UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended October 31, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT
For the transition period from __________ to
_________________.
Commission file number 1-09100
----------------
Gottschalks Inc.
- ------------------------------------------------------
(Exact name of Registrant as specified in its charter)
Delaware 77-0159791
- ------------------------------- -----------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
7 River Park Place East, Fresno, California 93720
- ------------------------------------------- ---------
(Address of principal executive offices) (Zip code)
Registrant's telephone number, including area code
(209) 434-8000
- -----------------
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
The number of shares of the Registrant's common stock
outstanding as of November 30, 1998 was 12,575,565.
INDEX
GOTTSCHALKS INC. AND SUBSIDIARY
Page No.
---------
PART I. FINANCIAL INFORMATION
- -----------------------------
Item 1. Financial Statements (Unaudited):
Condensed consolidated balance sheets -
October 31, 1998 and January 31, 1998 2
Consolidated statements of operations -
thirteen and thirty-nine weeks ended
October 31, 1998 and November 1, 1997 3
Condensed consolidated statements of cash
flows - thirty-nine weeks ended
October 31, 1998 and November 1, 1997 4
Notes to condensed consolidated financial
statements - thirteen and thirty-nine
weeks ended October 31, 1998 and
November 1, 1997 5 - 10
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of
Operations 11 - 23
Item 3. Quantitative and Qualitative
Disclosures about Market Risk - Not
Applicable
PART II. OTHER INFORMATION
- ---------------------------
Item 2. Changes in Securities and Related
Stockholder Matters 24
Item 6. Exhibits and Reports on Form 8-K 24
SIGNATURES 25
- -----------
<TABLE>
<CAPTION>
PART I. FINANCIAL INFORMATION
Item I. GOTTSCHALKS INC. AND SUBSIDIARY
CONDENSED CONSOLIDATED BALANCE SHEETS (Note 1)
(In thousands of dollars)
October 31, 1998 January 31, 1998
---------------- ----------------
(Unaudited)
ASSETS
- -------
CURRENT ASSETS:
<S> <C> <C>
Cash $ 2,162 $ 1,601
Retained interest in receivables sold
(Note 3) 15,399 15,813
Receivables - net 17,023 6,560
Merchandise inventories 166,765 99,294
Other 14,697 11,444
------- -------
Total current assets 216,046 134,712
PROPERTY AND EQUIPMENT 163,348 145,166
Less accumulated depreciation and
amortization 52,157 46,109
------- -------
111,191 99,057
OTHER LONG-TERM ASSETS 14,059 8,542
------- -------
$341,296 $242,311
======= =======
LIABILITIES AND STOCKHOLDERS' EQUITY
- --------------------------------------
CURRENT LIABILITIES:
Revolving line of credit $ 32,693 $ 5,767
Cash management liability 15,078 10,141
Trade accounts payable 42,541 20,950
Accrued expenses and other liabilities 19,681 17,627
Taxes, other than income taxes 7,450 8,698
Current portion of long-term
obligations 4,384 3,950
------- -------
Total current liabilities 121,827 67,133
LONG-TERM OBLIGATIONS (less current portion):
Line of credit 40,000 25,000
Notes and mortgage loans payable 28,112 30,083
Capitalized lease obligations 6,562 7,337
------- -------
74,674 62,420
DEFERRED INCOME AND OTHER 29,077 28,853
SUBORDINATED NOTE PAYABLE TO AFFILIATE
(NOTE 2) 20,533
STOCKHOLDERS' EQUITY 95,185 83,905
------- -------
$341,296 $242,311
======= =======
</TABLE>
See notes to condensed consolidated financial statements.
<TABLE>
<CAPTION>
GOTTSCHALKS INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED - Note 1)
(In thousands of dollars, except share data)
Thirteen Weeks Thirty-Nine Weeks
Ended Ended
---------------------- ----------------------
October 31, November 1, October 31, November 1,
1998 1997 1998 1997
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Net sales $123,118 $101,466 $322,717 $291,969
Net credit revenues 1,717 1,130 4,768 4,019
------- ------- ------- -------
124,835 102,596 327,485 295,988
COSTS & EXPENSES:
Cost of sales 79,930 68,595 216,987 198,310
Selling, general &
administrative expenses 39,861 32,481 103,646 92,703
Depreciation & amortization 2,161 1,697 6,174 4,683
Business integration and
acquisition related
expenses 564 748 564 748
------- ------- ------- -------
122,516 103,521 327,371 296,444
------- ------- ------- -------
Operating income (loss) 2,319 (925) 114 (456)
Other (income) expense:
Interest expense 2,234 1,834 6,292 5,268
Miscellaneous income (519) (243) (1,064) (1,112)
------- ------- ------- -------
1,715 1,591 5,228 4,156
------- ------- ------- -------
INCOME (LOSS) BEFORE INCOME
TAX EXPENSE (BENEFIT) 604 (2,516) (5,114) (4,612)
Income tax expense (benefit) 259 (1,031) (2,113) (1,892)
------- ------- ------- --------
NET INCOME (LOSS) $ 345 $ (1,485) $ (3,001) $ (2,720)
======= ======= ======= ======
Net income (loss) per common share -
basic and diluted $ 0.03 $ (0.14) $ (0.27) $ (0.26)
======= ======= ======= =======
Weighted average number of
common shares outstanding -
basic and diluted 12,138 10,473 11,032 10,473
</TABLE>
See notes to condensed consolidated financial statements.
<TABLE>
<CAPTION>
GOTTSCHALKS INC. AND SUBSIDIARY
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED - NOTE 1)
(In thousands of dollars)
Thirty-Nine Weeks
Ended
-----------------------
October 31, November 1,
1998 1997
---------- ----------
OPERATING ACTIVITIES:
<S> <C> <C>
Net loss $(3,001) $(2,721)
Adjustments:
Depreciation and amortization 6,174 4,683
Provision for credit losse 640 317
Other adjustments, net (2,485) (2,277)
Changes in operating assets and
liabilities, net of
effects of acquisition:
Receivables, net 1,127 862
Merchandise inventories (46,094) (44,994)
Trade accounts payable 11,644 13,580
Other current and long-term
assets and liabilities 223 565
------- -------
Net cash used in operating
activities (31,772) (29,985)
INVESTING ACTIVITIES:
Purchases of held-to-maturity
securities (Note 3) (156,847) (151,221)
Maturities of held-to-maturity
securities (Note 3) 161,211 160,892
Purchases of property and equipment (12,426) (10,965)
Proceeds from property and equipment
sales 458 352
Distribution from limited partnership 149 169
------- -------
Net cash used in investing
activities (7,455) (773)
FINANCING ACTIVITIES:
Net proceeds under revolving lines
of credit 41,926 14,631
Proceeds from long-term obligations 3,214
Principal payments on long-term
obligations (7,075) (2,066)
Changes in cash management liability
and other 4,937 15,209
------- -------
Net cash provided by
financing activities 39,788 30,988
------- -------
INCREASE IN CASH 561 230
CASH AT BEGINNING OF YEAR 1,601 1,496
------- -------
CASH AT END OF PERIOD $ 2,162 $ 1,726
======= =======
SUPPLEMENTAL SCHEDULE OF NON-CASH INVESTING ACTIVITY:
Consideration for acquisition of business (Note 2):
Issuance of 2,095,900 shares of common stock $14,273
Issuance of 8% Junior Subordinated Note 20,467
------
$34,740
======
</TABLE>
See notes to condensed consolidated financial statements.
GOTTSCHALKS INC. AND SUBSIDIARY
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
Thirteen and Thirty-Nine Weeks Ended October 31, 1998 and
November 1, 1997
1. NATURE OF OPERATIONS AND BASIS OF PRESENTATION
Gottschalks Inc. is a regional department and specialty
store chain based in Fresno, California, currently
operating forty-six department stores, including
thirty-seven "Gottschalks" and nine
"Harris/Gottschalks" stores, and twenty-one "Village
East" specialty stores. The Company's department
stores, located primarily in non-major metropolitan
cities throughout California and in Oregon, Washington
and Nevada, are generally located as anchor tenants in
regional shopping malls and typically offer a wide
range of brand-name and private-label merchandise,
including men's, women's, junior's and children's
apparel, cosmetics, shoes and accessories, home
furnishings and other consumer goods. Village East
specialty stores offer apparel for larger women.
The accompanying unaudited condensed consolidated
financial statements include the accounts of
Gottschalks Inc., and its wholly-owned subsidiary,
Gottschalks Credit Receivables Corporation ("GCRC").
(See Note 3). Such financial statements have been
prepared in accordance with generally accepted
accounting principles for interim financial information
and the instructions to Form 10-Q and Article 10 of
Regulation S-X. Accordingly, they do not include all
of the information and footnotes required by generally
accepted accounting principles for complete financial
statements. In the opinion of management, all
adjustments (consisting primarily of normal recurring
accruals) considered necessary for a fair presentation
have been included. Operating results for the thirteen
and thirty-nine week periods ended October 31, 1998 are
not necessarily indicative of the results that may be
expected for the fiscal year ending January 30, 1999
(fiscal 1998), due to the seasonal nature of the
Company's business, the recently completed acquisition
of substantially all of the assets of The Harris
Company ("Harris") (Note 2) and the LIFO inventory
valuation adjustment ("LIFO adjustment"), currently
recorded only at the end of each fiscal year (Note 4).
These financial statements should be read in
conjunction with the financial statements and footnotes
thereto included in the Company's Annual Report on Form
10-K for the year ended January 31, 1998 (the "1997
Annual Report on Form 10-K").
The condensed consolidated balance sheet at January 31,
1998 has been derived from the audited consolidated
financial statements at that date. Certain amounts in
the accompanying financial statements for the fiscal
1997 interim period have been reclassified to conform
with fiscal 1998 presentation.
2. BUSINESS ACQUISITION
On August 20, 1998, the Company completed the
acquisition of substantially all of the assets and
business of Harris, pursuant to an Asset Purchase
Agreement entered into on July 21, 1998 with Harris and
El Corte Ingles, S. A. ("ECI") of Spain, the parent
company of Harris. Harris operated nine full-line
department stores located throughout southern
California. The assets acquired consisted primarily of
merchandise inventory, customer credit card
receivables, fixtures and equipment and certain
intangibles. The Company also assumed certain
liabilities relating to the business, including vendor
payables, store leases and certain other contracts. The
purchase price for the assets consisted of the issuance
to Harris of 2,095,900 shares of common stock of the
Company and the issuance of an 8% Non-Negotiable,
Extendable, Subordinated Note (the "Subordinated Note")
due August 20, 2003 in the principal amount of
$22,179,598. Interest on the Subordinated Note is
payable semi-annually beginning in February 1999, with
the principal portion due and payable upon its maturity
date, unless such payment would result in the default
on any of the Company's other credit facilities,
whereby the maturity date of the Subordinated Note
would be extended by three years to August 2006.
Additional purchase liabilities recorded, based on
preliminary estimates, include costs related to the
transaction, severance and related costs, costs
associated with the consolidation of distribution and
administrative functions, and costs associated with the
closure of the former Harris store located in San
Bernardino. The acquisition was accounted for under the
purchase method of accounting and, accordingly, the
results of operations of the acquired stores are
included in the Company's financial statements from the
date of the acquisition beginning in the third quarter
of 1998.
The purchase price has been allocated to the acquired
assets and assumed liabilities on the basis of their
estimated fair values as of the date of the
acquisition. The financial statements reflect the
preliminary allocation of the purchase price, as
estimates of certain direct costs and liabilities
associated with the transaction have not yet been
finalized. The fair value of the assets acquired and
liabilities assumed, based on the preliminary
allocation of the purchase price, is summarized as
follows (in thousands of dollars):
<TABLE>
<CAPTION>
<S> <C>
Fair value of common stock issued to Harris $14,273
Fair value of Subordinated Note 20,467
Total estimated direct fees and expenses 1,218
------
Total purchase price $35,958
======
Customer credit card and other receivables $12,149
Merchandise inventories 20,850
Other current and long-term assets 3,486
Leaseholds, fixtures and other equipment 5,731
Trade accounts payable and other current
liabilities (9,947)
Other long-term liabilities
(2,097)
Excess of purchase price over the estimated
fair value of identifiable net assets
acquired - to be amortized over 20 years 5,786
------
Total purchase price $35,958
======
</TABLE>
The following unaudited pro forma financial information
for the Company gives effect to the acquisition as if
it had occurred at the beginning of fiscal 1998 and
1997 for the periods presented, and includes certain
adjustments, including the amortization of goodwill,
interest expense associated with acquisition debt,
adjustments to rental expense to reflect new store
leases, adjustments to depreciation expense to reflect
the fair value of assets acquired and the related
income tax effects. These pro forma results have been
prepared for comparative purposes only and are not
necessarily indicative of what would have occurred if
the acquisition had been completed as of those dates.
In addition, the pro forma information is not intended
to be a projection of future results and does not
reflect expected cost savings or synergies expected to
result from the integration of the Harris stores into
the Company's business.
Unaudited Pro Forma Financial Information (in
thousands, except per share data):
<TABLE>
<CAPTION>
Thirty-nine weeks
ended
----------------------
October 31, November 1,
1998 1997
----------- ----------
<S> <C> <C>
Net sales $371,322 $358,132
Net loss $ (7,366) $(12,747)
Net loss per common share -
basic and diluted $ (0.59) $ (1.01)
Weighted-average number of
common shares outstanding -
basic and diluted 12,575 12,569
</TABLE>
The retail business is seasonal in nature, with a
higher proportion of sales and earnings usually being
generated in the months of November and December than
in other periods. Because of this seasonality and other
factors, results of operations for an interim period
are not necessarily indicative of results of operations
for an entire fiscal year.
3. RECEIVABLES SECURITIZATION PROGRAM
The Company's receivables securitization program
provides the Company with a source of working capital
financing that is generally more cost effective than
traditional debt financing. Under the program, the
Company automatically sells all of its accounts
receivable arising under its private-label customer
credit cards to a wholly-owned subsidiary, Gottschalks
Credit Receivables Corporation ("GCRC"), and certain of
those receivables are subsequently conveyed to a trust,
Gottschalks Credit Card Master Trust ("GCC Trust"), to
be used as collateral for securities previously issued
to investors. The Company services and administers the
receivables in return for a monthly servicing fee. The
following securities have been issued under the
securitization program:
Fixed Base Certificates. Since 1994, $40.0 million
principal amount 7.35% Fixed Base Class A-1 Credit Card
Certificates and a $6.0 million principal amount 6.79%
Fixed Base Class A-1 Credit Card Certificate
(collectively, the "Fixed Base Certificates") have been
issued under the program. Interest on the Fixed Base
Certificates is earned by the certificateholders on a
monthly basis and the outstanding principal balances of
such certificates are currently being repaid in twelve
equal monthly installments of approximately $3.8
million each, with the first payment due on October 15,
1998 and continuing through September 15, 1999 (the
"Controlled Amortization Period"). Such principal
payments are made through the application of the
principal portion of credit card collections during the
period. The issuances of the Fixed Base Certificates
were accounted for as sales for financial reporting
purposes. Accordingly, the receivables underlying the
Fixed Base Certificates, totaling $42.2 million at
October 31, 1998 and $46.0 million as of January 31,
1998, and the corresponding debt obligations have been
excluded from amounts reported in the accompanying
financial statements. Management is currently in
process of attempting to refinance the Fixed Base
Certificates with newly issued certificates under the
program. Management intends to complete such
refinancing by the end of fiscal 1998. However, the
market for the securitized receivables has been
volatile in recent months and there can be no assurance
that the refinancing will be completed as anticipated.
(See Management's Discussion and Analysis of Financial
Condition and Results of Operations -- "Liquidity and
Capital Resources".)
Variable Base Certificate. A Variable Base Class
A-2 Credit Card Certificate ("Variable Base
Certificate") was also issued in 1994 in the principal
amount of up to $15.0 million to Bank Hapoalim. (See
Note 5). Management anticipates refinancing the
Variable Base Certificate concurrently with the
refinancing of the Fixed Base Certificates.
Other Program Requirements: The Company is required,
among other things, to maintain certain portfolio
performance standards which include the maintenance of
a minimum portfolio yield, maximum levels of
delinquencies and write-offs of customer credit card
receivables and minimum levels of credit card
collection rates. The Company was in compliance with
all such requirements as of October 31, 1998.
4. MERCHANDISE INVENTORIES
Inventories, which consist of merchandise held for
resale, are valued by the retail method and are stated
at last-in, first-out (LIFO) cost, which is not in
excess of market value. The Company includes in
inventory the capitalization of certain indirect costs
related to the purchasing, handling and storage of
merchandise to better match sales with those related
costs. Current cost, which approximates replacement
cost, under the first-in, first-out (FIFO) method was
equal to the LIFO value of inventories as of January
31, 1998 (fiscal 1997). A valuation of inventory under
the LIFO method is presently made only at the end of
each year based on actual inventory levels and costs at
that time. Since these factors are subject to
variability beyond the control of management, interim
results of operations are subject to the final year-end
LIFO inventory valuation adjustment. Management does
not currently anticipate that its year-end LIFO
adjustment will materially effect its fiscal 1998
operating results.
5. DEBT OBLIGATIONS
Revolving Line of Credit and Working Capital Facility.
The Company has a revolving line of credit
arrangement with Congress Financial Corporation
("Congress"), which provides the Company with a $110.0
million working capital facility through March 31,
2001. Borrowings under the arrangement are limited to a
restrictive borrowing base equal to 65% of eligible
merchandise inventories, increasing to 70% of such
inventories during the period of September 1 through
December 20 of each year to fund increased seasonal
purchases. Interest on outstanding borrowings under
the facility is charged at a rate of approximately
LIBOR plus 2.25% (7.75% at October 31, 1998), with no
interest charged on the unused portion of the line of
credit. The interest rate may be reduced by 1/8% in
fiscal 1999 if specified fiscal 1998 pre-tax income and
minimum availability levels are attained by the
Company. The maximum amount available for borrowings
under the line of credit was $107.3 million as of
October 31, 1998, of which $72.7 million was
outstanding as of that date. Of that amount, $40.0
million has been classified as long-term in the
accompanying financial statements as the Company does
not anticipate repaying that amount prior to one year
from the balance sheet date. The agreement contains
one financial covenant, pertaining to the maintenance
of a minimum tangible net worth, with which the Company
was in compliance as of October 31, 1998. The agreement
also required that the Company refinance the securities
issued under the securitization program prior to
entering the Controlled Amortization Period. As
described more fully in Management's Discussion and
Analysis of Financial Condition and Results of
Operations -- "Liquidity and Capital Resources", the
Company was unable to complete the refinancing prior to
this date. The Company has received a waiver from
Congress with respect to this violation through January
31, 1999, by which time the refinancing of the
securities is expected to be completed.
At October 31, 1998, $583,000 was outstanding under the
Variable Base Certificate, which was the maximum amount
available for borrowings as of that date (see Note 3).
Such borrowings are currently being repaid in six
monthly installments of approximately $117,000 each,
with the first payment due on October 15, 1998 and
continuing through March 15, 1999. Interest on
outstanding borrowings against the certificate is
charged at a rate of LIBOR plus 1.0% (6.4% at October
31, 1998). Such borrowings are off-balance sheet for
financial reporting purposes.
Long-Term Borrowings. The Company's long-term
borrowings consist of the following as of October 31,
1998: (i) the previously described Subordinated Note
with an outstanding loan balance of $22.2 million (Note
2); (ii) four fifteen-year mortgage loans with Midland
Commercial Funding ("Midland"), due October and
November 2010, with interest rates ranging from 9.23%
to 9.39% and outstanding balances totaling $19.3
million; (iii) a 10.45% mortgage loan payable with
Heller Financial, Inc. ("Heller"), due January 2002,
with an outstanding loan balance of $3.1 million; (iv)
an additional 9.97% mortgage loan payable with Heller,
due April 2004, with an outstanding loan balance of
$4.6 million; (v) two 10.0% notes payable to Federated
Department Stores, Inc., due March and July 2001, with
outstanding balances totaling $1.5 million; and (vi)
other long-term obligations with outstanding balances
totaling $2.4 million.
Certain of the Company's long-term debt and lease
agreements contain various restrictive covenants. The
Company was in compliance with all such restrictive
covenants, or has received appropriate waivers for
instances of non-compliance, as of the date of this
report.
6. COMMITMENTS AND CONTINGENCIES
The Company is party to legal proceedings and claims
which arise during the ordinary course of business. In
the opinion of management, the ultimate outcome of such
litigation and claims will not have a material adverse
effect on the Company's financial position or results
of operations.
7. NEW ACCOUNTING STANDARDS
The Company adopted the provisions of Statement of
Financial Accounting Standards No. 130, "Reporting
Comprehensive Income" in the first quarter of 1998,
however the statement had no impact on the Company's
results of operations or stockholders' equity. AICPA
Statement of Position (SOP) 98-5, "Reporting on the
Costs of Start-Up Activities" was also recently issued
and is effective for fiscal years beginning after
December 15, 1998 (fiscal 1999). This statement
requires companies to expense start-up costs, such as
new store pre-opening costs, as incurred. The Company
does not believe the adoption of this SOP will have a
material effect on its financial position or the
results of its operations.
GOTTSCHALKS INC. AND SUBSIDIARY
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Following is management's discussion and analysis of
significant factors which have affected the Company's
financial position and its results of operations for
the periods presented in the accompanying condensed
consolidated financial statements. The Company's
results of operations, like most retailers, are subject
to seasonal influences, with the major portion of
sales, gross margin and operating results realized
during the fourth quarter of each fiscal year. This
business seasonality may result in performance for the
thirteen and thirty-nine weeks ended October 31, 1998
which is not necessarily indicative of performance for
the remainder of the year. In addition, the Company
completed the acquisition of nine stores from Harris on
August 20, 1998, which has affected the comparability
of the Company's financial results (see Note 2 in the
accompanying financial statements).
Overview
- -----------
The Company has continued to implement a variety of
strategic initiatives in connection with the execution
of its "Vision 2000" business plan. "Vision 2000" is a
comprehensive business plan designed to direct the
growth and increase the profitability of the Company by
improving the performance of its existing stores;
continuing to strategically open or acquire new stores;
expanding higher gross margin merchandise lines
throughout the Company, including shoes and other
branded items; reallocating selling space from lower
gross margin merchandise, such as electronics, and
other non-selling areas, such as restaurants; and
improving efficiencies throughout all levels of the
Company. The implementation of certain of these
strategies began in mid-fiscal 1998, and management
believes these strategies contributed to the increase
in comparable store sales and improved earnings in the
third quarter of 1998. Some of these strategies have
resulted in higher costs to the Company. For example,
expenditures for new the Company's fixturing and
signage programs, higher quality advertising programs
and for the implementation of improved technology in
the Company's merchandising, distribution, advertising
and financial areas have resulted in higher selling,
general and administrative costs and higher
depreciation expense. However, management believes that
these investments will result in higher sales or lower
costs in the future and that such investments are
essential for the long-term prospects of the Company.
Results of Operations
- ----------------------
The following table sets forth for the periods
indicated the Company's Consolidated Statements of
Operations as a percent of net sales:
<TABLE>
<CAPTION>
Third Quarter Three Quarters
1998 1997 1998 1997
-------- -------- ------- --------
<S> <C> <C> <C> <C>
Net sales 100.0% 100.0% 100.0% 100.0%
Net credit revenues 1.4 1.1 1.5 1.4
------ ------ ------ ------
101.4 101.1 101.5 101.4
Costs and Expenses:
Cost of sales 64.9 67.6 67.2 67.9
Selling, general &
administrative expenses 32.4 32.0 32.1 31.8
Depreciation &
amortization 1.7 1.7 2.0 1.6
Business integration and
acquisition related
expenses 0.5 0.7 0.2 0.2
------ ------ ------ ------
99.5 102.0 101.5 101.5
------ ------ ------ ------
Operating income (loss) 1.9 (0.9) 0.0 (0.1)
Other (income) expense:
Interest expense 1.8 1.8 1.9 1.8
Miscellaneous income (0.4) (0.2) (0.3) (0.4)
------ ------ ------ ------
1.4 1.6 1.6 1.4
------ ------ ------ ------
Income (loss) before
income tax expense
(benefit) 0.5 (2.5) (1.6) (1.5)
Income tax expense
(benefit) 0.2 (1.0) (0.7) (0.6)
------ ------ ------ ------
Net income (loss) 0.3% (1.5)% (0.9)% (0.9)%
====== ====== ====== ======
</TABLE>
Thirteen Weeks Ended October 31, 1998 Compared To
Thirteen Weeks Ended November 1, 1997
Net Sales
- ------------
Net sales increased by $21.6 million to $123.1 million
in the third quarter of 1998 as compared to $101.5
million in the third quarter of 1997, an increase of
21.3%. This increase resulted primarily from additional
sales volume generated by the nine new
Harris/Gottschalks locations, beginning August 20,
1998, and by two new stores opened in Sonora and Santa
Rosa, California, during the third quarter of 1997. As
of the end of the third quarter of 1998, the Company
operated forty-six department stores as compared to
thirty-five as of the end of the same period in the
prior year. Comparable store sales for the third
quarter of 1998 increased by 3.4% as compared to the
third quarter of 1997.
One of the stores acquired from Harris is being
operated temporarily and will be closed at the end of
fiscal 1998, reducing the total number of stores to
forty-five as of that date.
Net Credit Revenues
- -----------------------
Net credit revenues, which includes service charges
associated with the Company's private label credit card
and certain amounts related to the Company's
receivables securitization program, increased by
approximately $600,000 to $1.7 million in the third
quarter of 1998 as compared to $1.1 million in the
third quarter of 1997. As a percent of net sales, net
credit revenues increased to 1.4% in the third quarter
of 1998 as compared to 1.1% in the third quarter of
1997.
Service charges associated with the Company's customer
credit cards increased by approximately $700,000 to
$3.4 million in the third quarter of 1998 as compared
to $2.7 million in the third quarter of 1997, an
increase of 25.9%. This increase is primarily due to
additional service charge income generated by customer
credit card receivables acquired from Harris, combined
with an increase in the volume of late charge fees
collected on delinquent credit card balances. This
increase was partially offset by lower income resulting
from a decrease in credit sales as a percent of total
sales (43.0% in the third quarter of 1998 as compared
to 43.2% in the third quarter of 1997.)
As described more fully in the Company's 1997 Annual
Report on Form 10-K, net credit revenues also include
the following amounts related to the Company's
receivables securitization program: (i) interest
expense related to securitized receivables, which
decreased by $50,000 to $850,000 in the third quarter
of 1998 as compared to $900,000 in the third quarter of
1997;(ii) charge-offs related to receivables sold and the
provision for credit losses related to receivables
which were ineligible for sale, which increased by
approximately $200,000 to $900,000 in the third quarter
of 1998 as compared to $700,000 in the third quarter of
1997, primarily due to higher bankruptcies during the
period; and (iii) a net gain on the sale of receivables
of approximately $60,000 in the third quarter of 1998
as compared to no material gain or loss on the sale of
receivables in the third quarter of 1997.
Cost of Sales
- -----------------
Cost of sales, which includes costs associated with the
buying, handling and distribution of merchandise,
increased by approximately $11.3 million to $79.9
million in the third quarter of 1998 as compared to
$68.6 million in the third quarter of 1997, an increase
of 16.5%. The Company's gross margin percentage
increased to 35.1% in the third quarter of 1998 as
compared to 32.4% in the third quarter of 1997,
primarily due to the expansion of higher gross margin
merchandise categories in certain of the Company's
stores, combined with lower markdowns as a percentage
of sales as compared to the same period of the prior
year. The Company's gross margin also continues to
benefit from lower costs associated with the processing
of merchandise, resulting primarily from the
implementation of improved technology at the Company's
distribution center.
Selling, General and Administrative Expenses
- ---------------------------------------------
Selling, general and administrative expenses increased
by approximately $7.4 million to $39.9 million in the
third quarter of 1998 as compared to $32.5 million in
the third quarter of 1997, an increase of 22.7%. As a
percent of net sales, selling, general and
administrative expenses increased to 32.4% in the third
quarter of 1998 as compared to 32.0% in the third
quarter of 1997. This increase is primarily due to
higher payroll and payroll related expenses in the
Company's stores as a result of the mandatory minimum
wage increase in California (from $5.15 to $5.75 per
hour, an 11.7% increase) effective March 1, 1998, and
other competitive wage adjustments. The Company also
increased advertising and credit solicitation
expenditures during the quarter in connection with the
integration of the Harris business. These increases
were partially offset by lower rental expense resulting
from the modification of certain store lease agreements
and from the refinancing and conversion of certain
operating equipment leases into capital leases.
Charge-offs related to receivables sold and the
provision for credit losses related to receivables
which are ineligible for sale are reflected as
reductions to net credit revenues and are not included
in selling, general and administrative costs for
financial reporting purposes.
Depreciation and Amortization
- ------------------------------
Depreciation and amortization expense increased by
approximately $500,000 to $2.2 million in the third
quarter of 1998 as compared to $1.7 million in the
third quarter of 1997, an increase of 27.3%. As a
percent of net sales, depreciation and amortization
remained unchanged at 1.7% in the third quarters of
1998 and 1997. The dollar increase is primarily due to
additional depreciation related to capital expenditures
for new stores and for the renovation of existing
stores, new capital lease obligations, and assets
acquired from Harris. The increase is also due to the
amortization of goodwill associated with the recent
acquisition of nine stores from Harris.
Interest Expense
- -------------------
Interest expense, which includes the amortization of
deferred financing costs, increased by approximately
$400,000 to $2.2 million in the third quarter of 1998
as compared to $1.8 million in the third quarter of
1997, an increase of 21.8%. As a percent of net sales,
interest expense remained unchanged at 1.8% in the
third quarters of 1998 and 1997. The dollar increase is
primarily due to higher average outstanding borrowings
under the Company's lines of credit ($56.8 million in
the third quarter of 1998 as compared to $35.9 million
in the third quarter of 1997) to fund increased
inventory requirements for new stores and higher
capital expenditures for store renovations, additional
debt issued to Harris (see Note 2 to the accompanying
financial statements) and new capital lease obligations
entered into during the period. These increases were
partially offset by a decrease in the weighted-average
interest rate applicable to outstanding borrowings
under the Company's lines of credit (7.9% in the third
quarter of 1998 as compared to 8.2% in the third
quarter of 1997) due to interest rate reductions during
the period.
Interest expense related to securitized receivables is
reflected as a reduction to net credit revenues and is
not included in interest expense for financial
reporting purposes.
Miscellaneous Income
- -----------------------
Miscellaneous income, which includes the amortization
of deferred income and other miscellaneous income and
expense amounts, was $519,000 in the third quarter of
1998 as compared to $243,000 in the third quarter of
1997. This increase is primarily due to additional
revenue generated by the Company's new Kidzone program,
through which members can obtain additional merchandise
discounts and certain other benefits for purchases in
the childrens' department, and a gain on the sale of
miscellaneous assets.
Business Integration and Acquisition Related Expenses
- -------------------------------------------------------
Business integration costs of $564,000 were recognized
in the third quarter of 1998, consisting primarily of
costs incurred prior to the closing of certain
duplicative operations of Harris, including certain
merchandising, advertising, credit and distribution
functions. As of the end of the third quarter of 1998,
substantially all duplicative operations of Harris have
been eliminated.
As described more fully in the Company's 1997 Annual
Report on Form 10-K, the Company had previously entered
into negotiations for the acquisition of Harris in
fiscal 1997. The parties were unable to agree on the
terms of the transaction, however, and negotiations
were discontinued in the third quarter of 1997. The
Company recognized $748,000 of costs, consisting
primarily of investment banking, legal and accounting
fees, at the time such negotiations were discontinued.
Income Taxes
- ---------------
The Company's interim effective tax credits of (42.9%)
in the third quarter of 1998 and (41.0%) in the third
quarter of 1997 relates to net losses incurred during
those periods and represent the Company's best estimate
of the annual effective tax rate for those fiscal
years.
Results of Operations
- -----------------------
As a result of the foregoing, net income was $345,000
in the third quarter of 1998 as compared to a net loss
of ($1.5 million) in the third quarter of 1997. On a
per share basis, net income was $.03 per share in the
third quarter of 1998 as compared to a net loss of
($.14) per share in the third quarter of 1997. Earnings
before interest, depreciation, amortization and other
unusual items ("EBITDA") increased by approximately
$3.8 million to $5.6 million in the third quarter of
1998 as compared to $1.8 million in the third quarter
of 1997.
Thirty-Nine Weeks Ended October 31, 1998 Compared To
Thirty-Nine Weeks Ended November 1, 1997
Net Sales
- ----------
Net sales increased by $30.7 million to $322.7 million
in the first three quarters of 1998 as compared to
$292.0 million in the first three quarters of 1997, an
increase of 10.5%. This increase resulted primarily
from additional sales volume generated by the nine new
Harris/Gottschalks locations, beginning August 20,
1998, and by two new stores opened in Sonora and Santa
Rosa, California, during the third quarter of 1997. As
of the end of the third quarter of 1998, the Company
operated forty-six department stores as compared to
thirty-five as of the end of the same period in the
prior year. Comparable store sales first three
quarters of 1998 increased by 1.0% as compared to the
first three quarters of 1997. Comparable store sales
during the first half of 1998 were negatively impacted
by unseasonably cold and wet weather conditions caused
by the El Nino weather system.
Net Credit Revenues
- --------------------
Net credit revenues, which includes service charges
associated with the Company's private label credit card
and certain income and expense amounts related to the
Company's receivables securitization program, increased
by approximately $800,000 to $4.8 million in the first
three quarters of 1998 as compared to $4.0 million in
the first three quarters of 1997, an increase of 18.6%.
As a percent of net sales, net credit revenues
increased to 1.5% in the first three quarters of 1998
as compared to 1.4% in the first three quarters of
1997.
Service charges associated with the Company's customer
credit cards increased by approximately $1.0 million to
$9.5 million in the first three quarters of 1998 as
compared to $8.5 million in the first three quarters of
1997, an increase of 11.7%. This increase is primarily
due to additional service charge income generated by
customer credit card receivables acquired from Harris,
combined with an increase in the volume of late charge
fees collected on delinquent credit card balances.
These increases were partially offset by lower income
resulting from a decrease in credit sales as a percent
of total sales (42.8% in the first three quarters of
1998 as compared to 43.5% in the first three quarters
of 1997).
Net credit revenues also include the following amounts
related to the Company's receivables securitization
program: (i) interest expense related to securitized
receivables, which remained unchanged at approximately
$2.7 million in the first three quarters of 1998 and
1997; (ii) charge-offs related to receivables sold and
the provision for credit losses related to receivables
which were ineligible for sale, which increased by
approximately $300,000 to $2.1 million in the first
three quarters of 1998 as compared to $1.8 million in
the first three quarters of 1997, primarily due to
increased bankruptcies during the period; and (iii) a
net gain on the sale of receivables of approximately
$80,000 in the first three quarters of 1998 as compared
to no material gains or losses on the sale of
receivables in the first three quarters of 1997.
Cost of Sales
- ---------------
Cost of sales, which includes costs associated with the
buying, handling and distribution of merchandise,
increased by approximately $18.7 million to $217.0
million in the first three quarters of 1998 as compared
to $198.3 million in the first three quarters of 1997,
an increase of 9.4%. The Company's gross margin
percentage increased to 32.8% in the first three
quarters of 1998 as compared to 32.1% in the first
three quarters of 1997, primarily due to the expansion
of higher gross margin merchandise categories in
certain of the Company's stores, combined with lower
costs associated with the processing of merchandise at
the Company's distribution center. This increase was
partially offset by higher markdowns as a percentage of
sales during the first half of the year which were
taken in an attempt to improve sales of spring and
summer merchandise which were sluggish due to the
unseasonably cold and wet weather conditions caused by
the El Nino weather system.
Selling, General and Administrative Expenses
- ---------------------------------------------
Selling, general and administrative expenses increased
by approximately $10.9 million to $103.6 million in the
first three quarters of 1998 as compared to $92.7
million in the first three quarters of 1997, an
increase of 11.8%. As a percent of net sales, selling,
general and administrative expenses increased to 32.1%
in the first three quarters of 1998 as compared to
31.8% in the first three quarters of 1997. This
increase is primarily due to higher payroll and payroll
related expenses in the Company's stores as a result of
the mandatory minimum wage increase in California (from
$5.15 to $5.75 per hour, an 11.7% increase) effective
March 1, 1998, and other competitive wage adjustments.
The Company also increased advertising and credit
solicitation expenditures during the period in an
attempt to improve sluggish apparel sales during the
first half of the year and in connection with the
integration of the Harris business. These increases
were partially offset by lower rental expense resulting
from the modification of certain store lease agreements
and from the refinancing and conversion of certain
operating equipment leases into capital leases.
Depreciation and Amortization
- -------------------------------
Depreciation and amortization expense increased by
approximately $1.5 million to $6.2 million in the first
three quarters of 1998 as compared to $4.7 million in
the first three quarters of 1997, an increase of 31.8%.
As a percent of net sales, depreciation and
amortization increased to 2.0% in the first three
quarters of 1998 as compared to 1.6% in the first three
quarters of 1997. These increases are primarily due to
additional depreciation related to capital expenditures
for new stores and for the renovation of existing
stores, new capital lease obligations, and assets
acquired from Harris. The increase is also due to the
amortization of goodwill associated with the recent
acquisition of nine stores from Harris.
Business Integration and Acquisition Related Expenses
- -----------------------------------------------------
Business integration costs of $564,000 were recognized
in the third quarter of 1998, consisting primarily of
costs incurred prior to closing certain duplicative
operations of Harris, including certain merchandising,
advertising, credit and distribution functions. As of
the end of the third quarter of 1998, substantially all
duplicative operations of Harris have been eliminated.
As described more fully in the Company's 1997 Annual
Report on Form 10-K, the Company had previously entered
into negotiations for the acquisition of Harris in
fiscal 1997. The parties were unable to agree on the
terms of the transaction, however, and negotiations
were discontinued in the third quarter of 1997. The
Company recognized $748,000 of costs, consisting
primarily of investment banking, legal and accounting
fees, at the time such negotiations were discontinued.
Interest Expense
- ------------------
Interest expense, which includes the amortization of
deferred financing costs, increased by approximately
$1.0 million to $6.3 million in the first three
quarters of 1998 as compared to $5.3 million in the
first three quarters of 1997, an increase of 19.4%. As
a percent of net sales, interest expense increased to
1.9% in the first three quarters of 1998 as compared to
1.8% in the first three quarters of 1997. These
increases are primarily due to higher average
outstanding borrowings under the Company's lines of
credit ($49.7 million in the first three quarters of
1998 as compared to $32.2 million in the first three
quarters of 1997) to fund increased inventory
requirements for new stores and higher capital
expenditures for store renovations, additional debt
issued to Harris (see Note 2 to the accompanying
financial statements) and new capital lease obligations
entered into during the period. These increases were
partially offset by a decrease in the weighted-average
interest rate applicable to outstanding borrowings
under the Company's lines of credit (7.9% in the first
three quarters of 1998 as compared to 8.3% in the first
three quarters of 1997) due to interest rate reductions
during the period.
Miscellaneous Income
- ---------------------
Miscellaneous income, which includes the amortization
of deferred income and other miscellaneous income and
expense amounts remained unchanged at approximately
$1.1 million in the first three quarters of 1998 as
compared to the first three quarters of 1997.
Income Taxes
- -------------
The Company's interim effective tax credits of (41.3%)
in the first three quarters of 1998 and (41.0%) in the
first three quarters of 1997 relates to net losses
incurred during those periods and represent the
Company's best estimate of the annual effective tax
rate for those fiscal years.
Results of Operations
- ---------------------
As a result of the foregoing, the Company's net loss
was ($3.0 million) in the first three quarters of 1998
as compared to a net loss of ($2.7 million) in the
first three quarters of 1997. On a per share basis,
the net loss was ($0.27) per share in the first three
quarters of 1998 as compared to a net loss of ($.25)
per share in the first three quarters of 1997. EBITDA
increased by approximately $2.8 million to $7.9 million
in the first three quarters of 1998 as compared to $5.1
million in the first three quarters of 1997.
Liquidity and Capital Resources
- --------------------------------
Sources of Liquidity.
As described more fully in the Company's 1997 Annual
Report on Form 10-K and Notes 3 and 5 to the
accompanying financial statements, the Company's
working capital requirements are currently met through
a combination of cash provided by operations, short-term
trade credit, and by borrowings under its
revolving line of credit and its receivables
securitization program. The Company's liquidity
position, like that of most retailers, is affected by
seasonal influences, with the greatest portion of cash
from operations generated in the fourth quarter of each
fiscal year.
Business Acquisition.
As described more fully in Note 2 in the accompanying
financial statements, the Company completed the
acquisition of substantially all of the assets and
business of Harris on August 20, 1998. The assets
acquired consisted primarily of merchandise inventory,
customer credit card receivables, fixtures and
equipment and certain intangibles. The Company also
assumed certain liabilities relating to the business,
including vendor payables, store leases and certain
other contracts. The purchase price for the assets was
the issuance to Harris of 2,095,900 shares of common
stock of the Company and the issuance of an 8%
Subordinated Note due August 20, 2003 in the principal
amount of $22,179,598. Interest on the Subordinated
Note is payable semi-annually beginning in February
1999, with the principal portion due and payable upon
its maturity date, unless such payment would result in
the default on any of the Company's other credit
facilities, whereby the maturity date of the
Subordinated Note would be extended by three years to
August 2006. The Company also incurred additional
liabilities related to the purchase, including costs
related to the transaction, severance and related costs
and costs related to the consolidation of distribution
and administrative functions. The Company also expects
to incur additional costs associated with the closure
of the former Harris store located in San Bernardino.
As described more fully below, the Company's primary
credit facility was amended in order to provide for
increased working capital requirements resulting from
the acquisition. Management also expects additional
liquidity to be provided from customer credit card
receivables acquired from Harris.. Such receivables
were not previously financed by Harris and are expected
to be incorporated into the Company's receivables
securitization program or an alternative financing
arrangement.
Revolving Line of Credit and Working Capital Facility.
As described more fully in Note 5 to the accompanying
financial statements, the Company has a revolving line
of credit arrangement with Congress Financial
Corporation ("Congress"), which provides the Company
with a $110.0 million working capital facility through
March 31, 2001. The Company had excess availability
under its line of $34.6 million as of October 31, 1998.
The agreement with Congress contains one financial
covenant, with which the Company was in compliance as
of October 31, 1998. The agreement also required that
the Company refinance the securities issued under the
securitization program prior to entering the Controlled
Amortization Period. As described more fully below, the
Company was unable to complete the refinancing prior to
this date, but has received a waiver from Congress with
respect to this violation through January 31, 1999. The
Company intends to complete the refinancing of the
securitization program by such date. However, there can
be no assurance such refinancing will not be delayed.
In addition to the Congress facility, the Company also
has outstanding borrowings of $583,000 against the
Variable Base Certificate as of October 31, 1998. Such
borrowings are off-balance sheet for financial
reporting purposes and are currently being repaid in
six equal monthly installments of approximately
$117,000 each, with the first payment due on October
15, 1998 and continuing through March 15, 1999.
Receivables Securitization Program.
The Company's receivables securitization program
provides the Company with an additional source of
working capital financing that is generally more cost
effective than traditional debt financing. Accordingly,
the Company seeks to divert as large a percentage of
total borrowings as possible to its securitization
program. Since 1994, the Company has issued $40.0
million 7.35% Fixed Base Certificates and a $6.0
million 6.79% Fixed Base Certificate (collectively, the
"Fixed Base Certificates") under the program. The
Company also issued the previously described Variable
Base Class A-2 Credit Card Certificate ("Variable Base
Certificate") in 1994 in the principal amount of up to
$15.0 million to Bank Hapoalim. Interest is earned by
the certificateholders on a monthly basis and is paid
through finance charges collected under the program.
The outstanding principal balances of the Fixed Base
Certificates are currently being repaid in twelve equal
monthly installments of $3.8 million each, with the
first payment due on October 15, 1998 and continuing
through September 15, 1999. The principal payments are
being made with the principal portion of credit card
collections. Such principal collections were previously
available for the working capital purposes of the
Company.
Management is currently in process of attempting to
refinance the securities previously issued with newly
issued certificates under the program. As of the date
of this report, the Company has not yet completed this
process, primarily due to capital market conditions
which have been volatile. The Company has engaged an
investment banking firm in this regard and intends to
complete the refinancing by the end of fiscal 1998. As
of the date of this report, approximately $11.9 million
of principal payments have been made against the
certificates, including the Variable Base Certificate.
The failure to refinance the certificates or find some
alternative source of financing would have a material
adverse affect on the Company's liquidity. In order to
provide additional short-term liquidity, the Company has
requested that Congress maintain the borrowing base
applicable to the line of credit at 70% of eligible
inventories through January 31, 1999. The Company believes that
the approval for the request will be forthcoming. The Company is
also evaluating alternative sources of financing in the
event that the capital markets do not recover and the
Company is unable to sell new certificates under the
program. Such alternatives include entering into a
traditional debt financing arrangement collateralized
by the receivables. The Company expects to incur
certain fees and costs in connection with securing such
short-term financing that may result in the cost of the
short-term funds obtained to be at a higher average
interest rate than that of its present financing
arrangements.
Management believes that the Company will ultimately
refinance the certificates, and upon doing so, expects
that the proceeds from the newly issued certificates
will be larger than that received from the currently
issued certificates as a result of additional
receivables acquired from Harris, and that the newly
issued certificates will bear an interest rate equal to
or less than the current interest rates. The Company
intends to use the additional funds to reduce higher
interest bearing outstanding borrowings under the
Congress facility.
Other Financings.
The Company's long-term financing arrangements are
described more fully in Note 5 to the accompanying
financial statements.
Management believes the previously described sources of
liquidity, combined with the contemplated refinancing
of the securitization program, will be sufficient to
provide for the Company's working capital, capital
expenditure and debt service requirements for the
remainder of fiscal 1998 and throughout fiscal 1999.
Management also believes it has sufficient sources of
liquidity for its long-term growth plans at moderate
levels. The Company may engage in other financing
activities if it is deemed to be advantageous.
Additional Cash Flow Analysis.
Cash flows from operating activities consist primarily
of the net loss adjusted for certain non-cash income
and expense items, including depreciation and
amortization and the provision for credit losses, and
changes in operating assets and liabilities, including
receivables, merchandise inventory and other current
and long-term assets and liabilities. Net cash used in
operating activities increased by approximately $1.8
million to ($31.8 million) in the first three quarters
of 1998 as compared to ($30.0 million) in the first
three quarters of 1997. This increase was primarily due
to increased purchases of merchandise inventory for the
Company's new stores.
Net cash used in investing activities increased by
approximately $6.7 million to ($7.5 million) in the
first three quarters of 1998 as compared to ($773,000)
in the first three quarters of 1997. This increase
resulted from a $5.3 million net reduction in the
liquidation of investments by the Company, combined
with a $1.5 million increase in capital expenditures for
store renovations, fixtures and equipment and systems enhancements.
Net cash provided by financing activities increased by
approximately $8.8 million to $39.8 million in the
first three quarters of 1998 as compared to $31.0
million in the first three quarters of 1997. The
Company's borrowings under its revolving lines of
credit increased as compared to the same period of the
prior year due to increased inventory requirements for
new stores and higher capital expenditures related to
the Company's ongoing store renovation program. This
increase was partially offset by principal payments on
various long-term obligations, including required
principal payments made to Fixed and Variable Base
Certificate holders, and an increase in the cash
management liability due to the timing of payments of
certain recurring payables.
Year 2000 Conversion
- ----------------------
The year 2000 problem is pervasive, with almost every
business, large and small, affected. The year 2000
problem impacts both information technology ("IT"),
including hardware (mainframes, client/server systems
and personal computers) and software (packaged software
and custom designed), and impacts non-information
technology ("non-IT"), including building security,
climate control and telephone systems. The Company also
exchanges data with certain trade suppliers and other
third parties. Like many other companies, the year 2000
computer issue creates risks and uncertainties for the
Company. If internal systems do not correctly recognize
and process date information beyond the year 1999,
there could be a material adverse impact on the
Company's operations. To address year 2000 issues, the
Company established a task force in fiscal 1997 to
coordinate the identification, evaluation and
implementation of changes to computer systems and
applications necessary to achieve a year 2000 date
conversion with no disruption to business operations.
Plans and progress against plans are reviewed by the
year 2000 task force and are reported to the Company's
senior executive officers and the Board of Directors on
a regular basis. It is expected that activities related
to the year 2000 issues will be on-going throughout
1998 and 1999 with the goal of appropriately resolving
all material internal systems and third party issues.
The Company's State of Readiness.
As of October 31, 1998, the Company's efforts towards
becoming year 2000 compliant with respect to its IT
systems are progressing on schedule with a projected
completion date of April 1999. The Company's mainframe
operating system environment, including its point-of-sale systems,
is already year 2000 compliant and has
been fully tested. Modifications to the Company's
proprietary, or custom designed software, have been
substantially completed and are currently being tested.
Upgrades have been scheduled for certain purchased
software packages and are expected to be complete by
April 1999. The Company's operating system contains a
testing environment specifically designed to test year
2000 compliance. IT systems acquired from Harris are
limited to point-of-sale equipment, which has already
been converted to Gottschalks technology and is year
2000 compliant.
The Company has also commenced the identification and
evaluation of all of its non-IT systems, which include,
among other things, its store alarm and security
systems, air conditioners and lighting, fire control,
elevators and escalators. The Company is in process of
communicating with its various suppliers', including
suppliers providing services to the new
Harris/Gottschalks locations, to determine their year
2000 compliance status. The Company's efforts towards
becoming year 2000 compliant with respect to its non-IT
systems are progressing with a scheduled completion
date of July 1999.
The Company has already communicated with its
suppliers, dealers, financial institutions and other
third parties with which it does business to determine
that the suppliers' operations and the products or
services they provide are year 2000 compliant or to
monitor their progress toward year 2000 compliance.
Some providers are not yet year 2000 compliant and the
Company is monitoring their progress on a continual
basis.
Costs Associated with Year 2000 Issues.
The costs incurred to date related to the IT year 2000
conversion are approximately $270,000. The Company
currently expects that the total remaining cost of
these efforts, including both incremental spending and
redeployed resources, will be approximately $300,000,
to be incurred throughout the fiscal 1998-1999
conversion period. The total cost estimate consists
primarily of internal personnel costs, external
consulting fees and costs in excess of normal hardware
and software upgrades and replacements and does not
include potential costs related to the cost of internal
software and hardware replaced in the normal course of
business. Such costs represent approximately 9.6% of
the Company's IT budget for the conversion period and
will be funded with working capital. Purchased hardware
and software are being capitalized in accordance with
normal policy. Personnel and all other costs related to
the year 2000 project are being expensed as incurred.
In some instances, the installation schedule of new
software and hardware in the normal course of business
has been accelerated to also afford a solution to year
2000 capability issues.
The cost of the project and the estimated completion
dates for the year 2000 conversion are based on the
Company's best estimates, which have been derived based
on a number of assumptions of future events including
the continued availability of internal and external
resources, the timely completion of third party
modifications and other factors. The cost assessment of
the projects and is subject to change as the projects
progress and actual results may differ from original
estimates. The Company has not yet completed its
assessment of costs that may be associated with non-IT
year 2000 issues, as such determination will be
dependant upon the results of communications with the
related suppliers. Several programming projects have
been deferred due to the year 2000 project. The delay
of such projects, however, will not have a material
adverse effect on the Company's financial position or
results of operations.
Contingency Plans.
Management believes its efforts towards year 2000
compliance will be completed on schedule in mid-fiscal
1999. In the event the Company is not able to progress
according to schedule, however, the Company has
developed contingency plans. The Company's year 2000
conversion schedule contains "trigger" dates to
implement the contingency plan specifically designed
for each system in the event the conversion has not
progressed accordingly to schedule. Such contingency
plans include the diversion of additional internal IT
staff onto the year 2000 project. Currently,
approximately 50% of the IT staff is assigned to the
year 2000 project, with approximately 50% of their
daily time spent on year 2000 activities. The Company
also has additional sources of contract programming
specialists who are familiar with the Company's
operating environment. The Company also believes that
it has alternate sources of suppliers for substantially
all of its non-IT systems to replace suppliers that are
unable to become year 2000 compliant within an
appropriate time frame.
Based on currently available information, management
does not believe that the year 2000 matters discussed
above related to internal systems will have a material
adverse impact on the Company's financial condition or
overall trends in results of operations; however, it is
uncertain to what extent the Company may be affected by
such matters. In addition, there can be no assurance
that the failure to ensure year 2000 capability by a
supplier or another third party would not have a
material adverse effect on the Company.
Safe Harbor Statement
- ------------------------
Certain statements contained in this Quarterly Report
on Form 10-Q are forward-looking statements within the
meaning of Section 27A of the Securities Exchange Act
of 1933 and Section 21E of the Securities Exchange Act
of 1934 and the Company intends that such forward-looking
statements be subject to the safe harbors
created thereby. These forward-looking statements
include the plans and objectives of management for
future operations and the future economic performance
of the Company that involve risks and uncertainties.
Such forward-looking statements may be identified by
words including, but not limited to: "will",
"believes", "anticipates", "intends", "seeks", "may",
"expects" and "estimates", or similar terms, variations
of such terms or the negative of such terms.
The forward-looking statements are qualified by
important factors that could cause actual results to
differ materially from those identified in such
forward-looking statements, including, without
limitation, the following: (i) the ability of the
Company to gauge fashion trends and preferences of its
customers; (ii) the level of demand for the merchandise
offered by the Company; (iii) the ability of the
Company to locate and obtain favorable store sites,
negotiate acceptable lease terms, and hire and train
employees; (iv) the ability of management to manage the
planned expansion and to successfully integrate the
business acquired from Harris; (v) the continued
ability to obtain adequate credit from factors and
vendors and the timely availability of branded and
other merchandise; (vi) the effect of economic
conditions, both nationally and in the Company's
specific market areas; (vii) the effect of severe
weather or natural disasters; (viii) the effect of
competitive pressures from other retailers; (ix) the
solution of year 2000 and other system issues by the
Company and its suppliers; and (x) the ability to
refinance various certificates issued under the
receivables securitization program in the near term.
Results actually achieved thus may differ materially
from expected results in these statements as a result
of the foregoing factors or other factors affecting the
Company.
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT
MARKET RISK - NOT APPLICABLE
PART II - OTHER INFORMATION
ITEM 2. CHANGES IN SECURITIES AND RELATED
STOCKHOLDER MATTERS
(b) The Company's credit agreement with Congress
Financial Corporation prohibits the Company from paying
dividends without prior written consent from that
lender.
(c) On August 20, 1998, in connection with completing
the acquisition of substantially all of the assets of
The Harris Company ("Harris"), the Company issued
2,095,900 shares of its common stock and the
Subordinated Note (see Note 2 to the accompanying
financial statements) to Harris. The transaction was a
private placement involving one offeree and one
purchaser exempt from registration section 4(2) of the
Securities Act of 1933.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) The following exhibits are filed pursuant to
the requirements of Item 601 of Regulation S-K:
Exhibit No. Description
- ----------- ---------------------------------
10.33 Waiver Agreement dated December 15, 1998 by
and between Gottschalks Inc. and Congress
Financial Corporation (Western).
27 Financial Data Schedule
(b) The Company filed the following Current
Report on Form 8-K during the thirteen
week period ended October 31, 1998:
-- Current Report on Form 8-K dated August 20, 1998,
describing, pursuant to Item 2, Acquisition or
Disposition of Assets, the completion of the
acquisition of substantially all of the assets and
business of The Harris Company.
SIGNATURES
Pursuant to the requirements 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.
Gottschalks Inc.
----------------------------------
(Registrant)
December 15, 1998
- -------------------
\s\ Joseph W. Levy
----------------
(Joseph W. Levy,
Chairman and Chief
Executive Officer)
December 15, 1998
- -------------------
\s\ Kris Xavier
----------------
(Kris Xavier,
Vice President/Finance)
December 15, 1998
Kris Xavier
Vice President/Finance
Gottschalks
7 River Park Place East
Fresno, Ca. 93720
RE: Loan and Security Agreement, dated December 20, 1996,
by and between Congress Financial Corporation (Western)
and Gottschlaks Inc. (as amended, supplemented or
modified from time to time, the "Loan Agreement")
Dear Ms. Xavier:
Reference is made to Section 9.18 of the above-referenced Loan Agreement.
Capitalized terms used and not defined herein shall have the meanings set
forth in the Loan Agreement.
Pursuant to Section 9.18, you are required to provide Lender with satisfactory
evidence of a replacement Securitization Facility within ninety (90) days
prior to the repayment of principal under the current Securitization
Facility. By letter dated December 11, 1998, you have notified us that you
are actively pursuing a refinancing which you anticipate will be complete no
later than January 31, 1999, and you have requested our agreement to waive
the ninety (90) day deadline set forth in Section 9.18 until January 31, 1999.
We hereby waive the provisions of Section 9.18 for a period to end on
January 31, 1999. On February 1, 1999, this provision shall be reinstated
and be in full force and effect. This letter shall be effective upon receipt
by us of a waiver fee in the amount of Fifty-Five Thousand ($55,000) Dollars.
By your acceptance hereof, you hereby represent and warrant that there exists
no Event of Default under the Loan Agreement. The represenations and warranties
set forth in the Loan Documents (other than any such representations and
warranties that, by their terms, are specifically made as of a date other
than the date hereof) are correct on and as of the date hereof as though
made on and as of the date hereof.
CONGRESS FINANCIAL CORPORATION
(WESTERN)
By:\s\ Kristine Metchikian
Its: Vice President
Accepted and agreed to:
GOTTSCHALKS INC.
By: \s\ Kris Xavier
Its: Vice President/Finance
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS FINANCIAL DATA SCHEDULE IS BEING FILED IN ACCORDANCE WITH REGULATION S-T
AND INCLUDES UNAUDITED SELECTED FINANCIAL DATA FROM THE COMPANY'S QUARTERLY
REPORT ON FORM 10-Q FOR THE THIRD QUARTER ENDED OCTOBER 31, 1998.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> JAN-30-1999
<PERIOD-END> OCT-31-1998
<CASH> 2,162
<SECURITIES> 15,399
<RECEIVABLES> 18,836
<ALLOWANCES> 1,813
<INVENTORY> 166,765
<CURRENT-ASSETS> 216,046
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0
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<INTEREST-EXPENSE> 1,064
<INCOME-PRETAX> (5,114)
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<INCOME-CONTINUING> (3,001)
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