidiary, CASTRO CONVERTIBLE CORPORATION, a New York corporation (jointly and
severally, "Borrower"), with its chief executive office located at 200 N. Berry
Street, Brea, California 92621.
RECITAL
A. Borrower and Lender have previously entered into that certain Loan
and Security Agreement dated as of January 20, 1995 (the "Loan Agreement"),
pursuant to which Lender has made certain loans and financial accommodations
available to Borrower. Terms used herein without definition shall have the
meanings ascribed to them in the Loan Agreement.
B. Borrower has requested Lender to waive certain financial covenants
defaults, modify certain financial covenants, increase the advance rate on raw
materials and extend the term of the Loan Agreement.
C. Lender is willing to further amend the Loan Agreement under the
terms and conditions set forth in this Amendment. Borrower is entering into this
Amendment with the understanding and agreement that, except as specifically
provided herein, none of Lender's rights or remedies as set forth in the Loan
Agreement is being waived or modified by the terms of this Amendment.
NOW, THEREFORE, in consideration of the foregoing and the mutual
covenants herein contained, and for other good and valuable consideration, the
receipt and sufficiency of which are hereby acknowledged, the parties hereby
agree as follows:
1. Working Capital. Section 9.13 of the Loan Agreement is hereby
amended to read in its entirety as follows:
"9.13 Working Capital. Borrower shall at all times, maintain
Working Capital of not less than a negative $8,000,000."
Any breach by Borrower of Section 9.13 of the Loan Agreement, known to Lender
as of the date hereof, is hereby waived.
<PAGE> 2
2. Adjusted Net Worth. Section 9.14 of the Loan Agreement is hereby
amended to read in its entirety as follows:
"9.14 Adjusted Net Worth. Borrower shall maintain Adjusted
Net Worth for the period from February 1, 1996 through May
30, 1996 of not less than a negative $4,500,000, and at all times
thereafter of not less than a negative $4,200,000."
Any breach by Borrower of Section 9.14 of the Loan Agreement, known to Lender
as of the date hereof, is hereby waived.
3. Extension of Term. The first sentence of Section 12.1(a) of the
Loan Agreement is hereby amended to read in its entirety as follows:
"This Agreement and the other Financing Agreements shall
become effective as of the date set forth on the first
page hereof and shall continue in full force and effect for
a term ending on January 20, 1998 (the "Renewal Date"), and
from year to year thereafter, unless sooner terminated
pursuant to the terms hereof."
4. Early Termination Fee. The first sentence of Section 12.1(c) of the
Loan Agreement is hereby amended to read in its entirety as follows:
"If for any reason this Agreement is terminated, except by
Lender in bad faith, prior to the end of the then current
term or renewal term of this Agreement, in view of the
impracticality and extreme difficulty of ascertaining actual
damages and by mutual agreement of the parties as to a
reasonable calculation of Lender's lost profits as a result
thereof. Borrower agrees to pay to Lender, upon the effective
date of such termination, an early termination fee in the
amount of three percent (3%) of the Maximum Credit through
January 20, 1998 and in the amount of one percent (1%) of
the Maximum Credit thereafter."
5. Effectiveness of this Amendment. Lender must have received the
following items, in form and substance acceptable to Lender, or evidence of the
occurrence thereof, before this Amendment is effective and before Lender is
required to extend any credit to Borrower as provided for by this Amendment.
The date on which all of the following conditions have been satisfied is the
"Closing Date".
(a) Amendment. This Amendment fully executed in a sufficient
number of counterparts for distribution to Lender and Borrower.
(b) Authorizations. Evidence that the execution, delivery and
performance by Borrower and each guarantor or subordinating creditor of
this Amendment and any instrument or agreement required under this
Amendment have been duly authorized.
2
<PAGE> 3
(c) Representations and Warranties. The Representations and
Warranties set forth in the Loan Agreement must be true and correct.
(d) Other Required Documentation. All other documents and
legal matters in connection with the transactions contemplated by this
Agreement shall have been delivered or executed or recorded and shall be
in form and substance satisfactory to Lender.
(e) Subordinated Debt. Borrower shall have received from
its Parent, Krause's Furniture, Inc., a Delaware corporation, a cash
capital contribution in the minimum amount of $500,000 as subordinated
debt or equity contributed on terms acceptable to Lender, and Parent
shall have acknowledged in a manner acceptable to Lender, that any such
subordinate debt or equity other than common stock is "Junior Debt"
subject to the terms and conditions of that certain Subordination
Agreement between Parent and Lender dated January 20, 1995 (the
"Subordination Agreement").
(f) Payment of Modification Fee. Lender shall have received
from Borrower a Modification Fee of $10,000 for the processing and
approval of this Amendment, which fee shall be fully earned upon
receipt.
6. Adjustment to Raw Material Advance Rate. In addition to the
amendments to the Loan Agreement provided for in paragraphs 2, 3 and 4 above,
Section 2.1(a)(ii) of the Loan Agreement will be amended to read in its
entirety as follows:
"(ii) notwithstanding the exclusion of raw materials from the
definition of Eligible Inventory, during the months of January,
July and August of each year, the lesser of (x) ten percent
(10%) (thirty-seven percent (37%) for the months of June, July
and August 1996 and January 1997) of the cost of raw materials
consisting of fabric and leather, valued at the lower of cost or
market, or (y) Five Hundred Thousand Dollars ($500,000) (Seven
Hundred Thousand Dollars ($700,000) for the months of June, July
and August 1996 and January 1997); less"
The effectiveness of the foregoing amendment to the advance rate for raw
materials is subject to the satisfaction of the following conditions:
(a) Borrower shall have received from its Parent a cash
capital contribution (in addition to the cash capital contribution set
forth in paragraph 5(e) above) in the minimum amount of $750,000, as
subordinated debt or equity on terms acceptable to Lender, and Parent
shall have acknowledged, in a manner acceptable to Lender, that any such
subordinated debt or equity other than common stock is "Junior Debt"
subject to the terms and conditions of the Subordination Agreement; and
(b) Lender shall have received, at such time as Borrower
pays the Modification Fee provided for in paragraph 5(f) above, an
additional fee of $15,000, which fee shall be fully earned upon receipt.
3
<PAGE> 4
7. Choice of Law. The validity of this Amendment, its construction,
interpretation and enforcement, the rights of the parties hereunder, shall be
determined under, governed by, and construed in accordance with the internal
laws of the State of California governing contracts only to be performed in
that State.
8. Counterparts. This Amendment may be executed in any number of
counterparts and by different parties and separate counterparts, each of which
when so executed and delivered, shall be deemed an original, and all of which,
when taken together, shall constitute one and the same instrument.
9. Due Execution. The execution, delivery and performance of this
Amendment are within the power of Borrower, have been duly authorized by all
necessary corporate action, have received all necessary governmental approval,
if any, and do not contravene any law or any contractual restrictions binding on
Borrower.
10. Effect of Amendment. Except as set forth expressly herein, all
terms of the Loan Agreement and the other Financing Agreements shall be and
remain in full force and effect and shall constitute the legal, valid, binding
and enforceable obligations of Borrower to Lender. To the extent that any terms
and conditions in any of the Financing Agreements shall contradict or be in
conflict with any terms or conditions of the Agreements, after giving effect
to this Amendment, such terms and conditions are hereby deemed modified and
amended accordingly to reflect the terms and conditions of the Loan Agreement
as modified and amended hereby.
11. Ratification. Borrower hereby restates, ratifies and reaffirms
each and every term and condition set forth in the Loan Agreement, as amended
hereby, and the Financing Agreements effective as of the date hereof.
12. Estoppel. To induce Lender to enter into this Amendment and to
continue to make advances to Borrower under the Loan Agreement, Borrower hereby
acknowledges and agrees that, after giving effect to this Amendment, as of the
date hereof, there exists no
4
<PAGE> 5
Event of Default and no right of offset, defense, counterclaim or objection in
favor of Borrower as against Lender with respect to the Obligations.
IN WITNESS WHEREOF, the parties have entered into this Amendment as of
the date first above written.
KRAUSE'S SOFA FACTORY,
a California corporation
By:
--------------------------------
Title:
-----------------------------
CASTRO CONVERTIBLE CORPORATION,
a New York corporation
By:
--------------------------------
Title:
-----------------------------
CONGRESS FINANCIAL CORPORATION
(WESTERN),
a California corporation
By:
--------------------------------
Title:
-----------------------------
5
<PAGE> 1
EXHIBIT 11
KRAUSE'S FURNITURE, INC.
COMPUTATION OF NET INCOME (LOSS) PER SHARE
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
1995 1994 1993
------- ------ -------
<S> <C> <C> <C>
Net income (loss).............................................. $(8,715) $5,395 $(9,972)
Weighted average number of shares outstanding(C)
Common stock................................................. 3,950 3,523 2,510
Common stock equivalents(A):
Convertible preferred stock............................... -- 1,778 --
Stock options(B).......................................... -- 80 --
Warrants(B)............................................... -- 13.... --
-------- ------- --------
Total................................................ 3,950 5,394 2,510
======== ======= ========
Net income (loss) per share.................................... $ (2.21) $ 1.00 $ (3.97)
======== ======= ========
</TABLE>
- ---------------
(A) Common stock equivalents are excluded from the calculation in loss years
since they are anti-dilutive.
(B) Computations of dilutive stock options and warrants is based on the
treasury stock method using the average market price.
(C) All share and per share amounts have been restated to reflect a
one-for-three reverse stock split effected August 1, 1995.
33
<PAGE> 1
EXHIBIT 21
SUBSIDIARIES OF REGISTRANT
<TABLE>
<CAPTION>
NAME OF SUBSIDIARY STATE OF INCORPORATION
- -------------------------------------------------------------------------- ----------------------
<S> <C>
Krause's Sofa Factory..................................................... California
(business operated under the names "Krause's Sofa Factory"
and "Castro Convertibles")
KMC Enterprises, Inc...................................................... Delaware
</TABLE>
34
<PAGE> 1
EXHIBIT 23.1
CONSENT OF INDEPENDENT AUDITORS
We consent to the incorporation by reference in the Registration Statement
(Form S-3 No. 33-81168) of Krause's Furniture, Inc. and in the related
Prospectus of our report dated April 26, 1996, except for Notes 1 and 4, as to
which the date is May 10, 1996, with respect to the consolidated financial
statements and schedule of Krause's Furniture, Inc. included in this Annual
Report (Form 10-K) for the year ended January 28, 1996.
/s/ ERNST & YOUNG LLP
- ------------------------
Ernst & Young LLP
Orange County, California
May 10, 1996
<PAGE> 1
Exhibit 23.2
CONSENT OF INDEPENDENT ACCOUNTANTS
The Board of Directors
Krause's Furniture, Inc.
We consent to the use of our report included herein.
/s/ KPMG Peat Marwick LLP
- ----------------------------------
KPMG PEAT MARWICK LLP
Cleveland, Ohio
May 10, 1996
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> JAN-28-1996
<PERIOD-START> JAN-30-1995
<PERIOD-END> JAN-28-1996
<CASH> 1,336
<SECURITIES> 0
<RECEIVABLES> 1,077
<ALLOWANCES> 291
<INVENTORY> 14,627
<CURRENT-ASSETS> 18,602
<PP&E> 12,977
<DEPRECIATION> 6,239
<TOTAL-ASSETS> 46,866
<CURRENT-LIABILITIES> 25,480
<BONDS> 0
<COMMON> 4
0
7,523
<OTHER-SE> 6,458
<TOTAL-LIABILITY-AND-EQUITY> 46,866
<SALES> 122,319
<TOTAL-REVENUES> 122,319
<CGS> 59,852
<TOTAL-COSTS> 59,852
<OTHER-EXPENSES> 71,855
<LOSS-PROVISION> 218
<INTEREST-EXPENSE> 721
<INCOME-PRETAX> (10,042)
<INCOME-TAX> (1,327)
<INCOME-CONTINUING> (8,715)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (8,715)
<EPS-PRIMARY> (2.21)
<EPS-DILUTED> (2.21)
</TABLE>
