<PAGE> 1
FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED
November 25, 2000 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 0-16998
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DRUG EMPORIUM, INC.
--------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 31-1064888
--------------------------------------------------------------------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization Identification No.)
155 Hidden Ravines Drive, Powell, Ohio 43065
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (740) 548-7080
--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
Former name, former address and former Fiscal year, if changed since last
report.
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes X No
--- ---
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the close of the period covered by this report.
Class Outstanding at November 25, 2000
----------------------------- --------------------------------
Common Stock, $ .10 par value 13,193,285 shares
<PAGE> 2
INDEX
DRUG EMPORIUM, INC.
<TABLE>
<CAPTION>
PART I. FINANCIAL INFORMATION Page No.
------------------------------ --------
<S> <C>
Item 1. Financial Statements (Unaudited)
Consolidated Balance Sheets ................................... 3
Consolidated Statements of Operations ......................... 4
Consolidated Statements of Cash Flows ......................... 5
Notes to Consolidated Financial Statements .................... 6-8
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations ................. 9-12
PART II. OTHER INFORMATION
--------------------------
Item 6. Exhibits and Reports on Form 8 - K ........................... 13
SIGNATURES ....................................................................... 14
</TABLE>
2
<PAGE> 3
DRUG EMPORIUM, INC.
CONSOLIDATED BALANCE SHEETS
(In Thousands, Except Share Data)
<TABLE>
<CAPTION>
November 25, February 26,
2000 2000
------------ ------------
(Unaudited) (Audited)
(Restated)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents ............................ $ 740 $ 708
Accounts receivable .................................. 25,720 25,815
Inventories .......................................... 193,204 204,677
Other ................................................ 2,035 2,112
-------- --------
Total current assets ......................... 221,699 233,312
Property and equipment, net ............................ 30,959 29,860
Goodwill ............................................... 8,513 9,252
Investment in preferred stock of HealthCentral.com ..... 7,560 --
Other assets ........................................... 3,354 3,859
Net assets of discontinued operations .................. -- 5,158
-------- --------
Total assets ................................ $272,085 $281,441
======== ========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Revolving credit line ............................. $100,900 $ 85,968
Accounts payable .................................. 71,760 65,562
Accrued liabilities ............................... 13,942 20,253
Deferred income ................................... 2,651 3,645
Current maturities of long-term debt .............. 267 5,033
-------- --------
Total current liabilities .................. 189,520 180,461
Deferred rent .......................................... 3,521 3,643
Convertible subordinated debt .......................... 46,921 46,921
Long-term debt, other .................................. 12,889 382
-------- --------
Total long-term debt ...................... 59,810 47,303
Shareholders' equity:
Preferred stock, authorized 2,000,000
Shares, none issued .............................. -- --
Common stock, stated value $.10 per share, Authorized
28,000,000, issued and outstanding 13,193,285 at
November 25, 2000 and at February 26, 2000 ....... 1,320 1,320
Additional paid-in capital ........................... 32,199 32,199
Retained (deficit) earnings .......................... (14,285) 16,515
-------- --------
Total shareholders' equity .................. 19,234 50,034
-------- --------
Total liabilities and shareholders' equity .. $272,085 $281,441
======== ========
</TABLE>
See accompanying notes.
3
<PAGE> 4
DRUG EMPORIUM, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
(In thousands, except per-share data)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
November 25, November 27, November 25, November 27,
2000 1999 2000 1999
---- ---- ---- ----
(Restated) (Restated)
<S> <C> <C> <C> <C>
Net sales ....................... $208,680 $218,414 $636,526 $667,700
Cost of sales ................... 167,277 172,751 503,743 522,471
-------- -------- -------- --------
Gross margin ................ 41,403 45,663 132,783 145,229
Selling, administrative and
occupancy expenses ......... 46,542 49,765 138,457 143,903
Gain on purchase of
Convertible Bonds ............... -- -- 1,934 --
Interest expense, net ........... 3,604 2,376 8,584 5,939
-------- -------- -------- --------
Income (loss) before
provision for income
taxes ...................... (8,743) (6,478) (12,324) (4,613)
Provision (benefit) for income
taxes ........................... -- (2,591) (2,504) (1,845)
-------- -------- -------- --------
Net income (loss) from
Continuing Operations ........... (8,743) (3,887) (9,820) (2,768)
Discontinued Operations, Net
of Income Tax ................... -- (3,306) (20,980) (4,143)
-------- -------- -------- --------
Net Income (loss) ............... $ (8,743) $ (7,193) $(30,800) $ (6,911)
======== ======== ======== ========
Earnings (loss) per common Share:
Continuing Operations ........... (.66) (.30) (.74) (.21)
======== ======== ======== ========
Discontinued Operations ......... -- (.25) (1.59) (.31)
======== ======== ======== ========
Net Income (loss) per share ..... $ (.66) $ (.55) $ (2.33) $ (.52)
======== ======== ======== ========
Weighted average number of
common shares outstanding:
Basic & Diluted ............... 13,193 13,193 13,193 13,192
======== ======== ======== ========
</TABLE>
See accompanying notes.
4
<PAGE> 5
DRUG EMPORIUM, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(In thousands)
<TABLE>
<CAPTION>
Nine Months Ended
-----------------
November 25, 2000 November 27, 1999
----------------- -----------------
<S> <C> <C>
Operating activities:
Net income (loss) ....................................... $(30,800) $ (6,911)
Adjustments to reconcile to cash provided by (used in)
Operations:
Depreciation and amortization ....................... 6,522 7,949
Cash provided by (used for) operating assets
and liabilities:
Accounts payable and accrued liabilities ............ (1,103) (17,193)
Accounts receivable ................................. 94 (14,158)
Inventories ......................................... 11,473 (24,356)
Other ............................................... (4,733) (4,371)
-------- --------
Net cash provided by (used in) operating activities ...... (18,547) (59,040)
Investing activities:
Purchase of property and equipment, net .................. (6,357) (10,081)
-------- --------
Net cash used in investing activities .................... (6,357) (10,081)
Financing activities:
Net borrowings (payments) under revolving
credit line ......................................... 14,932 65,853
Proceeds from long term debt and capital leases ......... 12,507 3,854
Principle payments on long term debt and capital
lease ................................................... (2,503)
-------- --------
Net cash provided by financing activities .............. 24,936 69,707
-------- --------
Increase (decrease) in cash and cash
equivalents ............................................ 32 586
Cash and cash equivalents, beginning of period ............. 708 893
-------- --------
Cash and cash equivalents, end of period ................... $ 740 $ 1,479
======== ========
</TABLE>
See accompanying notes.
5
<PAGE> 6
DRUG EMPORIUM, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. The accompanying unaudited consolidated financial statements include
the accounts of Drug Emporium, Inc. and subsidiaries. The information
furnished reflects all adjustments, which are, in the opinion of
management, necessary to present fairly the consolidated financial
position, results of operations and cash flows on a consistent basis.
The unaudited consolidated financial statements are presented in
accordance with the requirements for Form 10Q and consequently do not
include all of the disclosures normally required by generally accepted
accounting principles. Reference should be made to the Company's Form
10-K for the Fiscal year ended February 26, 2000 (File No. 0-16998) for
additional disclosures including a summary of the Company's accounting
policies. This quarterly report on Form 10-Q contains certain restated
financial information regarding the Company's financial position for
certain prior year reporting periods. For more details concerning such
restated financial information, see Note 2 below.
2. During the quarter ended August 26, 2000, the Company changed its
method of accounting for its inventories from the last-in, first-out
(LIFO) method to the first-in, first-out (FIFO) method. The Company
believes this change is preferable because of recent operating losses
and demands on liquidity, users of the Company's consolidated financial
statements principally are interested in understanding the Company's
current financial position, and the FIFO method better illustrates that
position. In additon, inventory costs have been relatively stable and
relatively unaffected by inflation and the FIFO method is a widely
recognized method used by the Company's competitors and peer group.
This change in method of inventory accounting has been applied
retroactively by restating the prior years' financial statements. The
effect of the change was a decrease in net loss of $432,000 or $.03 per
share, and $1,295,999 or $.10 per share, for the three and nine month
periods ended November 27, 1999, respectively. This change did not
affect the quarter ended November 25, 2000 operating results, however,
the change did reduce the net loss during the nine months ended
November 25, 2000 by $3,200,000 or $.24 per share which primarily
relates to the effect of the change on the Company's deferred taxes.
The net effect on the balance sheet as of February 26, 2000, of this
accounting change, was to increase inventory by $25.3 million, increase
net deferred tax liabilities by $2.5 million and increase retained
earnings by $22.8 million.
3. On September 15, 2000, Drug Emporium, Inc. finalized the sale of its
online subsidiary, DrugEmporium.com to HealthCentral.com. The purchase
price included 480,000 shares of preferred HealthCentral.com stock
convertible into up to 2.4 million shares of HealthCentral.com common
stock, which was valued at approximately $3.15 per share for a total
value of $7,560,000 at the time of the transaction and the assumption
by HealthCentral.com of approximately $2 million in current liabilities
and $6 million in future lease obligations of DrugEmporium.com. If
HealthCentral.com were unable to meet those assigned lease obligations,
Drug Emporium, Inc. would be responsible for the remaining lease
obligations. At the close of the market on November 24, 2000,
HealthCentral.com stock was trading at $0.625 per share. The Company
will continue to assess an other than temporary decline in market value
and recognize a decrease in the recorded value of its investment to
earnings should the decline in HealthCentral.com's stock price continue
for a prolonged period or other indicators of other than temporary
decline in value materialize.
As a result of the sale, the financial results of DrugEmporium.com are
reported as "Discontinued Operations, Net of Income Tax" in the
Consolidated Statements of Operations for all periods presented. The
net loss from discontinued operations for the third quarter of fiscal
2001 was included in the accrued loss on the sale in the amount of $6
million that was recorded in the second quarter of fiscal 2001.
Revenues from discontinued operations were $365,000 and $2,708,000 for
the three and nine month periods ended November 25, 2000, respectively
and $134,000 and $206,000 for the three and nine month periods ended
November 27, 1999, respectively. Interest expense allocated to
discontinued operations includes $1,121,000 and $0 for the nine months
ended November 25, 2000 and November 27, 1999 respectively.
6
<PAGE> 7
DRUG EMPORIUM, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
(Unaudited)
4. The Company has a Loan and Security Agreement (the "Bank Agreement"),
which governs borrowings under its $110 million revolving credit
facility with Fleet Retail Finance and its term note with Back-Bay
Capital Funding LLC (the "Lenders"). On September 13, 2000, the Company
and the Lenders executed the Seventh Amendment to the Loan and Security
Agreement (Amendment #7). As part of Amendment #7, two minimum
financial performance covenants were reset. One of these was the
minimum earnings before interest, taxes, depreciation and amortization
(EBITDA) that must be maintained by the Company and is measured on a
quarterly basis for a rolling twelve month period, while the other was
the minimum excess availability (an amount that must remain available
under the $110 million credit facility) that the Company is required to
maintain on its revolving credit facility that is measured on a rolling
30 day basis.
During the third quarter, because of seasonal working capital
requirements and because several of the Company's unsecured trade
creditors began to limit the Company's trade credit both in terms of
payment dating and available credit lines, the Company experienced
difficulty in maintaining the required minimum excess availability on
its revolving credit facility. Furthermore, in mid-October, the
Company's largest trade creditor tightened the Company's trade credit
which resulted in that supplier taking a third secured position in the
Company's assets as well as shortening the Company's payment terms in
exchange for lower pricing. As a result of these actions, in
mid-November the Company was not able to comply with the minimum excess
availability covenant under its revolving credit facility. On November
21, 2000, the Lenders waived compliance with this minimum excess
availability covenant through December 13, 2000.
On December 15, 2000, the Company and the Lenders executed the Eighth
Amendment to the Loan and Security Agreement (Amendment #8). Amendment
#8 requires the Company to maintain a minimum excess availability of
$1.5 million through January 12, 2001 and a minimum excess availability
of $10 million thereafter, measured on a daily basis. Amendment #8 also
calls for the setting aside of $300,000 per business day as an
additional "Availability Reserve" until the $10 million of minimum
excess availability is achieved, which effectively results in the
Company having maximum borrowing capacity under the Bank Agreement of
$108.5 million as of December 15, 2000 declining to $100 million at
January 12, 2001 and thereafter. As of January 9, 2001, the Company had
outstanding $97.9 million on its revolving credit facility including
letters of credit.
As a result of the operating losses the Company has sustained and the
resulting effect on EBITDA and cash flows along with the uncertainty
regarding further tightening of vendor trade credit, it is not certain
whether the Company will be able to remain in compliance with the
minimum excess availability covenant as required by Amendment #8. In
addition, the Company's fourth quarter 2001 operating results may not
be sufficient to achieve compliance with the minimum EBITDA covenant as
required by Amendment #7 as of the fiscal 2001 year end. As of November
25, 2000, the Company was in compliance with this minimum EBITDA
covenant.
To address the Company's current liquidity issues, the Company has
engaged financial advisors who are assisting the Company in exploring
various restructuring options. In addition, management has undertaken a
series of strategic initiatives in order to maximize the Company's
liquidity position. These initiatives include the refinancing of
certain assets of the Company, selling certain assets of the Company,
seeking alternative sources of financing, reviewing store operations,
and implementing a moratorium on all non-essential expenditures.
However, there is no assurance that these initiatives will be
successful.
7
<PAGE> 8
DRUG EMPORIUM, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
(Unaudited)
If the Company is not successful in such restructuring options or
cannot remain in compliance with the financial covenants or obtain a
waiver or amendment under its Bank Agreement, the Company will be
required to undertake other action as may be appropriate such as a sale
of the entire Company or some other form of financial restructuring.
In connection with the Company's review of restructuring options and
subject to fourth quarter fiscal 2001 and forecasted future operating
results and cash flows, the company will assess whether a non-cash
impairment charge should be recognized in the fourth quarter of fiscal
2001 for certain of its long lived assets.
5. In the second quarter of Fiscal 2001, the Company repurchased $2.5
million worth of its subordinated convertible debentures at 20.75% of
their face value plus accrued interest. This satisfies the Fiscal 2001
$2.5 million sinking fund requirement as outlined in the bond indenture
agreement, and resulted in a $1.9 million gain recognized in the second
quarter. As of November 25, 2000 the Company's convertible debentures
traded at 15 percent of par.
6. In the first quarter of Fiscal 2001, the Company recognized a partial
settlement in the amount of $2.5 million resulting from a class action
antitrust brand name prescription drug lawsuit. This settlement amount
has been netted against selling, administrative and occupancy expenses
on the Consolidated Statements of Operations. The final settlement of
this lawsuit is anticipated to occur in the first quarter of Fiscal
2002.
7. The Company's cost of sales is computed using the gross profit method.
The gross profit percentage used is validated by physical inventories
conducted twice per year primarily in the second and fourth quarters.
8
<PAGE> 9
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Results of Operations
---------------------
The following table sets forth selected items derived from the
Company's consolidated statements of operations expressed as a percentage of net
sales for the periods indicated for Continuing Operations.
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
------------------ -----------------
November 25, November 27, November 25, November 27,
------------- ------------- ------------- ------------
2000 1999 2000 1999
---- ---- ---- ----
(Restated) (Restated)
<S> <C> <C> <C> <C>
Net sales (in thousands) ........ $208,680 $218,414 $636,526 $667,700
Gross margin .................... 19.9% 20.9% 20.9% 21.8%
Selling, administrative and
Occupancy expenses ......... 22.3% 22.8% 21.7% 21.6%
Operating income (loss) ......... (2.5%) (1.9%) (.6%) .2%
</TABLE>
Third quarter sales decreased 4.5% to $208.7 million in the current
year from $218.4 million in the prior year quarter. This decrease was due to a
lower average store count for the quarter, 132 in Fiscal 2001 versus 139 in
Fiscal 2000, as well as a .8% decrease in same store sales. Same store pharmacy
sales for the quarter rose by 5.5%, while same store non-pharmacy sales declined
by 4%.
Pharmacy margins for the quarter significantly improved over the prior
year as a result of an increase in both cash discounts and pharmacy rebate
income. In addition, pharmacy margins include a payment from McKesson PaySystems
to help offset third party accounts receivables that were written off at the end
of the prior fiscal year. The payment in the amount of $360,000 was netted
against write-offs for the quarter. Improved pharmacy margins helped offset a
decline in non-pharmacy margins that was due to a combination of competitive
pricing pressures, lower non-pharmacy rebate income, higher distribution costs
and lower cash discounts.
Selling, administrative and occupancy expense for the quarter was down
by approximately 50 basis points versus the prior year quarter. This favorable
variance was due to lower depreciation costs, lower equipment rental expense,
lower professional fees and lower miscellaneous operating expenses versus the
prior year quarter.
Interest expense for the quarter was higher than the prior year,
reflecting both a higher average balance on the Company's revolving credit
facility with Fleet Retail Finance as well as the $12.5 million term note with
Back Bay Capital Funding LLC. This additional debt and its related interest
expense are primarily associated with the Company's financing of the operations
of DrugEmporium.com.
The net loss for the quarter was $8.7 million versus a net loss of $7.2
million in the prior year quarter, which included a tax benefit of $2.6 million
or $.20 per diluted share. Earnings (loss) per share for the third quarter of
Fiscal 2001 was $(.66) versus $(.55) for Fiscal 2000. Losses from Discontinued
Operations accounted for $3.3 million or $.25 per diluted share of the Fiscal
2000 net loss.
EBITDA for the third quarter of Fiscal 2001 was $(2.8) million compared
to $(6.4) million for last year's comparable quarter on a consolidated basis.
In connection with the Company's review of restructuring options (see
Liquidity and Capital Resources below) and subject to fourth quarter fiscal 2001
and forecasted future operating results and cash flows, the Company will assess
whether a non-cash impairment charge should be recognized in the fourth quarter
of fiscal 2001 for certain of its long-lived assets.
9
<PAGE> 10
Store Changes and Remodels
--------------------------
The following table lists openings for corporately owned stores and
store closings through the third quarter ended November 25, 2000 and the
similar prior year period.
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
November 25, November 27, November 25, November 27,
2000 1999 2000 1999
---- ---- ---- ----
<S> <C> <C> <C> <C>
Number of stores at
Beginning of period ..... 134 140 137 141
Stores opened or acquired ... 3 0 3 2
Stores closed or sold ....... (5) (1) (8) (4)
--- --- --- ---
Total stores at end of period 132 139 132 139
</TABLE>
The Company plans on opening one new store in the first quarter of
Fiscal 2002 and on opening and/or relocating approximately 5 stores in the
subsequent twelve-month period. A significant number of the Company's stores
have experienced a major or minor remodeling since the Company began its ongoing
program to update and remodel its existing store base. These remodels are
typically done in the first and second quarters of the year so as not to
interrupt business during the holiday selling season. The Company plans on
continuing this remodeling program in Fiscal 2002, although on a scaled down
basis.
Balance Sheet Items
-------------------
Inventory balances are lower compared to the prior year-end due to the
Company's efforts to better manage its inventory. The increase in property and
equipment versus the prior year is the result of capital expenditures related to
the Company's store remodeling program. The balance on the Company's revolving
credit facility is approximately $15 million higher at the end of the third
quarter versus the prior year-end balance. This higher balance is primarily the
result of the Company having to fund the operations of DrugEmporium.com. The
increase in Long-term debt is the result of the Company putting in place a $12.5
million term note with Back Bay Capital for the purpose of funding the
operations of DrugEmporium.com. This note matures on May 1, 2002.
Liquidity and Capital Resources
-------------------------------
Drug Emporium generates the vast majority of its revenue by selling goods at
retail. A small amount of revenue is also derived from fees that are paid to the
Company by its franchisees. Cash expenditures generally fall under one of the
following categories: cost of goods sold, payroll and payroll related costs,
occupancy costs, advertising expenses, miscellaneous selling and general
administrative expenses, interest expense, taxes and capital expenditures. All
cash received from operations is applied to the Company's revolving credit
facility as a payment, and all cash expenditures are funded by cash advances
made against the Company's revolving credit facility. As a result, the Company's
cash position as depicted on its Balance Sheet is usually minimal.
The Company has a Loan and Security Agreement (the "Bank Agreement"),
which governs borrowings under its $110 million revolving credit facility with
Fleet Retail Finance and its term note with Back-Bay Capital Funding LLC (the
"Lenders"). On September 13, 2000, the Company and the Lenders executed the
Seventh Amendment to the Loan and Security Agreement (Amendment #7). As part of
Amendment #7, two minimum financial performance covenants were reset. One of
these was the minimum earnings before interest, taxes, depreciation and
amortization (EBITDA) that must be maintained by the Company and is measured on
a quarterly basis for a rolling twelve month period, while the other was the
minimum excess availability (an amount that must remain available under the $110
million credit facility) that the Company is required to maintain on its
revolving credit facility that is measured on a rolling 30 day basis.
During the third quarter, because of seasonal working capital requirements and
because several of the Company's unsecured trade creditors began to limit the
Company's trade credit both in terms of payment dating and available credit
lines, the Company experienced difficulty in maintaining the required minimum
excess availability on its revolving credit facility. Furthermore, in
mid-October, the Company's largest trade creditor tightened the Company's trade
credit which resulted in that supplier taking a third secured position in the
Company's assets as
10
<PAGE> 11
well as shortening the Company's payment terms in exchange for lower pricing. As
a result of these actions, in mid-November the Company was not able to comply
with the minimum excess availability covenant under its revolving credit
facility. On November 21, 2000, the Lenders waived compliance with this minimum
excess availability covenant through December 13, 2000.
On December 15, 2000, the Company and the Lenders executed the Eighth Amendment
to the Loan and Security Agreement (Amendment #8). Amendment #8 requires the
Company to maintain a minimum excess availability of $1.5 million through
January 12, 2001 and a minimum excess availability of $10 million thereafter
measured on a daily basis. Amendment #8 also calls for the setting aside of
$300,000 per business day as an additional "Availability Reserve" until the $10
million of minimum excess availability is achieved, which effectively results in
the Company having maximum borrowing capacity under the Bank Agreement of $108.5
million as of December 15, 2000 declining to $100 million at January 12, 2001
and thereafter. As of January 9, 2001, the Company had outstanding $97.9
million on its revolving credit facility including letters of credit.
As a result of the operating losses that the Company has sustained and the
resulting effect on EBITDA and cash flows along with the uncertainty regarding
further tightening of vendor trade credit, it is not certain whether the Company
will be able to remain in compliance with the minimum excess availability
covenant as required by Amendment #8. In addition, the Company's fourth quarter
2001 operating results may not be sufficient to achieve compliance with the
minimum EBITDA covenant as required by Amendment #7 as of the fiscal 2001year
end. As of November 25, 2000, the Company was in compliance with this minimum
EBITDA covenant.
To address the Company's current liquidity issues, the Company has engaged
financial advisors who are assisting the Company in exploring various
restructuring options. In addition, management has undertaken a series of
strategic initiatives in order to maximize the Company's liquidity position.
These initiatives include the refinancing of certain assets of the Company,
selling certain assets of the Company, seeking alternative sources of financing,
reviewing store operations, and implementing a moratorium on all non-essential
expenditures. However, there is no assurance that these initiatives will be
successful.
If the Company is not successful in such restructuring options or cannot remain
in compliance with the financial covenants or obtain a waiver or amendment under
its Bank Agreement, the Company will be required to undertake other action as
may be appropriate such as a sale of the entire Company or some other form of
financial restructuring.
Inventory Valuation
-------------------
During the quarter ended August 26, 2000, the Company changed its method
of accounting for its inventories from last-in, first-out (LIFO) method to the
first-in, first-out (FIFO) method. The Company believes this change is
preferable because of recent operating losses and demands on liquidity, users of
the Company's consolidated financial statements principally are interested in
understanding the Company's current financial position, and the FIFO method
better illustrates that position. In additon, inventory costs have been
relatively stable and relatively unaffected by inflation and the FIFO method is
a widely recognized method used by the Company's competitors and peer group.
This change in method of inventory accounting has been applied retroactively by
restating prior years' financial statements. The effect of the change was a
decrease in net loss of $432,000 or $.03 per share, and $1,295,999 or $.10 per
share, for the three and nine month periods ended November 27, 1999,
respectively. This change did not affect the quarter ended November 25, 2000
operating results, however, the change did reduce the net loss during the nine
months ended November 25, 2000 by $3,200,000 or $.24 per share which primarily
relates to the effect of the change on the Company's deferred taxes. The net
effect on the balance sheet as of February 26, 2000, of this accounting change,
was to increase inventory by $25.3 million, increase net deferred tax
liabilities by $2.5 million and increase retained earnings by $22.8 million.
11
<PAGE> 12
NASDAQ
------
The Company has been notified by the Nasdaq Stock Market that the Company's
common stock has failed to maintain a minimum bid price of $1.00 per share over
30 consecutive trading days as required for continued listing. The Company's
common stock will be delisted from trading effective January 26, 2001 if the
minimum bid price does not equal or exceed $1.00 for a minimum of 10 consecutive
trading days. Should the Company's common stock be delisted, it will trade on
the OTC Bulletin Board System. The delisting of the Company's common stock will
not affect the Company's liquidity, it does however, affect the ability of the
Company to raise capital in the capital markets.
Cautionary Statement Concerning Forward-Looking Statements
----------------------------------------------------------
Statements in this Management's Discussion and Analysis of Financial
Condition and Results of Operations, as well as in certain other parts of this
Form 10Q report that look forward in time, except for historical information
contained herein, are forward-looking statements made pursuant to the safe
harbor provisions of the Private Securities Litigation Reform Act of 1995.
Forward-looking statements include statements concerning plans, objectives,
goals, strategies, future events or performance, and underlying assumptions and
other statements, which are other than statements of historical facts. From time
to time, the Company may publish or otherwise make available forward-looking
statements of this nature. All such forward-looking statements are based on the
current expectations of management and are subject to, and are qualified by,
risks and uncertainties that could cause actual results to differ materially
from those expressed or implied by those statements. These risks and
uncertainties include, but are not limited to the following factors among others
that could affect the outcome of the Company's forward looking statements:
competition as to price and selection from other drugstore chains, from
supermarkets, mail order companies, membership clubs, and other internet
companies and from other third party plans; the actions of health maintenance
organizations, managed care organizations, pharmacy benefit management companies
and other third party payers attempting to reduce prescription drug costs which
results in downward pressure on pharmacy margins; economic conditions generally
or in the Drug Emporium markets; the ability to maintain sufficient liquidity in
order to support operations: the ability to maintain satisfactory relationships
with lenders and to remain in compliance with financial loan covenants and other
requirements under current banking agreements; the ability to maintain
satisfactory relationships with suppliers both in terms of procuring merchandise
and in terms of maintaining adequate trade credit; federal and/or state
regulatory and legislative actions, including taxes and pharmacy regulations;
customer preferences and spending patterns; the ability to economically
eliminate under-performing stores; the ability to implement or adjust to new
technologies; the ability to attract, hire and retain key personnel; the ability
to improve operating margins; the financial performance of HealthCentral.com;
and the ability to secure and maintain key contracts and relationships.
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PART II - OTHER INFORMATION
Item 6. Exhibits and Reports on form 8-K
(A) Exhibits
Exhibit No. Description of Document
----------- -----------------------
10.1 Amendment VIII to Loan and Security Agreement
Bank Boston Retail Finance, Inc. and Drug Emporium, Inc.
10.2 Bank Letter dated November 21, 2000
Bank Boston Retail Finance, Inc. and Drug Emporium, Inc
(B) Reports on Form 8-K
The Company filed two Form 8-Ks during the third quarter of fiscal 2001 dated
September 14, 2000 and September 21, 2000 related to the sale of
DrugEmporium.com.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
DRUG EMPORIUM, INC.
----------------------------------
(Registrant)
Date: January 9, 2001 By: /s/ David L. Kriegel
------------------ ----------------------------
David L. Kriegel
Chairman
Chief Executive Officer
Date: January 9, 2001 By: /s/ Terry L. Moore
------------------ ----------------------------
Terry L. Moore
Chief Financial Officer
and Treasurer
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