<PAGE>
United States
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q/A
(Amendment No. 1)
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
- --- ACT OF 1934
For the quarterly period ended FOR THE 12 WEEKS ENDED SEPTEMBER 6, 1997
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
- --- EXCHANGE ACT OF 1934
For the transition period from to
---------------------- ------------------------
Commission file number: 0-15590
QUALITY FOOD CENTERS, INC.
-----------------------------
(Exact name of registrant as specified in its charter)
WASHINGTON 91-1330075
----------------------- ------------------------------------
(State or other jurisdiction) (I.R.S. Employer Identification No.)
10112 N.E. 10TH STREET, BELLEVUE, WASHINGTON 98004
-------------------------------------------- ----------
(Address of principal executive offices) (Zip Code)
(425) 455-3761
---------------
(Registrant's telephone number, including area code)
NOT APPLICABLE.
- -------------------------------------------------------------------------------
(Former name, former address and former fiscal year,
if changed since last report.)
Indicate by check mark whether the registrant (1) has filed all reports
equired 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
----- -----
Number of shares of Registrant's common stock, $.001 par value,
outstanding at October 17, 1997: 20,993,672
<PAGE>
PART I. FINANCIAL INFORMATION
QUALITY FOOD CENTERS, INC.
CONSOLIDATED STATEMENTS OF EARNINGS
(unaudited)
(in thousands, except per share data)
<TABLE>
<CAPTION>
- ---------------------------------------------------------------------------------------------------------
Twelve Weeks Ended 36 Weeks Ended
September 6, September 7, September 6, September 7,
1997 1996 1997 1996
- ---------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Sales $ 490,979 $ 186,142 $1,225,261 $ 547,166
Cost of sales and related occupancy expenses 370,875 139,015 926,462 410,549
Marketing, general and administrative expenses 96,243 35,842 238,065 103,850
- ---------------------------------------------------------------------------------------------------------
OPERATING INCOME 23,861 11,285 60,734 32,767
Interest income 708 117 1,601 301
Interest expense (8,019) (2,148) (18,786) (6,901)
- ---------------------------------------------------------------------------------------------------------
EARNINGS BEFORE INCOME TAXES 16,550 9,254 43,549 26,167
Taxes on income
Current 5,703 3,188 16,620 8,413
Deferred 700 121 600 959
- ---------------------------------------------------------------------------------------------------------
Total taxes on income 6,403 3,309 17,220 9,372
- ---------------------------------------------------------------------------------------------------------
NET EARNINGS $ 10,147 $ 5,945 $ 26,329 $ 16,795
- ---------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------
EARNINGS PER SHARE $ .47 $ .40 $ 1.33 $ 1.14
- ---------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------
Weighted average shares outstanding 21,701 14,893 19,757 14,766
- ---------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------
</TABLE>
See accompanying notes to financial statements.
<PAGE>
QUALITY FOOD CENTERS, INC.
CONSOLIDATED BALANCE SHEETS
(dollars in thousands)
- ---------------------------------------------------------------------------
September 6, December 28,
1997 1996
- ---------------------------------------------------------------------------
(unaudited)
ASSETS
CURRENT ASSETS
Cash and cash equivalents $ 90,088 $ 14,571
Accounts receivable 25,324 10,754
Inventories 119,021 36,954
Prepaid expenses 23,348 6,208
- ---------------------------------------------------------------------------
TOTAL CURRENT ASSETS 257,781 68,487
PROPERTIES
Land 51,964 15,025
Buildings, fixtures and equipment 315,911 155,038
Leasehold improvements 78,241 41,511
Property under capital leases 23,721 -
Construction in progress 10,193 9,910
- ---------------------------------------------------------------------------
480,030 221,484
Accumulated depreciation and amortization (82,666) (60,821)
- ---------------------------------------------------------------------------
397,364 160,663
LEASEHOLD INTEREST, net of accumulated
amortization of $13,790 and $11,257 104,415 27,585
Real estate held for investment 5,653 6,048
GOODWILL, net of accumulated
amortization of $5,260 and $2,084 226,133 33,691
OTHER ASSETS 33,918 7,543
- ---------------------------------------------------------------------------
$ 1,025,264 $ 304,017
- ---------------------------------------------------------------------------
- ---------------------------------------------------------------------------
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts payable $ 86,600 $ 35,548
Accrued payroll and related benefits 42,044 15,884
Accrued business and sales taxes 9,833 5,413
Other accrued expenses 37,734 7,240
Federal income taxes payable 8,878 945
Current portion of long-term debt 7,760 -
Current portion of capital lease obligations 617 -
- ---------------------------------------------------------------------------
TOTAL CURRENT LIABILITIES 193,466 65,030
DEFERRED INCOME TAXES 57,154 12,142
OTHER LIABILITIES 18,156 5,047
LONG-TERM DEBT 392,708 145,000
CAPITAL LEASE OBLIGATIONS 28,980 -
SHAREHOLDERS' EQUITY
Common stock, at stated value - authorized
60,000,000 shares, issued and outstanding
20,984,000 shares and 14,646,000 shares 266,618 34,945
Retained earnings 68,182 41,853
- ---------------------------------------------------------------------------
TOTAL SHAREHOLDERS' EQUITY 334,800 76,798
- ---------------------------------------------------------------------------
$ 1,025,264 $ 304,017
- ---------------------------------------------------------------------------
- ---------------------------------------------------------------------------
See accompanying notes to financial statements.
<PAGE>
QUALITY FOOD CENTERS, INC.
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
THIRTY-SIX WEEKS ENDED SEPTEMBER 6, 1997
(unaudited)
(in thousands)
- ---------------------------------------------------------------------------
Common Stock
-------------------- Retained
Shares Amount Earnings Total
- ---------------------------------------------------------------------------
BALANCE AT
DECEMBER 28, 1996 14,646 $ 34,945 $ 41,853 $ 76,798
NET EARNINGS - - 26,329 26,329
COMMON STOCK ISSUED 6,338 231,673 - 231,673
- ---------------------------------------------------------------------------
BALANCE AT
SEPTEMBER 6, 1997 20,984 $266,618 $ 68,182 $ 334,800
- ---------------------------------------------------------------------------
- ---------------------------------------------------------------------------
See accompanying notes to financial statements.
<PAGE>
QUALITY FOOD CENTERS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
(dollars in thousands)
- ---------------------------------------------------------------------------
Thirty -six Weeks Ended
September 6, September 7,
1997 1996
- ---------------------------------------------------------------------------
OPERATING ACTIVITIES
Net earnings $ 26,329 $ 16,795
Adjustments to reconcile net earnings to net
cash provided by operating activities:
Depreciation and amortization of properties 21,695 11,063
Amortization of leasehold interest, goodwill 6,344 2,526
and other
Amortization of debt issuance costs 430 128
Deferred income taxes 600 959
CHANGES IN OPERATING ASSETS AND LIABILITIES
Accounts receivable (2,098) (624)
Inventories (1,041) 1,036
Prepaid expenses (3,252) (1,046)
Accounts payable (2,156) (759)
Accrued payroll and related benefits 1,909 485
Accrued business and sales taxes 643 223
Other accrued expenses 9,690 1,196
Federal income taxes payable 5,111 4,088
Other liabilities (917) -
- ---------------------------------------------------------------------------
Net Cash Provided by Operating Activities 63,287 36,070
- ---------------------------------------------------------------------------
INVESTING ACTIVITIES
Capital expenditures, net (35,597) (25,000)
Proceeds from sale of fixed assests 8,066 2,650
Acquisition of KUI (34,344) -
Acquisition of Hughes (346,023) -
Receivable from Santee Dairies, Inc. 7,077 -
Other (2,483) (827)
- ---------------------------------------------------------------------------
Net Cash Used by Investing Activities (403,304) (23,177)
- ---------------------------------------------------------------------------
FINANCING ACTIVITIES
Proceeds from issuance of common stock 3,515 2,244
Net proceeds from March 19, 1997 financings-
Issuance of common stock 192,199 -
Issuance of senior subordinated notes 146,250 -
Proceeds under credity facility 248,001 -
Payment of outstanding credity facility (197,000) -
Proceeds from (repayments of) long-term debt 22,569 (14,500)
- ---------------------------------------------------------------------------
Net Cash Provided (Used) by Financing Activities 415,534 (12,256)
- ---------------------------------------------------------------------------
NET INCREASE IN CASH
AND CASH EQUIVALENTS 75,517 637
CASH AND CASH EQUIVALENTS
AT BEGINNING OF PERIOD 14,571 10,933
- ---------------------------------------------------------------------------
CASH AND CASH EQUIVALENTS
AT END OF PERIOD $ 90,088 $ 11,570
- ---------------------------------------------------------------------------
- ---------------------------------------------------------------------------
See accompanying notes to financial statements.
<PAGE>
QUALITY FOOD CENTERS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THIRTY-SIX WEEKS ENDED SEPTEMBER 6, 1997 AND SEPTEMBER 7, 1996
(unaudited)
NOTE A - NATURE OF OPERATIONS
Quality Food Centers, Inc. ("QFC") is a multi-regional operator of premium
supermarkets, operating 147 stores and employing more than 11,000 people. The
Company has been in operation since 1954 and currently operates 90 stores in the
Puget Sound region of Washington state primarily under the names QFC and Stock
Market and 57 stores in Southern California under the Hughes Family Market name.
NOTE B - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Financial Statement Preparation - The consolidated financial statements as of
and for the twelve and thirty-six weeks ended September 6, 1997 and September 7,
1996 are unaudited, but in the opinion of management include all adjustments
(consisting of normal recurring adjustments) necessary to present fairly the
consolidated financial position and results of operations and cash flows for the
periods presented. All significant intercompany transactions and account
balances have been eliminated in consolidation.
These statements have been prepared by the Company pursuant to the rules
and regulations of the Securities and Exchange Commission (SEC). Certain
information and footnote disclosures normally included in financial statements
prepared in accordance with generally accepted accounting principles have been
omitted pursuant to such rules and regulations. These financial statements
should be read in conjunction with the annual audited financial statements and
the accompanying notes included in the Company's Annual Report on Form 10-K/A
for the year ended December 28, 1996.
Complying with generally accepted accounting principles requires management
to make estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenue and expenses during
the reporting periods. Actual results could differ from the estimates.
Certain prior years' balances have been reclassified to conform to
classifications used in the current year.
Fiscal Periods - The Company's fiscal year ends on the last Saturday in December
(except for Hughes Markets, Inc.'s which ends on the last Sunday in December),
and its reporting quarters consist of three 12-week quarters and a 16-week
fourth quarter.
Earnings Per Share - Earnings per share is based upon the weighted average
number of common shares and common share equivalents outstanding during the
period.
NOTE C - SUPPLEMENTAL CASH FLOW INFORMATION
On March 19, 1997, the Company completed (i) the sale of 5,175,000 shares
of the Company's common stock to the public for net proceeds of $192.2
million, (ii) the private placement of $150.0 million of 8.7% senior
subordinated notes for net proceeds of $146.3 million (which notes were
exchanged for the Exchange Notes (as hereinafter defined)) and (iii) entered
into an agreement to amend and restate its existing credit facility resulting
in net proceeds of $248.0 million. The Company utilized $359.8 million of
the proceeds to finance the acquisition of Hughes Market, Inc. ("Hughes") and
$197.0 million to refinance the Company's bank indebtedness outstanding at
the time of the financings [including $59.1 million incurred in connection with
the acquisition of Keith Uddenberg, Inc. ("KUI")], leaving approximately $29.7
million of cash for general corporate purposes.
Thirty-six Weeks Ended
September 6, September 7,
(In thousands) 1997 1996
- --------------------------------------------------------------------------------
Cash payments made:
Income taxes $ 11,471 $ 4,325
Interest (net of $491 and $943 of
interest capitalized) 11,390 6,602
Non-Cash Transactions:
Capital lease obligations incurred 2,530 -
- --------------------------------------------------------------------------------
During the thirty-six weeks ended September 6, 1997, the Company entered into a
capital lease in conjunction with the sale and leaseback of one of its stores.
No gain or loss was recorded as a result of this transaction.
6
<PAGE>
QUALITY FOOD CENTERS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THIRTY-SIX WEEKS ENDED SEPTEMBER 6, 1997 AND SEPTEMBER 7, 1996
(unaudited)
NOTE D - KEITH UDDENBERG, INC. ACQUISITION
On February 14, 1997, the principal operations of KUI, including assets and
liabilities related to 25 grocery stores in the western and southern Puget Sound
region of Washington, were merged into a subsidiary of the Company, hereinafter
defined as KU Acquisition Corporation ("KUA"). The merger, which has been
accounted for under the purchase method of accounting, was effected through the
acquisition of 100% of the outstanding voting securities of KUI for
consideration consisting of $35.3 million cash, 904,646 shares of the Company's
common stock, (which as of February 14, 1997 had a value of $36.0 million) and
the assumption by the Company of approximately $23.8 million of indebtedness of
KUI.
For financial reporting purposes, the consideration paid for the operations
of KUI has been allocated to the fair value of assets acquired and liabilities
assumed. Goodwill of $46.7 million has been recorded as a result of the merger
and is being amortized over 40 years. Because the transaction was a statutory
merger, the Company has a carryover tax basis and amortization of the excess of
the book value over the tax basis of the assets included in the merger is not
deductible for federal income tax purposes.
Following is a summary of the assets and liabilities recorded as a result
of the KUI merger (in thousands):
Cash $ 1,262
Inventories 15,985
Other current assets 4,749
--------
Total current assets 21,996
Property, plant and equipment 25,047
Leasehold interest 20,000
Goodwill 46,685
Other assets 12,330
Current liabilities (16,507)
Deferred income taxes (10,635)
Other liabilities (3,839)
Long-term debt (23,768)
--------
$ 71,309
--------
--------
Long-term debt of $23.8 million assumed in connection with the merger was
subsequently repaid.
NOTE E - HUGHES MARKETS, INC. ACQUISITION
On March 19, 1997, the Company acquired the principal operations of Hughes,
including the assets and liabilities related to 57 grocery stores located in
Southern California and a 50% interest in Santee Dairies, Inc., one of the
largest dairy plants in California. The acquisition, which has been accounted
for under the purchase method of accounting, was effected through the
acquisition of 100% of the outstanding voting securities of Hughes, for cash
consideration of approximately $359.8 million, and the assumption by the Company
of approximately $33.2 million of indebtedness (including $6.1 million of
current indebtedness) of Hughes, consisting primarily of capitalized store
leases.
For financial reporting purposes, the consideration paid for Hughes has
been allocated to the fair value of assets acquired and liabilities assumed.
Goodwill of $147.7 million has been recorded as a result of the acquisition and
is being amortized over 40 years. Because the transaction was a statutory
merger, the Company has a carryover tax basis and amortization of the excess of
the book value over the tax basis of the assets included in the merger is not
deductible for federal income tax purposes.
7
<PAGE>
QUALITY FOOD CENTERS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THIRTY-SIX WEEKS ENDED SEPTEMBER 6, 1997 AND SEPTEMBER 7, 1996
(unaudited)
NOTE E - continued
Following is a summary of the assets and liabilities recorded as a result
of the Hughes merger (in thousands):
Cash $ 13,767
Inventories 65,042
Other current assets 20,782
--------
Total current assets 99,591
Property, plant and equipment 182,999
Property under capital leases 21,191
Leasehold interest 59,353
Goodwill 147,729
Other assets 14,178
Current liabilities (94,935)
Deferred income taxes (33,584)
Other liabilities (9,680)
Long-term debt (278)
Capital lease obligation (26,774)
--------
$359,790
--------
--------
NOTE F - PRO FORMA FINANCIAL INFORMATION
The following pro forma financial information assumes that the acquisitions of
KUI and Hughes and the related financings each occurred as of the beginning of
each period presented (in thousands, except per share data):
36 Weeks 36 Weeks
Ended Ended
September 6, 1997 September 7, 1996
----------------- -----------------
Sales $1,454,962 $1,518,672
Net earnings 26,131 18,597
Earnings before interest,
taxes, depreciation,
amortization and LIFO
(EBITDA) 102,841 90,458
Earnings per share $ 1.21 $ .89
NOTE G - ACCOUNTING PRONOUNCEMENTS
Statement of Financial Accounting Standard (SFAS) No. 128, "Earnings per
Share," was recently issued and is effective for the Company's fiscal year
ending December 27, 1997. This Statement requires a change in the presentation
of earnings per share. Early adoption of this statement is not permitted.
Management believes that the impact of the adoption of this Statement on the
financial statements, taken as a whole, will not be material.
SFAS No. 131, "Disclosures about Segments of an Enterprise and Related
Information," was also recently issued and is effective for the Company's year
ending December 26, 1998. The Company is currently evaluating the effects of
this Standard; however, management believes that the impact of its adoption will
not be material to the financial statements, taken as a whole.
<PAGE>
QUALITY FOOD CENTERS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THIRTY-SIX WEEKS ENDED SEPTEMBER 6, 1997 AND SEPTEMBER 7, 1996
(unaudited)
NOTE H - SUMMARIZED FINANCIAL INFORMATION - SUBSIDIARY GUARANTORS
The Company issued $150.0 million aggregate principal amount of 8.70% Senior
Subordinated Notes, due 2007 (the "Notes"), in a private offering (exempt from
the registration requirements of the Securities Act) pursuant to Rule 144A to
institutional investors (which Notes were exchanged for the Exchange Notes (as
hereinafter defined)). The Notes are fully and unconditionally guaranteed,
jointly and severally on a senior subordinated basis, by Hughes, KUA and Quality
Food Holdings, Inc. ("Holdings"), all of which are existing subsidiaries of the
Company. Summarized financial information for subsidiary guarantors of the
Notes is set forth below. Separate financial statements for the subsidiary
guarantors of the Notes are not presented because the Company has determined
that such financial statements would not be material to investors. The
subsidiary guarantors comprise all of the direct and indirect subsidiaries of
the Company, other than the non-guarantor subsidiaries which individually, and
in the aggregate, are inconsequential.
On May 20, 1997, the Company filed a Registration Statement on Form S-4 (File
No. 333-27497) for the purpose of offering to exchange (the "Exchange Offer")
up to $150,000,000 aggregate principal amount of 8.70% Series B Senior
Subordinated Notes due 2007 (the "Exchange Notes") for a like aggregate
principal amount of the Notes (the "Exchange Offer Registration Statement").
The terms of the Exchange Notes are identical in all material respects
(including principal amount, interest rate and maturity) to the terms of the
Notes for which they may be exchanged, except that the Exchange Notes will be
freely transferable by the holders thereof. The Exchange Offer Registration
Statement was declared effective on July 23, 1997. The Exchange Offer was
consummated on September 4, 1997 with all of the Notes being exchanged for
the Exchange Notes.
The following table presents combined summarized financial information for
subsidiary guarantors of the Notes. The statement of earnings data represent
the combined results of operations for the period from February 15, 1997 through
September 6, 1997 for KUA, from March 20, 1997 through September 7, 1997 for
Hughes, and from February 18, 1997 (date of inception) through September 6, 1997
for Holdings.
September 6, 1997
-----------------
Balance Sheet Data (in thousands):
Current assets $ 112,790
Noncurrent assets 529,588
Current liabilities 99,850
Noncurrent liabilities 336,997
Shareholders' equity 204,006
For the period
ended September 6, 1997
-----------------------
Statement of Earnings Data
(in thousands):
Sales $ 641,649
Operating income 22,826
Earnings before income taxes 11,684
Net earnings 5,507
<PAGE>
QUALITY FOOD CENTERS, INC.
MANAGEMENT'S DISCUSSION AND
ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
FORWARD LOOKING INFORMATION
Certain information contained herein contains forward-looking statements
that involve a number of risks and uncertainties. A number of factors could
cause results to differ materially from those anticipated by such
forward-looking statements. These factors include, but are not limited to, the
competitive environment in the supermarket industry in general and in the
Company's specific market areas, changes in prevailing interest rates and the
availability of financing, inflation, changes in costs of goods and services,
economic conditions in general and in the Company's specific market areas, labor
disturbances, demands placed on management by the substantial increase in the
size of the Company because of the acquisitions described below, and changes in
the Company's acquisition plans. In addition, such forward-looking statements
are necessarily dependent upon assumptions, estimates and data that may be
incorrect or imprecise. Accordingly, any forward-looking statements included
herein do not purport to be predictions of future events or circumstances and
may not be realized. Forward-looking statements contained herein include, but
are not limited to, statements relating to same store sales, inflation, regional
economies, investments in existing stores, sales of certain KUI (as defined
below) stores, the availability of financing for Santee (as defined below),
future acquisitions and anticipated capital expenditures.
TWELVE AND THIRTY-SIX WEEKS ENDED SEPTEMBER 6, 1997 COMPARED TO THE TWELVE AND
THIRTY-SIX WEEKS ENDED SEPTEMBER 7, 1996
During the thirty-six weeks ended September 6, 1997, the Company acquired
57 stores from Hughes Markets, Inc. ("Hughes") operating under the "Hughes
Market" name and 25 stores from Keith Uddenberg, Inc. ("KUI"), (one of which was
sold on May 3, 1997) operating under the "Stock Market" and "Thriftway" names.
(See Notes D and E to the Company's consolidated financial statements for the
thirty-six weeks ended September 6, 1997.) The acquisitions more than doubled
the size of the Company, and managing the Company and integrating the acquired
businesses will present new challenges to management. In order to facilitate
this phase of the Company's development, the Company has hired a new chief
executive officer, a new senior vice president of corporate development and a
new senior vice president of marketing and public affairs to pursue and
integrate acquisitions at a holding company level, thus allowing current senior
management to remain focused on existing operations. Because of the magnitude
of the acquisitions, the Company's operations are not comparable to QFC's or
Hughes' historical operations. The Company's capitalization has also changed,
reflecting the issuance of shares as well as a significant increase in long-term
debt and a related increase in interest expense. The results of operations for
the twelve weeks ended September 6, 1997, include the results of operations of
the acquired from Hughes and KUI stores for the entire twelve-week period. The
results of operations for the thirty-six weeks ended September 6, 1997, include
the results of operations of the KUI stores for 29 weeks and the Hughes stores
for approximately 25 weeks. Additionally, results of operations reflect the
effects of the related financings which occurred on March 19, 1997.
The table below sets forth items in the Company's statements of earnings as
a percentage of sales:
<TABLE>
<CAPTION>
12 Weeks Ended 36 Weeks Ended
--------------------------- ---------------------------
September 6, September 7, September 6, September 7,
1997 1996 1997 1996
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Sales 100.0% 100.0% 100.0% 100.0%
Cost of sales & related
occupancy expenses 75.5 74.7 75.6 75.0
Marketing, general &
administrative expenses 19.6 19.2 19.4 19.0
------------ ------------ ------------ ------------
Operating income 4.9 6.1 5.0 6.0
Interest income .1 .1 .1 .1
Interest expense (1.6) (1.2) (1.5) (1.3)
------------ ------------ ------------ ------------
Earnings before income taxes 3.4 5.0 3.6 4.8
Taxes on income 1.3 1.8 1.4 1.7
------------ ------------ ------------ ------------
Net earnings 2.1% 3.2% 2.2% 3.1%
------------ ------------ ------------ ------------
------------ ------------ ------------ ------------
</TABLE>
<PAGE>
QUALITY FOOD CENTERS, INC.
MANAGEMENT'S DISCUSSION AND
ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(continued)
SALES
Sales for the 12 weeks ended September 6, 1997 increased approximately
$304.8 million, or 163.8%, compared with the same period in 1996. The increase
in total sales reflects the inclusion of the 24 KUI stores and the 57 Hughes
stores for the entire quarter, sales from the 45,000 square-foot Harvard Market
store which opened April 30, 1997, sales from two Food Giant stores acquired in
October 1996, sales from the Port Hadlock store acquired in June 1997, and an
increase in same store sales (which exclude sales in stores opened or acquired
during the previous 12 months) of approximately 1.2% for the quarter. The
increase in same store sales is due to improved merchandising and strong sales
in remodeled and replacement stores, despite a decrease of slightly more than
1% in retail food prices. Sales for the 36 weeks ended September 6, 1997,
increased approximately $678.1 million, or 123.9%, compared with the same
period in 1996. The increase for the 36 weeks reflects the inclusion of the
KUI stores for 29 weeks and the Hughes stores for approximately 25 weeks.
Sales increases for the 12 and 36 weeks ended September 6, 1997, were
offset in part by lower sales in certain existing stores due to the opening and
remodeling of competitors' stores located near QFC stores. In addition, sales
growth has been impacted by new and acquired stores, which have lower sales
volumes, becoming a more significant part of the Company's sales, the maturing
of older stores to a level where substantial sales growth is more difficult, and
the Company's strategy of opening and acquiring stores in certain locations that
enhance the Company's competitive position and protect its market share but
reduce sales in nearby existing stores. Additionally, the supermarket industry
continues to be highly competitive.
Management believes that same store sales will be flat in the 4th quarter
of 1997 due to the impact of external factors which positively affected sales
in 1996. Further, slight deflation is anticipated for the remainder of 1997 and
the regional economies in which the Company operates are projected to remain
healthy.
OPERATING INCOME
The Company's cost of sales and related occupancy expenses increased to
75.5% of sales for the 12 weeks ended September 6, 1997, from 74.7% for the
same period of 1996 due to lower margins in the stores acquired in the first
quarter of 1997 offset, in part, by improved buying and merchandising, a greater
mix of sales in higher margin service departments in the QFC stores and lower
occupancy expenses as a percentage of sales. The 0.6% of sales increase in
cost of sales and related occupancy expenses for the 36 weeks ended
September 6, 1997, compared to 75.0% of sales for the 36 weeks ended
September 7, 1996 was due to the same factors as described above.
Marketing, general and administrative expenses increased to 19.6% and
19.4% of sales for the 12 and 36 weeks ended September 6, 1997, respectively,
from 19.2% and 19.0% of sales, respectively, for the same periods of 1996. The
increases were attributable to contractual rate increases from union contracts
effective in May 1997 and August 1997 and a 10% increase in the union benefit
contributions rate effective in July 1996 as well as additional expenses
associated with the initial integration and a higher operating expense ratio of
the acquired stores, as well as an increase in acquisition related amortization
of $1.8 million and $3.8 million for the 12 and 36 weeks ended September 6,
1997, respectively.
As a result of the above factors, operating margins declined to 4.9% of
sales for the 12 weeks ended September 6, 1997, compared to 6.1% of sales for
the comparable period in 1996, and to 5.0% for the 36 weeks ended September 6,
1997, compared to 6.0% for the comparable period in 1996.
INTEREST
Interest income increased to $0.7 million and $1.6 million for the 12
and 36 weeks ended September 6, 1997, respectively, compared to $0.1 million
and $0.3 million for the same periods of 1996, reflecting the increase in
the Company's cash balances and higher interest rates.
Interest expense increased $5.9 million and $11.9 million for the 12 and 36
weeks ended September 6, 1997, respectively, as compared to the same periods
in 1996, reflecting interest on the additional debt incurred in connection with
the acquisitions, offset by lower debt balances than in the comparable year
prior to such borrowings. Interest expense is net of approximately
$0.1 million and $0.5 million of interest capitalized in connection with store
construction and remodeling costs incurred during the 12 and 36 weeks ended
September 6, 1997, respectively, and $0.4 million and $0.9 million of interest
capitalized during the 12 and 36 weeks ended September 7, 1996, respectively.
<PAGE>
QUALITY FOOD CENTERS, INC.
MANAGEMENT'S DISCUSSION AND
ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(continued)
INCOME TAXES
The Company's effective federal income tax rate increased to 38.7% and
39.5% for the 12 weeks and 36 weeks ended September 6, 1997, respectively,
compared to 35.8% for both the 12 weeks and 36 weeks ended Septmeber 7, 1996,
due to an increase in non-deductible goodwill resulting from the KUI and Hughes
acquisitions and the addition of state of California income taxes as a result of
the Hughes acquisition. The difference between the Company's effective income
tax rate and the federal and state statutory rates is primarily due to
non-deductible amortization of goodwill that was acquired through various
acquisitions by the Company, including the KUI and Hughes acquisitions.
NET EARNINGS
The 111.4% increase in operating income for the 12 weeks ended September 6,
1997, offset by the $5.3 million increase in the net interest expense and the
increase in the effective tax rate resulted in an increase in net earnings to
$10.1 million compared with $5.9 million for the 12 weeks ended September 6,
1996. Earnings per share were 47 cents on 21,701,000 weighted average shares
outstanding, compared with 40 cents on 14,893,000 weighted average shares
outstanding in 1996.
The 85.4% increase in operating income for the 36 weeks ended September 6,
1997, offset by the $10.6 million increase in net interest expense and the
increase in the effective tax rate resulted in a 56.8% increase in net earnings
compared with the same period of 1996. Earnings per share were $1.33 on
19,757,000 weighted average shares outstanding compared to $1.14 on 14,766,000
weighted average shares outstanding in 1996.
LIQUIDITY AND CAPITAL RESOURCES
The Company's principal source of liquidity has been cash generated from
operations and its credit facility. On March 19, 1997, the Company completed
(i) the sale of 5,175,000 shares of the Company's common stock to the public
for net proceeds of $192.2 million, (ii) the private placement of $150.0
million of 8.7% senior subordinated notes for net proceeds of $146.3 million
(which notes were exchanged for the Exchange Notes) and (iii) entered into an
agreement to amend and restate its existing credit facility resulting in net
proceeds of $248.0 million. The Company utilized $359.8 million of the
proceeds to finance the acquisition of Hughes and $197.0 million to refinance
the Company's bank indebtedness outstanding at the time of the financings
(including $59.1 million incurred in connection with the acquisition of KUI),
leaving approximately $29.7 million of cash for general corporate purposes.
This amount, together with cash provided by operations of $63.3 million and
proceeds received in conjunction with the sale and leaseback of a Hughes
store and the collection of the receivable from the Santee Dairies, Inc. more
than offset capital expenditures and other investing activities during the 36
weeks ended September 6, 1997, and resulted in an increase in cash and cash
equivalents of $75.5 million during the period to $90.1 million. The ratio
of current assets to current liabilities at September 6, 1997, improved to
1.33 to 1, compared with 1.05 to 1 at December 28, 1996.
<PAGE>
QUALITY FOOD CENTERS, INC.
MANAGEMENT'S DISCUSSION AND
ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(continued)
The Company's expansion and remodeling and new store activities
for the period from 1987 through September 6, 1997 are summarized below (dollars
in thousands):
NEW OR SQUARE
MAJOR ACQUIRED FEET CAPITAL
REMODELS (1) STORES ADDED EXPENDITURES (2)
------------ -------- ------ ----------------
1987 2 - 8,000 $ 5,700
1988 5 - 16,000 7,600
1989 2 2 85,000 9,900
1990 3 3 107,000 16,600
1991 3 3 127,000 25,900
1992 6 3 137,000 26,800
1993 3 5 173,000 43,000
1994 4 7 239,000 28,200
1995 7 17 609,000 89,100
1996 13 2 111,000 33,000
1997 17 84 3,117,000 466,700
-- -- -------- --------
TOTAL 65 126 4,729,000 $752,500
-- --- --------- --------
-- --- --------- --------
(1) Includes replacement stores.
(2) Includes $71.3 million for the acquisition of KUI, $359.8 million for the
acquisition of Hughes , expenditures for Hughes' expansion in
1997 and expenditures for the purchase of real estate held for investment.
1997 was the Company's most active year to date in terms of growth, with
the acquisition of Hughes and KUI during the first quarter of 1997, the
opening of a 45,000 square foot Harvard Market store located in Seattle,
Washington in April of 1997 and the acquisition of a store in Port Hadlock,
Washington in June of 1997 from a local independent retailer. QFC also
continues to invest in its existing stores to keep them up-to-date. In
addition to the remodeling of one of the two Food Giant stores the Company
acquired in 1996, the Company's fiscal 1997 remodel plans currently include
14 of its QFC stores and 9 of the stores it acquired in the KUI acquisition.
The Company has secured a number of other sites that are still in the
entitlement process or subject to other contingencies and is actively
pursuing other new store locations and acquisition opportunities. The Company
has sold one of the stores it acquired from KUI and is actively marketing
three other KUI stores. The Company has begun construction on a 40,000
square-foot store in Issaquah, Washington, which is expected to open in
mid-1998. In addition, the Company has entered into lease agreements for
two QFC stores to be built in the Portland, Oregon area, which are expected
to be opened in early 1998 and has entered into agreements for two sites in
the Olympia, Washington area. The Company will own its store pads and plans
to open the Olympia QFC stores in 1998 as well. The Company's plans for the
remainder of 1997 in southern California currently include one replacement
stores and one remodel.
The Company owns the real estate at 12 of its 147 store facilities
currently in operation. The Company owns the strip shopping center where one of
these stores is located; however, the real estate operations of this center is
currently insignificant to the Company's results of operations. The shopping
center is for sale; however, the Company plans to retain ownership of its store
building and pad. The remaining stores are leased under long-term operating
leases. The Company, through Hughes, also owns a 600,000 square foot
distribution facility in Irwindale, California.
As part of the Hughes acquisition, the Company acquired a 50% interest in
Santee Dairies, Inc. ("Santee"), one of the largest dairy plants in
California. Santee has substantially completed construction of a new dairy
plant in order to provide a consistent source of milk, accommodate expected
expansion and contain operating cost. The estimated cost of construction is
approximately $100.0 million (including production equipment and capitalized
interest and other costs). The new dairy is scheduled to be completed by
December 1997 and be operational by March 1998. Approximately 80% of the
aggregate budgeted capital expenditures have been made. In August 1997,
Santee issued $80.0 million of senior secured notes to finance construction
costs. In connection therewith Hughes and the other 50% partner in Santee
each executed product purchase agreements pursuant to which they agreed to
purchase a minimum amount of certain products from Santee and provided
certain credit support with respect to the senior secured notes.
Additionally, Santee is currently in default under certain of the financial
covenants relating to its existing working capital credit facilities, and is
negotiating with its working capital lender to modify its existing working
capital credit facilities. Notwithstanding such default, its working capital
lender has allowed Santee to continue to borrow under its existing working
capital credit facilities without a formal waiver.
<PAGE>
QUALITY FOOD CENTERS, INC.
MANAGEMENT'S DISCUSSION AND
ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(continued)
Excluding the KUI and Hughes acquisitions, capital expenditures, which
include the purchase of land, fixtures, equipment and leasehold improvements, as
well as the purchase of leasehold interests, other property rights, goodwill and
covenants not to compete, are projected to be approximately $70.0 million in
1997 in order to remodel existing stores and to acquire and open new stores in
the Pacific Northwest and Southern California. However, the Company will
continue to seek attractive acquisitions of other regional supermarkets and
supermarket chains, as well as additional stores and store sites and actual
capital expenditures may increase significantly to the extent that these
opportunities arise and the Company is able to obtain financing for these
acquisitions. Accordingly, the Company is unable to predict with certainty its
capital expenditure budget for 1997 or any future period.
The Company has discontinued the payment of cash dividends on its common
stock pursuant to covenants contained in its debt agreements discussed below,
and presently intends to retain available funds to finance the growth and
operations of its businesses.
On March 19, 1997, in connection with the Hughes merger, the Company
entered into a new credit facility which replaced the credit facility it entered
into in connection with its 1995 recapitalization. The new credit facility
consists of (i) a $250 million term loan facility (the "Term Loan Facility"),
(ii) a $125 million revolving credit facility (the "Revolving Credit Facility")
and (iii) a $225 million reducing revolving credit facility (the "Acquisition
Facility"). Principal repayments under the Term Loan Facility are due in
quarterly installments from June 30, 1998 through the final maturity of the new
credit facility in March of 2004 and the Company will be required to repay
borrowings under the Term Loan Facility with the proceeds from certain asset
sales and, under certain circumstances, with cash flow in excess of certain
specified amounts. The Revolving Credit Facility is available for working
capital and other general corporate purposes, including permitted acquisitions,
and any outstanding amounts thereunder will become due on March 31, 2004. The
Acquisition Facility is to be used to consummate permitted acquisitions and will
become due on March 31, 2004. In addition, the maximum amount of available
borrowings under the Acquisition Facility will decline by $30 million each year
commencing March 31, 2000, and the borrower thereunder will be required to repay
borrowings thereunder to the extent that they exceed the reduced amount of the
Acquisition Facility. Additionally, the Revolving Credit Facility and the
Acquisition Facility may be used to make investments in Santee in an amount not
to exceed $80.0 million to finance construction of Santee's new dairy.
On the date the new credit facility became effective, the Company borrowed
$250.0 million under the Term Loan Facility. At the Company's option, the
interest rate per annum applicable to the new credit facility will either be (1)
the greater of one of the bank agents' reference rate or 0.5% above the federal
funds rate in each case, plus a margin (0% initially) or (2) IBOR plus a margin
(0.75% currently), in each case with margin adjustments dependent on the
borrower's senior funded debt to EBITDA ratio from time to time.
The new credit facility contains a number of significant covenants that
among other things, restrict the ability of the Company and its subsidiaries to
incur additional indebtedness and incur liens on their assets, in each case
subject to specified exceptions, impose specified financial tests as a
precondition to the Company and its subsidiaries' acquisition of other
businesses, and limit the Company and its subsidiaries from making certain
restricted payments (including dividends and repurchases of stock), subject in
certain circumstances to specified financial tests. The obligations of the
Company under the new credit facility have been guaranteed by certain existing
subsidiaries. In addition, the Company has pledged the outstanding shares of
certain subsidiaries as security under the facility. In addition, the Company
and its subsidiaries will be required to comply with specified financial ratios
and tests, including an interest and rental expense coverage ratio, a total
funded debt to EBITDA ratio, a senior funded debt to EBITDA ratio and a minimum
net worth test. The covenants and ratios under the new credit facility and the
Notes described below were negotiated to provide appropriate flexibility to
facilitate the Company's growth strategies.
As discussed above, on March 19, 1997, the Company issued $150 million
aggregate principal amount of Senior Subordinated Notes in a private offering
(which notes were exchanged for the Exchange Notes (as hereinafter defined.))
The Notes will mature on March 15, 2007. The Notes bear interest at 8.70% per
annum with interest payable in cash semi-annually on March 15 and September 15
of each year, commencing September 15, 1997. The Notes are redeemable, in whole
or in part, at the option of the Company beginning March 15, 2002, at redemption
prices declining over time from 104.35% of the principal amount in the year 2002
to 100% of the principal amount in the year 2005 and thereafter, in each case
plus accrued and unpaid interest to the redemption date. In addition, at any
time prior to March 15, 2000, the Company may redeem up to 20% of the aggregate
principal amount of the Notes originally issued at a redemption price of 108% of
the principal amount thereof, plus accrued and unpaid interest to the date of
<PAGE>
QUALITY FOOD CENTERS, INC.
MANAGEMENT'S DISCUSSION AND
ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(continued)
redemption, with the net cash proceeds of one or more public offerings of common
stock of the Company, provided that at least 80% of the aggregate principal
amount of the Notes originally issued remains outstanding immediately after the
occurrence of such redemption. The obligations of the Company pursuant to the
Notes are fully and unconditionally guaranteed on a joint and several basis by
certain of QFC's existing subsidiaries (the "Guarantors"). The Notes are general
unsecured obligations of the Company and the Guarantors, respectively,
subordinated in right of payment to all existing and future senior debt of the
Company and the Guarantors, as applicable, including borrowings and guarantees
under the new credit facility. Upon a change of control, the Company will be
required to offer to repurchase all outstanding Notes at 101% of the principal
amount thereof, plus accrued and unpaid interest to the date of repurchase. The
Company will also be obligated in certain circumstances to offer to repurchase
Notes at a purchase price of 100% of the principal amount thereof, plus accrued
interest, with the net cash proceeds of certain sales or other dispositions of
assets. The Indenture relating to the Notes contains certain covenants that
limit, subject to certain significant exceptions, the ability of the Company and
its subsidiaries to, among other things, incur additional indebtedness and issue
disqualified stock; pay dividends or make certain other distributions; cause or
permit to exist any consensual restriction on the ability of certain parties to
pay dividends or make certain other distributions; layer indebtedness; create
certain liens securing indebtedness other than senior debt; enter into certain
transactions with affiliates; enter into certain mergers and consolidations or
engage in new lines of business.
On May 20, 1997, the Company filed a Registration Statement for the
purpose of offering to exchange (the "Exchange Offer") up to $150,000,000
aggregate principal amount of 8.70% Series B Senior Subordinated Notes due
2007 (the "Exchange Notes") for a like aggregate principal amount of the
Notes (the "Exchange Offer Registration Statement"). The terms of the
Exchange Notes are identical in all material respects (including principal
amount, interest rate and maturity) to the terms of the Notes for which they
may be exchanged, except that the Exchange Notes will be freely transferable
by the holders thereof. The Exchange Offer Registration Statement was
declared effective on July 23, 1997. The Exchange Offer was consummated on
September 4, 1997 with all of the Notes being exchanged for the Exchange Notes.
The Company is currently in compliance with all financial covenants
contained in both the new credit facility and the Senior Subordinated Notes.
The Company anticipates that cash on hand, cash flow from operations and
borrowings under the new credit facility will be sufficient to provide financing
for the $34.4 million of capital expenditures which is currently budgeted
through the remainder of fiscal 1997. However, to the extent that the Company
pursues additional acquisitions or seeks to make additional expenditures or to
the extent that Santee is unable to obtain the required financing for its new
dairy, the Company may be required to seek additional sources of financing,
which may include additional borrowings or sales of its common stock and there
can be no assurance that the Company will be able to obtain such additional
financing on acceptable terms or at all. In December 1996, the Company filed a
universal shelf registration statement with the Securities and Exchange
Commission registering for sale to the public, an aggregate of $500.0 million of
securities, under which, after the secondary common stock offering described
above, $298.2 million of common stock, preferred stock and certain debt
securities may be sold. The Company has from time to time issued shares of
common stock for all or a portion of the purchase price of acquisitions (as it
did for a portion of the Olson's Merger in 1995 and as it did in the KUI
acquisition) and may do so again in the future.
ACCOUNTING PRONOUNCEMENTS
Statement of Financial Accounting Standard (SFAS) No. 128, "Earnings per
Share," was recently issued and is effective for the Company's fiscal year
ending December 27, 1997. This Statement requires a change in the presentation
of earnings per share. Early adoption of this statement is not permitted.
Management believes that the impact of the adoption of this Statement on the
financial statements, taken as a whole, will not be material.
SFAS No. 131, "Disclosures about Segments of an Enterprise and Related
Information," was also recently issued and is effective for the Company's year
ending December 26, 1998. The Company is currently evaluating the effects of
this Standard; however, management believes that the impact of its adoption will
not be material to the financial statements, taken as a whole.
INFLATION
The Company's sales for the 12 and 36 weeks ended September 6, 1997, reflect
a decrease of slightly more than 1% in retail food prices as compared to no
retail food price deflation in the same perods in 1996.
<PAGE>
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
No material legal proceedings were commenced during the quarter.
ITEM 2. CHANGES IN SECURITIES
On May 20, 1997, the Company filed a Registration Statement for the
purpose of offering to exchange (the "Exchange Offer") up to $150,000,000
aggregate principal amount of 8.70% Series B Senior Subordinated Notes due
2007 (the "Exchange Notes") for a like appregate principal amount of the
Notes (the "Exchange Offer Registration Statement"). The terms of the
Exchange Notes are identical in all material respects (including principal
amount, interest rate and maturity) to the terms of the Notes for which they
may be exchanged except that the Exchange Notes will be freely transferable
by the holders thereof. The Exchange Offer Registration Statement was
declared effective on July 23, 1997. The Exchange offer was consummated on
September 4, 1997 with all of the Notes being exchanged for the Exchange Notes.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
ITEM 5. OTHER INFORMATION
Not applicable.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
A. The following documents are filed as part of this report:
Exhibit 3.0 - Amendment to Bylaws of the Company.
Exhibit 11.0 - Statement regarding computation of earnings per share.
Exhibit 27.0 - Financial Data Schedule.
B. The Company filed a current report on Form 8-K/A on July 22, 1997.
<PAGE>
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this amended report to be signed on its behalf by
the undersigned thereunto duly authorized.
QUALITY FOOD CENTERS, INC.
(Registrant)
Date: October 28, 1997 /s/ Marc W. Evanger
-----------------------------
Marc W. Evanger
Vice President
Chief Financial Officer
<PAGE>
EXHIBIT INDEX
EXHIBIT NUMBER EXHIBIT
- -------------- -------
3.0 Amendment to Bylaws
11.0 Statement regarding computation
of per share earnings
27.0 Financial Data Schedule
