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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-Q
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(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended December 11, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from _____________ to ___________
Commission file number 0-17098
KINDERCARE LEARNING CENTERS, INC.
(Exact name of registrant as specified in its charter)
Delaware 63-0941966
(State or other (I.R.S. Employer
jurisdiction of incorporation) Identification Number)
650 N.E. Holladay Street, Suite 1400
Portland, Oregon 97232
(Address of principal executive offices)
(503) 872-1300
(Registrant's telephone number, including area code)
(Former name, if changed since last report)
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing required for the past 90 days. Yes [X] No [ ]
The number of shares of Registrant's common stock, $.01 par value per
share, outstanding at January 8, 1999 was 9,480,837.
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<PAGE>
KinderCare Learning Centers, Inc. and Subsidiaries
Index
Part I. Financial Information Page
Item 1. Consolidated financial statements (unaudited):
Consolidated balance sheets at December 11, 1998 and
May 29, 1998 (unaudited)................................... 1
Consolidated statements of operations and comprehensive
income for the twelve and twenty-eight weeks ended
December 11, 1998 and December 12, 1997 (unaudited)........ 2
Consolidated statements of stockholders' equity
for the twenty-eight weeks ended December 11, 1998
and the fiscal year ended May 29, 1998 (unaudited)......... 3
Consolidated statements of cash flows for the twenty-eight
weeks ended December 11, 1998 and
December 12, 1997 (unaudited).............................. 4
Notes to unaudited consolidated financial statements.......... 5
Item 2. Management's discussion and analysis of
financial condition and results of operations.............. 7
Part II. Other Information
Item 6 Exhibits and reports on Form 8-K..............................15
Signatures....................................................................16
<PAGE>
PART I
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
<TABLE>
<CAPTION>
KinderCare Learning Centers, Inc. and Subsidiaries
Consolidated Balance Sheets
(Dollars in thousands, except per share amounts)
(Unaudited)
December 11, 1998 May 29, 1998
------------------ ---------------
<S> <C> <C>
Assets:
Current assets:
Cash and cash equivalents $ 3,101 $ 11,820
Receivables, net 19,243 14,987
Prepaid expenses and supplies 5,119 4,939
Deferred income taxes 12,412 12,412
------------- -------------
Total current assets 39,875 44,158
Property and equipment, net 534,106 508,113
Deferred income taxes 12,030 12,030
Deferred financing costs and other assets 24,177 27,238
------------- -------------
$ 610,188 $ 591,539
============= =============
Liabilities and Stockholders' Equity:
Current liabilities:
Bank overdrafts $ 7,522 $ 8,184
Accounts payable 7,354 9,796
Current portion of long-term debt 5,480 1,839
Accrued expenses and other liabilities 73,748 76,221
------------- -------------
Total current liabilities 94,104 96,040
Long-term debt 414,886 401,258
Self insurance liabilities 21,197 20,922
Deferred income taxes 5,444 5,444
Other noncurrent liabilities 36,599 35,975
------------- -------------
Total liabilities 572,230 559,639
------------- -------------
Commitments and contingencies
Stockholders' equity:
Preferred stock, $.01 par value; authorized
10,000,000 shares; none outstanding -- --
Common stock, $.01 par value; authorized 20,000,000 shares;
issued and outstanding 9,480,837 shares at December 11, 1998
and 9,474,197 shares at May 29, 1998 95 95
Additional paid-in capital 2,144 2,009
Notes receivable from stockholders (1,163) (1,325)
Retained earnings 36,943 31,179
Cumulative translation adjustment (61) (58)
------------- -------------
Total stockholders' equity 37,958 31,900
------------- -------------
$ 610,188 $ 591,539
============= =============
See accompanying notes to unaudited consolidated financial statements.
</TABLE>
1
<PAGE>
<TABLE>
<CAPTION>
KinderCare Learning Centers, Inc. and Subsidiaries
Consolidated Statements of Operations and Comprehensive Income
(Dollars in thousands, except per share amounts)
(Unaudited)
Twelve Weeks Ended Twenty-Eight Weeks Ended
-------------------------------------- --------------------------------------
December 11, 1998 December 12, 1997 December 11, 1998 December 12, 1997
----------------- ----------------- ----------------- -----------------
<S> <C> <C> <C> <C>
Revenues, net $ 142,237 $ 135,587 $ 334,511 $ 316,149
----------------- ----------------- ----------------- -----------------
Operating expenses:
Salaries, wages and benefits 79,401 74,237 184,836 173,766
Depreciation 8,067 7,888 18,175 19,168
Rent 6,443 5,788 15,482 14,039
Provision for doubtful accounts 632 814 1,225 1,965
Other 34,422 33,761 83,289 79,900
Restructuring charges 47 3,292 49 4,855
----------------- ----------------- ----------------- -----------------
Total operating expenses 129,012 125,780 303,056 293,693
----------------- ----------------- ----------------- -----------------
Operating income 13,225 9,807 31,455 22,456
Investment income, net 103 94 251 442
Interest expense (9,688) (9,418) (22,468) (22,372)
----------------- ----------------- ----------------- -----------------
Income before income taxes 3,640 483 9,238 526
Income tax expense 1,419 164 3,474 179
----------------- ----------------- ----------------- -----------------
Net income $ 2,221 $ 319 $ 5,764 $ 347
================= ================= ================= =================
Comprehensive income:
Net income $ 2,221 $ 319 $ 5,764 $ 347
Cumulative translation adjustment 57 178 (3) 250
----------------- ----------------- ----------------- -----------------
Comprehensive income $ 2,278 $ 497 $ 5,761 $ 597
================= ================= ================= =================
Basic and diluted net income per share $ 0.23 $ 0.03 $ 0.61 $ 0.04
================= ================= ================= =================
Weighted average common shares outstanding 9,474,000 9,368,000 9,474,000 9,368,000
================= ================= ================= =================
Weighted average common shares outstanding
and potential common shares 9,520,000 9,368,000 9,483,000 9,368,000
================= ================= ================= =================
See accompanying notes to unaudited consolidated financial statements.
</TABLE>
2
<PAGE>
<TABLE>
<CAPTION>
KinderCare Learning Centers, Inc. and Subsidiaries
Consolidated Statements of Stockholders' Equity
(Dollars in thousands)
(Unaudited)
Common Stock Additional Cumulative
------------------------ Paid-in Notes Retained Translation
Shares Amount Capital Receivable Earnings Adjustment Total
------------ ---------- ----------- ------------- ----------- ------------ ------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at May 30, 1997 9,368,421 $ 94 $ -- $ -- $ 27,753 $ (140) $ 27,707
Net income -- -- -- -- 3,426 -- 3,426
Issuance of common stock 105,776 1 2,009 (1,490) -- -- 520
Proceeds from collection of
notes receivable -- -- -- 165 -- -- 165
Cumulative translation adjustment -- -- -- -- -- 82 82
------------ ---------- ----------- ------------- ----------- ------------ ------------
Balance at May 29, 1998 9,474,197 95 2,009 (1,325) 31,179 (58) 31,900
Net income -- -- -- -- 5,764 -- 5,764
Issuance of common stock 6,640 -- 135 (135) -- -- --
Proceeds from collection of
notes receivable -- -- -- 297 -- -- 297
Cumulative translation adjustment -- -- -- -- -- (3) (3)
------------ ---------- ----------- ------------- ----------- ------------ ------------
Balance at December 11, 1998 9,480,837 $ 95 $ 2,144 $ (1,163) $ 36,943 $ (61) $ 37,958
============ ========== =========== ============= =========== ============ ============
See accompanying notes to unaudited consolidated financial statements.
</TABLE>
3
<PAGE>
<TABLE>
<CAPTION>
KinderCare Learning Centers, Inc. and Subsidiaries
Consolidated Statements of Cash Flows
(Dollars in thousands)
(Unaudited)
Twenty-Eight Weeks Ended
-----------------------------------------
December 11, 1998 December 12, 1997
----------------- -----------------
<S> <C> <C>
Cash flows from operations:
Net income $ 5,764 $ 347
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation 18,175 19,168
Provision for doubtful accounts 1,225 1,965
Amortization of deferred financing costs and other assets 1,663 1,646
Gain on sales and disposals of property and
equipment, net (290) (124)
Changes in operating assets and liabilities:
Increase in receivables (6,324) (5,249)
Increase in prepaid expenses and supplies (180) (953)
Decrease in other assets 1,066 59
Increase (decrease) in accounts payable, accrued expenses
and other liabilities (4,016) 898
Other, net (3) 250
----------------- -----------------
Net cash provided by operating activities 17,080 18,007
----------------- -----------------
Cash flows from investing activities:
Purchases of property and equipment (44,665) (32,841)
Proceeds from sales of property and equipment 787 118
Proceeds from collection of notes receivable 1,175 585
----------------- -----------------
Net cash used by investing activities (42,703) (32,138)
----------------- -----------------
Cash flows from financing activities:
Proceeds from long-term borrowings 30,000 --
Proceeds from collection of stockholders' notes receivable 297 --
Payments on long-term borrowings (12,731) (813)
Bank overdrafts (662) (585)
----------------- -----------------
Net cash provided (used) by financing activities 16,904 (1,398)
----------------- -----------------
Decrease in cash and cash equivalents (8,719) (15,529)
Cash and cash equivalents at the beginning of the period 11,820 24,150
----------------- -----------------
Cash and cash equivalents at the end of the period $ 3,101 $ 8,621
================= =================
Supplemental cash flow information:
Interest paid $ 18,900 $ 17,576
Income taxes paid, net 460 747
See accompanying notes to unaudited consolidated financial statements.
</TABLE>
4
<PAGE>
KinderCare Learning Centers, Inc. and Subsidiaries
Notes to Unaudited Consolidated Financial Statements
1. Summary of Significant Accounting Policies
Nature of Business and Basis of Presentation
KinderCare Learning Centers, Inc. ("KinderCare" or the "Company") is the
largest for-profit provider of preschool educational and childcare services in
the United States. At December 11, 1998, KinderCare operated a total of 1,149
centers, with 1,147 centers in 39 states in the United States and two centers in
the United Kingdom. The consolidated financial statements include the financial
statements of the Company and its wholly owned subsidiaries: Mini-Skools
Limited; KinderCare Development Corp.; KinderCare Real Estate Corp.; KinderCare
Learning Centres Limited and KinderCare Properties Limited. All significant
intercompany balances and transactions have been eliminated in consolidation.
The unaudited consolidated financial statements reflect, in the opinion of
management, all adjustments, all of which are of a normal recurring nature,
necessary to present fairly the financial position of the Company at December
11, 1998 and the results of operations and cash flows for each of the twelve and
twenty-eight week periods ended December 11, 1998 and December 12, 1997. Interim
results are not necessarily indicative of results to be expected for a full
fiscal year. The unaudited consolidated financial statements should be read in
conjunction with the annual consolidated financial statements and notes thereto
included in the Company's Form 10-K for the fiscal year ended May 29, 1998.
Fiscal Year
The Company's fiscal year ends on the Friday closest to May 31. The first
quarter is 16 weeks long and the second, third and fourth quarters are each
twelve weeks long. The 1999 and 1998 fiscal years are each 52 weeks long.
References to fiscal 1999 and fiscal 1998 are to the fiscal years ended May 28,
1999 and May 29, 1998, respectively.
Comprehensive Income
Effective May 30, 1998, the Company adopted Statement of Financial
Accounting Standards ("SFAS") No. 130, Reporting Comprehensive Income. The
Company has disclosed comprehensive income and its components on the face of the
statement of operations and comprehensive income for all periods presented.
Recently Issued Accounting Pronouncements
In June 1997, the Financial Accounting Standards Board ("FASB") issued SFAS
No. 131, Disclosures About Segments of an Enterprise and Related Information.
SFAS No. 131 establishes standards for disclosure about operating segments in
annual financial statements and requires disclosure of selected information
about operating segments in interim financial reports. It also establishes
standards for related disclosures about products and services, geographic areas
and major customers. The new standard becomes effective for the Company's fiscal
year end 1999 reporting and requires that comparative information from earlier
years be restated to conform to the requirements of this standard. The Company
does not believe any substantial changes to its disclosures will be made at the
time SFAS No. 131 is adopted.
In June 1998, the FASB issued SFAS No. 133, Accounting for Derivative
Instruments and Hedging Activities. SFAS No. 133 establishes accounting and
reporting standards for derivative instruments, including certain derivative
instruments embedded in other contracts, and for hedging activities. This
statement requires that an entity recognize all derivatives as either assets or
liabilities and measure those instruments at fair value. The new standard
becomes effective for the Company's fiscal year 2001. The Company does not
believe the adoption of SFAS No. 133 will have a material impact on the
Company's financial position or results of operations.
5
<PAGE>
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
Reclassifications
Certain prior period amounts have been reclassified to conform to the
current period's presentation.
2. Restructuring Charges
During fiscal year 1997, the Company decided to relocate its corporate
offices from Montgomery, Alabama to Portland, Oregon in fiscal 1998. In
connection with the relocation, the Company recognized $3.3 and $4.9 million in
restructuring charges during the twelve and twenty-eight weeks ended December
12, 1997, respectively. Expenses incurred were primarily for the retention,
recruitment and relocation of employees and travel costs related to the office
relocation.
3. Income Taxes
For the twelve and twenty-eight weeks ended December 11, 1998 and December
12, 1997, income tax expense was in excess of amounts computed by applying the
statutory federal income tax rate to income before income taxes as a result of
state income taxes, offset by tax credits.
6
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Introduction
The following discussion should be read in conjunction with the unaudited
consolidated financial statements and notes thereto included elsewhere in this
document. The Company's fiscal year ends on the Friday closest to May 31. The
information presented herein refers to the twelve weeks ended December 11, 1998
("second quarter of fiscal 1999") and December 12, 1997 ("second quarter of
fiscal 1998") and the twenty-eight weeks ended December 11, 1998 and December
12, 1997.
Occupancy, a measure of the utilization of center capacity, is defined by
the Company as the full-time equivalent ("FTE") attendance at all of the
Company's centers divided by the sum of the licensed capacity of all of the
Company's centers. FTE attendance is not a strict head count. Rather, the
methodology used is to determine an approximate number of full-time children
based on weighted averages. For example, an enrolled full-time child equates to
1.0 FTE, while a part-time child enrolled for a half-day equates to 0.5 FTE. The
FTE measurement of center capacity utilization does not necessarily reflect the
actual number of full-time and part-time children enrolled.
Average tuition rate is defined by the Company as actual net revenues,
exclusive of fees (primarily reservation and registration) and non-tuition
income, divided by FTE attendance for the respective period. The average tuition
rate represents the approximate weighted average tuition rate at each center
paid by a parent for a child to attend a KinderCare center five full days during
one week. Center occupancy mix, however, can significantly affect these averages
with respect to any specific child care center.
Results of Operations
Second Quarter of Fiscal 1999 compared to Second Quarter of Fiscal 1998
The following table shows the comparative operating results of the Company
(dollars in thousands):
<TABLE>
<CAPTION>
Twelve Weeks Twelve Weeks Change
Ended Percent Ended Percent Amount
December 11, of December 12, of Increase/
1998 Revenues 1997 Revenues (Decrease)
------------ ------------ ------------ ------------ ------------
<S> <C> <C> <C> <C> <C>
Revenues, net $ 142,237 100.0% $ 135,587 100.0% $ 6,650
------------ ------------ ------------ ------------ ------------
Operating expenses:
Salaries, wages and benefits:
Center expense 74,003 52.0 68,975 50.9 5,028
Field and corporate expense 5,398 3.8 5,262 3.9 136
------------ ------------ ------------ ------------ ------------
Total salaries, wages and
benefits 79,401 55.8 74,237 54.8 5,164
Depreciation 8,067 5.7 7,888 5.8 179
Rent 6,443 4.5 5,788 4.3 655
Other 35,054 24.7 34,575 25.5 479
Restructuring charges 47 0.0 3,292 2.4 (3,245)
------------ ------------ ------------ ------------ ------------
Total operating expenses 129,012 90.7 125,780 92.8 3,232
------------ ------------ ------------ ------------ ------------
Operating income $ 13,225 9.3% $ 9,807 7.2% $ 3,418
============ ============ ============ ============ ============
</TABLE>
Revenues, net - Net revenues increased $6.7 million, or 4.9%, to $142.2
million in the second quarter of fiscal 1999 from the comparable quarter last
year. The increase in net revenues is primarily attributable to a Company-wide
tuition increase implemented in the first and second quarters of fiscal 1999.
The average tuition rate increased $6.30, or 6.0%, to $112.13 for the second
quarter of fiscal 1999 from $105.83 for the second quarter of fiscal 1998. The
Company continually evaluates its tuition structure and may implement further
changes during the fiscal year at targeted local levels. Occupancy declined 1.3
percentage points to 70.5% for the second quarter of fiscal 1999 from 71.8% for
the second quarter of fiscal 1998. The decline is primarily a result of a
decrease in existing center enrollment, primarily in the preschool age group,
during the fall of fiscal 1999 and the increased rate of opening new centers.
New centers tend to open with lower than average enrollment and will grow
enrollment
7
<PAGE>
over a two to three year maturity cycle. During the second quarter of fiscal
1999, centers opened within the current and two most previous fiscal years
contributed incremental net revenues of $4.3 million over the comparable quarter
last year. The increase in net revenues was offset in part by an incremental
reduction of $1.6 million due to the closure of certain centers.
During the second quarter of fiscal 1999, the Company opened eight centers,
seven community centers and one KinderCare At Work(R) center, and closed six
centers. During the second quarter of fiscal 1998, the Company opened one
community center and closed one center. Total licensed capacity was
approximately 144,000 and 143,000 at the end of the second quarter of fiscal
1999 and 1998, respectively.
Salaries, wages and benefits - Salaries, wages and benefits, which include
bonus incentives, increased $5.2 million, or 7.0%, to $79.4 million in the
second quarter of fiscal 1999 from the comparable quarter last year. The expense
directly associated with the centers was $74.0 million in the second quarter of
fiscal 1999, an increase of $5.0 million from the second quarter of fiscal 1998.
The center level increase is primarily attributable to increased staff wage
rates and, to a lesser degree, to increased hours and the addition of certain
maintenance technician positions during fiscal 1999. The expense related to
field management and corporate administration was $5.4 million in the second
quarter of fiscal 1999, an increase of $0.1 million from the second quarter of
fiscal 1998. Higher salary expense related to field management has been incurred
as a result of the addition of certain field management positions during fiscal
1998 and 1999.
At the center level, salaries, wages and benefits expense, as a percentage
of net revenues, increased to 52.0% for the second quarter of fiscal 1999 from
50.9% for the comparable quarter last year, due to the higher wage rates. Total
salaries, wages and benefits expense, as a percentage of net revenues, increased
to 55.8% for the second quarter of fiscal 1999 from 54.8% for the comparable
quarter last year.
Depreciation - Depreciation expense increased $0.2 million to $8.1 million
in the second quarter of fiscal 1999 from the comparable quarter last year. The
increase is a result of the accelerated development of new centers. Subsequent
to the second quarter of fiscal 1998, 29 centers were opened, 25 of which were
owned by the Company. All of the 28 centers closed subsequent to the second
quarter of fiscal 1998 were leased and, therefore, had a relatively low
depreciable asset base. The increase in depreciation expense was offset in part
by a reduction, during fiscal 1999, in the replacement of educational supplies
and equipment as a result of a capital program during fiscal 1998 to upgrade the
quantity and quality of such items in each center.
Rent - Rent expense increased $0.7 million to $6.4 million in the second
quarter of fiscal 1999 from the comparable quarter last year. The increase is
partially a result of the Company's occupancy of its new headquarters in
Portland, Oregon during the second quarter of fiscal 1998. The rental rates
experienced on center leases entered into currently and renewed center leases
are higher than those experienced in previous periods.
Other operating expenses - Other operating expenses increased $0.5 million,
or 1.4%, to $35.1 million in the second quarter of fiscal 1999 from the
comparable quarter last year. Other operating expenses include costs directly
associated with the centers, such as food, educational materials, janitorial and
maintenance costs, utilities and transportation, and expenses related to field
management and corporate administration. The increase is primarily due to
increased center pre-opening costs, marketing expense, taxes and licenses and
janitorial and maintenance costs, offset by reduced insurance costs. As a
percentage of net revenues, other operating expenses decreased to 24.7% for the
second quarter of fiscal 1999 from 25.5% for the comparable quarter last year.
The improvement in other operating expenses, as a percentage of net revenues, is
due to effective overall cost control by management.
Restructuring charges - During fiscal year 1997, the Company decided to
relocate its corporate offices from Montgomery, Alabama to Portland, Oregon in
fiscal 1998. In connection with the relocation, the Company recognized $3.3
million in restructuring charges during the second quarter of fiscal 1998.
Expenses incurred were primarily for the retention, recruitment and relocation
of employees and travel costs related to the office relocation.
Operating income - Operating income increased $3.4 million to $13.2 million
in the second quarter of fiscal 1999 from the comparable quarter last year. The
increase is primarily due to the higher average tuition rate,
8
<PAGE>
resulting in increased net revenues, and the absence of significant
restructuring charges during the second quarter of fiscal 1999, offset in part
by certain increased operating costs, as discussed above.
EBITDA, defined as earnings before interest expense, income taxes,
depreciation and amortization, for the second quarter of fiscal 1999 was $21.4
million, $3.6 million above the comparable quarter last year. As a percentage of
net revenues, EBITDA for the second quarter of fiscal 1999 was 15.0% compared to
13.1% for the second quarter of fiscal 1998. Adjusted EBITDA, defined as EBITDA
exclusive of restructuring charges and investment income was $21.3 million in
the second quarter of fiscal 1999, an increase of $0.4 million from the
comparable quarter last year. As a percentage of net revenues, Adjusted EBITDA
was 15.0% for the second quarter of fiscal 1999 and 15.5% for the second quarter
of fiscal 1998. Neither EBITDA nor Adjusted EBITDA is intended to indicate that
cash flow is sufficient to fund all of the Company's cash needs or represent
cash flow from operations as defined by generally accepted accounting
principles. In addition, EBITDA and Adjusted EBITDA should not be used as tools
for comparison as the computation may not be similar for all companies.
Interest expense - Interest expense increased slightly to $9.7 million in
the second quarter of fiscal 1999 from $9.4 million in the second quarter of
fiscal 1998, due to the borrowings under the revolving credit facility
subsequent to the second quarter of fiscal 1998. The Company's weighted average
interest rate on its long-term debt, including amortization of deferred
financing costs, was 10.2% for the second quarter of fiscal 1999 versus 10.6%
for the second quarter of fiscal 1998.
Income tax expense - Income tax expense during the second quarter of fiscal
1999 and 1998 of $1.4 and $0.2 million, respectively, was computed by applying
estimated effective income tax rates to income before income taxes. Income tax
expense varies from the statutory federal income tax rate due to state income
taxes, offset by tax credits.
Twenty-Eight Weeks Ended December 11, 1998 compared to Twenty-Eight Weeks Ended
December 12, 1997
The following table shows the comparative operating results of the Company
(dollars in thousands):
<TABLE>
<CAPTION>
Twenty-Eight Twenty-Eight Change
Weeks Ended Percent Weeks Ended Percent Amount
December 11, of December 12, of Increase/
1998 Revenues 1997 Revenues (Decrease)
-------------- ---------- -------------- ---------- ------------
<S> <C> <C> <C> <C> <C>
Revenues, net $ 334,511 100.0% $ 316,149 100.0% $ 18,362
-------------- ---------- -------------- ---------- ------------
Operating expenses:
Salaries, wages and benefits:
Center expense 172,138 51.5 162,109 51.3 10,029
Field and corporate expense 12,698 3.8 11,657 3.7 1,041
-------------- ---------- -------------- ---------- ------------
Total salaries, wages and
benefits 184,836 55.3 173,766 55.0 11,070
Depreciation 18,175 5.4 19,168 6.1 (993)
Rent 15,482 4.6 14,039 4.4 1,443
Other 84,514 25.3 81,865 25.9 2,649
Restructuring charges 49 0.0 4,855 1.5 (4,806)
-------------- ---------- -------------- ---------- ------------
Total operating expenses 303,056 90.6 293,693 92.9 9,363
-------------- ---------- -------------- ---------- ------------
Operating income $ 31,455 9.4% $ 22,456 7.1% $ 8,999
============== ========== ============== ========== ============
</TABLE>
Revenues, net - Net revenues increased $18.4 million, or 5.8%, to $334.5
million in the twenty-eight weeks ended December 11, 1998 from the comparable
period last year. The increase in net revenues is primarily attributable to a
Company-wide tuition increase implemented in the first and second quarters of
fiscal 1999. The average tuition rate increased $6.64, or 6.3%, to $112.06 for
the twenty-eight weeks ended December 11, 1998 from $105.42 for the twenty-eight
weeks ended December 12, 1997. The Company continually evaluates its tuition
structure and may implement further changes during the fiscal year at targeted
local levels. Occupancy declined 0.5 percentage point to 69.3% for the
twenty-eight weeks ended December 11, 1998 from 69.8% for the twenty-eight weeks
ended December 12, 1997. The decline is primarily a result of the increased rate
of opening new centers. New centers tend to open with lower than average
enrollment and will grow enrollment over a two to three year maturity cycle. A
decrease in existing center enrollment, primarily in the preschool age group,
during the fall of fiscal 1999 also contributed to the decline in occupancy.
During the twenty-eight weeks ended December 11,
9
<PAGE>
1998, centers opened within the current and two most previous fiscal years
contributed incremental net revenues of $9.3 million over the comparable period
last year. The increase in net revenues was offset in part by an incremental
reduction of $3.8 million due to the closure of certain centers.
During the twenty-eight weeks ended December 11, 1998, the Company opened
17 centers, 16 community centers and one KinderCare At Work(R) center, and
closed 15 centers. During the twenty-eight weeks ended December 12, 1997, the
Company opened eight community centers and closed four centers.
Salaries, wages and benefits - Salaries, wages and benefits, which include
bonus incentives, increased $11.1 million, or 6.4%, to $184.8 million in the
twenty-eight weeks ended December 11, 1998 from the comparable period last year.
The expense directly associated with the centers was $172.1 million in the
twenty-eight weeks ended December 11, 1998, an increase of $10.0 million from
the twenty-eight weeks ended December 12, 1997. The center level increase is
primarily attributable to increased staff wage rates, increased hours, rising
health benefit costs and the addition of certain maintenance technician
positions during fiscal 1999. The expense related to field management and
corporate administration was $12.7 million in the twenty-eight weeks ended
December 11, 1998, an increase of $1.0 million from the twenty-eight weeks ended
December 12, 1997. The increase is attributable to the addition of certain field
management positions during fiscal 1998 and 1999.
At the center level, salaries, wages and benefits expense, as a percentage
of net revenues, increased slightly to 51.5% for the twenty-eight weeks ended
December 11, 1998 from 51.3% for the comparable period last year due to higher
wage rates. Total salaries, wages and benefits expense, as a percentage of net
revenues, increased to 55.3% for the twenty-eight weeks ended December 11, 1998
from 55.0% for the comparable period last year.
Depreciation - Depreciation expense decreased $1.0 million to $18.2 million
in the twenty-eight weeks ended December 11, 1998 from the comparable period
last year. The decrease is due to a reduction, during fiscal 1999, in the
replacement of educational supplies and equipment as a result of a capital
program during fiscal 1998 to upgrade the quantity and quality of such items in
each center. The decrease in depreciation expense was offset in part by the
accelerated development of new centers.
Rent - Rent expense increased $1.4 million to $15.5 million in the
twenty-eight weeks ended December 11, 1998 from the comparable period last year.
The increase is primarily a result of the Company's occupancy of its new
headquarters in Portland, Oregon during the second quarter of fiscal 1998. In
addition, the rental rates experienced on center leases entered into currently
and renewed center leases are higher than those experienced in previous periods.
Other operating expenses - Other operating expenses increased $2.6 million,
or 3.2%, to $84.5 million in the twenty-eight weeks ended December 11, 1998 from
the comparable period last year. The increase is primarily due to increased
center pre-opening costs, marketing expense, taxes and licenses, janitorial
costs and maintenance costs, offset by reduced insurance costs and legal
expenses. As a percentage of net revenues, other operating expenses decreased to
25.3% for the twenty-eight weeks ended December 11, 1998 from 25.9% for the
comparable period last year. The improvement in other operating expenses, as a
percentage of net revenues, is due to effective overall cost control by
management.
Restructuring charges - During fiscal year 1997, the Company decided to
relocate its corporate offices from Montgomery, Alabama to Portland, Oregon in
fiscal 1998. In connection with the relocation, the Company recognized $4.9
million in restructuring charges during the twenty-eight weeks ended December
12, 1997. Expenses incurred were primarily for the retention, recruitment and
relocation of employees and travel costs related to the office relocation.
Operating income - Operating income increased $9.0 million to $31.5 million
in the twenty-eight weeks ended December 11, 1998 from the comparable period
last year. The increase is primarily due to the higher average tuition rate,
resulting in increased net revenues, and the absence of significant
restructuring charges during the twenty-eight weeks ended December 11, 1998,
offset in part by certain increased operating costs, as discussed above.
10
<PAGE>
EBITDA, defined as earnings before interest expense, income taxes,
depreciation and amortization, for the twenty-eight weeks ended December 11,
1998 was $49.9 million, $7.8 million above the comparable period last year. As a
percentage of net revenues, EBITDA for the twenty-eight weeks ended December 11,
1998 was 14.9% compared to 13.3% for the twenty-eight weeks ended December 12,
1997. Adjusted EBITDA, defined as EBITDA exclusive of restructuring charges and
investment income was $49.7 million in the twenty-eight weeks ended December 11,
1998, an increase of $3.2 million from the comparable period last year. As a
percentage of net revenues, Adjusted EBITDA was 14.9% for the twenty-eight weeks
ended December 11, 1998 and 14.7% for the twenty-eight weeks ended December 12,
1997. Neither EBITDA nor Adjusted EBITDA is intended to indicate that cash flow
is sufficient to fund all of the Company's cash needs or represent cash flow
from operations as defined by generally accepted accounting principles. In
addition, EBITDA and Adjusted EBITDA should not be used as tools for comparison
as the computation may not be similar for all companies.
Interest expense - Interest expense increased slightly to $22.5 million in
the twenty-eight weeks ended December 11, 1998 from $22.4 million in the
twenty-eight weeks ended December 12, 1997, due to the borrowings under the
revolving credit facility subsequent to the second quarter of fiscal 1998. The
Company's weighted average interest rate on its long-term debt, including
amortization of deferred financing costs, was 10.1% for the twenty-eight weeks
ended December 11, 1998 versus 10.5% for the twenty-eight weeks ended December
12, 1997.
Income tax expense - Income tax expense during the twenty-eight weeks ended
December 11, 1998 and December 12, 1997 of $3.5 and $0.2 million, respectively,
was computed by applying estimated effective income tax rates to income before
income taxes. Income tax expense varies from the statutory federal income tax
rate due to state income taxes, offset by tax credits.
Liquidity and Capital Resources
The Company's principal sources of liquidity are cash flow generated from
operations and future borrowings under the $300.0 million revolving credit
facility. At December 11, 1998, the Company was committed on outstanding letters
of credit totaling $42.2 millon and had outstanding draws of $28.0 million under
the revolving credit facility. The Company's principal uses of liquidity are
meeting debt service requirements, financing the Company's capital expenditures
and renovations and providing working capital.
The Company's consolidated net cash provided by operating activities for
the twenty-eight weeks ended December 11, 1998 was $17.1 million, which
represents a $0.9 million decrease in net cash flow from operations from the
comparable period last year. The decrease in net cash flow from operations is
primarily a result of significantly higher fiscal year end bonus incentive
payments in the first quarter of fiscal 1999 as compared to payments in the
first quarter of fiscal 1998, offset in part by an increase in net income of
$5.4 million, the components of which are discussed above. Cash and cash
equivalents totaled $3.1 million at December 11, 1998 compared to $11.8 million
at May 29, 1998.
New enrollments are generally highest in September and January, with
attendance declining 5% to 10% during the summer months and the calendar
year-end holiday period. The decreased attendance in the summer months and
during the calendar year-end holiday period may result in decreased liquidity
during these periods.
Capital Expenditures
The Company anticipates substantial increases in its capital expenditures
budget over the next several years. During fiscal 1999, the Company expects to
open approximately 40 new centers. During the twenty-eight weeks ended December
11, 1998 and December 12, 1997, the Company opened 17 and eight centers,
respectively. Over the next three years, the Company expects to increase its
rate of opening and/or acquiring new centers to between 50 and 75 new centers
per year in the aggregate, which the Company expects will be primarily community
centers, and to continue its practice of closing centers that are identified as
not meeting performance expectations.
The length of time from site selection to the opening of a community center
ranges from 18 to 24 months. The average total cost per community center
typically ranges from $1.5 million to $1.8 million depending on the size and
location of the center; however, the actual costs of a particular center may
vary from such range. New centers are based upon detailed site analyses that
include feasibility and demographic studies and financial modeling. No assurance
can be given by the Company that it will be able to successfully negotiate and
acquire
11
<PAGE>
properties, meet its targets for new center additions or meet targeted
deadlines. Frequently, new site negotiations are delayed or canceled, or
construction is delayed for a variety of reasons, many outside the control of
the Company.
The Company also plans to make significant capital expenditures in
connection with the renovation of its existing facilities. The Company expects
to make these improvements over the next four to five years.
Capital expenditures, during the twenty-eight weeks ended December 11, 1998
totaled approximately $44.7 million compared to $32.8 million in the comparable
period last year. Expenditures for new center development were $30.0 and $16.4
million and renovations on existing facilities were $10.0 and $10.1 million
during the twenty-eight weeks ended December 11, 1998 and December 12, 1997,
respectively. Purchases of equipment and corporate information systems were $3.6
and $1.1 million, respectively, during the twenty-eight weeks ended December 11,
1998, and $4.5 and $1.8 million, respectively, during the twenty-eight weeks
ended December 12, 1997.
Capital expenditure limits under the credit facilities for fiscal 1999 are
$155.0 million. Capital expenditure limits may be increased by carryover of a
portion of unused amounts from previous periods and are subject to certain
exceptions. Also, the Company is permitted a degree of flexibility under the
provisions of the indenture under which the senior subordinated notes were
issued and the credit facilities with respect to the incurrence of additional
indebtedness, including through certain mortgages or sale-leaseback
transactions.
Management believes that cash flow generated from operations and future
borrowings under the revolving credit facility will adequately provide for its
working capital and debt service needs and will be sufficient to fund the
Company's expected capital expenditures over the next several years. Although no
assurance can be given that such sources will be sufficient, the capital
expenditure program has substantial flexibility and is subject to revision based
on various factors, including but not limited to, business conditions, changing
time constraints, cash flow requirements, debt covenants, competitive factors
and seasonality of openings. If the Company experiences a lack of working
capital, it may reduce its capital expenditures. In the long term, if these
expenditures were substantially reduced, in management's opinion, its operations
and its cash flow would be adversely impacted.
Governmental Laws and Regulations
In August and September of 1998, the National Highway Transportation Safety
Administration ("NHTSA") issued interpretive letters that appear to modify its
interpretation of regulations governing the sale by automobile dealers of
vehicles intended to be used for the transportation of children to and from
school. These letters indicate that dealers may no longer sell 15 passenger vans
for this use, and that any vehicle designed to transport eleven persons or more
must meet federal school bus standards if it is likely to be "used
significantly" to transport children to and from school or school-related
events. These interpretations will affect the type of vehicle that may be
purchased by the Company in the future for use in transporting children between
schools and the Company's centers. The Company anticipates that NHTSA's recent
interpretation and potential related changes in state and federal transportation
regulations will increase the cost to the Company of transporting children,
because school buses are more expensive to purchase and maintain and may require
drivers who have commercial licenses.
Wage Increases
Salaries, wages and benefits represented approximately 55.3% of net
revenues for the twenty-eight weeks ended December 11, 1998. Low unemployment
rates and positive economic trends have challenged recruiting efforts and put
pressure on wage rates in many of the Company's markets. The Company believes
that, through increases in its tuition rates, it can recover any future increase
in expenses caused by the minimum wage rate, or other market adjustments.
However, there can be no assurance that the Company will be able to increase its
rates sufficiently to offset such increased costs. The Company continually
evaluates its wage structure and may implement changes at targeted local levels.
12
<PAGE>
Year 2000
The Company recognizes that year 2000 ("Y2K") issues could cause system
failures and miscalculations that may disrupt the Company's routine business.
Therefore, the Company established a Y2K compliance committee (the "Committee")
during the fourth quarter of fiscal 1998 to oversee testing of critical systems,
assess Y2K risk, address known weaknesses and develop any necessary contingency
plans. The Committee is chaired by the Vice President, General Counsel and
includes as representatives the Vice President, Information Services, Vice
President, Operations, several other employees representing multiple disciplines
(including risk management, financial control and planning, human resources and
internal audit) and a full-time Y2K project manager with over twelve years of
experience with the Company and familiarity with the Company's most critical
systems. An independent consultant has been engaged to assist in systems testing
and to validate the Company's processes by performing a readiness review at the
conclusion of the project.
Systems Testing - The Company has completed an inventory of all hardware,
software applications and data flow exchange to, or from, third parties. Testing
priorities have been assigned and preliminary testing of some of the Company's
systems has been performed. The Committee has recommended use of
computer-assisted testing methods and the Company has acquired leading Y2K
project management and testing software. Testing of all critical systems (both
information technology and non-information technology) and remediation of known
weaknesses is expected to be completed by June, 1999.
Risk Assessment - The Company has identified and contacted all of its major
vendors and other third parties on whom the Company relies in performing its
business functions. Responses from those third parties are currently being
reviewed and follow-up inquiries are being made or additional clarification is
being sought, where necessary. The Committee is also devising test plans for
critical third parties as it deems appropriate. The Committee is working to
gather sufficient information to develop its most likely worst-case Y2K
scenario. A comprehensive risk assessment is expected to be completed before
June, 1999.
Contingency Planning - Contingency plans will be developed as the Committee
deems necessary during the systems testing and risk assessment phases discussed
above.
Costs Associated With Y2K Issues - Due to the early stages of the project,
the Company is uncertain of the ultimate total costs to address Y2K issues.
However, total costs incurred are not expected to be material to the Company's
results of operations, cash flow or financial position. The Company expects to
be able to fund the necessary costs through cash flow from operations. Such
amounts will be charged to existing operating budgets.
Due to the general uncertainty inherent in addressing Y2K readiness, the
most likely worst case Y2K scenario and the impact it may have on the Company is
uncertain. The Company could incur significant unanticipated costs if there are
unexpected failures by critical third parties or unexpected problems with the
Company's systems.
Forward Looking Statements
When used in this report, press releases and elsewhere by management or the
Company from time to time, the words "believes," "anticipates," "expects," and
similar expressions are intended to identify forward-looking statements, within
the meaning of federal securities law, concerning the Company's operations,
economic performance and financial condition, including, in particular, the
number of centers expected to be added in future years, planned transactions and
changes in operating systems and policies and their intended results, and
similar statements concerning anticipated future events and expectations that
are not historical facts.
The forward-looking statements are based on a number of assumptions and
estimates which are inherently subject to significant uncertainties and
contingencies, many of which are beyond the control of the Company, and reflect
future business decisions which are subject to change. A variety of factors
could cause actual results to differ materially from those anticipated in the
Company's forward-looking statements, including: the effects of economic
conditions; federal and state legislation regarding welfare reform,
transportation safety and minimum wage increases; competitive conditions in the
child care and early education industries; availability of a qualified labor
pool, the impact of labor organization efforts and the impact of government
regulations concerning labor and employment issues; various factors affecting
occupancy levels; availability of sites and/or licensing or zoning requirements
affecting new center development; the impact of Y2K compliance by the Company or
those entities with which the Company does business; and other risk factors that
are discussed in this report and, from time to
13
<PAGE>
time, in other Securities and Exchange Commission reports and filings. One or
more of the foregoing factors may cause actual results to differ materially from
those expressed in or implied by the statements herein.
Readers are cautioned not to place undue reliance on these forward-looking
statements, which speak only as of the date thereof. The Company undertakes no
obligation to publicly release the results of any revisions to these
forward-looking statements that may be made to reflect events or circumstances
after the date hereof, or thereof, as the case may be, or to reflect the
occurrence of unanticipated events.
14
<PAGE>
PART II
Item 6. Exhibits and reports on Form 8-K
(a) Exhibit:
27 - Financial Data Schedule
(b) Reports on Form 8-K: None
15
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this to be signed on its behalf by the undersigned,
thereunto duly authorized:
KINDERCARE LEARNING CENTERS, INC.
(Registrant)
Date: January 19, 1999 /s/ DAVID J. JOHNSON
--------------------------------------------
David J. Johnson
Chairman of the Board of Directors and
Chief Executive Officer
Date: January 19, 1999 /s/ DAN R. JACKSON
--------------------------------------------
Dan R. Jackson
Vice President, Financial Control and
Planning
(Principal Financial and Accounting Officer)
16
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